What is Public Financial Management (PFM)?
PFM refers to the set of laws, rules, systems and processes used by sovereign nations (and sub-national
governments), to mobilise revenue, allocate public funds, undertake public spending, account for funds
and audit results. It encompasses a broader set of functions than financial management and is
commonly conceived as a cycle of six phases, beginning with policy design and ending with external
audit and evaluation (Figure 1). A large number of actors engage in this “PFM cycle” to ensure it
operates effectively and transparently, whilst preserving accountability.
PFM
Figure 1: The PFM cycle and the key actors involved
Why is PFM important?
A strong PFM system is an essential aspect of the institutional framework for an effective state.
Effective delivery of public services is closely associated with poverty reduction and growth, and
countries with strong, transparent, accountable PFM systems tend to deliver services more effectively
and equitably and regulate markets more efficiently and fairly. In this sense, good PFM is a necessary, if
not sufficient, condition for most development outcomes.
A key element of statehood is the ability to tax fairly and efficiently and to spend responsibly. These are
fundamental characteristics of ‘inclusive’ state institutions, which generate trust, promote innovative
energies and allow societies to flourish. (See Acemoglu & Robinson, 2012, ‘Why Nations Fail’ and Dani
Rodrik, 2003, ‘In Search of Prosperity’.)
Improving the effectiveness of a PFM system may generate widespread and long-lasting benefits, and
may in turn help to reinforce wider societal shifts towards inclusive institutions, and thus towards
stronger states, reduced poverty, greater gender equality and balanced growth. Even where donor staff
do not seek to strengthen PFM systems, they need to understand them because they will often work
through them, by providing budget support or climate finance, or with them, by providing projectfinanced interventions, which are then staffed and maintained through the national budget. In short,
PFM matters, and all donor staff need a basic knowledge of PFM.
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PFM: Why does it matter and how best to improve it?
What is Public Financial Management (PFM)?
PFM refers to the set of laws, rules, systems and processes used by sovereign nations (and sub-national
governments), to mobilise revenue, allocate public funds, undertake public spending, account for funds
and audit results. It encompasses a broader set of functions than financial management and is
commonly conceived as a cycle of six phases, beginning with policy design and ending with external
audit and evaluation (Figure 1). A large number of actors engage in this “PFM cycle” to ensure it
operates effectively and transparently, whilst preserving accountability.
PFM
Figure 1: The PFM cycle and the key actors involved
Why is PFM important?
A strong PFM system is an essential aspect of the institutional framework for an effective state.
Effective delivery of public services is closely associated with poverty reduction and growth, and
countries with strong, transparent, accountable PFM systems tend to deliver services more effectively
and equitably and regulate markets more efficiently and fairly. In this sense, good PFM is a necessary, if
not sufficient, condition for most development outcomes.
A key element of statehood is the ability to tax fairly and efficiently and to spend responsibly. These are
fundamental characteristics of ‘inclusive’ state institutions, which generate trust, promote innovative
energies and allow societies to flourish. (See Acemoglu & Robinson, 2012, ‘Why Nations Fail’ and Dani
Rodrik, 2003, ‘In Search of Prosperity’.)
Improving the effectiveness of a PFM system may generate widespread and long-lasting benefits, and
may in turn help to reinforce wider societal shifts towards inclusive institutions, and thus towards
stronger states, reduced poverty, greater gender equality and balanced growth. Even where donor staff
do not seek to strengthen PFM systems, they need to understand them because they will often work
through them, by providing budget support or climate finance, or with them, by providing projectfinanced interventions, which are then staffed and maintained through the national budget. In short,
PFM matters, and all donor staff need a basic knowledge of PFM.
What are the objectives of the PFM system?
To assess a PFM system, we first need to define its end objectives – the final outcomes, by which
performance can be measured. It is generally accepted that a PFM system should achieve three
objectives, to which we here add a fourth, namely the promotion of accountability and transparency,
which is increasingly seen as an objective in itself, because of its close relationship to the notion of
inclusive institutions:
The maintenance of aggregate fiscal discipline is the first objective of a PFM system: it should ensure
that aggregate levels of tax collection and public spending are consistent with targets for the fiscal
deficit, and do not generate unsustainable levels of public borrowing
Secondly, a PFM system should ensure that public resources are allocated to agreed strategic priorities,
in other words that allocative efficiency is achieved
Thirdly, the PFM system should ensure that operational efficiency is achieved, in the sense of achieving
maximum value for money in the delivery of services
Finally, the PFM system should follow due process and should be seen to do so, by being transparent,
with information publicly accessible, and by applying democratic checks and balances to ensure
accountability.
How do we know whether a PFM system is performing adequately or not?
Ideally, one would assess the PFM system simply by measuring performance against these four
objectives. To a degree, this is possible. The achievement of fiscal discipline is straightforward to
measure at an international level, and the Open Budget Index (OBI) provides a reasonable proxy for
transparency. However, to measure allocative and operational efficiency requires special studies. Some
OECD countries and more advanced middle income countries (such as South Africa) undertake these
regularly through programme evaluations or value for money audits. Some Public Expenditure Reviews
(PERs) also address these issues but, in general, such studies are not common in developing countries
and their structure rarely allows for easy international comparison.
In practice, the assessment of PFM systems focuses one level down from final outcomes – that is on the
examination of the institutions, rules and procedures most likely to ensure the achievement of the key
objectives of the PFM system. This approach was pioneered in the 1930s and revived by Allen Schick at
the Maryland School of Public Policy (Reading 1). This approach provides the conceptual basis for the
Public Expenditure & Financial Accountability (PEFA) assessment framework, developed by the IMF and
the World Bank in conjunction with the EU, DFID and other bilateral donors. It provides a set of 31 highlevel indicators, by which to measure the performance of a PFM system. Since 2005, some 300 PEFA
assessments have been undertaken of national and sub-national PFM systems in over 100 countries.
Despite the inevitable shortcomings of a standardised system of measurement of this kind, the PEFA
framework has justifiably gained wide acceptance and, when properly interpreted, provides a good
guide to the status of PFM systems. An updated set ofPEFA indicators is to be issued in 2015.
What is known about how best to strengthen PFM systems?
Since the late 1990s, DFID and other donors have devoted an unprecedented level of attention to the
reform of PFM systems in developing and transition countries. Yet, the results have been mixed. With
some exceptions, reform progress has been slow and the benefits elusive. Nevertheless, some countries
have been more successful in implementing PFM reforms than others. What explains this difference in
performance? And what implications does it have for the design of reforms and for the provision of
external support?
Recent research and evaluation suggests that three critical ingredients are needed for successful PFM
reform:
Leadership – a strong political and technical commitment, clear communication and coordination of
reform, and a widening group of reform leaders who manage fears, expectations and differences of
opinion
Policy space for developing appropriate reforms – a thorough understanding of the context, a focus on
the functionality of the system and not just the form, and teams and organisations that experiment and
take risks, interrogating both the problem and the proposed solutions
Adaptive, iterative and inclusive processes – where monitoring, learning and adaptation are key.
While these lessons may seem obvious in retrospect, evidence suggests that many past donor
interventions to support PFM reform have ignored them – attempting to drive reform from the outside,
and imposing ‘blueprint solutions’ inappropriate to the context. Many governments, unwilling or unable
to engage in genuine reform processes, have often bought into this charade, pretending to adopt
reforms but in reality adopting form rather than function. Current research on PFM issues focuses on
understanding better the approaches and techniques that can help to avoid this. The selected readings
seek to provide an introduction to this literature. Several of the readings are also relevant to an
understanding of how to successfully support civil service reform, a closely related issue because weak
public administration systems usually engender weak PFM systems.
What is Governmental Accounting?
Governmental accounting maintains tight control over resources, while also compartmentalizing
activities into different funds in order to clarify how resources are being directed at various programs.
This approach to accounting is used by all types of government entities, including federal, state, county,
municipal, and special-purpose entities.
The Governmental Accounting Standards Board
Given the unique needs of governments, a different set of accounting standards has been developed for
these organizations. The primary organization that is responsible for creating and updating these
standards is the Governmental Accounting Standards Board (GASB). The GASB is tasked with the
development of accounting and financial reporting standards for state and local governments, while the
Financial Accounting Standards Board (FASB) has the same responsibility, but for all other entities not
related to governmental activities.
Fund Accounting
A fund is an accounting entity with a self-balancing set of accounts that is used to record financial
resources and liabilities, as well as operating activities, and which is segregated in order to carry on
certain activities or attain targeted objectives. A fund is not a separate legal entity. Funds are used by
governments because they need to maintain very tight control over their resources, and funds are
designed to monitor resource inflows and outflows, with particular attention to the remaining amount
of funds available. By segregating resources into multiple funds, a government can more closely monitor
resource usage, thereby minimizing the risk of overspending or of spending in areas not authorized by a
government budget.
Some types of funds use a different basis of accounting and measurement focus. To clarify the
difference between these concepts, the basis of accounting governs when transactions will be recorded,
while the measurement focus governs what transactions will be recorded.
The Basis of Accounting
The accrual basis of accounting is adjusted when dealing with governmental funds. The sum total of
these adjustments is referred to as the modified accrual basis. Under the modified basis of accounting,
revenue and governmental fund resources (such as the proceeds from a debt issuance) are recognized
when they become susceptible to accrual. This means that these items are not only available to finance
the expenditures of the period, but are also measurable. The “available” concept means that the
revenue and other fund resources are collectible within the current period or sufficiently soon
thereafter to be available to pay for the current period’s liabilities. The “measurable” concept allows a
government to not know the exact amount of revenue in order to accrue it.
The Focus of Governmental Financial Reporting
The key measurement focus in a government fund’s financial statements is on expenditures, which are
decreases in the net financial resources of a fund. Most expenditures should be reported when a related
liability is incurred. This means that a governmental fund liability and expenditure is accrued in the
period in which the fund incurs the liability.
The focus of governmental funds is on current financial resources, which means assets that can be
converted into cash and liabilities that will be paid for with that cash. Stated differently, the balance
sheets of governmental funds do not include long-term assets or any assets that will not be converted
into cash in order to settle current liabilities. Similarly, these balance sheets will not contain any longterm liabilities, since they do not require the use of current financial resources for their settlement. This
measurement focus is only used in governmental accounting.
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Section 3
Budget Preparation
A full understanding of the budget planning and preparation system is essential, not just to derive
expenditure projections but to be able to advise policymakers on the feasibility and desirability of
specific budget proposals, from a macroeconomic or microeconomic perspective. It is much easier to
control government expenditures at the "upstream" point of budget preparation than later during the
execution of the budget.
Thus, fiscal economists and general budget advisors need to know:
what is the framework in which budget decisions are made;
who is responsible for planning and preparing the budget;
what are the basic steps;
what are the typical weaknesses in procedures and how can these be overcome; and
how can changes in budget plans be programmed and targeted?
Answers to these questions are set out in the subsections below.
Budget planning and preparation are (or should be) at the heart of good public expenditure
management. To be fully effective, public expenditure management systems require four forms of fiscal
and financial discipline:
control of aggregate expenditure to ensure affordability; that is, consistency with the macroeconomic
constraints;
effective means for achieving a resource allocation that reflects expenditure policy priorities;
efficient delivery of public services (productive efficiency); and
minimization of the financial costs of budgetary management (i.e., efficient budget execution and cash
and debt management practices).
Budget preparation is the principal mechanism for achieving items (1) and (2); item (3) typically features
as an element of budget preparation only in industrial countries, while item (4) is essentially an issue in
budget execution and cash management (see Sections 4 and 5). Moreover, no system of budget
execution or cash planning (the subjects of Sections 4 and 5) can do more than mitigate the problems
caused by poor quality or unrealistic budget preparation.
What is the framework in which budget decisions are made?
Budget preparation is a process with designated organizations and individuals having defined
responsibilities that must be carried out within a given timetable (see Figure 1 in Section 1 for a typical
time line). This process is normally established and controlled by a legal and regulatory framework.
While generally sharing broadly common procedures, budget preparation (and execution) systems do
exhibit differences depending on their historic origin. Given the common heritage of many countries, it
is possible to identify four main patterns--francophone, Latin American, (British) Commonwealth, and
transition economies.
To understand the budget preparation process in a given country, it is important to:
assess the basic soundness by judging the budget preparation system against certain internationally
accepted standards or "budget principles";
know where to find the rules governing the budget preparation process; and
from those rules, identify who has the responsibility for what elements of the budget preparation
process.
Recognizing the usefulness of budget principles
Based on the objective macroeconomic assessment of available revenues and financing, ideally, the
expenditure budget should aim to be comprehensive, transparent, realistic, policy-oriented, and allow
for clear accountability in budget execution. These concepts form a standard by which the soundness of
budget systems can be judged (see Box 1).
Box 1. Assessing the Soundness of the Budget
The soundness of budget systems can be judged by the following:
Comprehensiveness
Is the coverage of government operations complete?
Are estimates gross or does netting take place?
Transparency
How useful is the budget classification? Are there separate economic and functional classifications that
meet international standards?
Is it easy to connect policies and expenditures through a program structure?
Realism
Is the budget based on a realistic macroeconomic framework?
Are estimates based on reasonable revenue projections? How are these made, and by whom?
Are the financing provisions realistic?
Is there a realistic costing of policies and programs and hence expenditures (e.g., assumptions about
inflation, exchange rates, etc.)
How are future cost implications taken into account?
Is there a clear separation between present and new policies?
How far are spending priorities determined and agreed under the budget process?
In most Organization for Economic Cooperation and Development (OECD) countries, comprehensiveness
and transparency are achieved by designing a budget system with three key characteristics.
Annuality. A budget is prepared every year, covering only one year; voted every year; and executed over
one year. While maintaining the core concept of annual authorization, this principle has been modified
at the preparation stage, such that most OECD countries now develop the annual budget within a
multiyear perspective, through the preparation of medium-term revenue and expenditure frameworks.
A very few are moving toward determining budget appropriations for more than one year at a time.
Unity. Revenue and expenditure (as well as borrowing constraints) should be considered together to
determine annual budget targets. The budget should cover all government agencies and other
institutions undertaking government operations, so that the budget presents a consolidated picture of
these operations and is voted on, as a whole, in the parliament.
Universality. All resources should be directed to a common pool or fund, to be allocated and used for
expenditures according to the current priorities of the government. In general, earmarking of resources
for specific purposes is thus to be discouraged; but the case of extrabudgetary funds is considered in
more detail below.
These three characteristics are essential to ensure that, in budget preparation, all policy proposals for
undertaking government expenditure will be forced to compete for resources, and that priorities will be
established across the whole range of government operations.
They are usually considered a prerequisite to meeting the first two of the four main goals of effective
public expenditure management noted at the beginning of this Section: exercising the macroeconomic
constraint of affordability on the total, and ensuring efficiency in the allocation of resources. These
characteristics are typically enshrined in a legal and administrative framework regulating the budget
process.
Knowing the rules
Although the precise legal framework for central government budgeting varies from country to country,
it is usually set out at several levels.
The constitution is the highest in the legal hierarchy. Although it deals only with broad principles, the
constitution may clarify three important aspects: (1) the relative powers of the executive and legislative
branches with respect to public finances; (2) the definition of the financial relations between national
and subnational levels of government; and (3) the requirement, for example, in Commonwealth systems,
that all public funds be paid into designated accounts, and that these funds be spent only under the
authority of a law.
The organic law is usually the main vehicle for establishing principles of public financial management.
These laws may take the form of a single law that guides budget preparation, approval, execution,
control, and auditing (loi organique relative au budget in the francophone system; ley de administración
financiera in the Latin American system), or there may be several general laws covering specific areas of
public finance management (e.g., under Commonwealth systems) that may also relate to subnational
levels of government. They are called "organic" because they relate to organizational matters and
systems, and do not therefore require annual reenactment. Moreover, they can often be modified only
under certain conditions, such as qualified parliamentary majority.
Financial regulations. The organic budget law also gives to the government, or the minister responsible
for public finance, the authority to issue detailed regulations and instructions (for instance décret
portant réglement de la Comptabilité Publique in the francophone system, and decreto para la
contabilidad pública in the Latin American system). These are often quite detailed.
The constitution, the budget organic law, and financial regulations are permanent and form the legal
framework within which the annual budget law, which includes the revenue and expenditure estimates
for a given year, is prepared, approved, executed, and audited. The annual budget law can take different
shapes depending on the system.
In the francophone and Latin American systems, the coverage of the annual budget law (called budget
or loi de finances in francophone countries and ley anual de presupuestos in Latin America) is rather
wide, since it contains the amount and details of revenue and expenditure, the balance, and also any
new tax legislation measures and some changes to spending. Under the Commonwealth system, both
revenue and expenditure estimates are presented. Often the latter are further divided into recurrent
and development estimates, sometimes presented as separate volumes. Typically, the presentation is
detailed by institution and line item. By contrast, the annual budget in many transition economies has
often been rather summary in format: prior to any recent reforms, budget estimates were presented by
budgetary institution--typically only the major supervisory institutions and not their subordinate units-and broken down only by broad "functions," more or less the sectors used in the previous central
planning framework.
Identifying the responsibilities within the budget system
The powers assigned to the legislative and executive branches, and, within the executive branch, who
does what, essentially define the responsibilities for preparing the budget (Box 2).
Box 2. The Framework that Regulates the Budget:
What Do You Need to Know?
The following summarizes some of the key questions on the overall budget preparation framework.
What is the budget timetable?
How are budgeting powers distributed between the executive and legislative branches?
legislative power to propose spending
power of amendment
one vote--global vote on spending
executive powers to limit spending below appropriations
How are budgeting powers distributed within the executive?
number of agencies involved; who does what?
agenda for setting budget negotiations; how is this determined?
structure of negotiations--who has veto power?
How are activities funded?
revenue accounts
borrowed resources
extrabudgetary mechanisms
multiple funds
contingency funds
special funds
Any legislative limits on:
expenditure?
deficit?
borrowing?
carryover of spending authority to next year?
Any earmarking?
special or hypothecated funds
constitutional or legal commitments on specific public services (education, health)
For instance, when considering expenditure changes at the budget preparation stage, countries vary in
the extent to which the parliament can change the budget, once it is submitted for their consideration.
Many countries, for example, allow for the composition of the expenditure or revenue plans to be
changed but not the global total; in others, particularly in a number of transition economies, new
expenditure proposals--often poorly costed--can be put forward, approved by the parliament, and thus
enter into the budget. Although those preparing the budget can help improve parliamentary
understanding through discussions, the budget must ultimately be negotiated by the executive with the
legislature.15
Who is responsible for the planning and
preparation of the budget?
The responsibility for preparing the budget usually lies with the ministry of finance with input from the
line ministries and some smaller spending agencies. This exercise is normally controlled by a central
budget department located in the ministry of finance, or sometimes in a separate budget ministry.
The character of central budget departments differs widely between countries, however. Some are only
responsible for preparing the current budget, excluding debt. In such cases, the capital budget may be
prepared by a planning or development ministry (or even at a higher level in the prime minister's or
president's office), while the debt service costs are assessed (and paid) by another entity. Some budget
departments are in charge of preparing the entire budget, although not involved in implementation of
the budget. Others have a say on expenditure commitments, and some are also in charge of monitoring
budget execution. It is therefore important to know the precise responsibilities of the budget
department. It is particularly useful to know if the budget department is responsible for supplying partial
or complete data on budget preparation, expenditure commitments, and full budget execution data.
In many developing countries, only partial data on budget preparation may be available in the budget
department. It is important that all data on the current budget, the capital budget, and the debt service
(including data on secondary and tertiary tiers of government) are consolidated to ensure that, in total,
they are consistent with macro objectives. In some countries, research departments of the central bank
may carry out this task.
What are the basic steps in budget preparation systems?
In principle, the basic steps in a standard budget preparation system comprise the following:
The first step in budget preparation should be the determination of a macroeconomic framework for the
budget year (and ideally at least the next two years). The macroeconomic projections, prepared by a
macroeconomic unit in the ministry of finance or elsewhere, should be agreed with the minister of
finance. This allows the budget department within the ministry of finance to determine the global level
of expenditure that can be afforded without adverse macroeconomic implications, given expected
revenues and the level of deficit that can be safely financed. In a few countries, there are fiscal rules in
place that may limit total spending or recurrent spending (e.g., the "golden rule").16
The second step should be the allocation of this global total among line ministries, leaving room for
reserves (a separate planning and a contingency reserve as explained below) to be managed by the
ministry of finance.
The next step should be for the budget department to prepare a budget circular to give instructions to
line ministries, with the indicative aggregate spending ceiling for each ministry, on how to prepare their
estimates in a way that will be consistent with macro objectives. This circular will include information on
the economic assumptions to be adopted on wage levels, the exchange rate and price levels (and
preferably differentiated price levels for different economic categories of goods and services).
Step four is the submission of bids by line ministries to the budget department. Once received there
needs to be an effective "challenge" capacity within the budget department to test the costing of
existing and any new policy proposals.
The next step comprises the negotiations, usually at official and then bilateral or collective ministerial
level, leading finally to agreement.
Finally, step six is Cabinet endorsement of the proposals for inclusion in the budget that will go to
parliament.
While the principles should be broadly familiar in most ministries of finance (and would even be
considered out of date in those industrial countries with the most advanced budgeting systems), actual
practices may fall a long way short. For example, in too many countries the budget department does not
prepare a macro framework, nor even a first outline of the budget, let alone indicative ceilings by line
ministry, before sending out the budget circular. In such cases, the circular is an administrative
mechanism that initiates the budget-making process, usually providing a timetable for budget
submissions--that is, estimates of financial requirements by line item and by line ministry or spending
agency--but not giving them much guidance in the preparation of their estimates or overall spending
limits. Thus, when preparing their budget requests, the ministries often merely add percentages, guided
by an inflation projection in the circular, to their previous year's budget. With this "bottom-up
approach," line ministries are able to overstate their needs, exerting upward pressure on overall
spending.
Early in the preparation stage, that is before the budget circular is issued, those advising on the
preparation of the budget should ask:
Is the budget based on an aggregate level of general or central government expenditure, in cash terms,
that is consistent with the macro framework, and any fiscal rules in place?
Does the budget circular to the line ministries provide adequate guidance on preparing budget
estimates? Does it include a guideline or limit for each line ministry on this total spending?
Are there suitable reserves? Ideally, within the aggregate total there should be a planning reserve (not
allocated in guidelines given to each line ministry), so the ministry of finance can assign extra resources
later during budget negotiations for the most urgent priorities, without breaching the macroeconomic
constraint. Moreover, after all final line ministry allocations have been made, there should still be a
contingency reserve within the aggregate that will be held and administered by the ministry of finance
to meet genuine contingency spending during the budget year.
What are the typical weaknesses of budget
preparation systems?
There are often weaknesses in budget preparation systems: their nature, scale, and significance need to
be understood, both to assess the value of the data produced and, where there are separate projections
to be made by an IMF team or other external advisers, to accommodate such weaknesses. Eight
common problem areas can be identified:
The central government budget is not really unified. It is a dual-budget system with separate recurrent
and capital or "development" budgets that may be based on inconsistent macroeconomic assumptions,
budget classifications, or accounting rules. Each budget may be compiled by a different ministry--for
example, the ministry of finance for recurrent expenditures and a planning ministry for capital or
"development" expenditures.17
The macroeconomic constraint is not explicitly taken into account in the budget process, or the
economic assumptions underlying the estimated costs of expenditure programs are weak or erroneous.
Projections for the outturn of the previous and current years' budgets are not prepared, or the
experience to date is not analyzed, so that budget preparation becomes a simple incremental exercise
based on the previous year's (often erroneous) budget estimates.
Satisfactory procedures do not exist for review of expenditure policies and program prioritization.
There is no multiyear planning.
Extrabudgetary funds are used to divert spending to one or more "off-budget" accounts.
Quasi-fiscal expenditures, contingent liabilities, etc., are not taken into account.
Appropriations-in-aid are used inappropriately.
In many cases, remedying the problems encountered in the above areas would require extensive
reforms, so there may be limited scope to make an immediate impact. Even in the short term, however,
those reviewing budget preparation can play an important role in sensitizing policymakers to certain
weaknesses and so assist in reorienting the system.
Table 1 provides a summary of certain weaknesses and some of their implications. The next subsection
deals with the individual issues in more detail.
Table 1. Potential Weaknesses in Budget Preparation
Ideal Situation Common Weakness
Resulting Problems for Those Preparing Budgets
Unified budget with full coverage.
Dual budget (separate development and recurrent budgets);
many extrabudgetary funds.
Difficulty in developing a consolidated budget. Blurring of capital and
current expenditure concepts. With two different budgets it is more difficult to enforce expenditure
limits or develop a fiscal adjustment program.
Universality: all revenues go into one fund for financing central government activities. Earmarked
funds, especially common for financing extrabudgetary funds. Rigidity in spending priorities leading to
inefficient allocation of public resources. Again, this makes fiscal adjustment a more difficult task.
Knowledge and analysis of previous year's projected outturn expenditures; availability of volume
indicators.
Lack of data; data not communicated to budget office, or data are not analyzed. Data in
the budget office may be misleading. For example, actual expenditures are usually different from
budgeted expenditures, and the actual number of persons employed may be very different from the
original budget projection.
Use of macroeconomic framework. Separate price indices by category of expenditure. Inadequate
knowledge (or incorporation) of macroeconomic constraints. Poor estimates of program costs. Leads
to a bottom-up approach where the budget is determined more by spending-agency requests. This and
inadequate program provision generally lead to overspending.
Multiyear planning.
Focus on current year only; no anticipation of future circumstances.
May
have a negative impact on fiscal sustainability: shortsighted policies often cannot be maintained in the
long term. Alternatively, a lack of planning means imminent problems or recurrent consequences of
capital spending are not foreseen.
Procedures for resource prioritization implemented early in budget preparation. No direction in priority
setting, or attempt to prioritize until too late in the budget preparation process. Procedures for
prioritization are especially important for meeting deficit targets or spending targets. If priorities are not
communicated in a top-down approach early in the budget preparation process, overspending relative
to budget is a likely outcome
Budget classification according to implementing institution (administrative), purpose of expenditure
(functional), and use of expenditure (economic).Inconsistent nomenclature--for example, mixing
functional and economic or budget nomenclature is not consistent with the chart of accounts
nomenclature. An economic classification is most useful when designing a fiscal adjustment program.
Sometimes the only classification available is administrative--by budget institution--so that reducing the
budget requires cuts by institution, and the quality of the fiscal adjustment suffers. Nor is it possible to
understand how expenditures are distributed among different items or for what purpose.
What are the typical questions?
Is the central government's budget really unified?
While the budget document presented to the legislature may appear to be a unified one, in reality the
current budget and the capital budget are often prepared following different procedures. In such cases,
difficulties can be encountered in meeting macro objectives where the two budgets are prepared
without full coordination, or on different economic assumptions. For example, in many developing
countries the development budget or Public Investment Plan/Program (PIP) may include a combination
of capital and current programs. Such a system can also lead to an inefficient use of funds because, for
example, the same item of expenditure may be included in the two budgets, or, more typically,
investment projects may be included in the budget, without providing for the necessary corresponding
current expenditure. The supposed superior status of items included in the development budget may
also tend to squeeze out current expenditures within the affordable total.
Information on planned capital expenditures may be partial, where donor-financed expenditure is
significant and coordination with the donors is inadequate. It is important to check the extent to which
the budget is unified in the above sense of ensuring the internal consistency of different components.
Quite apart from checking whether the economic assumptions are common and consistent (see below)
however, it is also essential to ascertain whether there has been policy agreement (e.g., on start dates
for new policies, on levels of staffing for new development projects when completed, or whether the
ministry of finance has ensured that the recurrent cost implications of capital spending in future years
have been taken into account). If there is inconsistency, the coordination between the two budgets
should be strengthened by whatever means available. A meeting with key donors may also be necessary.
Is the macroeconomic constraint explicitly taken into account?
Are the economic assumptions underlying the budget accurate
and consistent?
In some countries the budget is prepared with surprisingly little reference to the macroeconomic
prognosis. Often, there is little macroeconomic analytical capacity in the government, or the budget
department has no contact with those undertaking such analysis (e.g., a research department at the
central bank). The absence of proper macroeconomic analysis is particularly common in countries that
have a "dual-budget" system, that is, separate development and recurrent budgets as described above.
With inadequate macroeconomic analysis, there can be insufficient discipline to limit the size of the
sustainable budget deficit at the beginning of the budget process. As a consequence, the budget
preparation procedure can be principally driven by the requests from the ministries for increased
spending (i.e., the bottom-up approach). Without a firm top-down limit, the ministry of finance can only
challenge proposals on technical or policy grounds, rather than in terms of affordability constraints and
priorities within a fixed total. There will be a higher probability that the deficit obtained through this
procedure will not be sustainable. Fiscal adjustment will be easier if the macroeconomic constraint and
the acceptable deficit is defined first (i.e., a top-down approach). From this, spending departments can
be given some guidelines to limit their requests.
However, even if a macro constraint on aggregate expenditure is set, the fiscal economist needs to
probe their validity. Since many countries have proven to be perennially optimistic in revenue
forecasting, realistic revenue projections and the financeable fiscal deficit must be decided before the
budget preparation procedure begins, not at some late stage just before or, worst of all, after, its
completion. (In the worst examples, the revenue forecast can become a residual derived from line
ministries' aggregated spending plans less external financing and "acceptable" domestic borrowing.)
Those preparing the budget need to ensure that the budget preparation timetable is sufficiently long,
and the process transparent and comprehensive, so that there is no need for arbitrary expenditure cuts
late in the process, when revenue or borrowing constraints become clear.
Another source of weakness is that the economic assumptions to be used in estimating the cost of
present and new policies may not be accurate, consistent across line ministries, or sufficiently
discriminatory between different economic categories of expenditure. For example, a sharp fall in the
exchange rate will have a much different impact on the cost of health programs (because of the import
of medicines) than on the costs of servicing domestic debt. Poor unit cost estimates are one of the most
common weaknesses in budget preparation. Fiscal economists need to urge the budget department to
specify by category different price factors before budget estimates are prepared. The higher and more
volatile the inflation rate, the greater the need to differentiate by category of expenditure.
Are recent budget execution figures known and analyzed?
The budget department--and others involved in budget preparation, such as the planning ministry--are
often unaware of the provisional outturn for the last completed financial year, or the projected outturn
for the current financial year, because the budget is executed by a separate treasury department, rather
than by the budget department. Budget preparation for year t + 1 begins early in the current fiscal year
(t) before the provisional outturn for the previous year (t ­ 1) is known, and usually before any projected
outturn for the current year has been made available, with the consequence that the budget
department/planning ministry prepares the budget by reference to the previous and current years'
initial budgets, and not to the provisional or projected budget outturn for the current and preceding
years.
If there is economic instability--for example, in times of high inflation--the budget preparation exercise
can become seriously unrealistic. Uncertainty about likely price levels can also "excuse" and thereby
perpetuate a lax attitude to budget preparation: when the budget is subsequently executed, the results
may include wasted administrative efforts spent switching resources from one budget line to another
(virement); excessive use of supplementary appropriations; loss of macroeconomic control over the
total; poor allocation of resources among programs; and expenditure arrears.
At the preparation stage of the budget, when discussing the budget figures, in addition to the budget
department and any planning ministry, the treasury (or budget execution department) should be fully
involved. In particular, the treasury department should provide estimates of spending in the previous
year and the spending to date in the current year (both in general and on specific programs or economic
categories), as well as its forecast of the likely outturn for the current year. The best basis for forecasting
expenditure on a given policy is usually the estimated cost of that policy for the most recent year
available.
Do procedures exist for resource prioritization?
An efficient budget preparation procedure should aim at making the government's priorities clear and at
selecting, from the many budget requests by spending ministries, those which are really important to
the government. In principle that requires two elements. First, a budget strategy needs to be
determined at a political (typically cabinet) level, which determines (1) the affordable total, (2) new
policies to be accommodated, and (3) any changes (often reductions) in existing policy provision. Second,
each spending ministry and the budget department/planning ministry should meet to discuss each
ministry's estimates. To accommodate new policies, the budget department/planning ministry must
require each spending ministry to prioritize its requests.
But this ideal is rarely matched by the practices in many countries. Quite apart from weaknesses in the
institutional arrangements, decisions on priorities at the budget preparation stage can be wholly
artificial because (1) subsequent cash allocations or supplementaries will render them redundant; (2)
amounts given by line item are deliberately loose or unclear, in anticipation of a real allocation during
budget execution; and/or (3) in practice, the priorities are set outside the formal budget framework, for
example, by the president's office.
Ultimately, the allocation of resources across spending programs is a political decision, although those
preparing the budget will need to advise on what is realistically achievable. For this, economic analysis
should play an important role. For example, ministries need to have as much information as possible on
expenditure policies and programs, on costs, and, ideally, on their outputs and outcomes.18
Whenever possible, however, the cost of all new policies that a line ministry wishes to pursue should be
estimated separately from the estimates of the costs of ongoing policies. As supporting information, the
spending ministry should provide data on expected results/performance from such new policies and
incremental spending (ideally, outputs and outcomes) and preferably in a format that enables the
requests across ministries to be compared. The ministry of finance should have a role in reviewing, and
commenting on, such cost estimates. The data should be presented with enough detail to allow the
budget department to judge the reasonableness of the budget request, the activities the request is
intended to support, and the corresponding staffing levels.
Such systems are most advanced in a small number of industrial countries: even there, the practices
(and results) are not wholly in line with the above principles. Real political agendas are sometimes
nontransparent or inadequately articulated; the economic value of marginal expenditures across
functions cannot be properly compared; and the measurement of policy outcomes, and their links to
individual programs, has proved quite difficult in practice. Yet, considerable progress has been made,
particularly on measuring output and on requiring better assessments of the results of new policies or
programs proposed before they can be incorporated in the budget. Developments in this direction are
to be encouraged, and there are some useful short cuts.
As noted earlier, to facilitate discussion on resource allocation, it is helpful for the budget department to
set, within the macroeconomic total, guidelines/targets for each spending ministry on their total
spending, when the budget circular is issued. In addition to targets by line ministry, an allowance should
be made within the affordable total for suitable planning and contingency reserves (see below). This
allows budget negotiations to coalesce around a realistic target for each ministry, consistent with the
affordable macroeconomic total.
Such guidelines or targets can be normative (e.g., when they are derived from a medium-term
expenditure planning framework; see below) or purely indicative (e.g., based on shares in the latest
year's outturn figures).
Each line ministry/spending agency can be asked to put forward its estimates for its existing or baseline
policies within that guideline. (This should automatically be the basis of the data when the figures are
derived from a medium-term framework.) Separately, each ministry should be asked to identify what
policies and programs would be enhanced/introduced or cut back, if their allocation were 5 or 10
percent above/below the guidelines. While such an approach can be abused (by line ministries offering
only politically unacceptable items for reductions), with experience, and with a well-informed challenge
capacity within the ministry of finance that identifies lower-priority items in advance, it can help to
concentrate discussion on priorities at the margin, within an affordable total.
A planning reserve is a sum (usually one or two percent of total expenditure) not allocated in the
guidelines, which the ministry of finance later plans to allocate to new programs, if necessary above the
guidelines during budget negotiations. A contingency reserve is a reserve for in-year expenditures above
appropriations for handling genuine contingencies; it should be modest in size (if too large, a bidding
process from ministries may quickly set in) and thus it is unlikely it should exceed 2 or 3 percent of total
expenditures.19 It should be under the control of the ministry of finance, and access should be granted
by the ministry of finance only under stringent conditions.
Where priorities are not being clearly established during the budget preparation process, the budget
department/planning ministry can establish benchmarks using these mechanisms and thus set the basis
for a discussion by policymakers of the priorities among the requests.
Is there any multiyear planning?
Focusing on the current or next fiscal year's expenditures alone can be misleading. Expenditure planning
should be extended beyond one year, not least to gain a full appreciation of the future spending
implications of present policy decisions. Nowhere is this more important than on the recurrent costs of
capital spending. For countries with multiyear PIPs, such plans need to be reintegrated with recurrent
expenditures and into a multiyear expenditure plan that provides the basis for establishing a realistic
global budget. Although the introduction of a regular procedure of medium-term planning frameworks
by function, by ministry, and (ideally) by program takes time to develop, those analyzing and preparing
the budget should begin this process by preparing medium-term fiscal scenarios.
There are several variants of such a planning framework. The simplest has only aggregate projections for
public spending for the two or three succeeding years beyond the budget year. A second has
"illustrative" figures by line ministries--sometimes on a mechanistic basis (e.g., shares of a global total
are assumed to be held constant to the proportions in the budget year). A third is normative in that it
projects costs of existing and any new policies agreed for introduction over the medium term, but these
medium-term figures play no role in subsequent-year budget negotiations. The best approach uses
these figures for the past budget year as the starting guideline for the next year's budget negotiations.
Is there a legitimate need for extrabudgetary funds?
Extrabudgetary funds (as defined in the GFS manual) generally refer to accounts of government
transactions that are not included in budget totals or documents and typically do not operate through
normal budgetary execution procedures. Such transactions may, for example, be financed through
foreign aid or earmarked revenues not included in the budget.
Unfortunately, extrabudgetary funds are often set up for inappropriate reasons, not consistent with
principles of good governance. For instance, they may be designed to allow the president or some parts
of the executive branch to bypass the normal budget procedures (for example, the comptes spéciaux in
the francophone system). In this case, the fiscal economist should aim to identify all such funds and then
ensure that they are consolidated on a gross basis in fiscal tables. This may be difficult where
expenditures from these accounts cover security or presidential spending, which can be considered
highly sensitive issues. When consolidated, however, and when the political authorities can be
persuaded to consider them as a legitimate component of the published budget, at some point those
preparing the budget may be able to close these accounts or at least to reduce their number. The
affected expenditures should then follow regular budgetary procedures and appear in the relevant
heading in the consolidated budget.
Another reason to create this kind of account may be to earmark revenue for a particular purpose. In
this case, a specific kind of revenue is transferred to this account when collected, and whatever funds
are available must be spent on a given item. While there are advantages and disadvantages in operating
such funds in many countries, in many cases the disadvantages far outweigh the advantages (see Box 3
on the pros and cons of extrabudgetary funds). In the worst instances, new extrabudgetary funds may
be established specifically to divert expenditures out of the budget, sometimes with the aim of
publishing a lower fiscal deficit. The practice of opening such accounts is often an indication that the
budget process is not functioning properly, and that resources for priority tasks must be allocated
through other mechanisms. Unfortunately, this practice gives rise to rigidities in the short and long term.
In the short term, financial management will be impaired because resources transferred to a special
account are typically not available to the treasury for cash management purposes--for example, to
relieve short-term cash shortages (see Section 5). In the medium term, a shift in government priorities
may be impeded by the fact that a part of the available resources is set aside for a special task.
Box 3. Pros and Cons of Extrabudgetary Funds
Pros
Can increase efficiency by simulating private market conditions where levels and standards of service
are linked directly to fees or charges.
Can provide more consistent source of funds for expenditures that yield high benefits yet do not get
much recognition (road maintenance expenditures are a primary example).
Cons
Can result in a loss of aggregate expenditure control; such expenditure may be outside the control of
ministry of finance.
Can distort allocation of resources by circumventing the budget process and review of priorities.
Earmarked revenues can become entrenched so funding is no longer based on priority needs.
Less transparency may lead to inefficiency and/or misuse of funds.
Can facilitate rent-seeking and abuse of monopoly power.
Leads to less flexibility at the margin to reallocate when budget is under stress.
Is incompatible with good cash management practices.
While having too many extrabudgetary funds should be discouraged, there can be a case for a selective
use of such funds, quite apart from separate social security funds that are a feature of many countries-for example, for earmarking resources for infrastructure maintenance. If it is apparent that a lack of
maintenance is leading to higher capital expenditures in the long term, for example, earmarking may
prevent the diversion of resources needed for road maintenance (often seen as not politically attractive)
to other purposes. But the use of earmarked revenues should be accompanied by either administrative
mechanisms or market-like incentives that promote accountability and efficiency (sometimes referred to
as the "agency model")--something that is rarely achievable in developing countries.20 Without such
extrabudgetary controls, funds can end up serving corrupt interests and weaken good governance. Box 4
provides a list of diagnostic questions for assessing the legitimacy of using extrabudgetary funds.
Box 4. Key Questions Concerning Extrabudgetary Funds
What is the purpose of the extrabudgetary fund? What is the rationale for keeping such a fund offbudget?
Financing Issues
What is the source of funding? Does the source of funding make sense; does it help to relate marginal
benefits to marginal costs--for example, user fees? How are user fees determined; are there limits to
prevent abuse of monopoly power (especially if demand is inelastic)? Are there general benefits
(positive or negative externalities, public goods arguments) in addition to user benefits that justify
support from general budget revenues? If there is a split, how is the share of financing determined? Is
the source of financing an important government revenue, and can the government afford to lose the
associated degree of flexibility in prioritizing expenditures? Do earmarked revenues detract from the
government's capacity to collect traditional revenues?
Expenditure Decisions
How are expenditure decisions made by the extrabudgetary fund? What use is made of cost
effectiveness or cost-benefit analysis? Does the management of the extrabudgetary fund promote
efficiency, for example through quasi-market mechanisms or through mission statements, objectives,
performance measures? How are consumer interests represented and taken into account in expenditure
decisions? If governed by a board, is membership of the board biased toward certain needs--for
example, regional needs?
Management Issues
Does the management of the extrabudgetary fund meet good governance requirements? Is it free of
political interference or unduly influenced by suppliers or trade unions? Is it possible for funds to be
diverted to other uses? Can these accounts be "raided" for other uses? Is the extrabudgetary fund
independently audited?
How are the cash resources of the extrabudgetary fund handled? Does the government have access to
these funds for overnight borrowing to minimize government borrowing needs? Does the treasury or
ministry of finance have the legal right to reduce funds available for expenditure in extrabudgetary
funds if the budget is under severe pressure?
How are quasi-fiscal activities and contingent liabilities to be taken into account?
Some operations of a fiscal nature are not conducted through the budget. Examples of such quasi-fiscal
expenditures include interest subsidies paid by the central bank on loans to public enterprises, and
special support operations for banks and public or private sector enterprises administered through the
banking system. Quasi-fiscal expenditures also include spending by nonfinancial public enterprises that
represents the provision (or subsidization) of public goods (e.g., schools or hospitals). By definition, such
expenditures do not pass through the budget and cannot be easily consolidated with the statement of
general government operations.
In general, it is difficult to extract information on, let alone estimate the cost of, quasi-fiscal activities so
as to consolidate such data in the general government tables. But, to gain an overall assessment of the
fiscal stance, it may be necessary to assess the size of such operations and to notionally add the figures
to the information on general government operations. In addition, those preparing the budget should
take every opportunity to persuade policymakers to transform such nontransparent activities into
explicit subsidies, transfers, etc., to the extent they should continue at all, within the budget.
Governments also have, at any point in time, certain contingent liabilities. The most common is the
existence of explicit government guarantees, usually on bank lending to industry or lower tiers of
government, which can fall due. But there are other forms of implicit contingent liabilities: for example,
there may be a challenge in the courts to the government interpretation of a law that, if the judicial
decision goes against the government, will have expenditure implications.
In general, countries should be urged to ensure that a careful record of all such explicit contingent
liabilities is maintained (while recognizing that there will always be some uncertainty on aspects like
judicial decisions as well as moral suasion pressures on "implicit" government guarantees) and to make
prudent allowance for such guarantees being "called" (i.e., payments being due) or for adverse judicial
decisions, by ensuring that there are sufficient resources in the contingency reserve to meet such
expenditures. Of course this will always be a difficult judgment; in some years the reserve may be more
than adequate--in which case the unused balance can be used to improve the fiscal position relative to
the budget. In other years, some excess, even after the contingency reserve, may arise and should be
met transparently through supplementary estimates--see Section 4. Those preparing the budget should
ensure that some estimate of expenditures from both explicit and implicit contingent liabilities is
allowed for in budget preparation.
How should appropriations-in-aid be handled?
Many countries have spending agencies that are able to finance a large part of their activities from their
own sources of revenue--normally fees and charges. An example might be a dedicated passport office
that charges for the issue of passports but receives budgetary resources for its capital expenditures.
These budgetary resources are often termed appropriations-in-aid, or sometimes net appropriations-that is, the amount sufficient to meet the gross service costs, after an assumed contribution from the
fees and charges they raise.
There are three issues in this regard. First, irrespective of how far the costs of the service--for example,
the issue of passports--are financed from earmarked charges rather than from general budgetary
resources, the activity is essentially within the government sector. Thus, in terms of measuring the size
of government, the appropriations-in-aid data are insufficient. The gross expenditures or gross costs of
the service need to be identified, as well as how much is financed from own fees and charges, and how
much from general budgetary resources. Second, though it is essentially a budget execution issue, there
are often cases where the fees are paid into a separate bank account held by the relevant spending
agency in a commercial bank. As explained in the next Section, this is generally poor budgetary practice,
which can lead to abuse with the monies being diverted into other areas of expenditure. Third, in
budget preparation, it is often necessary to be aware of deliberate underestimation of the likely
revenues from fees and charges, so as to maximize the contribution from general budgetary resources.
In particular the ministry of finance needs to insist on the annual updating of fees and charges to allow
for inflation--quite apart from any separate expenditure policy issues about how much of the service
cost should be met by users and how much by the general taxpayer.
How are changes in expenditure plans to be targeted?
Whatever the weakness of the budget preparation system itself, the fiscal economist or general policy
advisor may be called upon to advise on options for changing expenditure plans (typically, but not
always, for reductions in spending). In the past, fiscal adjustment through reductions in planned
expenditures has often proved problematic. Changes in expenditure plans, relative to the authorities'
original intent, have been implemented in ways that were disruptive to budget execution or were
unsustainable in the long run. Where expenditure reductions have been undertaken, they have
sometimes produced short-run savings at long-run cost--for example, by cutting needed capital
expenditure or by so severely contracting maintenance expenditure that the capital stock was partially
consumed. Where planned expenditure reductions have failed (in the sense that outturn expenditure
was above the revised budget), they have typically led to payment arrears, and/or to excess spending
above appropriations. This has damaged both the private sector economy (its bills are unpaid) and the
credibility of the government in financial markets.
A fundamental problem is that changes in the budget are often proposed at too late a stage in budget
preparation. Yet, whatever the time constraints, proper evaluation of expenditure policy options is vital.
Those preparing the budget may be tempted to grasp quick solutions. However, budgets must represent
an objective estimate of the costs of stated and agreed (within government) expenditure policies.
Correspondingly, the only sustained (and sustainable) changes in expenditure plans are those rooted in
changed expenditure policies.
Thus, expenditure reductions planned under a revised annual budget are not likely to be successful
where:
they are made in appropriations without accompanying changes in the underlying expenditure policies.
Just changing the estimates makes the budget provision less than objective; the likely consequence is
overspending against appropriation and/or the emergence of payment arrears;
estimates for open-ended, demand-led programs are revised downward; again this is typically the
triumph of hope over past experience;
inconsistent agreements are made between the ministry of finance and several line ministries to reduce
the budget provision for certain line items, but with a "nod and wink" that access will be granted in-year
to the contingency reserve; this reserve tends to become overcommitted when real contingencies arise;
"revised" economic assumptions on the exchange rate or inflation rate are invoked as justifying lower
provision;
overoptimistic assumptions are made on "efficiency savings" through reductions in the number of civil
servants and cuts in equipment purchases, utility charges, or fuel bills; and
reductions are made in transfers to lower-tier governments--this just passes on the problem.
Planned expenditure reductions are also not likely to be successful, if they are essentially reliant on
administrative actions in the budget execution process, where:
they are imposed by the ministry of finance through cutbacks in planned appropriations (often at a late
stage in the budget preparation process) without the concurrence, or over the heads of, line ministries;
the appropriations are not themselves changed but rather the ministry of finance undertakes to control
total spending within the appropriated sum--for example, through controls in-year on monthly cash
allocations to line ministries; and
they are to be accomplished by creative accounting measures--greater use of suspense accounts, the
establishment of new or additional extrabudgetary funds, etc. (such transactions should, in any case, be
consolidated within fiscal tables).
When presented with specific expenditure proposals (increases or reductions), it is necessary to
examine both expenditure policies and expenditure management aspects.
In terms of expenditure policies, the important questions include:
Are the proposed expenditure policies soundly based? (Guidance here is contained in the IMF's
Expenditure Policy Handbook).
Do the proposals fit in with existing established policy priorities as laid out in any published medium
term strategies of the government? Will they be rejected by parliament?
In terms of expenditure management:
Are the cost estimates for the new proposals accurate? Will the proposals achieve the projected
adjustment? Is there an important quantitative difference between their immediate and longer-term
costs (e.g., do they just have a short-term benefit rather than representing some fundamental fiscal
adjustment)?
How would they be enforced (through revised appropriations or cash allocations)?
Those preparing the budget need to prepare and analyze options. This is not an easy task, especially in
countries that have inherited budget systems designed for compliance control (rather than
macroeconomic or financial management). Budget execution has traditionally been seen as ensuring
that spending is carried out according to the budget approved by the parliament. Some budgets are so
strongly driven by the wishes of the executing institution (line ministry or spending agency) that the
ministry of finance may not be well-placed to suggest a likely scope or targeting for changes to the
spending plans. Also, the budget classification systems in many countries are weak and may inhibit a
satisfactory analysis of options for changes in government expenditures.
While there are no hard rules about how planned public expenditure can best be adjusted, experience
suggests some guidelines. Three broad approaches can be reviewed: (1) changes by program and policy;
(2) changes by individual ministry; and (3) changes by economic category.
Changes to budget plans by policy or program are the optimal (though not always achievable) approach.
Governments should use--or develop--mechanisms for identifying the most and least efficient and
effective expenditure policies and programs, and target expenditure changes accordingly. (In this
context, a number of more advanced countries are moving toward output-oriented budgeting.) In
practice, country programs agreed with the IMF and the World Bank may include commitments for
increases in expenditure in, say, health and education, together with reductions in unproductive
expenditures. Outside such agreed priority (or nonpriority) areas, the ministry of finance should, in
principle, assess the costs and benefits of alternative policy packages. In many cases, however, it will not
be possible to review individual functions or policies, even in cases where good expenditure
classification exists. Time pressures will often force consideration of other approaches.
Changes in expenditure plans by an individual ministry may be considered, for example, where there is a
lack of information by economic category (see next item). Such an approach can be helpful in supporting
or expanding initiatives in areas like health and education (albeit on a ministry rather than sectoral
basis). Reductions, where needed, can be targeted elsewhere; for example, where one or more line
ministries or spending agencies has a record of poor expenditure control or in support of a policy
decision that affects only a few ministries.
A common variant of this approach is "across-the-board" reductions by ministries, in response to a call
for lower than planned expenditures. By allowing each ministry to decide how to cut a fixed percentage
off its expenditure plans, it often seems attractive and broadly equitable. But there are many drawbacks
to such an approach. Despite the apparent fairness, in reality across-the-board reductions avoid
consideration of priorities and leave individual ministries to allocate among line items, with not only an
uncertain economic and social impact, but also potential damage to the efficient delivery of services.
Such reductions also may all too often be seen as temporary, so line ministries apply them in areas that
allow payment arrears to build up (e.g., payments to utility companies). Across-the-board reductions
should be avoided, therefore, with preference given to adjustments by economic category (if changes by
specific policy or program are not achievable).
Changes in expenditure plans by economic category may have to be made where budgetary pressures
emerge at a late stage in budget preparation. Again, they have the appeal of representing rough justice
(e.g., if all ministries are asked to reduce their wage bill by a fixed percentage)--even though they do not
imply proportionally equal aggregate changes by ministry. Adjustments based on this economic
classification enable some economic analyses of expenditure patterns and prescription. Moreover, they
can be targeted at wider expenditure policy objectives, such as reducing the wage bill or the number of
civil servants, reining in travel costs, or cutting back generalized price subsidies to consumers or
subsidies to industry. But they also have a downside. Often, they do not encompass any judgment about
priorities between programs. Also, some of the measures applied tend to be simplistic (because they are
"last-minute"), such as wage standstills or freezes, or percentage cuts in purchases of supplies. They are
thus necessarily a blunt instrument, best seen as interim in nature, pending a deeper review of policy
options. They may have short-term benefits but long-term costs--for example, increasing the financial
cost of completing a capital project and postponing the benefits. Again, they may be seen as temporary,
rather than representing a structural fiscal adjustment.
Against that background, and with the renewed warning that there are no hard-and-fast rules, budget
advisors are best advised to:
make any revisions to emerging budget plans as soon as possible (last-minute changes tend to be
ineffective);
seek, as a starting point, expenditure changes that are in line with previously agreed decisions or views
on expenditure policy priorities--this is especially important where there is room for additional spending;
be sure that cost estimates for new expenditure proposals are realistic and accurate, not just for the
year ahead but over the medium term, and that the proposals can be implemented at the political level;
be wary of the individual ministry or agency approach, except where this is consistent with pre-agreed
policy priorities or to address glaring past failures to exercise proper control;
avoid "across-the-board" cuts;
where expenditure plans need to be scaled back, use reductions by economic category if fundamental
policy changes cannot be achieved. The first target should be any reductions consistent with the pursuit
of outstanding policy goals, and ideally within the context of ongoing wider reforms--for example,
measures to reduce civil service numbers or changes in wage policies to improve the alignment of public
and private sector wages; and
be cautious in reaching for the obvious but overly simplistic targets, like freezes in new or ongoing public
sector capital projects or in public sector wages; or percentage reductions in the purchase of goods and
services (unless and until the longer-term damage to the economy or to overall government operations
is assessed as bearable).
15At the budget execution stage, however, those preparing the budget should also be aware of the
degree of executive power to limit spending below or to increase spending above appropriations (see
Section 4). This power can be an important determinant of the degree of flexibility for fiscal adjustment.
16Refers to the provision that the budget deficit must not exceed investment or capital expenditure,
that is, borrowing only for capital spending.
17"Development" budgets often include both capital and current spending on projects, mainly, but not
exclusively, financed externally.
18Outputs are typically physical measures of production: for example, hospital patients treated and
miles of roads built. Outcomes refer to measures of policy impact: for example, fewer road accidents
after reductions in speed limits.
19 Larger reserves can be justified in very specific circumstances. An example would be a plan to
liquidate payment arrears, whose aggregate size is not yet clear.
20See Barry H. Potter, "Dedicated Road Funds: A Preliminary View on a World Bank Initiative," IMF
Paper on Policy Analysis and Assessment 97/7 (Washington: International Monetary Fund, 1997), for a
related discussion on earmarking revenue for dedicated road funds.
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The four phases of the budget cycle in the Philippines as well as the problems encountered during each
phase.
PhilGEPS – Government’s Tool for Procurement Reforms and Transparency
Public Procurement
Procurement is commonly defined as the acquisition of appropriate goods and/or services at the best
possible price to meet the needs of the purchaser in terms of quality and quantity, time, and location.
The procurement process formally starts from the point where the need to make a purchase to deliver
an objective has been identified, and its process ends when the product has been used up or sold on, or
the service contract has been delivered completely and the supplier or contractor is paid in full. The
procurement function makes it possible for organizations to plan, acquire and distribute their needed
resources - from paper and pens, to mobility items, IT systems and applications, security contracts,
consultancies - to continue the business operations of the firm. In any organization,procurement is the
largest or second-largest category of expenditure. In contemporary business parlance, the term
procurement is an “umbrella” term which includes in its sphere concepts such as logistics and inventory
management, online transactions, sourcing and outsourcing, supply chain management and operations,
and eBidding. Procurement is an essential function that helps shape corporate strategy and success.
All organizations aim for good procurement practices and that means value for money – that is, buying
something that is fit for purpose, taking into account the overall cost. A good procurement process
should also be delivered efficiently, to limit the time and expense for the parties involved.
Procurement is also a major activity in government. In the Philippines, hundreds of billions of pesos is
spent by the government to buy the goods and services it needs to operate the bureaucracy, carry out
projects and deliver services to its citizens. The World Bank, a development partner, cites that for the
past four years, an average of P121 billion worth of infrastructure, equipment, materials, supplies, and
services pass through government procurement processes each year which accounts for 15% of the
country’s annual budget.
Procurement plays a central role in delivering all Philippine government priorities – from the free drugs
and medicines at public hospitals, the public school buildings, desks and chairs, to the guns and
ammunitions of the military and police and the electronic systems that supported our recentlyconcluded automated elections.
The Philippines’ procurement system used to be described as cumbersome and prone to corruption as
there were many outdated and inconsistent laws and many agencies dealing with issuance of guidelines
and procedures in procurement. The public perception was that government procurement was
characterized by fraud, inefficiency and lack of transparency. As a result, there was very low trust and
confidence in the public procurement system.
The Government Procurement Reform Act (Republic Act No.9184 s. 2003)
With the passage in January 2003 of the Government Procurement Reform Act (GPRA) or Republic Act
No. 9184 (RA 9184), the Philippine procurement system was rationalized and harmonized with
international standards and best practices.
RA 9184 espoused the principles of transparency, competitiveness and accountability. It also mandates
the use of streamlined procurement processes and monitoring of government procurement activities by
the public. More importantly, the GPRA created the Government Procurement Policy Board (GPPB), as
the central policy and monitoring body with the following functions:
Protect national interest in all matters affecting public procurement, having due regard to the country’s
regional and international obligations
Formulate and amend, whenever necessary, the implementing rules and regulations and the
corresponding standard forms for procurement
Ensure that Procuring Entities regularly conduct procurement training programs and prepare a
Procurement Operations Manual for all offices and agencies of government; and
Conduct an annual review of the effectiveness of the Government Procurement Reform Act and
recommend any amendments thereto, as may be necessary
The GPPB acts as the oversight authority in all government procurement. It is headed by the Secretary of
the Department of Budget and Management as Chairman and the Director-General of NEDA as
Alternate Chairman. The Members of the Board are comprised of the Secretaries or the authorized
representatives of the Departments of Public Works and Highways, Finance, Trade and Industry, Health,
National Defense, Education, Interior and Local Government, Science and Technology, Transportation
and Communications, and Energy. A representative from the private sector appointed by the President
also sits as a Member of the Board. Representatives from the Commission on Audit and from relevant
government agencies and professional organizations from the private sector are invited in GPPB
Meetings to serve as Resource Persons.
The GPRA likewise provided for the creation of the GPPB Technical Support Office (TSO) which provides
technical and administrative support to the GPPB.
Standard bidding documents and generic procurement manuals were developed by the GPPB-TSO and
anti-corruption provisions were incorporated in the law, including provisions for sanctions and penalties
for non-compliance with the rules and guidelines. To enhance transparency in government procurement
processes, the law also required the invitation of observers from the Commission on Audit, the civil
society or professional organizations and from non-government organizations to sit in procurement
proceedings conducted by government agencies. The GPPB-TSO also embarked on a comprehensive
training program to educate, professionalize and improve the skills of government procurement
practitioners.
Another important breakthrough in the Government Procurement Reform Act is the provision
mandating all government agencies to utilize the Government Electronic Procurement System (now the
PhilGEPS http://philgeps.gov.ph) as the single portal that shall serve as the primary source of
information on all government procurement. The procurement process across all government agencies,
from all branches of government, to local government units and public schools and universities, now
involves announcing and advertising all procurement opportunities, inviting qualified parties to bid,
evaluation of bids, awarding of contracts, monitoring of delivery and performance and payment. The
whole process is recorded and posted electronically for others to see.
The Philippine Government Electronic Procurement System (PhilGEPS)
What has become PhilGEPS today had its beginnings as the Pilot Electronic Procurement System (Pilot
EPS) in November 2000. By utilizing the accessibility of the internet, the EPS was established with the
assistance of the Canadian International Development Agency (CIDA) as a common portal for
registration of suppliers and advertisement of bid opportunities.
The passage of the Government Procurement Reform Act in 2003 further boosted the importance of
PhilGEPS. This law set forth the rules and regulations for government procurement transactions as
guided by the principles of transparency, competitiveness, streamlined procurement processes,
accountability, and public monitoring. It required all government requirements from goods, consulting
services to civil works to be centrally posted through an internet infrastructure which will be called the
Philippine Government Electronic Procurement System (PhilGEPS).
With the implementation of RA 9184, all National Government Agencies (NGAs), Government Owned
and Controlled Corporations (GOCCs), Government Financial Institutions (GFIs), State Universities and
Colleges (SUCS) including Local Government Units (LGUs) are mandated to use the PhilGEPS. Suppliers,
manufacturers, contractors, consultants are also required to register as well. Through the use of the
PhilGEPS, transparency in government procurement is enhanced since opportunities to trade with
government and the ensuing transactions are provided online. Information on changes in terms of
references, bid schedules and on the winning bidder and contract amount are all accessible through the
system. In addition, the electronic catalogue, which provides information on pre-approved cost of
commonly used items, will help government auditors check that supplies purchased by a government
agency are not grossly over-priced. Before the enactment of RA 9184, bid opportunities costing 2M and
above for goods and consulting services and 5M and above for civil works should be advertised twice on
two newspapers of general circulation. With the new law, opportunities are now required to be
advertised only once in a newspaper of general circulation and posted continuously in the PhilGEPS for
seven calendar days. As a result, the government has been able to save close to Php 1.05 billion in
newspaper advertisement expenses alone as of June 2014.
As of December 31, 2014, the PhilGEPS hosted bid opportunities posted by 23,668 government agencies
and accessed by 65,544goods and services providers. A total of 2,745,639 bid notices have been posted
by various procuring entities in the system.
The PhilGEPS is presently managed by an Executive Director III who reports to the Procurement Service
Executive Director IV and the Government Procurement Policy Board. The PhilGEPS management office
consists of 43 officers and staff who perform the following critical tasks:
Formulate, recommend and implement long and short range plans and strategies relative to the
PhilGEPS project
Regularly report to the GPPB and PS-PhilGEPS Executive Director IV on the status of the project
Manage the contract/service level agreements with the outsourced system developers and service
provider
Administer the PhilGEPS system including the registration and provision of helpdesk services to the
agencies and suppliers
Develop and maintain the PhilGEPS Business Plan
Monitor and evaluate the compliance of agencies and suppliers in the use of the PhilGEPS; and
Update and improve market research and promote the use of the PhilGEPS for both government and
private entities
The PhilGEPS has brought significant benefits to the government in terms of the following:
Improved transparency in government procurement
Enhanced competition and realization of value for money in procurement
Improved administrative efficiencies
Reduction in procurement costs, including newspaper advertisements
Provision of audit trails through information posted in the system; and
Serves as a medium in implementation of government procurement policies, transparency and good
governance measures
The expansive database of information in PhilGEPS aids government agencies in procurement planning
and monitoring
Merchants – i.e. suppliers and contractors doing business with government derive the following gains
from using the system:
Access to government bid opportunities 24 hours a day and 7 days a week
Downloading of electronic bid documents
Automatic notification, through the user’s email, of bid postings and supplements
Savings on newspaper costs, transportation and manhours
Information on government bid projects is important in market research and in making business
decisions
The PhilGEPS has been benchmarked and studied by neighboring countries such as Indonesia, Vietnam,
Nepal, Bhutan and other countries such as Malawi, Tanzania, Papua New Guinea and Sierra Leone who
envision having their own central e-procurement system. PhilGEPS officials have been invited to present
the PhilGEPS program and experience in various fora, symposia and other gatherings of world-renowned
e-Procurement organizations and practitioners such as those in the United States, South Korea and
Singapore and in global gathering of procurement experts here and abroad. In March 2015, a study
group led by the PhilGEPS Executive Director went to New Zealand to observe reforms and efficiencies
in that country’s procurement system. In all these international gatherings, the efforts of the Philippine
government in pushing for reforms in government procurement were recognized and commended.
Multilateral development partners like the World Bank (WB) and the Asian Development Bank (ADB)
acknowledge the fact that the PhilGEPS is a viable instrument in the government’s efforts at improving
efficiency in the procurement function and has accepted the PhilGEPS for application on ADB and WBfunded procurement projects. Development partners and a multi-stakeholder foundation like CoSTPHILS
also continue to support the PhilGEPS systems development, training endeavors and communications
activities by providing grants and technical assistance.
PhilGEPS presently offers the following functionalities:
Electronic Bulletin Board
Government Official Merchants’ Registry
Electronic Catalogue
Automatic Bid Notification
E-Bidding
Electronic Payment of PhilGEPS Fees and Purchase of Bid Documents (for PS)
The modernization of the PhilGEPS is ongoing with the vision of making it the total provider of
eProcurement solutions to the government and its stakeholders. This includes the installation of
additional functionalities like a more integrated e-bidding system tied into the government annual
procurement plans and a facility for electronic payment to merchants, purchase of bid forms and
payment of other bidding fees. The contract was awarded in January 2014 and the transition to the new
system is expected by October 2015.
Good procurement is essential to ensure good public services, from buying goods and services that work
as they are supposed to, to achieving savings that can be ploughed back into front-line services.
PhilGEPS is committed to proactively participate in the challenges of contributing to procurement
reforms by maintaining a safe and secure internet-based, open, and competitive marketplace for
government procurement. PhilGEPS also embraces the task in helping develop procurement
professionals and partnering with other government agencies to bring about reforms that will reflect
our fervor to ensure that procurement drives further advancement in our delivery of public services to
match the Filipinos’ rightly held high expectations for a government that serves the public’s best
interests.