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Public Financial Management and Corruption

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Title: Public Financial Management and Corruption


1
Public Financial Management and Corruption
  • Bill Dorotinsky
  • Shilpa Pradhan

May 2, 2006
2
Outline
  • Introduction
  • Definitions and Scope
  • Patterns of Corruption and PFM Systems
  • Measuring Corruption
  • Entry Points and Mitigating Measures

3
Rome 70 BCE
From Governors trial on corruption charges
His conduct of his naval affairs was not to
defend the province at all. No, it was to extract
personal financial profit out of what was meant
to be expended on the fleet. The power of your
position..was enormous.Yet it never.crossed
your mind that these assets had not been placed
in your hands just to make it possible for you
to treat any and every mans possessions as your
own personal loot. Conscripted sailors could
buy out their service requirements, and the
Governor simultaneously pocketed the pay and
sustenance allowance for the sailor.
Example of Theft of public funds, bribery, abuse
of office
Cicero, Against Verres
4
Introduction
  • Governments throughout history have had a public
    financial management (PFM) system
  • And corruption has always been a concern
  • The development of PFM systems over time have
    been largely due to concerns over waste, fraud,
    and abuse

5
Definitions
Public financial management (PFM)
Corruption
  • Diversion of public resources for private
    (personal or other non-public) gain, or abuse of
    public authority and position for private gain
  • Corruption is not necessarily
  • Political leveraging
  • Leaky Bucket
  • Diversion of public resources from intended to
    another public purpose
  • All phases of public resource acquisition,
    safeguarding and use
  • revenue collection and administration (tax,
    customs, and non-tax revenue)
  • cash management and banking
  • debt issuance and management
  • asset management (physical and financial)
  • budget preparation
  • budget execution
  • accounting and reporting
  • internal control and audit
  • procurement
  • external audit and legislative oversight.

6
Basic PFM Functions
Function
Resource Acquisition
Resource Safeguarding
Resource Application
  • taxes (cash, in-kind)
  • non-tax revenue (fees, asset sales)
  • debt (bonds, loans)
  • labor
  • land
  • Treasury
  • National Bank
  • Warehouse
  • Holding site (e.g. grainery)
  • Investments
  • Personnel
  • Goods and Services
  • Capital
  • Debt Repayment
  • Direct Transfers


Issues
  • Skimming Receipts
  • Under Collection
  • Write-offs of receivables
  • Lending
  • Abetting draft dodging
  • Staff for personal use
  • Under pricing assets
  • Theft of assets
  • Contract steering
  • Fraudulent invoices
  • Ghost workers
  • Kick-backs
  • Ghost beneficiaries
  • Substandard goods
  • Over pricing goods, services
  • Theft
  • Lending
  • Skimming interest
  • Favoritism in fund placement
  • Unrecorded interest or delayed transfer of
    resources to Treasury

Corruption
  • Tax Collection
  • Customs
  • Debt Management
  • Draft Office, Ministry Requisition Office
  • Treasury, MoF
  • General Services
  • Spending Ministries
  • National Bank
  • Land management agency
  • Treasury, MoF
  • General Services
  • Spending Ministries
  • Civil Service Admin
  • Public Works Admin
  • Procurement Office

Agents

7
Basic PFM Functions (2)
Function
Resource Safeguarding
Resource Application
Oversight and Accountability
  • Internal Control, Management Control
  • Internal Audit
  • External Audit
  • Accounting, Reporting
  • Planning
  • Treasury
  • National Bank
  • Warehouse
  • Holding site (e.g. grainery)
  • Investments
  • Personnel
  • Goods and Services
  • Capital
  • Debt Repayment
  • Direct Transfers

Issues
  • Theft of assets
  • Contract steering
  • Fraudulent invoices
  • Ghost workers
  • Kick-backs
  • Ghost beneficiaries
  • Substandard goods
  • Over pricing goods, services
  • Theft
  • Lending
  • Skimming interest
  • Favoritism in fund placement
  • Unrecorded interest or delayed transfer of
    resources to Treasury

Corruption
  • Bribery
  • Favoritism
  • Treasury
  • Min Finance
  • Min Planning
  • Internal Auditor
  • External Auditor
  • Legislature
  • Pres./PM-Cabinet
  • Procurement Office
  • Treasury
  • General Services
  • Spending Ministries
  • National Bank
  • Land management agency
  • Treasury
  • General Services
  • Spending Ministries
  • Civil Service Admin
  • Public Works Admin
  • Procurement Office

Agents
8
Basic PFM Cycle
9
There are many weeds in the untended garden
  • PFM system nature and quality will largely
    determine the ease with which public corruption
    can occur
  • and also the risk and personal cost of detection.
  • PFM system conditions enable corruption to
    flourish
  • PFM systems where corruption can flourish are
    characterized by high informality and the absence
    of an ethos of professionalism in the public
    finance cadre

10
Better PFM systems have lower perceived corruption
11
PFM Characteristics Enabling Corruption
  • absence of rules and procedures for routine or
    annual processes (e.g. budget formulation,
    execution), or general disregard for rules and
    procedures where they exist
  • absence of records, record-keeping, for key
    transactions, or inability to access the
    information in a timely way for management
    control or audit
  • highly inaccurate, untimely, non-user friendly
    reporting, recording, or absence of procedures
    for testing accuracy
  • absence of controls on spending, goods, stores
    and equipment, or absence segmentation of key
    duties/roles in expenditure chain (the latter
    increases the opportunity for individuals to
    engage in theft or corrupt practices, while
    segmentation requires collusion and raises risk
    of detection and prevention)
  • excessively complex or rigid procedures that
    impede routine program operations and create
    incentives for special spending procedures or
    breaking rules
  • absence of sound, time-bound, explicit plans for
    using funds (budgets, necessary for management
    control and accountability)
  • excess fragmentation of funds, procedures for
    accounting, reporting (making information
    consolidation, reporting and management control
    difficult)
  • absence of staff or qualified public finance
    staff, or adequate training, no standardization
    of PFM positions across government (no cadre of
    PFM staff or professional ethos, inadequately
    compensated staff)

12
PFM System Principles Countering Corruption
  • Comprehensiveness
  • - include all revenue and expenditure, all
    agencies, in common treasury, reporting,
    budgeting systems
  • Accuracy
  • record actual transactions and flows, report
    accurately
  • Annuality
  • funding allocations, budgets, and reports should
    cover a defined (stated) period of time (e.g. one
    year budget, multi-year forecasts) (with explicit
    accounting standards)
  • Authoritativeness
  • only spend as authorized by law (budget and
    finance laws, statutes authorizing ministries and
    programs), and according to established
    procedures
  • Transparency
  • information on spending is public, timely,
    understandable rules are explicit, and publicly
    available

13
Measuring Corruption Potential
  • Directly measuring corruption is not feasible
  • no direct measures of bribery, asset theft,
    contract steering, cash theft, etc.
  • External audit capture only some corrupt
    practices
  • PFM system quality can be measured and monitored
  • There is now an internationally-accepted set of
    actionable PFM performance indicators (PEFA)
  • See www.pefa.org
  • PFM system quality assessment measures corruption
    potential

14
PFM PEFA Indicators
  1. Transparency of taxpayer obligations and
    liabilities
  2. Effectiveness of taxpayer registration and
    assessment
  3. Effectiveness of tax collection
  4. Predictability of funds for commitment
  5. Recording/management of cash, debt and guarantees
  6. Effectiveness of payroll controls
  7. Competition, value for money and controls in
    procurement
  8. Effectiveness of internal controls
  9. Effectiveness of internal audit
  1. Orderliness in annual budget process
  2. Multi-year perspective
  1. Accounts reconciliation
  2. Resources received by service delivery units
  3. Quality and timeliness of in-year budget reports
  4. Quality and timeliness of annual financial
    statements
  1. External audit
  2. Legislative scrutiny of budget
  3. Legislative scrutiny of external audit reports

Cross-cutting Indicators
  1. Aggregate expenditure out-turn
  2. Composition of expenditure out-turn
  3. Aggregate revenue out-turn
  4. payment arrears
  5. Classification of the budget
  1. Comprehensiveness of information
  2. unreported government operations
  3. Transparency of inter-governmental fiscal
    relations
  4. Oversight of aggregate fiscal risk
  5. Public access to key fiscal information

15
Over-all PFM System Features
PFM Indicators and Corruption
Indicator Corruption Relevance
PI-5 Classification of the budget Enabling factor through transparency of government spending. A good budget classification enables good information on government activities for costing and budgeting, for planning, for monitoring and control of spending, and for auditing and accountability.
PI-6 Comprehensiveness of information included in budget documentation The more information included in budget documents (greater transparency), the greater the ability of stakeholders to evaluate budget credibility, policies and intentions, and hold Government to account ex poste.
PI-7 Extent of unreported government operations A highly relevant issue for enabling corruption is the absence of reports on spending for some types of operations, frequently a characteristic of extrabudgetary funds, state-owned enterprises, and autonomous agencies. Related to this is the use of different accounting and auditing systems that make consolidation of accounts difficult, and opens reporting to errors.
Honduras 14 of spending was recorded ex ante
and ex poste as assignaciones globales
16
PFM Indicators and Corruption
Budget Execution - Expenditure
Loan guarantees were non-transparent in
Macedonia, issued by the Minster of Finance.
Macedonia changed its budget law, requiring all
guarantees to be approved by Cabinet and
Parliament. Requests for guarantees stopped.
Indicator Corruption Relevance
PI-16 Predictability in the availability of funds for commitment of expenditures Predictable flow of funds to spending units is critical for plan fulfillment and accountability, and unpredictable funds flow leads to arrears and opportunities for discretionary decision-making and corruption in payment of government liabilities. Cash flows should be forecasted and monitored, and variations from predictions understood. Information needs to flow regularly to spending units on fund availability for program operations and fulfillment of plans.
PI-17 Recording and management of cash balances, debt and guarantees Absent records of debt incurred, there is no way of monitoring total debt and any irregular debt issued outside formal procedures, or debt improperly contracted or contracted at excessive rates. A formal system, with authorized officials, for contracting debt and issuance of guarantees is critical for accountability and minimizing opportunities for corruption or favoritism. Consolidation of cash balances is important for efficient cash management, and also safeguarding cash from improper transfer, theft, or lending. A single treasury account simplifies recording of payments and monitoring for irregularities, enabling better management control and accountability.
PI-18 Effectiveness of payroll controls Absent payroll controls, funds can easily flow to fictitious employees, and nepotism and favoritism can be rampant. Important elements include the degree of integration and reconciliation between personnel and payroll records to detect anomalies, timeliness of changes to personnel records and payroll records, effective internal controls in personnel and payroll record management, and payroll audits to identify control weaknesses and ghost workers.
17
A Framework for assessing reform strategies
18
Key Challenges
Type of States Key Challenges
Fragile States (Guinea-Bissau, Haiti, Equatorial Guinea) Low political leadership and managerial commitment to anti-corruption reforms Absence of rules and regulations (authoritativeness) governing the budget process Poor quality fiscal information Civil Society is not engaged in the budget process Absence of internal and external oversight
Reforming States (Ghana, Armenia) Improving the accuracy of fiscal information Disregard for rules governing the budget process Limited transparency of budgetary information Ineffective internal and external audits Sustaining political commitment to reform
Capable States (Brazil, South Africa) Increase performance orientation in public spending, increase coordination and integration between central institutions Strengthening transparency, external audit and external scrutiny of public spending Strengthening accountability and enforcement
19
High Level Focus Sequencing of Interventions
  • Implement complex PFM systems reforms with a
    performance orientation
  • Strengthen transparency, accountability and
    enforcement
  • Sustain commitment for reforms

Capable States
Reforming States
  • Refine basic PFM systems
  • Progressively introduce complex PFM System
    reforms
  • Strengthen commitment for AC reforms

Fragile States
  • Build internal demand for information
  • Develop basic PFM systems

20
Fragile StatesAssessing Detail Interventions
  • Key Issues that increase the risk of corruption
    in budget formulation
  • Adhoc budget formulation and delays in budget
    formulation,
  • Limited or no involvement of key actors in
    budget formulation
  • Incomplete budget classification, budget
    classification system does not facilitate a
    direct link between programs and executing
    agencies and does not conform to international
    standards
  • Budget not comprehensive and budget documents are
    incomplete

Budget Execution
Budget Formulation
Accounting and Reporting
External Audit and Oversight
  • Suggested mitigating measures
  • Increase internal demand for information
  • Strengthen the ability of the PFM system to
    capture the budget information
  • Authoritativeness Review the legislative
    framework for budget formulation to establish a
    timetable, with clear mandates for key actors
    (Political leadership commitment is key)
  • Comprehensiveness
  • Annual budget document to include all sources of
    revenues, expenditures
  • Strengthen budget classification economic,
    administrative and functional

21
Fragile StatesAssessing Detail Interventions
Authoritativeness in budget execution Establish
budget execution procedures
  • Key Issues that increase the risk of corruption
  • Cash management on a day to day basis
  • Absence of clear rules and controls during budget
    execution
  • Absence of payroll control
  • Absence of internal audits

Budget Execution
Budget Formulation
Regular reconciliation of Government accounts
with bank data Regularity, timeliness of reports
Accounting Reporting
Establish external audit capacity
External Audit and Oversight
  • Key Issues that increase the risk of corruption
  • Irregular reconciliation of Bank accounts with
    government accounting data, existence of multiple
    accounts or the Single Treasury Account is not
    respected
  • Accounting books remain open for a long time
    after year end
  • Fiscal reports not being produced in a timely
    manner, are inconsistent and incomplete

Key Issues that increase the risk of
corruption External audits weak, non-existent or
politically captured
22
Reforming StatesAssessing Detail Interventions
  • Budget formulation
  • Budget regaining its role as a primary resource
    allocation mechanism, budget increasingly
    realistic with actual expenditures closer to
    budgeted but budget still not a policy
    instrument
  • Comprehensiveness of the annual budget document
    increasing
  • Extent of unreported government operations is
    still high
  • Budget classification may not be along
    recommended economic, administrative and
    functional (including sub-functional lines)
  • Public Access to key budget information is limited

23
Reforming StatesAssessing Detail Interventions
  • Key Issues increasing the risk of corruption in
    budget execution
  • Weak cash planning and management (planning not
    based on realistic budgetary requirements of line
    ministries, no systematic review of cash
    forecasts) affecting predictability of funds for
    commitment
  • Weak internal controls during budget execution
    (controls on commitments may be poor or
    disregarded, weak controls on payments)
  • Weak quality of internal audits not conforming to
    international standards
  • Weak coordination between key actors during
    execution

Budget Execution
Budget Formulation
Accounting and Reporting
External Audit and Oversight
  • Suggested mitigating measures
  • Recording and management of cash balances, debt
    and guarantees
  • Strengthen internal controls that manage risks,
    are comprehensive and are widely disseminated and
    understood
  • Strengthen internal audit process

24
Reforming StatesAssessing Detail Interventions
  • Key issues increasing the risk of corruption
    (Accounting and Reporting)
  • Accounting procedures are not uniformly observed
    during record keeping
  • Weak internal accountability for not conforming
    with accounting procedures
  • Reconciliation is not regular and comprehensive
  • Inaccurate and inconsistent in-year budget
    reports
  • Inaccurate and inconsistent annual statement

Budget Execution
Budget Formulation
Accounting and Reporting
External Audit and Oversight
  • Suggested mitigating measures
  • Streamline, disseminate and train staff on
    accounting principles
  • Incremental implementation of FMIS
  • Regularity in reconciliation of Bank accounts
    with government accounting books
  • Regularity and reconciliation of suspense
    accounts and advances
  • Consolidated annual statements are prepared which
    include full information on revenues,
    expenditures and financial assets and liabilities

25
Capable StatesAssessing Detail Interventions
  • Budget Formulation
  • Generally high capacity of PFM systems and
    reliable tracking of public expenditures, well
    established and respected legal framework for the
    budget process, budget fairly comprehensive,
    integrated budgeting
  • Budget Execution
  • Fairly high adherence to well-developed Internal
    controls, good cash planning and management,
    internal audits functioning but may be limited to
    financial and compliance audits.
  • Accounting and Reporting
  • Accounting standards adhere to established
    standards, timely accounts reconciliation,
    regular and accurate fiscal reports produced and
    made available to all key internal actors, and
    may be available to civil society
  • There is room for improvement in the basic PFM
    systems and processes..

26
Capable StatesAssessing Detail Interventions
  • Key issues increasing the risk of corruption
    (External Audit, Oversight and Accountability)
  • External audit institutions are not independent
    and do not have clear mandate
  • Scope and coverage of external audit is limited
  • Audit reports not submitted to the parliament
  • Ineffective follow up of audit recommendations
  • Civil society engagement in budget formulation
    but not in audits

Budget Execution
Budget Formulation
Accounting and Reporting
External Audit and Oversight
  • Suggested mitigating measures
  • Authoritativeness Legislative mandates for
    independent external audit institutions with
    clear mandates, coverage and scope
  • Develop clear and timely follow up procedures
  • Timely submission of audit reports to the
    parliament

27
Back to the Basics..
  • Mitigating the risk of corruption in public
    expenditures, is as much about strengthening
    technical capacity of PEM systems as about
    changing institutions, both formal and informal,
    within which the system operates.
  • Improvements to PEM system performance occur in
    incremental steps with the fundamental elements
    of expenditure management strengthened before
    more complex reforms can be undertaken
  • Sustaining reforms requires (i) commitment from
    stakeholders in the budgetary process, in
    particular the implementers of the budget, and
    (ii) capacity of key budgetary departments.
  • Reforming the PFM systems can be a large and
    complex undertaking which requires strengthening
    the interlinkages between the different elements
    of the system and the principles underlying the
    PEM systems.

28
  • Q A
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