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January 15, 2015

PFM Reform: Lessons, Promises and Tears

Cambodia Conferece

Posted by Suhas Joshi and Sandeep Saxena[1]

If you don’t know where you are heading you will not understand why you are walking. This was the key message that emerged from the Asia Regional PFM Conference, held in Phnom Penh, Cambodia on November 25-26, 2014. The event was jointly organized by the Cambodian Ministry of Economy and Finance and the Fiscal Affairs Department of the IMF. Around 180 participants from 15 countries discussed the wide range of PFM reforms undertaken in the region and elsewhere in the world, the reasons behind their success and failure, and the lessons that could be learnt from such failure.

The reforms discussed during the conference include medium-term expenditure frameworks, performance management, fiscal decentralization, treasury modernization, public enterprise reform, IFMIS development, accrual accounting, strengthening the fiscal relationship with local governments, and many others.  While there are some success stories, often ambitious PFM reforms have had to be scaled back due to numerous implementation challenges, capacity constraints, or flaws in reform design. Many of the reforms have been very demanding, and have absorbed large amounts of resources and time. Frequently, the degree of success originally envisaged was not achieved. There was discussion of reform strategies and key challenges faced by policy makers and PFM practitioners in the region. The benefits and limitations of diagnostic instruments, such as the Public Expenditure and Financial Accountability (PEFA) assessments and the IMF’s new Fiscal Transparency Evaluation (FTE), in guiding reforms were also discussed. The focus of the discussions was on learning from the mistakes made, not merely applauding success.

Contextualizing and tailoring reforms to national objectives, context, and capacities was highlighted as the key to success. The Cambodian Minister of Economy and Finance pointed out in his opening speech that reform solutions are neither right nor wrong in an absolute sense. Solutions that suit one country may not be appropriate for another. In the same way, solutions that are appropriate at one point of time may not be suitable at another time. The same message came out during the extensive discussion that followed on the Cambodian “platform approach” to PFM reform.

There was general agreement that countries should avoid overloading the reform agenda and build political ownership for reforms. Reforms are likely to have greater chance of succeeding if the political demands, the technical solutions, and the implementation capacities are aligned with each other. In the absence of political ownership perhaps only technical improvements at the margin are possible. With strong political ownership countries can aim high, but their ambitions should take cognizance of the implementation capacity. Standardized measurement of the outcomes and outputs of PFM reform, using tools such as PEFA and the FTE, can be useful as a guide to defining the reform agenda and can help in building political ownership. The tools, however, should not be used mechanistically.

Sequencing of reforms was seen as essential to set out clear priorities and steps, but there is no single best sequencing strategy. Basic reforms often need to be combined with more advanced reforms; and “hard” reforms need to be accompanied by “soft” measures. Changing PFM structures and frameworks cannot be accomplished without giving thought to the incentives of government officials who work within these structures, and how best to support them. The tendency to oversell benefits while understating costs, combined with a lack of focus on the soft side of the reform process, can easily lead to tears.

Ministries of finance are not usually natural innovators and perhaps are more resistant to large organizational changes than other ministries. Yet implementing better PFM often requires finance ministries to establish a “change culture.” This may involve moving towards better strategic management of macro-fiscal policies and budgets using a multi-year framework, while delegating detailed budget preparation, budget execution, and operational control to line ministries.

Integrating planning, budgeting and monitoring and evaluation (M&E) functions and inculcating a performance culture were seen as the main challenges in introducing performance-based management systems. Strengthening the collection and analysis of fiscal data, together with the development of business intelligence skills were identified as key enabling factors. As with most other reforms, the strategy should focus on building a culture of continuous improvement that will drive innovation and change.

Moving the budget system from a focus on inputs to a focus on outputs and outcomes, together with making budget execution more flexible, has important benefits for line ministries, but also for the ministry of finance. Capacity building in line ministries is an essential complement to the gradual relaxation of input controls. The transition path involves changing both business processes and institutional dynamics. An appropriate balance is required between control and flexibility so that service delivery is enhanced without raising concerns of financial mismanagement. A similarly balanced approach is required when considering the decentralization of fiscal functions from the finance ministry to local governments.

Good governance of state enterprises is essential for promoting their financial health, reducing their burden on the budget, and containing fiscal risk. Such enterprises form a large part of the public sector in many developing countries, and the costs and fiscal risks of operating them are often understated. Conference participants supported the idea of a centrally-managed governance framework for state enterprises to facilitate uniform standards of financial management and an even-handed approach to dealing with interest groups.

Overall, the participants felt that the conference was very timely in the context of the present economic environment that underscores the urgency of responding to the demands on PFM systems. There is clearly a need to take a fresh look at the methods, tools and strategies to strengthen these systems. Countries that are either developing or reviewing their PFM reform strategies found the conference particularly helpful.

The conference ended with a very interesting round table session where the lessons learnt were presented and debated.

The conference papers and other details can be seen at the IMF web site at: http://www.imf.org/external/np/seminars/eng/2014/asiapfm/index.htm.

[1] Respectively, Regional PFM Advisor, South East Asia, and Sr. Economist, Fiscal Affairs Department, IMF.

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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