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January 31, 2018

Armenia Tightens Control of its Extra-Budgetary Entities

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Posted by Atom Janjughazyan[1]

 

In December 2017, the National Assembly of the Republic of Armenia amended the Treasury System Law (TSL) and Law on Non-Commercial Organizations (NCOs) to extend the coverage of the treasury system to extra-budgetary entities (called non-commercial organizations in Armenia) under the supervision of the central government. This important decision concludes a debate that has lasted since before the law permitting the establishment of NCOs was approved in 2001. The fulcrum of this debate was the trade-off between efficiency associated with increased managerial flexibility, on the one hand, and issues of transparency, fiscal risks and macroeconomic stability, and efficiency due to improved central control, on the other hand.

NCOs account for a large slice of the central government sector. In 2016, central government expenditure by NCOs represented about 12 percent of total central government expenditure. Around 90 percent of NCOs’ revenues were derived from transfers from the budget and 10 percent from fees and other ‘own’ revenues.

Most NCOs were established by converting budget institutions (BIs). In early 2002, there were around 2,000 central government BIs and no NCOs, and two years later there were around 150 central government BIs and 1,800 NCOs. A similar transformation applied to municipalities, which had around 2,500 BIs in early 2002. By making this change, the government was aiming to shift the focus of policy from the institutions providing public services to the quality of services themselves. Another reason was to move away from the conservative organizational structure of the BIs and create institutions with the managerial autonomy and freedom required to bring in fresh and imaginative ideas about the efficient delivery of services. The government also decided to keep the newly-created NCOs outside the treasury system. It was thought at the time that this policy would enhance their managerial independence, and create more efficient and effective public services.

Experience in Armenia since 2004, however, suggests that the benefits of increased managerial flexibility due to NCOs being outside the treasury system are minimal. Most NCOs are almost totally dependent on budget financing. A centralized treasury system that includes NCOs can support managerial flexibility as efficiently as a decentralized budget execution and reporting system. In Armenia’s case, this is especially so now that the treasury system is fully automated.  

Armenia’s experience since 2004 also shows that the loss of fiscal transparency arising from NCOs’ being outside the treasury system has been substantial. NCOs do not always comply with the regulations on budget planning and execution. Even though a parallel system for reporting NCOs’ revenues and expenditures was established, these reports do not match the timeliness, frequency and reliability of reporting from the central treasury system, especially for consolidated government reporting.  

Significant fiscal risks have not materialized so far from Armenia’s NCOs, partly because of the intensive monitoring carried out by their supervising ministries and the Ministry of Finance. Nevertheless, because of its size, the NCO sector represents a substantial potential risk to Armenia’s public finances and to macroeconomic stability. Fiscal risks have been heightened by Armenia’s recent experience with its fiscal rules system. The debt brake was activated in 2017 because state debt exceeded 50 percent of GDP, and to forestall a breach of the 60 percent debt/GDP limit. Fiscal and macroeconomic management are particularly difficult when debt is high. Cash must be managed carefully to ensure additional borrowing is not incurred unnecessarily, and all sources of fiscal risk must be nailed down more tightly.

Another consideration is that the government  has heightened demands from the public for the government to be held accountable for the achievement of the program outcomes and outputs approved by the National Assembly and the government. This principle applies to NCOs as well as core budget expenditures; there is a need to improve the management of all government-controlled entities that are producing significant public services, irrespective of how the entities are organized structurally. The non-budget revenues of NCOs are not available to fund activities that are outside approved programs. Bringing NCOs within the treasury control framework is thus important for ensuring proper accountability.

The treasury system will become increasingly important for increasing the efficiency of government expenditure. The debt constraints noted above will limit the government’s ability to increase aggregate expenditure for the foreseeable future, and will require increased reallocations of budgetary resources to meet social and other needs. The treasury system helps to identify and reduce inefficient expenditure, sometimes during budget execution, but also by providing the information required to support robust expenditure analysis.

The Ministry of Finance intends, by August 2018, to close the central government’s NCO bank accounts in commercial banks and begin processing the associated transactions via the Treasury Single Account. This change is fully consistent with the concept of managerially autonomous NCOs, but increases the inventive for them to comply with the existing budget rules. The government also intends to introduce commitment controls to NCOs in 2019.

Armenia’s treasury system has served the country well since its inception in the mid-1990s. Notably, it was critical to managing the consequences of the severe economic downturn in 2009. All donor organizations financing projects in Armenia have already moved their bank accounts from commercial banks to the Treasury. The decision to extend the treasury system to NCOs therefore represents one further step in a process of development that goes back many years.

 

[1] First Deputy Minister of Finance, Republic of Armenia.

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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