7. Budget coherence
7.1 Keeping on course
There should be a strong relationship between the budget as formulated and the budget as executed. However a modest degree of adjustment is desirable during execution to allow for the occurrence of events which were unknown or uncertain at the time the budget was authorized. As the budget is formulated during the second half of the preceding year, there is scope for the development of a new scenario in parallel with or after the formulation process. Analytically it is necessary to distinguish between changes which should have been anticipated and reflected in the budget, and those which were genuinely unexpected and which now have to be incorporated. Also we have to be able to understand the nature of the budget process: is there an active effort to ensure adequate coverage and transparency or do vested interests ensure that it remains partial and opaque? Here are some brief cases of adjustment to the budget while it is being implemented. Clearly the dividing line is thin as to whether these expenditures should or should not have appeared in the published budget.
Case A
The figures for the salaries and wages of civil servants were calculated at rates applicable at the stage of budget formulation. At the time the budget was authorised, it was known that a new salary scale would be introduced but negotiations were still in progress on the actual figures. When the new pay scale was announced half way through the budget year, a supplementary budget was introduced to provide the extra funds to pay civil servants at the higher pay scales. (was the pay award unexpected? could its likely level have been predicted?)
Case B
A large municipality which had borrowed very heavily, declared itself unable to meet its debt service obligations on certain foreign loans. While government had not guaranteed this borrowing, it felt obliged to rescue the municipality for the good name and creditworthiness of the country. Government agreed to service several foreign currency-denominated loans on behalf of the municipality. No budget provision had existed for this and none was created. The loans of the municipality were transferred to government and serviced under permanent legislation allowing the government to pay "standing charges". (who is accountable for what has happened? who is responsible for repaying the loan at maturity? what impact could items of this nature have on the budget surplus/deficit? how could they be forecast and incorporated in the budget? ).
Case C
Four months into the budget year, the President announced the signing of a contract for the construction of a new airport. This project was not included in the country's development plan or its budget. Ten million dollars were payable to the contractors immediately to cover start-up costs. The President instructed the Central Bank to pay the contractors the required sum. No budget amendment was made. (how strong is budget discipline? how meaningful is the budget? what constitutional right does a president have to instruct the central bank to pay money?)
Case D
In month five of the budget year a major cyclone hit a large, heavily populated coastal area. Immediate assistance and release of supplies was needed costing $20 million. The relevant heads in the budget did not contain sufficient funds, but the budget did contain a contingency fund from which funds were immediately withdrawn and spent. A supplementary budget was passed. It provided budgetary authority for the money which had been spent and transferred the relevant expenditure from the contingency fund to these budget heads, thus restoring the contingency fund to its former level. (was the cyclone unpredictable? could the budget cope with unexpected emergencies? was there accountability for what happened).
7.2 Preparing for the unexpected
A person is found dead at the bottom of a cliff. Did he jump or was he pushed? We can ask similar question of budgets. Certain events are genuinely unexpected in scale and timing: a trade embargo, a natural disaster, the onset of a recession, a war. These events have significant consequences which have to be reflected in an amended budget. Other events are not really unexpected, but may be presented as such. They should appear in the budget or in budget documents but often they do not. A state bank collapses due to bad lending. In principle, the impact on the budget (a rescue package) could have been foreseen, if the causes and status of all such eventualities had been constantly monitored.
Even the incidence and cost of supposedly spontaneous events such as earthquakes and floods can be assessed in terms of their estimated probability. A contingency fund is a way of setting budget authority aside so that unexpected events do not necessarily blow the budget off course. The main principles for a contingency fund are as follows:
· a contingency fund carries budgetary authority of a general nature where the actual purpose to which the funds are to be applied is not known when the budget is authorised
· the amount carried in the contingency fund is calculated by reference to the possible incidence and cost of unexpected events which may occur during the budget year
· it should not exceed 10 per cent of voted expenditure and the level should be calibrated in relation to experience
· the rules for drawing money from the fund should be explicit and give examples of the type of unexpected event (e.g. emergencies) for which it can be used
· money charged temporarily to the contingency fund must afterwards be transferred from the fund to budget heads and go through normal budget procedures, albeit retrospectively
· the institutional framework has to be strong enough to support the operation of a contingency fund. In some countries the contingency fund is just another slush fund.
Another way of coping with uncertainty is to remake the budget during its execution. A country suffering from a run of budget deficits and increased difficulty in borrowing money, has to increase revenues and reduce expenditures. But the budget has already been announced. One option is for MOF to release budget authority for expenditure in strict relation to the level of cash balances at the moment of decision. The country lives within its means. But it may not be managing its resources in the best way. Budget arrears[1] develop as spending agencies struggle to cope with strict spending limits. Spending agencies cannot implement their programs and the quantity and quality of services falls.
7.3 The divided budget
Many budgets are divided between a recurrent budget and a development budget. The first carries the routine expenditure of government plus some small capital expenditures. The second carries development projects (both current and capital expenditure expenditure) and corresponds largely with donor-funded projects. Such projects are not funded 100% by donors: the host country is normally called upon to fund a small proportion of expenditure to indicate ownership and emphasise participation. A basic idea underlying a development budget is that donors will in this way fund the building of capacity. But when projects are completed their recurrent expenditures will be found from the recurrent budget. In fact, poor countries are able with difficulty to make their own contribution to development budget (which is usually in the form of salaries, infrastructure, accommodation etc.). Nor can they consistently meet the recurrent costs of completed projects. A large literature exists on such budget (and planning) arrangements. Many recent commentators are doubtful of the wisdom of a divided budget for the following reasons:
· it tends to create two classes of national government entity: the "haves" funded by the development budget, and the "have nots" funded by the recurrent budget
· the financial muscle of the development budget allows it to pay higher prices for key resources such as staff, and this can impoverish entities outside the development budget
· lack of integration between the two budgets allows capital projects to be completed but without enough resources to meet their recurrent costs when they come on stream
· development budgets are seen as a vehicle for donors and therefore a way of responding to donor, rather than national priorities
· poor countries agree to projects that they cannot afford (and may not even want), because aid comes mostly in project form and receiving assistance is seen as preferable to not receiving assistance at all
Given these factors development budgets are often dysfunctional. The worst of them display characteristics of the following types
· very slow project completion rates (projects which have taken excessively long periods to complete)
· project amendments during execution which change fundamentally the nature of the project and its beneficiaries
· projects which have been completed but where the facilities provided cannot be used, have not been repaired or have fallen into premature disuse
· projects which have been completed on the assumption of a flow of user charges (e.g. from irrigation schemes) where user charges are not collected or are collected at much lower than had been assumed for the purposes of project justification
7.4 Protected expenditures
Own revenues
Central to understanding this topic are arguments about the single fund concept. A single fund (a “consolidated fund”) is one into which all government revenues flow and out of which all expenditures are made. All the money in such a fund is subject to either permanent finance laws or the annual budget process. This means that apart from charged expenditure, each expenditure proposal is on an equal footing with all other expenditure proposals. They will have to compete with each other through the budget process, to achieve funding. Also by keeping the streams of revenues and expenditures separate from each other, greater control is achieved, and better information received on the true level of both expenditures and revenues.
In reality spending agencies are often active in trying to avoid the disciplines of the single fund and to find ways in which they exercise greater control over revenues and expenditures. Some agencies may be granted the right to retain certain revenues (i.e. are not obliged to pay them into the consolidated fund, but can apply the proceeds directly to particular uses). For instance patients’ registration fees may be used for furnishing and decorating hospital waiting rooms. More significantly, it is common for government’s trading activities to be exempted from the one fund concept. Originally, most public enterprises were government departments subject to the one fund concept. So revenue from selling postage stamps would have been deposited into the consolidated fund. But as such activities become established, it becomes clearer that they are trading activities and the relationship between costs of operation and revenues is seen as increasingly critical. Hence government trading activities are first recognized as separate funds, and ultimately as separate corporations. It is a slippery slope between granting special regimes for trading activities and doing the same for commissions, boards, supervisory authorities and other parastatals.
Earmarking
This term is used when a type of revenue is designated as the source (usually the sole source) for a specific type of expenditure (e.g. a license fee for motor vehicles is paid into a fund which can only be used for road maintenance). The case for earmarking is that it gives priority to a particularly meritorious type of expenditure program, which might otherwise suffer under-funding. It is a way of pre-empting the competitive budget process for particular types of designated expenditure.
The case against earmarking is that it:
· Reduces contestability (the specific type of expenditure benefits from “safe” resources and does not have to compete for funding with other types of expenditure via the budget process)
· Results in more funds being spent on specific types of expenditure, than may be strictly necessary
· Leaves less resources available to programs funded from the budget and sets off a quest for earmarked funds, among those not benefiting from earmarking
Turkey provides a good example of earmarking. Law 4306 identifies revenues from taxes on alcohol, soft drinks and cigarettes and earmarks them for education. Law 3418 identifies taxes on luxury items such as car imports, cigars, alcohol, soft drinks and gasoline and earmarks them in specified proportions for health and education.
Extra-budgetary funds (EBFs)
An extra-budgetary fund is one that can receive funds and dispose of them, without undergoing some or all of the controls which apply to the budget. For instance the directorate of forestry may have a revolving fund into which, go the proceeds of sale of timber products. An EBF might be able to:
· Charge fees for services rendered and/or goods supplied
· Pay remuneration to staff in excess of that specified by civil service regulations
· Make other expenditures without respecting budget norms
· Hold surplus funds over the year-end without the yearly lapse applicable to
budget funds
· Hold bank accounts into which its own funds can be paid
· Invest surplus funds in securities or other assets
Earmarking can occur with or without the setting up of EBFs. However, an EBF gives the recipient more security and more flexibility in the use of the designated funds. Then, not only are the revenues designated for a particular use, but they are also held in a fund held exclusively for that use. The advantages of using EBFs accrue to the agencies which control them. They are: