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### Introduction and scope
- Effective fiscal policy requires a clear definition of the public sector.
- Recent trends noted:
  - Increased use of private sector management techniques in the public sector.
  - Growth in public-private partnerships (PPPs), outsourcing, contracting out, and publicly-funded vouchers.
  - Transfer of certain activities from state-owned enterprises to private sector entities.
  - Influence of private sector financial accounting standards and increasing use of accrual accounting for government financial statements.
- Core questions:
  - Has the borderline between public and private sectors become blurred?
  - Is there a “gray zone” neither traditional public nor profit-driven private?
  - Can law demarcate such a gray zone and provide a consistent standard across countries?
- Paper structure (as presented):
  - Part II: Conceptual issues—ownership and control.
  - Part III: Conceptual framework based on GFSM2001.
  - Section IV: Application to joint ventures, leasing, PPPs, and social security funds.
  - Section V: Demarcation between public corporations and “general government”.
  - Section VI: Concluding remarks.

### Functional classification and its limits
- Reference frameworks:
  - GFSM2001 (Government Financial Statistics Manual, IMF, 2001).
  - COFOG (classification of functions of government).
  - ESA95 (European System of Accounts, Eurostat, 2007).
- Key findings:
  - Most government spending functions (health, education, social protection, environmental protection) are also performed by the private sector.
  - Exclusive or near-exclusive public responsibility is limited; notable examples include national defense and foreign affairs, though defense can involve partners or private contractors.
  - Conclusion: It is impossible to delineate public and private sectors solely on functional grounds.
- Usefulness:
  - Functional classification allows study of effectiveness of government programs (paragraph 6.90, IMF, 2001).
  - Applying COFOG to private sector could enable comparisons of private and public program effectiveness and inform provision decisions.

### Ownership: definitions and implications
- Ownership relates to possession of property and rights/responsibilities to exercise control over property (land, real estate, intellectual property, financial or nonfinancial assets).
- Implied definitions:
  - Private sector: entities owned by private owners, including private enterprises (for profit) and privately-owned nonprofit organizations and households.
  - Public sector: enterprises owned by government, including public enterprises and “government”.
- Four-way taxonomy if ownership alone used:
  - For Profit / Privately Owned = Private Enterprises.
  - Not For Profit / Privately Owned = Private Nonprofit Organizations and Households.
  - For Profit / Publicly Owned = Public Enterprises.
  - Not For Profit / Publicly Owned = “Government”.
- Implication: ownership is crucial but not sufficient by itself to resolve borderline cases.

### Control: power and benefit criteria
- Control is distinct from ownership and essential for classification.
- Different definitions:
  - SNA (statisticians): government controls a corporation if it has the ability to determine general corporate policy (Section 4.30, SNA—UN 1993).
  - Accountancy (IPSASB/IFAC): government controls a corporation if it has the power to govern financial and operating policies so as to benefit from its activities (IFAC, 2008a).
- Control determination logic (summary):
  - Is the power to govern financial and operating policies presently exercisable?
  - Does the entity have the power to govern the other entity’s financial and operating policies?
  - Does the entity benefit from the activities of the other entity?
  - IFAC guidance: control exists when at least one power condition and one benefit condition are exercised.
- IPSASB “power” conditions (selected):
  - Majority voting interest (directly or indirectly).
  - Power to appoint or remove a majority of board members.
  - Power to cast or regulate casting of a majority of votes at general or board meetings.
  - Other indicators (veto powers, budget or legal mandate control).
- IPSASB “benefit” conditions (selected):
  - Power to dissolve the other entity and obtain significant residual economic benefits or bear significant obligations.
  - Control over asset distributions or liabilities; power to extract distributions or be liable for obligations.
  - Ability to direct the entity to cooperate in achieving the controlling entity’s objectives.
- Implication: control may exist even when government shareholding is less than 50 percent if power-and-benefit conditions are met.

### Legal definitions and national practices
- Arguments for legal approach:
  - Laws can define “institutional unit” and “control” and specify prerogatives and mechanisms of economic control.
- National practice examples:
  - Special legislation can create public enterprises and include provisions on government rights to appoint directors and exercise control.
  - State Enterprise Laws may:
    - Specify State prerogatives.
    - List covered public enterprises.
    - Provide for allocating intermediate public entity shareholdings on a pro rata basis (example referenced for Senegal).
    - Assign a financial controller from the Ministry of Finance to ensure instructions are followed (Senegal example).
  - Cambodia’s General Statute on Public Enterprises, 1996: controlling ministry assures economic control; financial controller can “oppose measures that are against the objectives of the enterprise”.
  - Djibouti’s 1998 Public Enterprise Law: defines public enterprises as companies in which the State or other public legal entities hold more than 50 percent of the shareholding; enterprises are attached to a ministry for sector policy but policies are decided by the governing board. Implementing decree further specifies State prerogatives; practical application must be reviewed.
- Implication: legal definitions can clarify boundaries but implementing decrees and practice are needed to assess economic control, especially where shareholding is under 50 percent.

### Box 2 — Senegal: key provisions of the 1990 Law relating to public sector enterprises
- Coverage:
  - Included: public companies of an industrial and commercial character (regulated by government decree); nationalized companies (created by special laws); companies with majority public shareholding (regulated by private Company Law).
  - Excluded: Administrative public establishments.
- Governance and board composition:
  - Governing Board composed of up to 12 members.
  - State nominates two board members for professional expertise.
  - Number of State-appointed Board members limited to three (“in order to avoid abuse”).
  - Voting on the Board by majority.
- Majority ownership calculation:
  - If direct public ownership ≥ 50 percent, any public share of a parent organization is ignored in total State shareholding calculations.
  - If direct public ownership < 50 percent, public ownership of any additional controlling entity is added on a pro rata basis to determine total State shareholding.
- Role and restrictions on State representatives:
  - Government appointees are not allowed to directly or indirectly intervene in company operations.
  - Exceptional override: The President of the Republic of Senegal can, exceptionally, override these requirements.
  - Footnote (Article 13 of Law 90-07) quoted in French.
- Controls, financial oversight, reporting:
  - Para-public enterprises are dispensed of all ex ante controls by the MoF.
  - A MoF controller oversees financial management, especially procurement, and expresses views on planned investments.
  - Controller prepares periodic reports for multiple authorities and must ensure Presidential directives to enterprise managers are applied.

### Box 6 — Operating leases, financial leases, and PPPs
- Operating leasing:
  - Renting fixed assets for periods less than expected service lives; lessor provides a service for lease payments; lessor typically responsible for maintenance and repair.
  - When government is lessee, lease payments are treated as a government expense (accounting).
- Financial leasing:
  - Financing acquisition where lessor owns asset and rentals permit recovery of costs including interest; several ownership risks pass to lessee.
  - Under accrual accounting, a change of ownership is deemed to take place even though legal title remains with lessor until termination when legal ownership is usually transferred.
  - In GFSM2001 (accrual-based), the private lessor is treated as having sold the asset to the government lessee and financed the sale with a loan.
- Budgeting and fiscal reporting implications:
  - Operating leases (under cash accounting) can give the perception of low- or zero-cost arrangements because annual charges are paid over time rather than up-front.
  - Risk that some government financial commitments are excluded from the annual budget and accounts when private sector owns the asset but government controls operations under an operating lease.
- PPPs: definitions and characteristics:
  - Private sector supplies infrastructure assets and services; financing, risks and responsibilities are shared and detailed in contract.
  - Most PPPs include private execution and financing of public investment; private sector is legal owner of infrastructure; service provision by private sector; some risks transferred to government.
  - Range of forms: service/management contracts (low private involvement); design-build-finance-operate-maintain (intermediate); build-own-operate-(transfer) (high private involvement).
  - Typical outcome: most PPPs set up as operating leases, not financial leases.
- PPP project risks (seven, some overlapping):
  - Construction Risk.
  - Financial Risk.
  - Availability Risk.
  - Demand Risk.
  - Political Risk.
  - Residual Value Risk.
  - Force majeure.
- Accounting questions for PPPs and economic ownership:
  - Common situation: private operator legally owns PPP asset while government bears many ownership risks—raises whether government is de facto economic owner.
  - Key accounting questions:
    - Should the asset be recorded on government’s balance sheet, in full or in part?
    - If yes, when — once operational or at contract end when legal ownership transfers?
  - Eurostat decision (2004):
    - Classifies PPP assets as private and recorded on private partner’s balance sheet if private partner bears (i) the construction risk; and (ii) either the availability or the demand risk.
    - Because private sector typically bears construction and availability risks, governments have incentive to design PPPs to meet those two criteria so PPPs are not recorded in governments’ financial statements — even when government may be economic owner once operational or when government guarantees private partner against default.
- Alternative accounting bases considered:
  - (1) Risks (Eurostat, 2004).
  - (2) Access to future economic benefits and exposure to associated risks (example: United Kingdom).
  - (3) Unbundling components—quantifying risks, rewards and benefits and splitting asset/liability values between partners (Hemming and others). Unbundling is conceptually appealing but extremely difficult in practice.
- IPSASB consultation paper proposals for Service Concession Arrangements (SCAs):
  - Focuses on PPPs combining construction and operations concession—“service concession arrangements”.
  - Key proposals:
    - Government should report underlying property in its financial statements if it is considered to control the property.
    - Two proposed public sector control criteria:
      - Public sector controls/regulates what services must be provided, to whom, and price ranges/rates.
      - Public sector controls—through ownership, beneficial entitlement or otherwise—the residual interest in the property at end of arrangement.
    - Measurement/recognition proposals:
      - Measure government’s asset and any related liability based on fair value of the property, except where scheduled payments can be separated into construction and service elements.
      - Recognize contractually determined inflows of resources from an operator as government revenue as they are earned over the life of the SCA, beginning when the underlying property is fully operational.
    - Other issues: recognition of revenue from resource inflows; guarantees and commitments made by the public sector; financial statement note disclosures.
  - Process: IPSASB issued a consultation paper in March 2008; once finalized after August 2008, an internationally-agreed standard for treating specific PPP asset ownership and other accounting issues will be established.
- Disclosure and fiscal risk management recommendations:
  - Given risk-sharing nature and long-term commitments in PPPs, governments should assess and quantify risks borne and disclose all associated risks, especially PPPs and government guarantees.
  - Fiscal Risk Statements are helpful for discussing future medium-term financial implications of contingent liabilities and other potential costs of PPP projects.
  - Fiscal Risk Statements should identify principal financial hazards and quantify them if possible.
  - A fiscal risk statement can be prepared and presented to parliament as a document accompanying the draft annual budget law to enhance transparency.
- Related classification and reporting notes:
  - If infrastructure financed by private partner and legally owned by that partner:
    - If PPP is an operating lease, asset recorded on private partner’s balance sheet.
    - If PPP is a financial lease, government acquires asset and asset and lease liability recorded on government balance sheet.
  - Most PPPs are operating leases; therefore many PPP assets often do not appear on government balance sheets despite potential significant public sector risk exposure.

### Box 10 — The European Union’s 50 Percent Rule
- Purpose: implement economically significant prices in ESA95 by assessing whether production costs covered by sales covers more than 50 percent.
- Definitions:
  - “Sales”: sales excluding taxes on products but including all payments by general government linked to volume or value of output; payments to cover an overall deficit excluded.
  - “Production costs”: sum of intermediate consumption, compensation of employees, consumption of fixed capital and other taxes on production; other subsidies on production not deducted; production costs exclude costs for own-account capital formation to ensure consistency.
- Application timing:
  - Applied by looking over a range of years.
  - Criterion applied when it holds for several years or holds for the present year and is expected to hold for the near future.
- Key statistic:
  - Threshold: 50 percent.

### Autonomous government agencies: classification challenges and examples
- Emergence as instruments of new public management; classification within “general government sector” can be problematic.
- Many agencies expected to behave commercially and authorized to raise revenues by charging for services.
- OECD and UK/New Zealand examples:
  - United Kingdom:
    - Over 130 executive agencies created; carry out functions within a policy/resources framework set by parent department; required to publish corporate/business plans, annual reports and financial accounts; few have separate legal identity; classified as part of “budgetary central government.”
    - Nondepartmental public bodies (NDPBs): not part of a government department, operate independently of ministers though ultimately responsible to a minister; non-advisory NDPBs have legal identity and governing boards with appointments made by ministers.
  - OECD distinguishing features (legal status, governance, staffing rules, funding) summarized (Table 2, OECD, 2002).
  - New Zealand (Crown Entities Act, 2004) categories:
    - Government agent.
    - School Boards of Trustees and Tertiary Education Institutions (special category of “government agent”).
    - Autonomous government entities (must give effect to or have regard for government policies but not high ministerial control).
    - Independent government entities (operate with independence from ministers).
    - Government-owned companies (registered under Crown Entities Act when objectives not exclusively commercial; examples cited in source).
  - Regulations specify agencies’ financial reporting requirements, including exceptions (e.g., bank accounts; borrowing; government guarantees; paying surpluses to the State).

### Conclusions: demarcation, accounting standards, and fiscal risk management
- Core conceptual points:
  - Public vs. private sectors can be defined unambiguously at a conceptual level; ownership is the basis for delineation.
  - The notion of an “institutional unit” is fundamental.
  - Economic ownership takes precedence over legal ownership in international accounting standards:
    - Economic ownership is exercised by a controlling entity when it has the power to govern financial and operating policies of another entity.
    - Two essential conditions for economic control:
      - At least one “power” condition (e.g., majority voting interest, power to appoint/remove governing board members).
      - At least one “benefit” condition (e.g., power to dissolve the entity or control asset distributions).
  - Laws can elaborate on control but do not provide an internationally-acceptable definition of the two sectors.
- GFSM2001 framework and sector composition:
  - Institutional units engaged in economic activities, taking economic decisions in their own name, owning goods and assets, incurring liabilities, and able to compile a complete set of accounts are classified accordingly (e.g., central government).
  - Public sector comprises:
    - “General government” — central and local governments and all extrabudgetary funds controlled by them.
    - All public corporations.
  - Private sector comprises:
    - Households, private corporations, and privately-owned nonprofit organizations.
  - GFSM2001 conceptual framework is adequate for demarcating the public sector, comprised of nonmarket government-owned entities and corporations (including quasi-corporations) owned or controlled by government units.
- Accounting standards and borderline cases:
  - IPSASB and accounting norms provide useful guidelines for demarcation and measurement in a mutually exclusive manner.
  - Joint ventures: accounting standards permit allocation of operations and balance sheets partly to public sector and partly to private sector.
  - PPPs with construction and concession elements: accounting norms propose standards; if public sector is considered to control the property (even if private sector is legal owner), public sector should report the underlying property in its financial statements.
  - Social insurance funds and civil service pension schemes can belong to either sector depending on autonomy, funding, and recording practices.
- Fiscal risks and recommended practices:
  - PPPs can pose extensive risks to government; contingent liabilities (e.g., government guarantees) may induce future large budgetary payments not captured in current government accounts.
  - When risk eventuates, transfer of ownership will induce transfer of recording of assets and liabilities (example: government assumes guaranteed loan → deterioration of government net worth by amount of guaranteed loan).
  - Recommendation: Governments should monitor, disclose and manage all fiscal risks to minimize undesirable future pressure on budgets and financial statements.
    - Good practice includes regular publication, at the time the annual budget is presented to parliament, of a Statement on Fiscal Risks.
  - Boundary problems between market and nonmarket activities can be overcome by establishing rules such as those of ESA95.
  - Establishing and applying accounting rules is a pragmatic way to resolve complex realities induced by joint public-private ownership and de facto government control; rules can split the “gray zone” into measurable component parts, albeit with some arbitrariness at detailed levels.

*Source: IMF Working Paper — “1. Conceptual Splitting of Private and Public Sectors”*

### 1. Conceptual Splitting of Private and Public Sectors ...............................................................5

### 1. Conceptual Splitting of Private and Public Sectors

### Introduction
- Effective fiscal policy requires a clear definition of the public sector.
- Recent trends:
  - Increased use of private sector management techniques in the public sector.
  - Growth in public-private partnerships (PPPs), outsourcing, contracting out, and publicly-funded vouchers.
  - Transfer of certain activities from state-owned enterprises to private sector entities.
  - Influence of private sector financial accounting standards and increasing use of accrual accounting for government financial statements.
- Core questions raised:
  - Has the borderline between public and private sectors become blurred?
  - Is there a “gray zone” that is neither traditional public nor profit-driven private?
  - Can law demarcate such a gray zone and provide a consistent standard across countries?
- Paper structure (as presented):
  - Part II: Conceptual issues—ownership and control.
  - Part III: Conceptual framework based on GFSM2001.
  - Section IV: Application to joint ventures, leasing, PPPs, and social security funds.
  - Section V: Demarcation between public corporations and “general government”.
  - Section VI: Concluding remarks.

### Can the Public Sector Be Classified According to its Functions?
- Functional approach reference frameworks:
  - GFSM2001 (Government Financial Statistics Manual, IMF, 2001).
  - COFOG (classification of functions of government).
  - ESA95 (European System of Accounts, Eurostat, 2007).
- Key findings:
  - Most government spending functions (health, education, social protection, environmental protection) are also performed by the private sector.
  - Exclusive or near-exclusive public responsibility is limited; notable examples include national defense and foreign affairs, though even defense can involve partners or private contractors.
  - Conclusion: It is impossible to delineate public and private sectors solely on functional grounds.
- Usefulness of functional classification:
  - Allows study of effectiveness of government programs (paragraph 6.90, IMF, 2001).
  - COFOG applied to private sector could enable comparisons of private and public program effectiveness and inform decisions on whether government should provide a function.

### The Concept of Ownership
- Ownership relates to possession of property and the rights/responsibilities to exercise control over property (land, real estate, intellectual property, financial or nonfinancial assets).
- Definitions implied:
  - Private sector: entities owned by private owners, including private enterprises (for profit) and privately-owned nonprofit organizations and households.
  - Public sector: enterprises owned by government, including public enterprises and “government”.
- If ownership alone were used, a four-way division of the economy results:
  - For Profit / Privately Owned = Private Enterprises.
  - Not For Profit / Privately Owned = Private Nonprofit Organizations and Households.
  - For Profit / Publicly Owned = Public Enterprises.
  - Not For Profit / Publicly Owned = “Government”.
- Implication: ownership is crucial but not sufficient by itself to resolve borderline cases.

### The Concept of Control
- Control is a distinct and essential criterion separate from ownership.
- Differences in notions of control:
  - Statisticians (SNA): government controls a corporation if it has the ability to determine general corporate policy (Section 4.30, SNA—UN 1993). Emphasis on policy control.
  - Accountants (IPSASB/IFAC): government controls a corporation if it has the power to govern financial and operating policies so as to benefit from its activities (IFAC, 2008a). Emphasis on financial control.
- SNA limitations recognized; in 2005 SNA was to be further elaborated along IPSASB lines (TFHPSA, 2005).
- Control determination process (summary of Figure 1 logic):
  - Is the power to govern financial and operating policies presently exercisable?
  - Does the entity have the power to govern the other entity’s financial and operating policies?
  - Does the entity benefit from the activities of the other entity?
  - IFAC guidance: control exists when at least one power condition and one benefit condition are exercised.
- IPSASB “power” conditions (Box 1):
  - Majority voting interest (directly or indirectly).
  - Power to appoint or remove a majority of board members.
  - Power to cast or regulate casting of a majority of votes at general meetings or board meetings.
  - Other power indicators (veto powers, budget or legal mandate control).
- IPSASB “benefit” conditions (Box 1):
  - Power to dissolve the other entity and obtain significant residual economic benefits or bear significant obligations.
  - Control over asset distributions or liabilities; power to extract distributions or be liable for obligations.
  - Ability to direct the entity to cooperate in achieving the controlling entity’s objectives.
  - Other benefit indicators (direct or indirect title to net assets/equity).
- Implication: control may exist even when government shareholding is less than 50 percent if power-and-benefit conditions are met.

### Could the Boundary Be Defined by Law?
- Arguments for a legal approach:
  - Laws define terms and can clarify notions such as “institutional unit” and “control”.
  - Statutes and implementing decrees can specify prerogatives and mechanisms through which economic control is exercised.
- Examples and national practices:
  - Special legislation can create specific public enterprises and include provisions on government rights to appoint directors and exercise control.
  - State Enterprise Laws may:
    - Specify State prerogatives.
    - List covered public enterprises.
    - Provide for allocating intermediate public entity shareholdings on a pro rata basis (example referenced for Senegal).
    - Assign a financial controller from the Ministry of Finance to ensure instructions are followed (Senegal example).
  - Cambodia’s General Statute on Public Enterprises, 1996: the controlling ministry assures economic control; the financial controller is authorized by law to “oppose measures that are against the objectives of the enterprise”.
  - Djibouti’s 1998 Public Enterprise Law: defines public enterprises as companies in which the State or other public legal entities hold more than 50 percent of the shareholding; enterprises are attached to a ministry for sector policy but policies are decided by the governing board. The law’s implementing decree further specifies State prerogatives and practical application must be reviewed.
- Implication: legal definitions can clarify boundaries but may still require review of implementing decrees and practice to assess economic control, especially where shareholding is under 50 percent.

*Source: IMF Working Paper — “1. Conceptual Splitting of Private and Public Sectors”*

### Box 2. Senegal: Provisions of the 1990 Law Relating to Public Sector Enterprises

### Box 2. Senegal: Provisions of the 1990 Law Relating to Public Sector Enterprises

### Coverage of the “para-public” sector
- Included categories:
  - public companies of an industrial and commercial character (these are regulated by government decree);
  - nationalized companies (these are created by special laws);
  - companies with majority public shareholding (regulated by private Company Law).
- Excluded category:
  - Administrative public establishments.

### Governance and board composition
- The Governing Board of the enterprise is composed of up to 12 members.
- The State nominates two board members for their professional expertise.
- The number of State-appointed Board members is limited to three (“in order to avoid abuse”).
- Voting on the Board is by majority.

### Majority ownership calculation rules
- Public participation in the shareholding is calculated as follows:
  - If the direct public ownership is at least 50 percent, any public share of a parent organization is ignored from calculations of total State shareholding.
  - If the direct public ownership is less than 50 percent, then the public ownership of any additional controlling entity is added, on a pro rata basis, to determine the total State shareholding.

### Role and restrictions on State representatives
- Government appointees are not allowed to directly or indirectly intervene in company operations.
- Exceptional override:
  - The President of the Republic of Senegal can, exceptionally, override these requirements.
- Footnote (Article 13 of Law 90-07):
  - “Interdiction est faite aux administrateurs représentant l'État de prendre ou de conserver un intérêt direct ou indirect dans une opération effectuée par l'entreprise pour son compte ou par un organisme dans lequel celle-ci aurait une participation financière. Toutefois, à titre exceptionnel, une décision expresse du Président de la République peut déroger aux dispositions du présent alinéa.”

### Controls, financial oversight, and reporting
- Para-public enterprises are dispensed of all ex ante controls by the MoF.
- A MoF controller oversees financial management, especially procurement operations, of each company.
- The MoF controller also expresses views on the company’s planned investments.
- The controller is obliged to prepare periodic reports for:
  - the President of the Republic of Senegal,
  - the MoF,
  - the president of the Commission for Verifying and Auditing the Accounts of the Public Enterprise,
  - the Inspection Générale des Finances,
  - and the company’s Chief Executive Officer.
- The controller must ensure that any Presidential directives to the enterprise’s managers are applied.

*Source: The law is available on http://www.courdescomptes.sn/textes/loi9007.htm.*

### Box 6. Operating Leases and Financial Leases

### _wp09122 - Box 6. Operating Leases and Financial Leases

### Definitions and core distinctions
- Operating leasing:
  - Productive activity renting fixed assets for periods less than expected service lives.
  - The lessor provides a service to the lessee in exchange for lease payments.
  - The lessor is typically responsible for maintenance and repair as part of the service.
  - When the government is the lessee, lease payments are treated as a government expense (accounting).
- Financial leasing:
  - Arrangement for financing acquisitions of fixed assets where the lessor owns the asset and places it at the lessee’s disposal.
  - Lessee pays rentals that permit the lessor to recover all or almost all of its costs, including interest.
  - Several risks of ownership pass from the lessor to the lessee.
  - Under accrual accounting, a change of ownership from lessor to lessee is deemed to take place even though legal title remains with the lessor until lease termination, when legal ownership is usually transferred.
  - In GFSM2001 (accrual-based), the private lessor is treated as having sold the asset to the government lessee and financed the sale with a loan.

### Budgeting and fiscal reporting implications of operating leases
- Operating leasing contracts (under cash accounting) tend to:
  - Give rise to the perception that they are low- or zero-cost arrangements because annual charges are recognized and paid over time rather than up-front.
  - Create a strong risk that some financial commitments of the government are excluded in the annual budget and accounts when the private sector owns the asset but the government controls operations under an operating lease.

### Public-Private Partnerships (PPPs): definitions and characteristics
- PPPs often refer to arrangements where the private sector supplies infrastructure assets and services.
- Under traditional acquisition, government provides financing and retains all risks and responsibilities. Under PPPs, financing, risks and responsibilities are shared and detailed in contract.
- Most PPPs include:
  - Private execution and financing of public investment.
  - The private sector is the legal owner of the infrastructure asset.
  - The service provision from the infrastructure asset is provided by the private sector.
  - Some risks of the infrastructure project are transferred to the government.
- Range of PPP forms (degree of private involvement):
  - Service contracts or management contracts (low private involvement).
  - Design-build-finance-operate-maintain arrangements (intermediate).
  - Build-own-operate-(transfer) arrangements (high private involvement).
- Typical outcome: most PPPs are set up as operating leases, not as financial leases.

### Risks in PPP projects (Box 8)
- Seven PPP project-related risks (some overlap):
  - Construction Risk: design problems, building cost overruns and project delays.
  - Financial Risk: project financing problems, e.g., interest and exchange rate variability.
  - Availability Risk: continuity of quality service provision depending on asset maintenance.
  - Demand Risk: ongoing demand for the project’s services.
  - Political Risk: government action could impair the private partner’s earnings potential.
  - Residual Value Risk: uncertainty regarding the market price of the infrastructure asset at the end of the contract period.
  - Force majeure: risks beyond control of PPP partners (e.g., natural disasters).

### Accounting questions for PPPs and economic ownership
- Common situation: private operator legally owns PPP asset while government bears many ownership risks, raising whether government is the de facto economic owner.
- Key accounting questions:
  - Should the associated asset be recorded on the government’s balance sheet, in full or in part?
  - If yes, when — once the PPP project becomes operational or at the end of the contractual period when legal ownership transfers?
- Eurostat decision (2004):
  - Classifies PPP assets as private and recorded on private partner’s balance sheet if the private partner bears (i) the construction risk; and (ii) either the availability or the demand risk.
  - Because private sector typically bears construction and availability risks, there is a strong incentive for governments to design PPPs to meet those two criteria so PPPs are not recorded in governments’ financial statements — even when the government may be the economic owner once operational or when government guarantees private partner against default.
- Alternative accounting bases considered:
  - (1) Risks (Eurostat, 2004).
  - (2) Access to future economic benefits and exposure to associated risks (example: United Kingdom).
  - (3) Unbundling components—quantifying risks, rewards and benefits and splitting asset/liability values between partners (Hemming and others). The unbundling approach is conceptually appealing but extremely difficult in practice due to significant value judgments required.

### IPSASB consultation paper proposals for Service Concession Arrangements (SCAs) (Box 9)
- Scope and motivation:
  - Focuses on PPPs that combine a construction element with an operations concession element—termed “service concession arrangements” (SCAs).
  - Aims to clarify which party should report the underlying infrastructure as an asset in financial statements.
- Key proposals:
  - The government should report the property underlying an SCA as an asset in its financial statements if it is considered to control the property.
  - Criteria for public sector control (two proposed criteria):
    - The public sector controls or regulates what services the operator must provide with the underlying property, to whom it must provide them, and the price ranges or rates that can be charged for services.
    - The public sector controls—through ownership, beneficial entitlement or otherwise—the residual interest in the property at the end of the arrangement.
  - Measurement and recognition proposals:
    - Measure the government’s asset and any related liability (obligations to provide compensation to the operator) based on the fair value of the property, except where scheduled payments by government can be separated into a construction element and a service element.
    - Recognize contractually determined inflows of resources from an operator as government revenue as they are earned over the life of the SCA, beginning when the underlying property is fully operational.
  - Additional issues examined: (1) recognition of revenue from resource inflows; (2) guarantees and commitments made by the public sector entity; (3) financial statement note disclosures.
- Process:
  - IPSASB issued a consultation paper in March 2008; once finalized after August 2008, an internationally-agreed standard for treating specific PPP asset ownership and other accounting issues will be established.

### Disclosure and fiscal risk management recommendations
- Regardless of how accounting issues are resolved:
  - Given risk-sharing nature and long-term commitments in PPPs, it is appropriate to assess and quantify risks borne by the government and disclose all associated risks, especially those from PPPs and government guarantees.
  - Fiscal Risk Statements are helpful for discussing future medium-term financial implications of contingent liabilities and other potential costs of PPP projects.
  - Fiscal Risk Statements should identify principal financial hazards and quantify them if possible.
  - A fiscal risk statement can be prepared and presented to parliament as a document accompanying the draft annual budget law to enhance transparency.

### Related public sector classification and reporting notes
- For infrastructure financed by the private partner and legally owned by that partner:
  - If PPP takes the form of an operating lease, the asset is recorded on private partner’s balance sheet.
  - If the PPP is a financial lease, the government acquires an asset and both the asset and the lease liability would be recorded on the government balance sheet.
- Most PPPs are operating leases; therefore, many PPP assets often do not appear on government balance sheets despite potential significant public sector risk exposure.

*Source: IMF, 2001, Appendix 2.*

### Box 10. The European Union’s 50 Percent Rule

### Box 10. The European Union’s 50 Percent Rule

### The 50 Percent Criterion: Definitions and Application
- Purpose: Implement the concept of economically significant prices in ESA95 by assessing whether production costs covered by sales covers more than 50 percent.
- Definitions used to distinguish market and nonmarket producers by the 50 percent criterion:
  - “Sales”:
    - Cover the sales excluding taxes on products but including all payments made by general government that are linked to the volume or value of output.
    - Payments to cover an overall deficit are excluded.
  - “Production costs”:
    - Are the sum of intermediate consumption, compensation of employees, consumption of fixed capital and other taxes on production.
    - Other subsidies on production are not deducted.
    - To ensure consistency when applying the 50 percent criterion, production costs exclude all costs made for own-account capital formation.
- Application timing:
  - The 50 percent criterion is applied by looking over a range of years.
  - The criterion is applied when it holds for several years or holds for the present year and is expected to hold for the near future.
- Source reference within document: Section 5.2, p. 14, Eurostat, 2002.

### Key Statistic
- Threshold: 50 percent.

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### Autonomous Government Agencies

### Emerging Issues and Classification Challenges
- Autonomous agencies have emerged as instruments of new public management; classification within “general government sector” can be problematic.
- Many agencies are expected to behave in a “commercial” manner and are authorized to raise their own revenues by charging for services.
- In some OECD countries, budgetary appropriations are voted on a net basis—ministries’ gross expenditures minus the operating revenues of the ministries or units they control.
- Allowing agencies to retain and spend revenues creates incentives to maximize income and forces users to pay for government-provided services.

### United Kingdom Examples
- Executive agencies:
  - Over 130 executive agencies were created via public management reforms.
  - Established to carry out functions within a policy and resources framework set by the parent department.
  - Required to publish corporate and business plans, prepare annual reports and financial accounts, and present these to parliament after audit by the National Audit Office.
  - Few have their own legal identity.
  - Appear to fulfill criteria for institutional units but are usually not directly responsible and accountable by law for outcomes since parent minister/ministry establish policies.
  - Classification: Appropriately part of “budgetary central government.”
- Nondepartmental public bodies (NDPBs):
  - Entities not part of a government department and operate independently of ministers, though ultimately responsible to a minister.
  - Non-advisory NDPBs have their own legal identity and governing boards; appointments to boards are made by ministers (or officials on behalf of ministers).

### OECD Distinguishing Features for Autonomous Agencies
- Features identified: legal status, governance structures, staffing rules, and funding (Table 2, OECD, 2002).

### Table 2 (Descriptive summary of types)
- Departmental Agencies:
  - Legal Status: Part of ministries with no separate identity; function under public law.
  - Governance: Chief executive directly appointed by minister who has operational control.
  - Staffing: Employed under general civil service rules.
  - Funding: Allocations from state budget.
- Public Law Administrations:
  - Legal Status: Partially or completely separate from ministries; function under public law.
  - Governance: Usually have a governing or advisory board, with minister exerting indirect control.
  - Staffing: Usually subject to rules for civil servants; in some cases, subject to general employment rules.
  - Funding: Mostly financed by government revenues, often allowed to retain and spend their own revenues and carry over surpluses.
- Private Law Bodies:
  - Legal Status: Not companies, but have full separate legal identity; function under private law.
  - Governance: Governing board, with minister exerting indirect control.
  - Staffing: Usually employed under a general employment law.
  - Funding: Have budget separated from ministry; mostly financed by revenues from sales, can carry forward surpluses, borrow, and lend.
- Source reference within document: pp. 13–19, OECD, 2002.

### Degree of Government Policy Control
- Government may exercise policy control via general guidelines, representation on governing boards, and reporting requirements.
- Laws (e.g., New Zealand’s Crown Entities Act, 2004) can provide frameworks for categorizing agencies by extent of ministerial control but may not identify which agencies charge “economically significantly” prices.

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### Box 11. New Zealand: Categories of Government Agencies

- Crown Entities Act, 2004 categories:
  - Government agent:
    - Entities whose service delivery is very closely intertwined with government policy and undertake non-independent executive functions.
  - School Boards of Trustees and Tertiary Education Institutions:
    - Special category of “government agent” with their own governance and accountability regimes; not necessarily government-owned (e.g., private schools funded primarily by government).
  - Autonomous government entities:
    - Required to give effect to, or have regard for, the policies of the government, but do not need to be subject to a high degree of ministerial control.
  - Independent government entities:
    - Operate with independence from government ministers for decision-making; not required to give effect to, or have regard for, government policies.
  - Government-owned companies:
    - Companies registered under the Crown Entities Act, rather than the general Companies Act, because objectives are not exclusively commercial (examples: Radio/Television New Zealand and New Zealand Venture Capital Fund Limited).
- Regulations specify agencies’ financial reporting requirements, including exceptions (e.g., reporting bank accounts; borrowing; government guarantees; paying surpluses to the State).
- Sources cited: p. 145, Gill, 2002; New Zealand Treasury, 2006.

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### Conclusions: Delineating Public and Private Sectors and Managing Fiscal Risks

### Core conceptual points
- Public vs. private sectors can be defined unambiguously at a conceptual level; ownership is the basis for delineation.
- The notion of an “institutional unit” is fundamental.
- Economic ownership takes precedence over legal ownership in international accounting standards:
  - Economic ownership is exercised by a controlling entity when it has the power to govern financial and operating policies of another entity.
  - Two essential conditions for economic control:
    - At least one “power” condition (e.g., majority voting interest, power to appoint/remove governing board members).
    - At least one “benefit” condition (e.g., power to dissolve the entity or control asset distributions).
- Laws can elaborate on control but do not provide an internationally-acceptable definition of the two sectors.

### GFSM2001 framework and sector composition
- Institutional units engaged in economic activities, taking economic decisions in their own name, owning goods and assets, incurring liabilities, and able to compile a complete set of accounts are classified accordingly (e.g., central government is one such institutional unit).
- Public sector comprises:
  - “General government” — central and local governments and all extrabudgetary funds controlled by them.
  - All public corporations.
- Private sector comprises:
  - Households, private corporations, and privately-owned nonprofit organizations.
- GFSM2001 conceptual framework is adequate for demarcating the public sector, comprised of nonmarket government-owned entities and corporations (including quasi-corporations) owned or controlled by government units.

### Accounting standards and borderline cases
- IPSASB and accounting norms provide guidelines useful for demarcation and measurement in a mutually exclusive manner.
- Joint ventures: accounting standards permit allocation of operations and balance sheets partly to public sector and partly to private sector.
- PPPs with construction and concession elements: accounting norms propose standards; if public sector is considered to control the property (even if private sector is legal owner), the public sector should report the underlying property in its financial statements.
- Social insurance funds and civil service pension schemes can belong to either sector depending on autonomy, funding, and recording practices.

### Fiscal risks, future transfers, and recommended practices
- PPPs can pose extensive risks to government; contingent liabilities (e.g., government guarantees) may induce future large budgetary payments not captured in current government accounts.
- When risk eventuates, transfer of ownership will induce transfer of recording of assets and liabilities (example: government assumes guaranteed loan → deterioration of government net worth by amount of guaranteed loan).
- Recommendation: Governments should monitor, disclose and manage all fiscal risks to minimize undesirable future pressure on budgets and financial statements.
  - Good practice guidelines include regular publication, at the time the annual budget is presented to parliament, of a Statement on Fiscal Risks.
- Boundary problems between market and nonmarket activities can be overcome by establishing rules such as those of ESA95.
- Establishing and applying accounting rules is a pragmatic way to resolve complex realities induced by joint public-private ownership and de facto government control; rules can split the “gray zone” into measurable component parts, albeit with some arbitrariness at detailed levels.

*Source: Box 10 and surrounding text, _wp09122 - Box 10. The European Union’s 50 Percent Rule.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/wp/2009/_wp09122.pdf_