Typical street scene in Santa Ana, El Salvador. (Photo: iStock)

Typical street scene in Santa Ana, El Salvador. (Photo: iStock)

IMF Survey: Major Reforms for German Budget System

November 21, 2007

  • Task force seeks "product budgets" based on outcomes, not costs
  • Accrual accounting seen to improve asset management, service delivery
  • Reforms to improve expenditure efficiency assisted by IMF staff

Germany is expected to introduce performance budgeting and accrual accounting into its budget system as part of a package of reforms recently recommended by a Finance Ministry task force.

Major Reforms for German Budget System

Chancellor Merkel at German school: budget reforms focus on such choices as primary vs tertiary education funding (photo: Fabrizio Bensch/Reuters)


The reforms were proposed by the ministry's Budget and Accounting Reform Task Force after more than a year's work, in which it was assisted by staff of the IMF Fiscal Affairs Department. The aims of the proposed reforms are to improve expenditure efficiency and strengthen fiscal policy.

At present, Germany has a traditional "line-item" budget, in which ministries receive budget allocations based on the anticipated costs of their inputs, such as staff costs and supplies. This method of funding has little to do with the types of services ("outputs") to be delivered, or with the intended outcomes of those services. As an increasing number of countries have recognized, it is not a budget structure that facilitates good decision-making about expenditure priorities.

To remedy this situation, the ministry task force envisages the introduction of "product budgets"—often known elsewhere as "programs"—based on outputs and outcomes. The intention is to focus greater attention in the budget formulation stage on choices about how much money to allocate to, say, preventative health versus health treatment, or to primary-school versus tertiary education.

`Product budgets'

Under the task force's proposals, the "product budgets" would not in the first instance be used for parliamentary budget appropriations. The idea is that they would initially be used internally within executive government in the process of formulating the budget. The logical next step would, however, be to shift the annual budget law also onto a programmatic basis. France, for example, recently made this shift as a result of reforms initiated with the Lois Organique relatif aux Lois de Finances passed by the French parliament in 2001.

The proposed move to accrual accounting is inspired by both fiscal policy and expenditure efficiency considerations. Germany recognizes that, as the IMF has argued since the promulgation of the accruals-based Government Finance Statistics manual in 2001, accrual accounting gives fuller information about fiscal sustainability than does traditional cash accounting.

This is because accrual accounting systematically recognizes, in the government's balance sheet, financial assets and liabilities that are not conventional debt—such as money owed to suppliers, or liabilities to pay pensions to civil servants—but which are just as relevant to fiscal sustainability. There is also a growing recognition that accrual accounting helps improve asset management and service delivery, by providing better measures of the costs of production.

Golden rule

In Germany's case, there is an important additional fiscal policy consideration for the adoption of accruals. This relates to the "golden rule" enshrined in the country's constitution which requires, roughly speaking, that borrowing be used to fund only investment and not consumption.

The interpretation placed to date on the golden rule in Germany is that it permits the financing of all capital expenditure—in other words, gross investment—by debt. However, as the German Council of Economic Experts pointed out in a March 2007 report, using debt to finance gross investment means that debt is financing not only new public capital formation, but the consumption of existing assets. This allows the costs of the use of public infrastructure by citizens today to be transferred to future taxpayers.

To address this problem, the Council of Economic Experts recommended that the interpretation of the golden rule should be tightened up to restrict borrowing to net investment—in other words, to capital expenditure minus depreciation. This requires a measure of depreciation, for which accrual accounting is required.

Shifting to this tighter version of the golden rule would bring the German version of the rule into line with the British version. However no decision has yet been taken on the status of the golden rule or on a broader reform of the fiscal framework.

Funding based on payments

The task force has recommended that the adoption of accrual accounting not be accompanied, at least at this stage, by accrual budgeting. Thus the German budget will continue to give ministries funding based primarily on the payments they are permitted to make, rather than the costs that they will incur.

There is much to be said for this approach. The handful of countries that have adopted accrual budgeting (notably Australia, New Zealand, the United Kingdom, and Denmark) all did so some years after having already moved to accrual accounting—and nevertheless even then found accrual budgeting a demanding and complex reform.

The French reforms also include elements of accrual accounting without a decision yet to move to accrual budgeting. To include it at this stage in the reform agenda in Germany would be to risk overload and to unnecessarily increase the risks of failure.