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November 05, 2012

The Importance of Strengthening PFM at the Sub-National Level in Sub-Saharan Africa

Posted by Stephan Klingebiel and Timo Mahn[1]

The ongoing trend of decentralizing governance responsibilities to the sub-national level in many countries in sub-Saharan Africa (SSA) is likely to continue in the near future. In order to achieve its objectives, it will be crucial that this transfer of responsibilities will be matched by equal efforts to increase sub-national Public Financial Management (PFM) capacity.

As a cross-cutting issue of domestic accountability systems and of development policy, PFM lies at the heart of countries’ governance systems. It therefore comes as no surprise that PFM systems at the level of the central state have become one of the key reform areas in developing countries in SSA. At the same time, however, the capacity of, and the conditions for PFM at the sub-national tiers of government to date have received much less attention. While there are signs of a growing demand for sub-national PFM approaches, development partners so far have not fully come to terms with the implications of this trend in designing their technical and financial support programs.

Importance of sub-national PFM reforms

In all developing and developed regions PFM is a core dimension of governance, which includes not only technical systems and processes, but wider issues of institutions and incentives. The ultimate objective of PFM reforms is to achieve more transparent, more effective and more efficient management of government revenues, expenditure, assets and liabilities. Well-functioning PFM systems are vital for all countries: they are needed to implement policies in all sectors effectively and efficiently. In the case of a number of SSA countries, good PFM systems will also attract additional donor resources that are willing to use national systems, will give domestic and foreign investors confidence in the sustainability of government finances, and help countries gain earlier and better access to international capital markets. Governance reforms that focus on decentralization depend on well-functioning and robust PFM systems at the sub-national level. As of late, countries in SSA have been touting their economic growth potential and available resources might further increase, which again requires functioning PFM systems, including at the sub-national level. Against this background, there is much support for the claim that sub-national PFM reforms have particular importance and relevance for development cooperation. At the same time, the topic seems to have been under-researched in the past.

Importance of Decentralization

Motivations for decentralization, in turn, are manifold. In some countries and regions, decentralization processes is associated with the process of overall political and economic transformation. In other countries, it is linked to the process of democratization. Sometimes decentralization is mainly focused on overcoming conditions for conflict (e.g. through the inclusion of local communities), in other cases, it is intended to improve service delivery for citizens. Conditions under which decentralization takes place – including population size and geographical conditions - also vary widely across countries. Research shows, at least in some crucial areas, positive contributions of decentralization efforts (e.g. through the provision of basic services and participation in local politics) to the process of development.

Assessing sub-national PFM in Sub-Saharan Africa

Since 2005, the PEFA (Public Expenditure and Financial Accountability) framework has significantly contributed to streamlining and consolidating assessment efforts. During this period, PEFA has established itself as an internationally renowned analytical tool, and the “global standard” for assessing mainly national PFM systems.

Assessments of PFM systems at the sub-national level based on the PEFA framework are growing fast. Interestingly, the majority of sub-national assessments have been undertaken in the SSA region. The group of “early adopters” and consecutively “heavy users” of the PEFA framework at the sub-national level in SSA – namely, the big federal states Ethiopia and Nigeria – have been joined by other countries in the region - such as Rwanda - where decentralization efforts are more recent.

What is different about PFM systems at the sub-national level?

Sub-national PFM systems have some characteristics that distinguish them from the central government level:

Sub-national revenue: In most SSA countries, the existing legal framework gives a dominant role to the national government in collecting taxes and other revenues. There also tend to be widespread capacity constraints in resource mobilization. As a result, own-revenues at the sub-national level remain limited and fiscal transfers from central levels constitute the main source of revenue. Sub-national governments also typically do not have authorization to borrow in order to cover short- or long-term financing gaps.

Planning and budgeting: Given their more limited scope and capacities, it has to be recognized that sub-national development plans and budgets rarely achieve the kind of sophistication which can be found at the central government level. For example, if they are included at all, macroeconomic analysis, revenue forecasts, etc., are frequently adopted from the higher level. The central government level regularly retains planning and budgeting authority for example for national roads, as some sub-national entities might be discouraged from investing in good roads if they mainly serve traffic beyond the own jurisdiction. While governments at the sub-national levels generally rely on the central level to function as a “policy compass”, they frequently do not engage in medium-term planning processes, instead limiting themselves to an annual perspective only. Budgeting processes at the sub-national level can therefore generally be seen as a function of the central process. Finally, the costing of services, which can present a challenge even for much more advanced central government planning departments, is an area of particular difficulty for the sub-national level, as is budgeting for operations and maintenance.

Budget execution and procurement: Challenges in budget execution primarily occur amongst those activities that are financed by discretionary funds managed at the sub-national level. They frequently result from unpredictable allocations, unrealistic or overburdening conditionality in the case of earmarked transfers, challenges in sub-national procurement processes causing delays, as well as general capacity issues. Finally, external conditions at the sub-national level – such as the distance from the center, less opportunities for staff advancement, etc. - can sometimes put an extra strain on sub-national PFM capacities, with the “best and brightest” budget officers seeking employment elsewhere.

Internal control: The mechanisms, instruments and methods of sub-national accountability frameworks are generally laid out in legal texts or countries’ decentralization strategy, with differences resulting from the specific characteristics and requirements of the sub-national level. In terms of internal control, sub-national legislatures are frequently at a structural disadvantage in comparison to central government institutions because they frequently work only part-time and have less support capacity at their disposal.

Accounting and reporting: SSA countries that have unitary systems generally also have unitary accounting standards for both central and sub-national level. On the other hand, some sub-national entities in decentralized states also have the power to define and use their own accounting and reporting rules. From a sub-national perspective, the benefits of comprehensiveness – including classifying a budget in terms of poverty/non-poverty relevance or according to different government spending programs – have to be balanced with the additional PFM and administrative burdens imposed, for which capacities are limited. The swift reconciliation of bank accounts, which is a key PFM issue in this respect, is frequently hampered by distance/connectivity issues between cost centers and lack of banking facilities at the sub-national level.

External control: For the sub-national level, the external audit function may be assigned to an audit institution located at the local level, or it may remain a central government function, or the responsibility may be blended to some extent, for example by function, geography or institutional coverage. A clear-cut division of labor between sub-national level and central government (“who audits what?”) becomes a crucial precondition for a functioning external accountability mechanism. Depending on their specific comparative advantages, differentiation is also possible regarding specific functional requirements – for example, financial audits, performance/value-for-money audits, etc.

What are the implications for development partners?

There are a number of implications and conclusions for the development partners that can be drawn from the analysis of sub-national PFM characteristics and requirements set out above.

First, it has to be recognized that supporting sub-national PFM capacities and functions is beneficial not just from the narrow technical perspective of improving the management of domestic and donor funds, but can also have positive externalities from a governance perspective (see Klingebiel and Mahn, 2011). The positive implications of revenue-generation via taxation - which results in direct improvement of public services at that level - for citizen-state relationships is but one example.

Second, direct donor support for the sub-national level - irrespective of its form – has to be implemented in a way that does not skew the distribution of government resources. In a number of countries, central governments have adopted rules and practices for “offsetting” direct donor support for the sub-national level through a corresponding reduction in their own support. In these cases, delays in donor support reaching the sub-national level can result in additional challenges for the sub-national governments, in particular when they do not have access to short-term borrowing.

Third, the variety of systems and conditions at the sub-national level make monitoring and evaluating reforms of the PFM systems using the PEFA framework challenging. The PEFA Steering Committee might want to consider further developments of the framework in its application at the sub-national level.

Fourth, given the even greater scope of dissimilarities and variety of “stages” of decentralization, the need to contextualize PFM reforms at the sub-national level is arguably even greater than at the central government level.  PFM reforms at the central government level often seem to be focused on the implementation of sophisticated systems at the expense of searching for simpler, more user-friendly and robust alternatives. Reasons include the perception that it is necessary for PFM systems in SSAs to conform to international best practice, as well as the emphasis on ensuring that demanding reform packages are aligned with the incentive structure and “business model” of development partners.

Finally, coordination between the sub-national and the central government level on PFM issues and in particular the respective reforms are key. There are numerous examples of sub-national PFM reforms that are not in conformity with requirements at the center, and, vice-versa. Bridging the gap between decentralization and PFM research and reform efforts has a significant contribution to make in this respect.

Literature

Klingebiel, Stephan / Timo Casjen Mahn (2011): Reforming public financial management systems in developing countries as a contribution to the improvement of governance, Deutsches Institut für Entwicklungspolitik / German Development Institute, (Briefing Paper 3/2011), Bonn.



[1] Dr. Stephan Klingebiel is Head of Department “Bi- and Multilateral Development Policy” of the German Development Institute (Deutsches Institut für Entwicklungspolitik - DIE). Timo Mahn is researcher in the same  Department and Institute.

Note: The posts on the IMF PFM Blog should not be reported as representing the views of the IMF. The views expressed are those of the authors and do not necessarily represent those of the IMF or IMF policy. 

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