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December 19, 2016

Public Sector Accounting Reform in the EU

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Posted by Martin Manuzi and Simon Tosserams[1]

High quality public services, democratic accountability, intergenerational fairness, and financial stability are just some of the key issues that people all over the world value, and depend heavily on good public sector accounting. Modern and transparent reporting is the cornerstone of effective management of public finances – and thereby critical for any country’s economic sustainability. 

The financial crisis led to austerity policies in many countries and an increased focus on better financial management in the public sector. It also resulted in the widespread acknowledgement of deficiencies in the financial information reported by EU governments, which were deemed insufficient to make a fair assessment of risk. Today government securities, whether in the EU or around the world, are no longer perceived as risk-free, and their proper rating and valuation is hampered by the opaqueness of public sector reporting. The EU can play an essential part in championing reforms in this area, which require both new legislation and institutional change. 

The ICAEW’s recommendations 

The vision of the Institute of Chartered Accountants of England and Wales (ICAEW) is that by 2025 there will be annual public disclosure on a true and fair basis of the public sector financial position of all EU member states. The Institute’s discussion paper on The Future of EU Public Sector Accounting in a Global Context seeks to generate a broad stakeholder consensus, and puts forward three policy recommendations.

First, we recommend that the idea of true and fair public sector reporting be anchored in a framework of EU law which sets out key principles on the form of harmonisation, enforcement and institutional structures. These principles could be implemented through international and/or national standards. To meet the 2025 deadline, legislation would need to be adopted before the end of the current EU legislature in 2019. 

Second, within the overall framework of EU law, we think it is important that there be room for tailored member state implementation, including the use where needed of roadmaps for reform with clearly defined milestones. This approach will enable member states to maintain their national accounting traditions, in line with the overarching EU principle of subsidiarity. We also suggest that the reporting of a financial position can be through consolidated or combined financial statements, to suit individual member states’ constitutional arrangements, while respecting EU comparability. 

Our third recommendation addresses issues of governance, institutions and technical expertise. The legislation should establish that International Public Sector Accounting Standards (IPSAS) are the basis of the new arrangements, and ensure appropriate legitimacy and accountability for the use of these standards. In this regard, the EU should think creatively, and a comparable structure to that of the European Financial Reporting Advisory Group (EFRAG) for private sector reporting could play a key role, with any necessary modifications in composition. Equally, the legislation should clarify the institutional arrangements and expertise needed to enforce the implementation of the new standards by member states. 

We very much recognise Eurostat’s continuing efforts to progress member state accounting reforms, in particular to assist in the introduction of accruals-based reporting for member states which still operate a cash-based accounting system, and to facilitate interaction on many other technical issues. Still, at the EU legislative level, mandatory public sector accounting reform seems to have slipped far down the priority list – if not off entirely. Our recommendations are directed at this level. We believe it is important to proactively and creatively seek to address the challenges which have stood in the way of establishing an EU-wide consensus to date, by establishing an agreed framework and a target date for completing the reform.

The benefits of reform

We see clear advantages in having more than one viewpoint on public finances. To date, EU member states are required under the Maastricht criteria to prepare national accounts which are drawn up on a statistical basis according to information requirements set out by Eurostat in the European System of Accounts (ESA 2010). They have a different purpose to financial accounts and do not provide a full picture of assets, revenues, expenses and liabilities. Financial accounts, so called as they are prepared according to the broad, internationally-accepted principles of accounting used for private companies, record this full picture. 

National accounts and financial accounts can and should be mutually reinforcing. If done properly and on the basis of comparability, the combination of these two elements creates a whole which is greater than the sum of the individual parts. This can give the EU a new, more robust “Maastricht Plus” framework to underpin financial stability, as well as improve government management of public finances and enhance democratic accountability.

The ICAEW believes that the international accounting standards route would deliver the best return on investment for the EU, not least given the shortage of expertise. It should allow the IPSAS Board to continue developing a more complete and robust set of international standards, making efficient use of existing structures, processes and skills. Of course, there will be costs for member states associated with introducing the reforms we recommend – even taking into account the proposed tailored roadmaps and reliance on national accounting institutions and practices. Nevertheless, there are critical advantages to using a model based on existing infrastructure and expertise. This approach will allow public money to be allocated most efficiently, increase transparency, and reduce the financial burden on taxpayers.

Get involved 

Turning our recommendations into reality requires the wider stakeholder community to act as advocates for reform. We thus welcome all comments and suggestions on our recommendations. Our intention is to reflect on all feedback received in order to foster a wide stakeholder debate on the merits of adopting a new EU legal framework on public sector accounting.

[1] Martin Manuzi is ICAEW Director, Europe Region; Simon Tosserams is EU Affairs Executive at ICAEW.

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.

Comments

What advocates of accounting reform do not appear to appreciate are the very different management/governance circumstances that apply in different European countries and this applies especially to aspiring members of the European Union. In many countries the decision makers, even over the most trivial of matters, are the politicians not the civil service. The politicians would be making judgements about accounting technical issues and therefore not on technical grounds but on political grounds. External auditors, who are often themselves politically appointed, are frequently not sufficiently strong, or well qualified, to stand up to political pressure. Expert finance directors, or equivalent, do not exist and the public debate about the accounts would be probably conducted in political terms by politicians and not by technical experts.
In summary just to consider financial reporting without taking into account the political economy of a country is a mistake and in the end will be damaging to the whole idea of introducing accrual accounting and of better quality financial management.

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