## 1.  Capital Expenditure Appropriation in Australia and Denmark

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### Introduction and objectives
- Purpose: consider accrual budgeting from the fiscal policy perspective, focusing on whether accrual budgeting systems can meet the needs of fiscal policy and what design features are required to ensure they do so.
- Core fiscal policy functions assumed:
  - Assurance of fiscal sustainability (consistency of current tax and expenditure policies with the intertemporal budget constraint; present value of projected primary surpluses sufficient to cover net debt).
  - Fiscal stabilization policy (promotion of macroeconomic stability through management of aggregate demand impact of government fiscal operations).
- Other acknowledged objectives: tax smoothing and intergenerational equity (accrual budgeting may be particularly useful for pursuing intergenerational equity via the “golden rule”).
- Analytical framing:
  - Uses the GFS 2001 conceptual framework of accrual accounting (ESA95 essentially the same, with a major qualification on pension liabilities).
  - Focus on general government fiscal aggregates (excluding public corporations sector).
- Key concern: limited analysis exists on how moving to accrual budgeting affects implementation of fiscal policy (beyond the “golden rule”).

### What is accrual budgeting?
- Definition used:
  - Accrual budgeting = specification of budgetary expenditure authorizations and revenue estimates in terms of accrual accounting measures (i.e., using accrual concepts to specify budgetary control totals).
  - Distinction: accrual budgeting (control totals redefined in accrual terms) versus accrual accounting (ex post recording/reporting in accrual terms).
  - Use of accrual information in budget preparation does not constitute accrual budgeting unless control totals are redefined in accrual terms.
- Core features and control totals:
  - Expenses control total: a centrally-imposed quantitative limit on the accrual “expenses” each spending ministry is permitted to incur within the budget year.
    - “Expenses” = accrual concept (reductions in net worth arising from transactions).
    - Items counted against an expenses control total include:
      - Bills payable for goods and services delivered and used during the financial year even if payment occurs in a subsequent year.
      - Additional entitlements for future pension payments civil servants accumulate during the financial year.
      - Stocks actually used in production during the year, irrespective of purchase timing.
      - Vacation or long service leave entitlements earned during the financial year.
      - Depreciation of the ministry’s fixed assets.
  - Commitment control totals versus expenses control totals:
    - Commitments counted when an order or contract is placed; expenses counted when supply is received and used.
    - Prepayments and multi-year contractual capital obligations are counted against commitments, not expenses.
  - Other accrual control totals:
    - Accrual capital expenditure control total can be defined (distinct from depreciation).
  - Hybrid systems exist (mixtures of cash, commitment, and accrual concepts).
- Examples and practice:
  - Countries with accrual budgeting systems (as defined here): Australia, Denmark, New Zealand, and the United Kingdom.
  - Accrual budgeting distinct from accrual output budgeting (AOB) introduced in Australia and New Zealand in the 1990s.
- Claimed microeconomic benefits (not assessed in this paper but noted):
  - Improves allocative and technical efficiency by ensuring decisions are made in light of true costs of inputs and outputs.
  - Improves asset-related decision-making and management of stocks; inclusion of depreciation in expenses budgets can create incentives to sell unneeded nonfinancial assets.
- Implementation caveat:
  - Many putative benefits require broader public management reforms that grant spending ministries larger operational freedom (e.g., ability to decide input mix or outsource services).

### Fiscal sustainability and capital expenditure controls
- Fundamental proposition:
  - To assure fiscal sustainability, public debt levels must be contained; this requires avoiding excessive budget deficits and appropriate budgetary control over aggregate expenditure—valid regardless of accounting system.
- Key implication for accrual budgeting design:
  - An accrual budgeting regime based solely on expenses control totals is insufficient to contain debt because capital expenditure would remain unconstrained (depreciation does not limit present capital spending).
  - Therefore, any accrual budgeting system must limit the quantum of capital expenditure.
  - The most simple and transparent mechanism: impose budgetary control totals on spending ministry capital expenditure (approach used in New Zealand and the U.K.).
- Australia and Denmark exceptions and safeguards:
  - Australia and Denmark introduced accrual budgeting versions without explicit annual capital expenditure control totals.
    - Australia: legal appropriations basis for capital spending provides a pool of funding which parliament has authorized spending ministries to draw upon for capital purposes.
    - Denmark: capital expenditure financed by loans via an internal state loan scheme; budget law sets ceilings for such loans to each ministry rather than annual capital expenditure budgets.
  - Risk: ministries drawing heavily on these pools could produce large surges in capital expenditure with undesirable fiscal consequences.
  - Executive government controls used to contain risk:
    - Cabinet approval required for major capital projects.
    - Denmark example: projects worth more than approximately US$10 million must be approved centrally.
    - Australia example: spending ministries submit capital expenditure plans to the finance ministry as part of the budget process for approval.
  - State-level practices:
    - Queensland: spending ministries cannot carry forward any excess of the depreciation element of their expenses appropriation over the capital expenditure undertaken in the year.
    - Victoria: spending ministries must obtain central approval from the ministry of finance to access depreciation funding.
- Conclusion:
  - Expenses controls alone cannot guarantee fiscal sustainability; explicit or effective controls over capital expenditure are necessary within accrual budgeting systems.

### Box 1 — Australia: Depreciation-based funding and equity injections; Denmark: Internal loans with depreciation-linked repayment
- Australia: Depreciation-based funding and equity injections
  - Main funding source for ministry capital expenditure is the depreciation component of the expenses appropriation, supplemented when necessary by funding via a separate “equity injection” appropriation.
  - Depreciation functions both as an expense and as funding that the ministry can use at any stage it wishes in the future to fund capital expenditure.
  - If a ministry’s capital expenditure in any year is less than its depreciation, it accumulates “surplus” depreciation funding to use in future years.
  - At any given time, each ministry will have a stock of accumulated depreciation funding which it can draw on at its own discretion, without requiring central authorization, for capital expenditure.
  - The equity injection appropriation provides additional capital funding when depreciation funding is insufficient to finance significant capital expenditure the government wishes to proceed with.
  - Under this system, ministries can accumulate large pools of capital funds (mainly depreciation funding).
- Denmark: Internal loans with depreciation-linked repayment
  - All capital expenditure by government ministries is financed by internal loans from the ministry of finance, which must be repaid and upon which interest is charged.
  - Parliament sets loan limits for each spending ministry as part of the annual budget legislation.
  - In Denmark, ministries repay the principal on capital loans when they are charged depreciation against their expenses appropriations (Finansministeriet, 2006).
  - This loan arrangement resembles some Scandinavian cash budgeting systems but has a distinctive accrual feature in Denmark via depreciation-linked repayment.
- Common functional outcome and democratic control concerns
  - In both countries, executive regulation of annual capital expenditure serves the function performed by annual parliamentary capital expenditure appropriation limits in other countries.
  - Both systems dispense with explicit parliamentary capital expenditure limits, representing one design choice for accrual budgeting (alternative being explicit capital expenditure control totals as in New Zealand and the U.K.).
  - Critics argue these systems may suffer disadvantages concerning transparency and democratic control by parliament.
    - Example: A Committee of the Australian Senate criticized the depreciation appropriation regime as “opaque” and urged reconsideration; the Australian ministry of finance is reported to be reconsidering the capital appropriation arrangement.
- Implication for design
  - An accrual budgeting system must either:
    - include an explicit capital expenditure control total; or
    - employ indirect means of limiting annual capital expenditure to achieve the equivalent constraint.
  - The control total can be defined using an accrual concept of capital expenditure (yielding a fully accrual system if combined with an expenses control total) or using a cash concept (yielding a hybrid system with accrual expenses and cash capital control).
  - The choice affects transparency, parliamentary oversight, and alignment of fiscal aggregates (cash vs accrual) with policy objectives.

### Box 4 — Netting off general government asset sales receipts?
- Treatment in net lending versus cash balances
  - Net lending treats proceeds from the privatization of government enterprises and similar operations as financing transactions for the general government sector.
  - Net lending treats the proceeds from the sale of general government nonfinancial assets as negative expenditure (analytically equivalent to revenue).
  - Example: surplus land holdings of ministries such as defense and education — receipts can be quite significant and may be sustained over a number of years.
  - Netting off such receipts from net lending is a minor defect compared with netting off from the unadjusted cash budget balance, which has led to large-scale manipulation of cash budget measures.
- Fiscal sustainability and macroeconomic implications of asset sales
  - For surplus assets (assets not in use and available for disposal), the balance sheet value should be their expected sale price (net recoverable value).
  - The sale of a surplus asset has an impact on sustainability precisely equivalent to a reduction in net financial worth to the value of the asset’s market price.
  - Raising money by the sale of surplus nonfinancial assets is analytically the same as borrowing the money concerned, rather than raising revenue.
  - Macroeconomic impact is the same as borrowing: private purchasers exchange money for a nonfinancial asset and do not experience a loss of wealth.
- Recommendation on accounting treatment and transparency
  - It may be desirable for fiscal policy purposes to adjust net lending by adding back general government nonfinancial asset sales receipts, so as to treat such receipts as financing.
  - The GFS overall fiscal balance (IMF 2001: 46) treats such proceeds as financing.
  - The IMF’s Code of Fiscal Transparency recommends that “the proceeds from asset sales be treated as financing rather than revenue, negative capital expenditure, or negative net lending.” (IMF, 2007: 99).
- Relationship to GFS definitions and accrual aggregates (identities preserved)
  - GFS defines total expenditure as expenses plus the net acquisition of nonfinancial assets (NANFA). From the GFS definition:
    - Net lending = (Revenue – Expenses) – NANFA = Revenue – Total Expenditure.
  - To measure debt arising from capital outlays:
    - Acquisition of nonfinancial assets (ANFA) = NANFA + depreciation + proceeds from sale of nonfinancial assets.
  - Impact of expenses on debt:
    - Expenses minus depreciation measures the impact on debt from expenses transactions.
  - Definitions:
    - Accrual aggregate expenditure = (Expenses – Depreciation) + Acquisition of nonfinancial assets.
    - Total expenditure = (Expenses – Depreciation) + Acquisition of nonfinancial assets – Proceeds from sale of nonfinancial assets.
    - Hence: Total expenditure = Accrual aggregate expenditure - Proceeds from sale of nonfinancial assets.
    - Net lending = Revenue – Accrual Aggregate Expenditure + Proceeds from sales of nonfinancial assets.
  - Key conceptual point: GFS Total Expenditure treats asset sales proceeds as negative expenditure, whereas the proposed accrual aggregate expenditure measure is a gross expenditure measure which does not net off asset sales proceeds.
- Policy implications
  - Treating proceeds from surplus nonfinancial asset sales as financing (adding them back to net lending) better reflects their effect on fiscal sustainability and aggregate demand.
  - Transparency considerations support treating asset sale proceeds as financing rather than as revenue or negative expenditure.

### Box 7 — Accrual vs. cash measures of the cost of discretionary fiscal measures
- Definitions and interpretation
  - Accrual aggregate expenditure: the increase in government net financial debt arising from transactions; any increase implies an equivalent growth in private sector net financial worth. Accrual expenditure measures the income (in the proper economic sense of increases of wealth) injected by government into the private sector.
  - Accrual revenue: the withdrawal of income from the private sector.
  - Cash expenditure and revenue: payments or withdrawals of cash; timing differences from accrual measures represent bringing forward or postponement of income payments.
- Why cash timing can matter for demand
  - Two reasons timing of cash can affect behavior:
    - Misperception: agents may misperceive a cash payment as genuine income and increase spending (example: a civil servant receiving a cash payout of pension entitlements).
    - Liquidity constraints: cash payments may relax borrowing constraints and enable spending (example: pension payout facilitating purchase of a car or holiday).
  - Implication: where agents are liquidity-constrained or misperceive cash as income, the cash cost of a fiscal measure may better indicate its demand impact; otherwise accrual measures may be more informative.
- Policy guidance on using cash vs accrual aggregates
  - Governments managing fiscal policy by cash aggregates should recognize stimulatory measures that only change timing of cash transactions with non-liquidity-constrained agents will probably have no impact on demand.
  - Governments managing accrual aggregates should recognize increasing accrual aggregate expenditure while deferring associated cash payments is likely to have little impact on demand.
  - There is no necessary reason for a government using accrual fiscal aggregates for sustainability to use cash aggregates for stabilization; advantages exist in using the same fiscal aggregates for both purposes.
- Accrual budgeting control totals and definitions
  - Two categories of accrual expenditure:
    - Accrual capital expenditure: transactions which increase net financial debt to acquire nonfinancial assets; includes acquisition via deferred payment arrangements (e.g., financial leases).
    - Accrual current expenditure: transactions which, ceteris paribus, increase net financial debt for current purposes (services or transfers), equals total expenses minus depreciation and similar “non-debt inducing” expenses.
  - Identity: Accrual aggregate expenditure = Accrual current expenditure + Accrual capital expenditure.
  - Policy implication: to control net lending most directly, an accrual budgeting system should set control totals for accrual capital expenditure and accrual current expenditure.
- Net capital appropriations — design and risks
  - New Zealand and the United Kingdom base capital expenditure control totals on net (accrual) capital expenditure, i.e., net of proceeds of nonfinancial asset sales, to incentivize ministries to identify and sell surplus assets.
  - Fiscal issue: financing new capital expenditure from proceeds of asset sales will increase accrual aggregate expenditure and could affect aggregate demand and sustainability if surplus assets are replaced.
  - Mitigations: constraints on ministries’ ability to sell large assets; deliberate timing of asset sales; suggestion to set an explicit dollar limit each year for capital expenditure financed via asset sales.
- Managing virement risk between non-debt and debt-inducing expenses
  - Risk: with an expenses control total, ministries might shift funds from non-debt inducing expenses (e.g., depreciation) into debt-inducing expenses, increasing accrual current expenditure and pressure on debt limits.
  - UK experience:
    - Initially only an expenses control total existed; ministries were able to reallocate from non-cash to near-cash expenses via accounting revisions, asset sales, or changing asset lifespans, threatening the debt limit.
    - Result: a separate control total was set for accrual current expenditure (called near-cash expenses).
    - The near-cash control is not a control on cash spending; key budget balance measure remained net lending.
    - The U.K. later indicated (late-2008) intention to abolish near-cash limits and replace them with alternative department-specific controls.
  - Alternative approach: retain microeconomic incentives of accrual budgeting by avoiding an explicit accrual current expenditure control total but impose limits on the scope to vire funds (quantitative limits on virements without central approval; ban virements arising solely from accounting write-downs).
- Targeting cash fiscal aggregates under accrual budgeting
  - Question: can an accrual budgeting system deliver cash fiscal targets (cash budget balance, conventionally-defined debt)?
  - Practical answer: yes—aggregate cash outcomes remain reasonably predictable under accrual budgeting; Australia cited as an example.
  - Net lending and the cash balance normally track one another predictably. Key sources of large divergences are actions under government control that materially alter cash timing or non-debt liability stocks, such as:
    - Cash payout of a substantial portion of aggregate civil service pension liabilities (e.g., from major downsizing or privatization).
    - Pay-off of a large stock of arrears to suppliers.
  - Such actions are typically under the center/finance ministry control; the center can project aggregate cash balance from given accrual budgets with reasonable accuracy (setting aside uncertainty in exogenous factors).
- Controlling budget execution under accrual budgeting
  - If accrual control totals are properly enforced during execution, accrual budgeting will support sound fiscal policy and not cause technical difficulties for targeting appropriate fiscal aggregates.
  - Practical control measures: control totals for accrual capital and accrual current expenditure (or effective limits on virement), constraints on asset sales used to finance new capital expenditure, and central projection/management of government-wide cash-impacting actions.

### Box 9 — Net lending vs. the cash balance
- Differences between net lending (accrual) and the cash budget balance
  - The difference comprises two elements:
    - (1) the difference between accrual aggregate expenditure (AAE) and cash aggregate expenditure (CAE); and
    - (2) the difference between accrual revenue and cash revenue.
  - Formula presented:
    - AAE requiring cash payments = AAE – Noncash AAE = CA – Payments of liabilities from previous years
    - Approximately: AAE  = CAE - ∆Non Debt Liabilities
      - 1/ To be more precise, this refers to the change in non-debt liabilities arising from transactions—i.e., excluding valuation effects (which are “other economic flows” in the GFS framework).
  - Explanation: noncash accrual aggregate expenditure includes unpaid accounts for supplies received and used this year; increased pension entitlements of serving civil servants; present value of financial lease liabilities.
  - Revenue-side divergence example: shifting timing of income tax settlements can produce major divergence between accrual revenue and cash revenue.
- Implications for central control of budget execution
  - Under cash budgeting:
    - Ministry of finance controls spending ministries’ access to cash; cash release tied to cash expenditure control totals provides clear ex ante limits.
    - This must be backed by disciplines to prevent excessive commitments and payment arrears.
  - Under accrual budgeting:
    - No direct cash limit exists; ministries are given control totals in accrual terms and obtain discretion over timing of associated cash payments.
    - Annual budget preparation includes projected cash requirements, but projections are not equivalent to binding cash limits.
    - Greater managerial freedom increases potential variability in cash requirements.
    - Turning budget projections into binding cash limits would revert to cash budgeting and undermine managerial flexibility; dual accrual and cash limits would complicate budgeting.
  - British example:
    - Parliament sets appropriations for both expenses (the “net resource requirement”) and cash payments (“the net cash requirement”) by each ministry.
    - In practice, if execution raises cash requirements above authorized levels, the net cash requirement is changed via supplementary parliamentary estimates.
    - The truly binding control totals in the U.K. system are those for expenses, accrual capital expenditure and (at time of writing) the near-cash component of expenses.
    - The British system is characterized as a fully accrual budgeting system, not a hybrid accrual/cash system.
- Monitoring and enforcement under accrual budgeting
  - Compliance with accrual budget limits cannot be closely monitored by cash utilization; compliance is shown in accounts (expenses and liabilities) rather than cash use.
  - Central financial control relies primarily on ex post monitoring and sanctions; under cash budgeting, ex ante control via cash release is primary.
  - Critical success factors:
    - Degree of spending ministry respect for budget limits.
    - Level of accounting competence in spending ministries.
    - Quality and timeliness of within-year financial reporting.
- Approaches to release of cash to spending ministries (two models)
  - Notional bank account metaphor:
    - Treat an accrual expense budget as providing a cash drawing facility. Example variables:
      - In year t an expenses budget of $y million, of which $z is cordoned off for depreciation and other “non-cash” expenses leaving $x million to cover all expenses which require payment in the current or future years.
      - The $x million functions as cash placed in the ministry’s notional bank account to draw on for payments in year t and subsequent years arising from expenses incurred in year t.
    - Transitional issue:
      - When moving from cash to accrual budgeting, it is necessary to give each ministry a drawing facility equal to the liabilities the ministry has accumulated up to the transition date, because cash needed to meet these liabilities will no longer be provided via budgetary control totals.
      - Failure to fully finance transitional liabilities was one problem when accrual budgeting was implemented in Australia (Blöndal et al, 2008, 21).
  - Model A — spending-ministry discretion (approximately the Australian approach)
    - Spending ministry may draw as much or as little cash as it needs to execute its budget.
    - Accountability is primarily ex post, with sanctions for abuse.
    - Ministry of finance receives projections of cash requirements and manages government-wide cash but does not approve ministry drawings.
    - Dangers:
      - Ministries can overdraw on notional accounts and spend cash that should be reserved for future payments, thereby exceeding accrual budgets.
      - Finance ministry may become aware only ex post, potentially too late—especially if financial reporting is poor or accounts manipulated.
      - Transitional misunderstandings may cause ministries to treat notional cash as a pool of unused funds rather than funds to meet liabilities.
  - Model B — ministry of finance approves cash plans
    - Ministry of finance releases cash only in line with an approved cash plan specifying timing of payments associated with expenses, liabilities, and nonfinancial acquisition plans.
    - Revised plans require scrutiny by ministry of finance.
    - Advantages: safer and more controlled.
    - Disadvantages: review and approval of cash plans is more complex than under cash budgeting and requires skilled human resources and systems; may be infeasible in many countries, particularly low income ones.
- Risks, design imperatives, and policy implications
  - An accrual budgeting system is compatible with good fiscal policy if designed properly.
  - A system limiting line ministries only by an expenses control total is inadequate for controlling government debt and ensuring fiscal sustainability.
  - To limit debt it is essential to:
    - Impose limits on capital expenditure; the best way is through explicit capital budgets.
    - Design controls to prevent line ministries shifting expense composition to increase government debt.
  - Accrual fiscal aggregates align naturally with accrual budgeting and can improve fiscal policy by shifting focus from cash measures to accrual counterparts:
    - Shift primary policy focus from the cash budget balance and cash debt to net lending and net financial debt (or variants).
    - This shift helps contain conventional debt and quasi-debt (examples: financial lease commitments and civil service pension liabilities).
  - Effect on stabilization policy:
    - Shifting to accrual measures will not cause difficulties for fiscal stabilization policy.
    - Discretionary fiscal policy involves selection of measures to boost aggregate demand; automatic stabilizers’ budgetary impact will generally be similar whether measured with respect to the cash budget balance or net lending.
  - Net worth and net operating balance:
    - The case for using accrual measures as key fiscal policy aggregates relates specifically to net financial debt and net lending (or variants), not to net worth and the net operating balance.
    - Net worth is not a good indicator of fiscal sustainability because it implicitly treats increases in nonfinancial assets as equivalent to reductions in debt; balance-sheet value of nonfinancial assets does not reliably measure sustainability.
    - The only clear case for using net worth and the net operating balance as key aggregates is countries pursuing the “golden rule”; even then, net financial debt and/or net lending should remain key aggregates.
  - Practical conclusion:
    - Although accrual budgeting is compatible in principle with good fiscal policy, in practice considerable risks arise from its complexity.
    - Only if financial management systems are sufficiently strong to ensure effective implementation of accrual control totals does accrual budgeting pose no problem for fiscal discipline.
    - Under accrual budgeting, central control of payments or of the release of cash is no longer an available instrument for central control, making budget execution and cash management more demanding and increasing scope for spending ministries to exceed budgets.
    - These factors (and additional complexity) make accrual budgeting inappropriate for many countries.

*Source: IMF working paper chapter "1.  Capital Expenditure Appropriation in Australia and Denmark" (excerpts provided).*

### 1.  Capital Expenditure Appropriation in Australia and Denmark .....................................9

### 1.  Capital Expenditure Appropriation in Australia and Denmark

### Introduction and objectives
- Purpose: Consider accrual budgeting from the fiscal policy perspective, focusing on whether accrual budgeting systems can meet the needs of fiscal policy and what design features are required to ensure they do so.
- Core fiscal policy functions assumed:
  - Assurance of fiscal sustainability (consistency of current tax and expenditure policies with the intertemporal budget constraint; present value of projected primary surpluses sufficient to cover net debt).
  - Fiscal stabilization policy (promotion of macroeconomic stability through management of aggregate demand impact of government fiscal operations).
- Other acknowledged objectives of fiscal policy: tax smoothing and intergenerational equity (noted that accrual budgeting may be particularly useful for pursuing intergenerational equity via the “golden rule”).
- Analytical framing:
  - Uses the GFS 2001 conceptual framework of accrual accounting (noting ESA95 is essentially the same, with a major qualification on pension liabilities).
  - Focus on general government fiscal aggregates (excluding public corporations sector).
- Key concern motivating the paper: limited analysis exists on how moving to accrual budgeting affects implementation of fiscal policy (beyond the “golden rule”).

### What is accrual budgeting?
- Definition used in this paper:
  - Accrual budgeting = specification of budgetary expenditure authorizations and revenue estimates in terms of accrual accounting measures (i.e., using accrual concepts to specify budgetary control totals).
  - Distinguishes accrual budgeting from accrual accounting (the latter = ex post recording/reporting in accrual terms).
  - Use of accrual information to inform budget preparation does not itself constitute accrual budgeting unless control totals are redefined in accrual terms.
- Core features and control totals:
  - Expenses control total: a centrally-imposed quantitative limit on the accrual “expenses” each spending ministry is permitted to incur within the budget year.
    - “Expenses” = accrual concept (reductions in net worth arising from transactions).
    - Items counted against an expenses control total include:
      - Bills payable for goods and services delivered and used during the financial year even if payment occurs in a subsequent year.
      - Additional entitlements for future pension payments civil servants accumulate during the financial year.
      - Stocks actually used in production during the year, irrespective of purchase timing.
      - Vacation or long service leave entitlements earned during the financial year.
      - Depreciation of the ministry’s fixed assets.
  - Commitment control totals versus expenses control totals:
    - Commitments are counted when an order or contract is placed; expenses counted when supply is received and used.
    - Prepayments and multi-year contractual capital obligations are counted against commitments, not expenses.
  - Other accrual control totals:
    - Accrual capital expenditure control total can be defined (distinct from depreciation).
  - Hybrid systems exist (mixtures of cash, commitment, and accrual concepts).
- Examples and international practice:
  - Countries with accrual budgeting systems (as defined here): Australia, Denmark, New Zealand, and the United Kingdom.
  - Accrual budgeting distinct from accrual output budgeting (AOB) introduced in Australia and New Zealand in the 1990s.
- Claimed microeconomic benefits of accrual budgeting (not assessed in this paper but noted):
  - Improves allocative and technical efficiency by ensuring decisions are made in light of true costs of inputs and outputs.
  - Improves asset-related decision-making (acquisition, disposal, maintenance) and management of stocks; inclusion of depreciation in expenses budgets can create incentives to sell unneeded nonfinancial assets.
- Implementation caveat:
  - Many putative benefits require broader public management reforms that grant spending ministries larger operational freedom (e.g., ability to decide input mix or outsource services).

### Fiscal sustainability and capital expenditure controls
- Fundamental proposition:
  - To assure fiscal sustainability, public debt levels must be contained; this requires avoiding excessive budget deficits and appropriate budgetary control over aggregate expenditure—valid regardless of accounting system.
- Key implication for accrual budgeting design:
  - An accrual budgeting regime based solely on expenses control totals is insufficient to contain debt because capital expenditure would remain unconstrained (depreciation does not limit present capital spending).
  - Therefore, any accrual budgeting system must limit the quantum of capital expenditure.
  - The most simple and transparent mechanism: impose budgetary control totals on spending ministry capital expenditure (approach used in New Zealand and the U.K.).
- Australia and Denmark exceptions and safeguards:
  - Australia and Denmark introduced accrual budgeting versions without explicit annual capital expenditure control totals.
    - Australia: legal appropriations basis for capital spending provides a pool of funding which parliament has authorized spending ministries to draw upon for capital purposes.
    - Denmark: capital expenditure financed by loans via an internal state loan scheme; budget law sets ceilings for such loans to each ministry rather than annual capital expenditure budgets.
  - Risk: ministries drawing heavily on these pools could produce large surges in capital expenditure with undesirable fiscal consequences.
  - Countries avoid this risk via executive government controls:
    - Cabinet approval required for major capital projects.
    - Denmark example: projects worth more than approximately US$10 million must be approved centrally (so major capital works are excluded from the unconstrained system).
    - Australia example: spending ministries submit capital expenditure plans to the finance ministry as part of the budget process for approval.
  - State-level practices cited:
    - Queensland: spending ministries cannot carry forward any excess of the depreciation element of their expenses appropriation over the capital expenditure undertaken in the year.
    - Victoria: spending ministries must obtain central approval from the ministry of finance to access depreciation funding.
- Conclusion of this section:
  - Expenses controls alone cannot guarantee fiscal sustainability; explicit or effective controls over capital expenditure are necessary within accrual budgeting systems.

*Source: IMF working paper chapter "1.  Capital Expenditure Appropriation in Australia and Denmark" (excerpts provided).*

### Box 1. Capital Expenditure Appropriation in Australia and Denmark

### Box 1. Capital Expenditure Appropriation in Australia and Denmark

### Australia: Depreciation-based funding and equity injections
- Main funding source for ministry capital expenditure is the depreciation component of the expenses appropriation, supplemented when necessary by funding via a separate “equity injection” appropriation.1
- Depreciation functions both as an expense and as funding that the ministry can use at any stage it wishes in the future to fund capital expenditure.
- If a ministry’s capital expenditure in any year is less than its depreciation, it accumulates “surplus” depreciation funding to use in future years.
- At any given time, each ministry will have a stock of accumulated depreciation funding which it can draw on at its own discretion, without requiring central authorization, for capital expenditure.2
- The equity injection appropriation provides additional capital funding when depreciation funding is insufficient to finance significant capital expenditure the government wishes to proceed with.
- Under this system, ministries can accumulate large pools of capital funds (mainly depreciation funding).
- Additional note from source: Ministries are also permitted to supplement their capital funding by asset sales proceeds (abstracted from here).1

### Denmark: Internal loans with depreciation-linked repayment
- All capital expenditure by government ministries is financed by internal loans from the ministry of finance, which must be repaid and upon which interest is charged.
- Parliament sets loan limits for each spending ministry as part of the annual budget legislation.
- In the Danish accrual budgeting system, ministries repay the principal on capital loans when they are charged depreciation against their expenses appropriations (Finansministeriet, 2006).
- This loan arrangement resembles some Scandinavian cash budgeting systems but has a distinctive accrual feature in Denmark via depreciation-linked repayment.

### Common functional outcome and democratic control concerns
- In both countries, regulation of annual capital expenditure by the executive arm serves the function performed by annual parliamentary capital expenditure appropriation limits in other countries.
- Both systems dispense with explicit parliamentary capital expenditure limits, representing one design choice for accrual budgeting (alternative being explicit capital expenditure control totals as in New Zealand and the U.K.).
- Critics argue that each system may suffer disadvantages concerning transparency and democratic control by parliament.16
  - Example: A Committee of the Australian Senate criticized the depreciation appropriation regime as “opaque” and urged reconsideration of capital expenditure appropriations; the Australian ministry of finance is reported to be reconsidering the capital appropriation arrangement.

### Implication for accrual budgeting system design
- An accrual budgeting system must either:
  - include an explicit capital expenditure control total; or
  - employ indirect means of limiting annual capital expenditure to achieve the equivalent constraint.
- The control total can be defined using an accrual concept of capital expenditure (yielding a fully accrual system if combined with an expenses control total) or using a cash concept (yielding a hybrid system with accrual expenses and cash capital control).
- The choice between these approaches affects transparency, parliamentary oversight, and the alignment of fiscal aggregates (cash vs accrual) with policy objectives.

*Source: Box 1. Capital Expenditure Appropriation in Australia and Denmark (from the supplied IMF content).*

### Box 4. Netting off General Government Asset Sales Receipts?

### _wp0984 - Box 4. Netting off General Government Asset Sales Receipts?

### Treatment of proceeds in net lending versus cash balances
- Net lending treats proceeds from the privatization of government enterprises and similar operations as financing transactions for the general government sector.
- Net lending treats the proceeds from the sale of general government nonfinancial assets as negative expenditure (analytically equivalent to revenue).
- Example: surplus land holdings of ministries such as defense and education — receipts can be quite significant and may be sustained over a number of years.
- The netting off of such receipts from net lending is a minor defect compared with the netting off from the unadjusted cash budget balance of receipts from transfers such as privatization receipts from the public enterprise sector—a practice which has led to many episodes of the large-scale manipulation of cash budget balance measures.

### Fiscal sustainability and macroeconomic implications of asset sales
- For surplus assets (assets not in use and available for disposal), the balance sheet value should be their expected sale price (net recoverable value).
- The sale of a surplus asset has an impact on sustainability precisely equivalent to a reduction in net financial worth to the value of the asset’s market price.
- Raising money by the sale of surplus nonfinancial assets is analytically the same as borrowing the money concerned, rather than raising revenue.
- Macroeconomic impact is the same as borrowing: private sector purchasers exchange one asset (money) for another (the nonfinancial asset) and do not experience a loss of wealth as a result of the transaction.

### Recommendation on accounting treatment and transparency
- It may be desirable for fiscal policy purposes to adjust net lending by adding back general government nonfinancial asset sales receipts, so as to treat such receipts as financing.
- The GFS overall fiscal balance (IMF 2001: 46) treats such proceeds as financing.
- The IMF’s Code of Fiscal Transparency recommends that “the proceeds from asset sales be treated as financing rather than revenue, negative capital expenditure, or negative net lending.” (IMF, 2007: 99).

### Relationship to accrual aggregate expenditure and GFS definitions
- GFS defines total expenditure as expenses plus the net acquisition of nonfinancial assets (NANFA). From the GFS definition:
  - Net lending = (Revenue – Expenses) – NANFA = Revenue – Total Expenditure.
- To measure debt arising from capital outlays:
  - Acquisition of nonfinancial assets (ANFA) = NANFA + depreciation + proceeds from sale of nonfinancial assets.
- Impact of expenses on debt:
  - Expenses minus depreciation measures the impact on debt from expenses transactions.
- Definitions and identities preserved:
  - Accrual aggregate expenditure = (Expenses – Depreciation) + Acquisition of nonfinancial assets.
  - Total expenditure = (Expenses – Depreciation) + Acquisition of nonfinancial assets – Proceeds from sale of nonfinancial assets.
  - Hence: Total expenditure = Accrual aggregate expenditure - Proceeds from sale of nonfinancial assets.
  - Net lending = Revenue – Accrual Aggregate Expenditure + Proceeds from sales of nonfinancial assets.
- Key conceptual point: GFS Total Expenditure treats asset sales proceeds as negative expenditure, whereas the proposed accrual aggregate expenditure measure is a gross expenditure measure which does not net off asset sales proceeds.

### Policy implications
- Treating proceeds from surplus nonfinancial asset sales as financing (adding them back to net lending) better reflects their effect on fiscal sustainability and aggregate demand.
- Transparency considerations support treating asset sale proceeds as financing rather than as revenue or negative expenditure.

*Source: _wp0984 - Box 4. Netting off General Government Asset Sales Receipts?*

### Box 7. Accrual vs. Cash Measures of the Cost of Discretionary Fiscal Measures

### _wp0984 - Box 7. Accrual vs. Cash Measures of the Cost of Discretionary Fiscal Measures

### Definitions and economic interpretation
- Accrual aggregate expenditure: the increase in government net financial debt arising from transactions; any increase implies an equivalent growth in private sector net financial worth. Accrual expenditure thus measures the income (in the proper economic sense of increases of wealth) injected by government into the private sector.
- Accrual revenue: the withdrawal of income from the private sector.
- Cash expenditure and revenue: payments or withdrawals of cash. Where timing differs from accrual measures, they do not represent income but the bringing forward or postponement of the payment of income acquired in another time period.
- Examples (from Box 3): transactions that cause large differences between the cash budget balance and net lending typically involve cash flows that do not represent changes in private sector incomes (e.g., bringing forward or deferral of corporate tax payments).
- Corporations account on an accrual basis and record tax as an expense in the year the tax liability is incurred; changing the timing of tax payments does not change corporate profits in accrual terms.

### Why the timing of cash can matter for demand
- Two main reasons timing of cash can affect economic agents’ behavior:
  - Misperception: agents may misperceive a cash payment as a genuine receipt of income and increase spending (example: a civil servant receiving a cash payout of pension entitlements may treat it as a windfall and spend).
  - Liquidity constraints (broadly construed): agents may correctly understand a cash payment is not new income but spend because it relaxes borrowing constraints or allows borrowing on cheaper/more accessible terms (example: a civil servant using pension payout to finance a new car or overseas holiday because it enables borrowing against the future more cheaply than taking a loan).
- Implication: where agents are liquidity-constrained or misperceive cash as income, the cash cost of a fiscal measure may better indicate its likely impact on demand. Conversely, for agents (particularly corporations) not so constrained or misperceiving, accrual measures better capture demand impacts and cash measures may be misleading.
- Conclusion: timing of cash injections can be macroeconomically important even when they do not correspond to injections of income; but in other cases cash measures can be misleading and accrual measures more informative.

### Implications for formulation and assessment of discretionary fiscal policy
- Discretionary fiscal policy is about selecting specific expenditure or tax measures that will increase private sector spending, not simply choosing a quantum of spending or tax change and multiplying by a standard multiplier.
- Example of policy debate (U.S., early stages of subprime crisis in 2008): whether accelerated depreciation for corporations has the same impact as tax relief or targeted assistance to low income people with high propensity to consume.
- Policy guidance:
  - Governments managing fiscal policy by cash aggregates should recognize that stimulatory measures that only change timing of cash transactions with agents who are not liquidity-constrained will probably have no impact on demand.
  - Governments managing accrual aggregates should recognize that increasing accrual aggregate expenditure while deferring associated cash payments is likely to have little impact on demand.
  - There is no necessary reason for a government using accrual fiscal aggregates for sustainability to use cash aggregates for stabilization; advantages exist in using the same fiscal aggregates for both purposes.

### Accrual budgeting: control totals and definitions
- Two categories of accrual expenditure (new concepts):
  - Accrual capital expenditure: transactions which increase net financial debt in order to acquire nonfinancial assets. Differs from cash capital expenditure by including acquisition via deferred payment arrangements (e.g., financial leases) or other means that create a liability for government. (Note: in principle also covers increases in inventories; decision needed on which control total prepayments are counted against.)
  - Accrual current expenditure: transactions which, ceteris paribus, increase net financial debt for current purposes (to finance services or transfers rather than to acquire nonfinancial assets). Differs from cash current expenditure by including consumption not immediately paid for but financed by accumulation of liabilities to be paid in future.
- Identity:
  - Accrual aggregate expenditure = Accrual current expenditure + Accrual capital expenditure
- Accrual current expenditure equals total expenses minus depreciation and similar “non-debt inducing” expenses (and where it exists, the capital charge). Only the “debt inducing” expenses (present or future payments) increase net financial debt.
- Policy implication: to control net lending most directly, an accrual budgeting system should set control totals for accrual capital expenditure and accrual current expenditure.

### Net capital appropriations (Box 8) — design and risks
- New Zealand and the United Kingdom base capital expenditure control totals on net (accrual) capital expenditure, i.e., net of proceeds of nonfinancial asset sales, intended to incentivize ministries to identify and sell surplus assets.
- Fiscal policy issue: financing new capital expenditure from proceeds of asset sales will increase accrual aggregate expenditure (and thus could affect aggregate demand and fiscal sustainability if surplus assets are replaced by new assets with limited recoverable value).
- Mitigations in practice:
  - Constraints on ministries' ability to sell large assets at their own discretion.
  - Asset sales take time; finance ministry can estimate receipts during budget decisions.
  - Suggestion: retain incentives while improving transparency by setting an explicit dollar limit each year to the amount of capital expenditure each ministry can finance via asset sales.

### Managing the “virement” risk between non-debt and debt-inducing expenses
- Risk: with an expenses control total, ministries might shift (vire) funds from non-debt inducing expenses (e.g., depreciation) into debt-inducing expenses, increasing accrual current expenditure and putting pressure on debt limits.
- Experience (United Kingdom):
  - Initially only an expenses control total existed; ministries were able to reallocate from non-cash (e.g., depreciation) to near-cash (accrual current) expenses via accounting revisions, asset sales, or changing asset lifespans, threatening the government’s debt limit.
  - Result: a separate control total was set for accrual current expenditure (called near-cash expenses).
  - The near-cash control is not a control on cash spending; key budget balance measure remained net lending.
  - The U.K. later indicated (late-2008) intention to abolish near-cash limits and replace them with alternative controls specific to departments.
- Alternative approach: retain microeconomic incentives of accrual budgeting by avoiding an explicit accrual current expenditure control total but impose limits on the scope to vire funds (quantitative limits on virements without central approval; ban virements arising solely from accounting write-downs).

### Targeting cash fiscal aggregates under accrual budgeting
- Question: can an accrual budgeting system deliver cash fiscal targets (cash budget balance, conventionally-defined debt)?
- Practical answer: yes—aggregate cash outcomes remain reasonably predictable under accrual budgeting; Australia is cited as an example.
- Net lending and the cash balance normally track one another predictably. Key sources of large divergences are actions under government control that materially alter cash timing or non-debt liability stocks, such as:
  - Cash payout of a substantial portion of aggregate civil service pension liabilities (e.g., from major downsizing or privatization of a civil service pension scheme).
  - Pay-off of a large stock of arrears to suppliers.
- Such actions are typically under center/finance ministry control; the center can project aggregate cash balance from given accrual budgets with reasonable accuracy (setting aside uncertainty in exogenous factors such as the state of the economy).

### Controlling budget execution under accrual budgeting
- If accrual control totals are properly enforced during budget execution, accrual budgeting will support sound fiscal policy and not cause technical difficulties for targeting appropriate fiscal aggregates.
- Practical control measures include: control totals for accrual capital and accrual current expenditure (or effective limits on virement), constraints on asset sales used to finance new capital expenditure, and central projection/management of government-wide cash-impacting actions.

*Source: _wp0984 - Box 7. Accrual vs. Cash Measures of the Cost of Discretionary Fiscal Measures*

### Box 9. Net Lending vs. the Cash Balance

### Box 9. Net Lending vs. the Cash Balance

### Differences between net lending (accrual) and the cash budget balance
- The difference comprises two elements:
  - (1) the difference between accrual aggregate expenditure (AAE) and cash aggregate expenditure (CAE); and
  - (2) the difference between accrual revenue and cash revenue.
- Formula presented in the source:
  - AAE requiring cash payments = AAE – Noncash AAE = CA – Payments of liabilities from previous years
  - Approximately: AAE  = CAE - ∆Non Debt Liabilities
    - 1/ To be more precise, this refers to the change in non-debt liabilities arising from transactions—i.e., excluding valuation effects (which are “other economic flows” in the GFS framework).
- Explanation of noncash accrual aggregate expenditure:
  - Elements of accrual aggregate expenditure which are not paid for in the financial year concerned and which therefore result in a liability to be paid in future years (examples: unpaid accounts for supplies received and used this year; increased pension entitlements of serving civil servants; the present value of financial lease liabilities).
- Revenue-side example of divergence:
  - A shift from the pay-as-you-go basis for income tax to settlement at the end of the financial year (or vice versa) can produce a major divergence between accrual revenue and cash revenue.
- Other potential sources of difference include differential treatment of transactions between general government and public enterprise sectors.

### Implications of accrual budgeting for central control of budget execution
- Under cash budgeting:
  - The ministry of finance controls spending ministries’ access to cash; cash must be released by the ministry of finance for payments to be made.
  - Cash release tied to cash expenditure control totals provides clear quantitative ex ante limits.
  - This control must be backed by disciplines to prevent excessive commitments and accumulation of payment arrears.
- Under accrual budgeting:
  - No direct cash limit exists; spending ministries are given control totals in accrual terms and obtain discretion over timing of associated cash payments.
  - Annual budget preparation includes projected cash requirements, but projections are not equivalent to binding cash limits.
  - Greater managerial freedom (e.g., changing input mix, outsourcing) increases potential variability in cash requirements.
  - Turning budget projections of ministry cash requirements into cash limits would revert to cash budgeting and undermine managerial flexibility; dual accrual and cash limits would complicate budgeting.
- The British example:
  - Parliament sets appropriations for both expenses (the “net resource requirement”) and cash payments (“the net cash requirement”) by each ministry.
  - In practice, if execution raises cash requirements above authorized levels, the net cash requirement is changed via supplementary parliamentary estimates.
  - The truly binding control totals in the U.K. system are those for expenses, accrual capital expenditure and (at time of writing) the near-cash component of expenses.
  - Therefore the British system is characterized as a fully accrual budgeting system, not a hybrid accrual/cash system.
  - 36 There are, of course, additional elements of the control total system which are not relevant to the subject matter of this paper, such as the distinction between DEL and AME.

### Monitoring and enforcement under accrual budgeting
- Spending ministry compliance with accrual budget limits cannot be closely monitored by cash utilization; compliance is shown in accounts (expenses and liabilities) rather than cash use.
- Central financial control relies primarily on ex post monitoring and sanctions; under cash budgeting, ex ante control via cash release is primary.
- Critical success factors under accrual budgeting:
  - Degree of spending ministry respect for budget limits.
  - Level of accounting competence in spending ministries.
  - Quality and timeliness of within-year financial reporting.

### Approaches to the release of cash to spending ministries (two models)
- Notional bank account metaphor:
  - Treat an accrual expense budget as providing a cash drawing facility. Example variables:
    - In year t an expenses budget of $y million, of which $z is cordoned off for depreciation and other “non-cash” expenses leaving $x million to cover all expenses which require payment in the current or future years.
    - The $x million functions as cash placed in the ministry’s notional bank account to draw on for payments in year t and subsequent years arising from expenses incurred in year t.
    - The ministry must retain sufficient balances to meet future payments from liabilities incurred in year t and earlier (years t-1, t-2 ...).
  - Transitional issue:
    - When moving from cash to accrual budgeting, it is necessary to give each ministry a drawing facility equal to the liabilities the ministry has accumulated up to the transition date, because cash needed to meet these liabilities will no longer be provided via budgetary control totals.
    - The failure to fully finance transitional liabilities of this type was one of the problems which arose when accrual budgeting was implemented in Australia (Blöndal et al, 2008, 21). 37
- Model A — spending-ministry discretion (approximately the Australian approach):
  - The spending ministry may draw as much or as little cash as it feels it needs to execute its budget.
  - Accountability is primarily ex post, with sanctions for abuse.
  - The ministry of finance receives projections of cash requirements and manages government-wide cash accordingly but does not approve or control ministry drawings.
  - Potential dangers:
    - Ministries can overdraw on notional accounts and spend cash that should be reserved for future payments, thereby exceeding accrual budgets.
    - The finance ministry becomes aware only ex post, potentially too late—especially if financial reporting quality is poor or accounts are manipulated.
    - Early post-transition misunderstandings may lead ministries to treat notional cash as a pool of unused funds rather than funds to be held to meet liabilities.
- Model B — ministry of finance approves cash plans:
  - The ministry of finance releases cash only in line with an approved cash plan submitted by the spending ministry specifying timing of payments associated with expenses, liabilities, and nonfinancial acquisition plans.
  - When cash requirements change, the spending ministry must submit revised plans subject to scrutiny by the ministry of finance.
  - Advantages: safer and more controlled.
  - Disadvantages: review and approval of cash plans (including within-year variations) is considerably more complex than under cash budgeting and requires skilled human resources and systems; may be infeasible in many countries, particularly low income ones.

### Risks, design imperatives, and policy implications
- An accrual budgeting system is compatible with good fiscal policy if designed properly.
- A system limiting line ministries only by an expenses control total (limit on expenses incurred) is inadequate for controlling government debt and ensuring fiscal sustainability.
- To limit debt it is essential to:
  - Impose limits on capital expenditure; the best way is through explicit capital budgets.
  - Design controls to prevent line ministries shifting expense composition to increase government debt.
- Accrual fiscal aggregates align naturally with accrual budgeting and can improve fiscal policy by shifting focus from cash measures to accrual counterparts:
  - Shift primary policy focus from the cash budget balance and cash debt to net lending and net financial debt (or variants).
  - Such a shift helps contain conventional debt and quasi-debt (examples: financial lease commitments and civil service pension liabilities).
- Effect on stabilization policy:
  - Shifting to accrual measures will not cause difficulties for fiscal stabilization policy.
  - Discretionary fiscal policy involves selection of measures to boost aggregate demand; automatic stabilizers’ budgetary impact will generally be similar whether measured with respect to the cash budget balance or net lending.
- Net worth and net operating balance:
  - The case for using accrual measures as key fiscal policy aggregates relates specifically to net financial debt and net lending (or variants), not to net worth and the net operating balance.
  - Net worth is not a good indicator of fiscal sustainability because it implicitly treats increases in nonfinancial assets as equivalent to reductions in debt; the balance-sheet value of nonfinancial assets does not reliably measure sustainability.
  - The only clear case for using net worth and the net operating balance as key aggregates is countries pursuing the “golden rule” approach; even then, net financial debt and/or net lending should remain key aggregates.
- Practical conclusion:
  - Although accrual budgeting is compatible in principle with good fiscal policy, in practice considerable risks arise from its complexity.
  - Only if financial management systems are sufficiently strong to ensure effective implementation of accrual control totals does accrual budgeting pose no problem for fiscal discipline.
  - Under accrual budgeting, central control of payments or of the release of cash is no longer an available instrument for central control, making budget execution and cash management more demanding and increasing scope for spending ministries to exceed budgets.
  - These factors (and additional complexity) make accrual budgeting inappropriate for many countries.

*Source: Box 9. Net Lending vs. the Cash Balance (from _wp0984 - Box 9. Net Lending vs. the Cash Balance)*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/wp/2009/_wp0984.pdf_