The failure to reduce or eliminate fiscal imbalances, which have persisted in many countries since the early 1970s, is commonly ascribed to adverse economic events and a lack of political determination and perseverance in pursuing stringent policies. But alongside these major causes of insufficient fiscal adjustment is an important technical contributing factor that often receives less attention than it deserves. In a large number of developing countries, financial reporting systems are inadequate for management purposes because they fail to provide policymakers with relevant information on a timely and regular basis. As a result, unexpected fiscal developments remain undiscovered. Fiscal deficits build up, hidden and perhaps unintended, until they become too large to be dealt with using politically acceptable measures.
We note with deep regret that Mr. Blöndal died suddenly in early 1988, while this article was being prepared for publication.
This article examines ways in which the flow of management information to policymakers at the central level in developing countries may be improved. In particular, it discusses the technical and administrative procedures needed to provide timely data on the government’s finances. Obviously, better information systems do not guarantee better economic and financial policy decisions. But because they make errors of judgment less likely, they can help policymakers reach decisions that are appropriate. The procedures recommended are designed with the existing systems of developing countries in mind; adopted gradually, they should be within the reach of most countries.
Types of reporting systems
There are three basic types of financial reporting in government, based on the purpose the reported data are to serve: reporting for accountability and parliamentary control; reporting for internal departmental control; and reporting for central financial and economic management (see chart).
The last is the subject of this article. Its aim is to keep officials at the appropriate level informed about whether fiscal developments are following an expected pattern or whether there is cause for concern, along with analysis of the causes of any major divergence, and comments on corrective actions taken or considered necessary.
A government’s accounting system, which forms the basis of all financial reporting, is traditionally adapted to the requirements of accountability and parliamentary control. To make accounting data useful for central financial and economic management, the requirements differ from those of the other two types of reporting. Policymakers need to be provided with relevant fiscal data on a regular basis within the fiscal year, as soon as possible after the close of each accounting period, usually a calendar month. The fiscal data need to be comprehensive and appropriately classified, and the reporting needs to be regular and based on definitions that are consistent from one accounting period to another.
Though circumstances vary, in many instances accounting data generated by the traditional reporting system can be made useful for financial and economic management by supplementing it and by improving reporting techniques. This enhancement can be achieved without detriment to accountability, and usually without any substantial addition to the overall costs of administration.
Improving financial reporting
Accelerating reporting. The pervasive problem of timing is probably the greatest obstacle to efficient financial reporting. In some developing countries the annual government account is essentially the only financial reporting device, and arrangements are very limited for the provision of data outside this conventional reporting channel. In a large number of countries the government account may not be finalized for several years after the end of the accounting period in question. By that time it has become a historical document of limited usefulness for accountability and departmental control and of none for central financial management.
Serious delays in the generation and processing of data are caused by deficiencies in the communications system in general; by the poor training and motivation of accounting and clerical staff; the use of obsolete techniques; the prolonged malfunctioning of computerized systems for lack of staff to operate them; and by a variety of institutional and administrative stringencies. Delays may also be caused by inefficient accounting practices.
Obviously many of these obstacles cannot be quickly removed, so efforts to speed up the reporting of data must take them into account. One of the features of reporting for central financial management is that detail and accuracy in statistical data are less important than in the other two types of financial reporting. This is because the purpose is not accountability or detailed controls but rather the monitoring of fiscal developments in broad terms. Probably the most effective way of speeding up reporting for this purpose is thus to estimate data that are missing from individual agencies at the end of the reporting period. Introducing an element of estimation into the reporting process can speed up the submission of preliminary data for central financial management without delaying the submission of data for other types of reporting.
It is, however, quite rare to see the technique of estimation applied in reporting for central financial management. The common perception is that data should not be submitted to the central consolidating agency until comprehensive and accurate figures have been assembled from each agency. Such attitudes are natural where accountability and audit have been the predominant concerns in financial reporting, but they can constitute a serious obstacle to the development of efficient reporting for central financial management.
Experience shows that reporting staff tend not to attach much importance to tasks whose relevance to their traditional function is obscure. Much educational effort about the purpose of reporting for management will be needed to ensure its acceptance by the staff who must operate the system. To ensure that small amounts of missing data do not retard the reporting process, the central reporting agency may have to estimate such data, at least initially.
Simplifying reporting channels and formats. Decentralized accounting systems usually entail a larger number of reporting channels than centralized systems. In decentralized systems the returns are typically assembled at intermediate points, such as regional or local offices, from numerous agencies and cost centers; they are then compiled and classified in accordance with specifications and submitted to the ministry or department under which the agencies serve. The ministries or departments then examine and consolidate the returns from the district offices and submit them to the central accounting agency, which commonly is part of the ministry of finance, and to the auditor general. To save time in providing the information needed for central financial management it may be possible to sidestep one or more of the channels, such as the ministry or department, or even the regional or local offices. A separate reporting channel for central financial management would normally supplement, not replace, existing channels.
As already noted, the main emphasis of this type of financial reporting is on the overall fiscal position and the main aggregates. Hence, when reporting for financial management is being introduced for the first time, it may be prudent initially to use a very simple classification, showing only current and capital expenditure plus net lending, domestic and foreign trade taxes, grants, and internal and external borrowing. A report based on such a simplified format is easy to prepare, and submission of data ought to be prompt, especially when data missing at the end of the reporting period can be estimated.
|1. Accountability||Provide assurance to legislative body that expenditures and receipts conform to statutory authorizations (budgetary appropriations) and financial regulations.||Recording of government transactions for publication in the annual government accounts. External auditor certifies annual accounts showing disposition of budgeted funds and reports on the results of his examination.||Statutory timetable dictates timing.|
|2. Departmental controls||Enable departments to monitor the implementation of budgetary appropriations and suballocations to agencies and cost centers. Provide basis for management decisions and audit of the activities.||Statements showing allocations and relevant expenditure/receipts to be provided at periodic intervals, according to the nature of the activity. Reports compiled from central accounting system or from departmental accounts, depending on the degree of centralization.||Promptness in reporting of first importance, but actual rather than estimated results are required for this purpose.|
|3. Central financial and economic management||Enable policymakers at central level to monitor overall fiscal developments as the year proceeds and take appropriate measures to correct deviations from the intended pattern of expenditure, revenue, and financing items. Enhance central financial and economic management on a wider basis.||Summarized statements showing actual revenue and receipts together with surplus/deficit financing provided from central accounting system, usually on monthly cumulative basis for comparison with budgeted amounts and predicted cash flows. Periodic (quarterly) reviews in light of actual outturns and revision of underlying budgetary assumptions.||For this purpose promptness in reporting must take precedence over need for complete accuracy. Substantial degree of estimation may be required if accounting system cannot provide all necessary figures by due date.|
As experience is gained, the reporting formats can be made more detailed. On the revenue side, a further breakdown by type of tax should be undertaken, and classifications on the expenditure side could be based on different criteria, such as administrative authority (ministries and agencies), functional category, and economic category. Often it is easiest to start by using a broad classification that harmonizes with the budget, which is commonly on the basis of administrative authority, and go on from there to adopt the other types of classification.
Ordinarily, time pressures will mean that reporting for central financial and economic management must be confined to central government activity, including budgetary relations with nonfinancial public enterprises. Usually, the omission of reports from local and regional entities is not too serious, for the nature and national character of the central government’s activities and the sheer size of its operations within the public sector allow it to dominate fiscal policy. However, in federal structures (e.g., Brazil, Nigeria) the fiscal decisions of the states, especially their borrowing, can be crucial. The experience of the Fund and the Bank also indicates that reporting by major public enterprises must be included, especially when they borrow from state-owned banks; the same methods of rough estimation may be used.
Even where the conventional accounting system offers limited possibilities for developing adequate reporting for central financial management in the immediate future, other statistical sources, such as the fiscal data generated by the central bank, can sometimes be used while a more adequate system is being developed.
Forecasting fiscal developments
Actual developments in the economy, as reflected by the financial reporting process, need to be compared with the developments that were expected. Since the fiscal policy decisions of the authorities are reflected in the annual budget, the budget becomes a natural basis for this comparison. However, two major requirements have to be met if the budget data are to serve this purpose adequately.
First, the budget estimates must be realistic and kept that way as the year progresses. This may best be done by relating them to a macroeconomic framework and by undertaking periodic reviews of the key budgetary and macroeconomic assumptions on which the budget was based (see section below).
Second, the components of the budget must be phased over each month of the year (or another reporting period) as accurately and realistically as possible, indicating the likely path of each component and the overall fiscal position. In several countries central financial reporting systems incorporate such an element of phased cash-flow forecasting for monitoring purposes, though the level of sophistication in developing the forecasts varies widely.
Such forecasts can be prepared on the basis of the past seasonal patterns of main revenue and expenditure components, adjusted in the light of upcoming policy changes or events likely to upset past patterns; individual large-scale development projects would obviously have to be treated separately.
Close cooperation and frequent consultations between the agencies are essential. When the departments realize that these forecasts are to be used as an integral part of central financial management—a perception that is often lacking—their interest and involvement in the exercise are likely to be enhanced. Such involvement will help to make the forecasts more accurate and realistic, as well as prompting their timely submission to the central agency. The cash-flow forecasts can also be used to facilitate the conduct of monetary policy and cash management, as discussed below.
A monthly comparison of the cash-flow forecasts and actual developments would reveal any major deviations from the intended course. Having established the cash-flow forecasts, the monitoring process can start as soon as reports on the first month’s actual outturns become available.
The findings of the fiscal monitoring should be presented each month in a confidential report to ministers and officials involved in policy making. The report would contain not only statistical data but a written analysis of the data, identifying divergences from the expected path in a particular month and from the beginning of the year, analyzing their causes, indicating their likely duration, and if necessary recommending appropriate fiscal actions to keep the budget on course.
The budget estimates and the phased cash-flow forecasts rest on assumptions about major economic aggregates, microeconomic factors, and fiscal parameters. The budget assumptions must be clearly spelled out at the outset and closely monitored during the year. Factors such as GDP growth, the level of employment, the volume and composition of imports and domestic consumption, the price level, the exchange rate, pay rates, interest rates, the average effective rate of import duties, and tax collection ratios are important determinants of expenditure and revenue components, and if the assumptions made about them do not hold as the fiscal year progresses, major deviations from the expected fiscal developments may result.
These considerations call for periodic examinations of the fiscal situation. On a quarterly basis, at a minimum, a thorough review should be made of the main budgetary assumptions and the impact of economic measures introduced since the last review. These quarterly reviews would be appropriate occasions for preparing more extensive analyses than envisaged for the monthly reports. Quarterly reports should carefully analyze developments since the beginning of the year, take into account revised estimates as reported in the monthly reviews, assess budgetary implications of any changes in budgetary assumptions, and evaluate the outlook for the rest of the year.
One of the reasons why central financial reporting has not gained a firmer stand in overall economic management is a failure to appreciate the importance of permanence in this function. To make its full potential contribution, the function needs to be made the responsibility of sufficiently qualified staff, selected for their ability and experience, with appropriate administrative arrangements for operating the system on a regular basis. Most important of all, the officials responsible must have confidence in the backing of their superiors. Ministers must be convinced that the exercise is worthwhile. This sense of political interest and urgency should be communicated to the civil service. If such political backing is not forthcoming, if officials sense that financial reporting is considered politically irrelevant, then the whole exercise is futile.
Though conditions obviously vary among countries, the function would ordinarily be best placed in some central agency within the ministry of finance, such as the budget office, the general accounting office, or any other agency that is actively involved in the recording or management of public finances.
Provided sufficient collaboration with relevant outside agencies is ensured, a small unit within one of the agencies of the ministry of finance would normally suffice. Because of the policy-oriented nature of this type of reporting, it is important to give this unit a relatively high ranking in the administrative structure, as well as proximity to the minister of finance. Such placement will help to attract well qualified staff and give it sufficient authority to carry out its function efficiently. Of course, close collaboration is essential with those agencies, including the central bank, that continue to contribute to the financial reporting process.
Reporting for central financial and economic management can only play its most useful role if there is due regard to the interrelationships between fiscal and other macroeconomic aggregates. Viewing such aggregates in a common framework strengthens the basis for monitoring fiscal trends, and also enhances the potential of the reporting to contribute to a broader area of economic concern, such as monetary policy and cash management.
Need for a macroeconomic framework. To ensure that the assumptions underlying the budget are realistic and consistent, a macroeconomic assessment is needed, including projections of price changes, monetary trends, output, incomes, and the balance of payments, for the fiscal year ahead; the assessment must be detailed enough to identify and quantify the main aggregates that have linkages with components of the public finances. The key underlying assumptions should be made explicit, so that as the year progresses they can be kept under review to make sure they are still realistic. This assessment should be presented to policymakers at the outset of the budgetary process.
Though in many developing countries the budget estimates are made only for one year at a time, it is important to analyze the trend over the medium term for each component to see if it is likely to be sustainable and consistent with the development of the economy. Developing a medium-term economic and budgetary framework can be difficult, for lack of appropriate data and uncertainties about the volumes and prices of key economic aggregates, such as major exports, and the amount of capital inflows. Where conditions allow, however, efforts should be made to construct such a framework. The assessments could roll forward as each new fiscal year commences, with adjustments made to accommodate changes occurring in the current year.
The institutional and technical conditions for preparing macroeconomic assessments differ among countries, but today most countries produce some type of macroeconomic forecast on an annual basis. Planning at the macroeconomic level is often performed by a separate planning agency, and tends not to be adequately linked to the annual budgetary estimates. While the methods of planning agencies may have to be refined and adapted to the requirements of annual or multi-year budgeting, a move to coordinate the functions of planning and budgeting would in most instances be a big step forward.
Relevance for monetary policy … In most developing countries the monetary repercussions of the fiscal decisions taken at budget time are crucial for the development of money supply and supply of credit. Separate monetary aggregates are also affected, especially where project-related capital inflows are significant sources of finance and the treasury often has recourse to the central bank. In such circumstances, financial reporting as advocated in this article can facilitate the conduct of monetary policy.
When the phased cash-flow forecasts discussed above have been prepared, they reveal the overall fiscal surplus or deficit in each month of the year. This gives the seasonal pattern of the central government financing requirement, which needs to be looked at in an overall monetary context and reconciled with the objectives of monetary policy. For this purpose the cash-flow forecasts should be integrated with projected monetary surveys and targets.
The coordination of fiscal and monetary policy in this short-term context would require close collaboration between the relevant sections of the ministry of finance and the central bank. These agencies would discuss the financing part of the cash-flow forecast at the beginning of each year and at regular intervals in the course of the year. Apart from reconciling the seasonal patterns mentioned above, the discussion would address issues like financing options, their timing, and the proper fiscal-monetary policy mix for broader objectives of economic policy.
… and cash management. The management of cash flows within the year poses different problems in individual countries depending, inter alia, on the organization of procedures whereby spending agencies are provided with funds to finance their outlays and revenue-collecting agencies transmit funds to the treasury. Generally, the problem of cash management is minimized when there is a consolidated account (in the central bank) on which checks are drawn and into which revenue collections and borrowings are deposited, and information on all transactions is passed on promptly to the ministry of finance.
The policy-oriented cash-flow forecasts discussed above are highly relevant in a cash-management context. Having the expected seasonal pattern of cash requirements laid out at the beginning of the year gives scope for planning in time to make the most advantageous arrangements for borrowing or portfolio management.
Experience strongly suggests that in many developing countries inadequate reporting for financial and economic management at the central level has contributed to unrealistic and inconsistent decision making, ineffective monitoring of fiscal developments, and ensuing imbalances in public finances. A failure to recognize the different purposes and data requirements of separate types of financial reporting makes officials reluctant to adopt efficient reporting systems for central financial and economic management. The article has identified these differences and offered some guidelines for developing such a system.
Better reporting of fiscal developments at the central level gives substantial scope for strengthening the fiscal policymaking process in a wide sense. While the essentially technical improvements suggested in the article would not ensure that politically difficult corrective actions will be taken, they would significantly strengthen the basis for rational decision making in fiscal matters.
This article is based on an IMF Working Paper “Reporting for Central Financial and Economic Management in Government” by the. author, and available from the Fund’s Fiscal Affairs Department.
It is not intended to imply that government financial reporting, as outlined in this article, is simple or that all countries can undertake it with no more information than is contained in this article. The Fund, World Bank, and the Organization of American States have all helped national authorities in this area.