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May 17, 2010

Crisis – An Opportunity for PFM Reforms?

Posted by Duncan Last 

The current crisis has exposed PFM weaknesses in both advanced and developing countries, and has put even the strongest budget system to test. The tighter fiscal environment forces Ministries of Finance (MoFs) to look more closely at, on the one hand, how efficiently revenues are collected, and, on the other hand, how well those resources are prioritized, allocated, and spent. The MoF’s ability to respond to these pressures depends on the quality and timeliness of information at their disposal and responsiveness of the underlying PFM systems. However, particularly (though not exclusively) in low-income countries, all too often the information needed to analyze current spending is neither timely nor adequate, frustrating the MoF’s ability to make critical fiscal decisions in a crisis. Its ability to control and tighten spending, even if the information is available, may be further hampered by ineffective processes and procedures, bureaucratic rigidities, and bad practices. The consequence is often loss of macro-fiscal control, deterioration of budget credibility, recourse to unsustainable borrowing, and build-up of arrears.

For many low-income countries, the current crisis is a largely external event that buffeted their fragile, open economies through second-round effects associated with contraction in advanced country demand for their raw materials, be they natural resources or agricultural products. Many of these countries had been counting on the revenues generated as a result of the strong demand from the global economy over the last decade to fund much needed development spending. Now, a growing number are faced with serious fiscal challenges and a need to cut back spending. While political pressure may assure countries of some compensatory funding from donors and multi-lateral institutions, the fiscal impact of the crisis on OECD countries (where debt ratios are set to rise to record levels as a result of stimulus spending) may see domestic or regional pressures take precedence over a further increase in development assistance.

Since low-income countries may well have to weather this storm partly through their own efforts, it will be important to focus on changes to the PFM systems which could make a real difference and deliver savings.  Based on my experience of 20 years of seeing crises come and go in countries across Africa, Europe, and the Pacific, there is a lot MoFs can do to make their PFM systems more robust and responsive to these pressures.  A full list of possible measures are summarized below.

Download Box Summary 

In the short term, the MoF can start by taking a pro-active role in getting buy-in from Cabinet members for firm and sustainable fiscal objectives against which spending priorities can be systematically assessed. To be effective this measure would require the MoF to undertake more questioning of spending before it takes place – does it meet the criteria for priority spending? Is the proposed spending efficient and cost effective? The crisis also provides an opportunity/justification to clean up payroll and pension lists, to introduce pre-emptive measures aimed at avoiding arrears, and to strengthen treasury control over cash. Improved macro-economic and fiscal monitoring, as well as regular, timely and accurate fiscal reporting, are pre-requisites for MoF decision making in these trying times.

In the medium term, the crisis can provide the impetus to move towards general government reporting (where this is not already the case), to ensure routine monitoring of fiscal spending irrespective of the level at which it is taking place. This will focus attention of the often hidden area of growing numbers of semi-autonomous agencies and extra-budgetary funds, whose original purpose may no longer be relevant and/or whose earmarked resources may now exceed their requirements. An important step would be to bring them within a Treasury Single Account arrangement, removing their independent banking arrangement and hold over idle cash while retaining the degree of financial operations autonomy that may still be justifiable. Introducing more rigorous and systematic costing could also be brought in over the medium term, which would alleviate the usual pressure of line ministries demanding incremental budgets. Finally, taking the opportunity to improve and broaden access to budgetary information and documentation can help both in explaining the need for budgetary cuts, and, in due course, in developing greater consensus over spending plans.

In the long term, the management and delivery of large volumes of information, which most countries struggle with, can only be achieved through appropriate and systematic computerization of financial transactions and processes. The crisis can provide an opportunity to review existing arrangements in this area or strengthen resolve within government to move forward with effective computerization. In many countries the crisis has highlighted weak capacities, particularly in accounting and auditing, which will take time to reverse through medium to long-term training programs.

These are some initial thoughts, to which others are invited to add their views and ideas. I prepared the attached presentation for a CABRI seminar in Dakar, Senegal in April 2009, which explores the above measures in greater depth.

Download PFM Measures in Response to Global Financial Crisis

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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