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III.  Open Budget Preparation, Execution, and Reporting  (continued)

Budget Presentation

3.2 Budget information should be presented in a way that facilitates policy analysis and promotes accountability.

111. The Code includes good practices relating to: (1) data classification; (2) program objectives; and (3) indicators of the government's fiscal position.

Data classification

3.2.1 Budget data should be reported on a gross basis, distinguishing revenue, expenditure, and financing, with expenditure classified by economic, functional, and administrative category. Data on extrabudgetary activities should be reported on the same basis.

112. This is a basic requirement of fiscal transparency. Budget transactions need to be capable of being reviewed from the perspective of their economic impact, the form of appropriation, administrative control, and their purpose. A recording and classification system that meets these needs provides the foundation for the presentation of the budget, final accounts, and other fiscal reports.

Comprehensiveness and compatibility with GFS

113. The data classification system should comprehensively cover the broadly defined budget. The data classification system should also be compatible with GFS standards for data classification in the sense that distinctions at a transactions level should permit generation of GFS-consistent reports.96 The use of the GFS or another widely accepted classification system is also a basic requirement of fiscal transparency. A classification by administrative category is important for internal control purposes. Classifications and subclassifications should be consistent with the analytical distinctions in the current GFS Manual.97 However, it should be emphasized that the GFS is a reporting standard for fiscal statistics and not an accounting or financial reporting standard. The differences are discussed in Box 17.

114. Aside from providing an analytical framework that facilitates assessment of the aggregate impact of government transactions on the economy, the GFS provides a widely accepted standard for an economic classification of revenue and expenditure and adopts the UN Classification of the Functions of Government (COFOG)98 as its functional classification framework. Using these standards of classification facilitates international comparisons of budget statements and provides a basis for tracking the economic impact of the budget. However, neither classification is intended to meet the needs of administrative or program control, which requires a breakdown of major economic and functional categories of expenditure for individual spending agencies or programs.

Box 17. Fiscal Transparency and International Standards for
Financial and Fiscal Reporting

Efforts are being made to improve accounting and financial reporting standards by a number of governments. The work of IFAC and the proposed revision of the GFS Manual, together with the Code, are further steps toward development of standards that will help improve international comparability of data and contribute to improved fiscal transparency. It is important to distinguish the different objectives of these initiatives, and to coordinate work in all three areas as closely as possible.

IFAC-PSC Study (http://www.ifac.org)
The Public Sector Committee (PSC) of IFAC in May 2000 released its study on financial reporting Governmental Financial Reporting at http://www.ifac.org/Guidance/Pub-Download.tmpl?PubID =960182179426 to help national governments prepare financial statements that provide information on the financial performance and position of the government. The study discusses the principles that are the basis for international public sector accounting and reporting standards now being developed by the PSC as part of its continuing standards project. The PSC has released the first eight International Public Sector Accounting Standards (IPSAS) and a further six exposure drafts that are intended to lead to standards. For the most part, the IPSAS are based on modification of International Accounting Standards designed for the private sector and modified for applicability to the public sector. ED 9, however, proposes to establish requirements for financial reporting under cash accounting. These principles will be of value for most governments that operate a near cash basis system.

GFS revision
The GFS is not an accounting or financial reporting standard, but a standard for analytical reporting of fiscal statistics; GFS looks at economic impact rather than accounting entity performance. It is desirable that government accounts classification and financial reporting standards be developed in a way that is compatible with the generation of such statistical reports, so that a single information system can meet both accounting and fiscal reporting needs. It is also important that GFS fiscal reports be completely reconciled with government budget reports and the final accounts to provide assurance of data reliability and comprehensive coverage of the fiscal accounts. The GFS is being revised and a full draft is available at http://www.imf.org/external/pubs/ft/gfs/manual/index.htm. The revisions recognize the growing importance of accrual concepts for government accounting and aims to harmonize GFS completely with other international financial statistics systems (notably the SNA) that use accrual concepts. The proposed revision would not require that countries adopt accrual accounting: a staged transition is envisaged, and countries could adjust data from their cash accounts, or, in many cases use cash data where differences between cash and accrual are not substantial.

Fiscal transparency
The Code is fully supportive of the application of an accrual basis GFS and IPSAS. It is highly desirable for countries operating on a near cash basis that disclosure of fiscal activity go beyond a simple cash flow report. As discussed below, a number of the basic requirements of the Code stipulate reporting of data that go well beyond pure cash financial reporting standards. Some of these are encouraged under the proposed IPSAS on cash accounting as additional disclosures, others would be adopted in financial statements as a government moves toward an accrual system. The Code, however, is intended to apply irrespective of the nature of the accounting system. The Code emphasizes as basic requirements that (1) all countries report on financial assets and liabilities—introducing some elements of a modified accrual standard; and (2) all countries should aim to have an accounting system that can produce reliable reports on payment arrears. Such reports could be produced at a memorandum level by a cash system. The need to extend to an accruals system—in which accounts payable are automatically recorded as expenditure—should be determined by each country on an as needed basis.

115. It is important that all military spending is recorded and reported under the defense function, including that which is financed by off-budget or commercial revenue sources. While national security considerations are often used to argue against transparency in this area, a multilateral approach to greater openness could reduce security risks. Security considerations may, however, warrant a somewhat different approach to auditing the details of military spending.99

Consistency with administrative accountability

116. The classification system should also allow a clear tracing of responsibility for the collection and use of public funds. Most countries have relatively sound administrative classifications for this purpose, often to subdepartmental levels; in some countries, however, the classification does not allow detailed specification of administrative responsibilities. This is a particular problem in countries in transition where, under the former planning regime, the primary budget allocation was by broad functional category and allocations were made to individual spending units during the year. Many of these countries are changing their classification system to promote administrative accountability.100

Program objectives

3.2.2 A statement of objectives to be achieved by major budget programs (e.g., improvement in relevant social indicators) should be provided.

117. Transparency and accountability in government require that the budget and accounts be related to objectives and results of government activity, rather than simply to the items on which money is spent as in traditional line-item budgeting. Modern budgeting tries to identify as far as possible the objectives of government activities and to measure outputs and outcomes in relation to these objectives. An important element of early efforts in this direction is the classification of expenditure into "program," "subprogram," and "activity" categories, defined with increasing specificity at the more detailed levels in relation to a clearly stated set of objectives.101 Thus expenditure on a "public health" program could be linked to governments' broad aims of promoting preventative health care, and more specific objectives would be given in, say, an antimalarial subprogram. Classification of government activities by program is now widely practiced, and its further implementation will help improve transparency. However, it must be stressed that a program classification supplements rather than replaces the traditional administrative classification discussed in the preceding section.102 The elements of a program classification will be particularly important for those countries seeking to identify and track expenditure aimed at poverty reduction in connection with Highly Indebted Poor Countries debt relief or a Poverty Reduction and Growth Facility arrangement with the IMF.

118. Recent efforts in advanced economies have emphasized a need to increase the authority and incentives for line managers to achieve agreed results. A number of countries are developing sophisticated systems of results-oriented budgeting and accounting. These efforts are very important for increasing transparency of strategic and operational choices made through government budgets. Best practice is that transactions should be classified by activity or output, and by program or outcome. Detailed financial and nonfinancial information for all outputs/activities and programs/outcomes, together with comparable information for the previous year, should be part of the budget documentation.103 The emphasis is primarily on transparency at an aggregate level, and on putting in place a framework that is conducive to the provision of progressively more detailed information on the impact of budget decisions. Many of the techniques being applied in advanced economies place a heavy demand on administrative resources, and are not therefore appropriate for developing countries or countries in transition. But all countries have the capacity to specify clear objectives for at least the major services provided by the government.

Indicators of the government's fiscal position

3.2.3 The overall balance of the general government should be a standard summary indicator of the government's fiscal position. It should be supplemented where appropriate by other fiscal indicators for the general government (e.g., the operational balance, the structural balance, or the primary balance).

119. The current GFS definition of overall balance of government,104 while not adopted universally, provides a widely used reference point for fiscal policy analysis. It aims to identify those transactions of government that result in net borrowing from other economic sectors (and are "deficit or surplus creating" or "above the line"), and provides a focus for analysis of the size of the deficit/surplus and its components, as well as the sources of deficit financing (or "below-the-line" transactions). The overall balance provides an indication of the impact of fiscal policy on aggregate demand. While components of deficit financing indicate more specific consequences of fiscal policy (e.g., the impact of borrowing from the central bank on money supply and inflation and the impact of domestic borrowing on interest rates, investment, and growth).

120. While it is recommended that analysis of the government's fiscal position should be based on the overall general government balance, there are some qualifications to this. First, practical or constitutional reasons may mean that in many countries the overall balance of central government is the standard measure of the fiscal position. Second, in some situations the central or general government balance should be supplemented by a measure of the broader public sector balance.105

121. Third, the overall balance measure has acknowledged shortcomings in some circumstances. However, these can be largely overcome by providing supplementary information on alternative balance measures to meet particular policy needs. The primary balance should be routinely reported for countries with substantial public debt or deteriorating debt dynamics. The operational balance (the overall balance minus the part of debt service that compensates debt holders for inflation) is often reported when there is high inflation.106 The structural or cyclically adjusted balance (which, in various forms, removes the effects of cyclical fluctuations or exogenous shocks from the overall balance) is used in a number of advanced economies to judge the stance of fiscal policy. There are also circumstances where it might be appropriate to exclude certain items from the overall balance where these items are large and possibly highly variable, and thus make the overall balance a misleading indicator of the macroeconomic impact of fiscal policy and fiscal trends. The overall balance excluding grants and the nonoil fiscal balance are examples.107

122. In addition to the need for such supplementary measures, a further concern about the overall balance is that it is a cash-based indicator which does not properly reflect the impact of balance sheet transactions. It is generally recommended, for instance, that the proceeds from asset sales be treated as financing rather than revenue, negative capital expenditure, or negative net lending.108 More generally, some countries identify an "underlying balance" net of asset sales to remove these proceeds from above the line in a cash presentation of the balance. Similarly, bank restructuring costs, which usually reflect a combination of balance sheet operations (transfer of government bonds or assumption of debt) and quasi-fiscal activities (central bank loans) do not impact the overall deficit in the same way as direct budget support.

123. In an integrated government accounting system, under accrual or modified accrual accounting, it would be necessary to reconcile debt transactions with the operating accounts. Under cash accounting, IFAC recommends that the disclosure of assets and liabilities should be comprehensive and permit such a reconciliation to be made. However, accounting for transactions in this way does not necessarily give a true reflection of their economic impact, which may reflect earlier policies. Thus the need to recapitalize a bank may result from accumulated past quasi-fiscal activities (e.g., directed credit), so that the impact would have been understated in the past but overstated when recapitalization takes place. This point notwithstanding, it is essential for transparency that such transactions be fully identified and made public by the government.

124. Another point of contention is the appropriate way to treat grants. In the current GFS Manual, these are treated as "above the line" or deficit-reducing receipts. However, since these flows are not directly under the policy direction of the recipient government, some argue that they are better treated "below the line" as financing items. To indicate potential issues related to these receipts, in countries with large grant inflows it is common to identify the overall balance inclusive and exclusive of grants.

125. Many of these issues will be addressed by adopting an accrual basis for fiscal reporting since it fully and properly reflects changes in government assets and liabilities. Although a cash overall balance will continue to be used by many countries for some time, the revised GFS Manual will use accrual standards for fiscal reports, in line with other economic statistics standards. Moreover, the need to supplement cash basis financial reporting by at least some elements of accrual reporting is being increasingly recognized. Several countries are adopting an accrual or modified accrual accounting standard.109 In addition to using the overall balance and supplementary indicators for macroeconomic analysis, it is important that these concepts be clearly applied in presenting the annual budget to the legislature and in public discussion. In many countries, budget estimates and the final accounts are presented simply in a cash-accounting format (showing gross receipts and outlays). To provide assurance of the reliability of data in GFS fiscal reports, the overall balance should be reported in budget and accounting reports with an analytical table showing its derivation from budget data.

The public sector balance

3.2.4 The public sector balance should be reported when nongovernment public sector agencies undertake significant quasi-fiscal activities.

126. As emphasized elsewhere, many governments conduct extensive quasi-fiscal activities outside the budget, which are not captured in the conventional measure of the overall fiscal balance. This means that standard measures of the fiscal position can present a distorted picture of the extent of fiscal activity, and can contribute to poorly designed fiscal policies. It can also mean there are incentives to move fiscal activities outside government to make the fiscal position look better than it is. The publication of a statement on the nature and extent of quasi-fiscal activities is therefore a basic requirement of fiscal transparency. However, identification and quantification of quasi-fiscal activities depends critically on high quality reporting by public financial institutions and nonfinancial public enterprises. Given that improvement in this regard is unlikely to be rapid, an alternative is to establish a system of reporting that covers the broader public sector and to use the public sector balance as an additional measure of the government's fiscal position. This is clearly appropriate where quasi-fiscal activities are judged to be extensive, and is desirable in any country where the public sector is much larger than general government. Some of the issues involved in reporting the public sector balance are discussed in Box 18. It should be emphasized that reporting the public sector balance does not mean that clear boundaries no longer need to be established between different parts of the public sector, nor does it diminish the need to identify and report on quasi-fiscal activities.

96 See Box 7 for discussion of the relationship between GFS classification and various types of fiscal reporting.
97 Although the GFS is not the only fiscal statistical reporting standard (the SNA and ESA provide alternatives that are close in concept), the current GFS Manual provides the most generally accepted international point of reference for purposes of classification of fiscal statistics.
98 See http://esa.un.org/unsd/cr/registry/regrt.asp.
99 See paragraph 170.
100 For example, the 1998 budget in Ukraine introduced a basic GFS-consistent economic classification of expenditure and, for the first time, showed budget allocations by main spending agency.
101 The United States, through its Planning, Programming, and Budgeting System, represented the leading example in the mid-1960s.
102 It should be noted that a program classification is conceptually distinct from the GFS/COFOG functional classification, since government program objectives may be served by activities in several functional areas (an antimalaria subprogram, for instance, could have an educational component, an agricultural drainage component, and a health component). Nonetheless, in practice, some program classifications have been based on COFOG at higher levels of categorization.
103 Access to detailed work on these issues in the OECD and to individual country sites is provided through the OECD/PUMA web site, http://www.oecd.org/puma/links.htm.
104 The term actually used throughout the current GFS Manual is "overall deficit/surplus."
105 See paragraph 126 for further discussion of the public sector balance.
106 See Tanzi, Bléjer, and Teijeiro (1993).
107 The various concepts of the fiscal balance are discussed in Bléjer and Cheasty (1993).
108 See Mackenzie (1998).
109 See the ROSCs for Australia, France, and the United Kingdom, at http://www.imf.org/external/np/rosc/rosc.asp.

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