The Centrality of Public Finance Policy & Management in Development

1. The Centrality of Public Finance Policy & Management in Development Presented by: Sanjay Pradhan Director Public Sector Governance Board Presented to: Public Finance Analysis & Management Course May 1, 2006 Washington, DC The WorldBank

2. Governance and Development: Lessons of Global Experience • An effective state is crucial for growth and poverty reduction: • Building a sound investment climate for growth (macroeconomic stability, rule of law, regulatory system, physical & financial infrastructure) • Empowering people to make growth inclusive through effective delivery of basic services (education, health, social protection) • State effectiveness requires a two-pronged strategy: • Match role of the state to its institutional and fiscal capability – including level and composition of public finances • Strengthen state capability– both capacity and accountability in state functions, including public finance management

3. The Centrality of Public Finance System for Good Governance and Development A well functioning PF system is crucial for: • Enabling the state to finance & deliver key public services and infrastructure to achieve MDGs • Achieving three levels of fiscal outcomes: • aggregate fiscal discipline • allocation of resources according to strategic priorities • efficient and effective use of public resources • Ensuring transparency and accountability of a government to its citizens • Providing assurance to donors that their funds are being used for the purposes intended

4. Important benefits from using country's own systems -- but need to strengthen capacity and accountability of PF The new international aid architecture emphasizes the principle of mutual accountability Increasing recognition that "ringfencing" projects will not work Scaling up of donor assistance requires sound PF systems and reduced corruption in partner countries Recent global developments have put PF systems in the spotlight

5. Two Aspects of Public Finance Systems • Focus on Public Finance System includes: • Efficiency, equity & sustainability of public expenditures and how they are financed (“numbers”) • Efficiency & effectiveness in how public finances are raised, allocated and utilized (“institutions”) • Two Aspects of PF Systems: • Public Finance Policy: Aggregate fiscal stance, level and composition of public expenditures & revenues • Public Finance Management: Institutional mechanisms that ensure fiscal discipline, allocative and operational efficiency

6. Key Issues in Public Expenditure Analysis • Public Expenditure Analysis: • Rationale for Government Intervention: Market Failure, Redistribution • Mechanisms for Intervention: Regulation, Subsidy, Public Provision • Cost-benefit & Cost-effectiveness of Expenditure Allocations • Some Issues: • Data & Methodological Limitations of cost-benefit analysis: Analyzing broad allocations of spending • Benefit valuation & Intersectoral Allocations • Growth impact of expenditure programs • Generating Fiscal Space for infrastructure & social programs

7. Public Finance Analysis, ‘Fiscal Space’ & Governance: Diamond • Fiscal policy– level & composition of public finance –is important not only for stability but also crucially forgrowth • Governments have 4 basic alternatives for additional fiscal space – revenue, grant aid, borrowing & efficiency savings – as shown in the fiscal diamond • Improved governanceis crucial for all dimensions “Fiscal Space” Increase of Grant Aid in % GDP 5 4 3 2 Improved Improved Revenue Effort in % GDP 1 Expenditure 0 Efficiency in % GDP New Borrowing in % GDP

8. Challenges in Public Finance Management • PFM systems in many countries are still very weak • Governance and corruption indicators reveal major challenges • Fragmentation of donor approaches and overlapping diagnostics

9. Development Effectiveness Risk Sound PF System can ensure that budget systems, including donor supported projects, achieve development goals Reputational Risk Fiduciary Risk Sound PF systems can ensure that large amounts of aid in countries do not tarnish donors’ reputation Sound PF systems can ensure that donor resources are used for the purposes intended Robust PF System can mitigate key risks from corruption

10. 19 Relative Need for Upgrading HIPC PEM Systems 15 GNB (0) GMB (3) (Number in Paranthesis indicate total of benchmarks met) ZMB (3) COD (3) BOL (5) BOL (4) CMR (4) MDG (4) 9 ETH (6) MOZ (4) GMB (5) STP (4) GHA (1) GIN (5) GIN (5) MWI (5) MDG (7) NER (5) 5 BEN (8) MWI (7) NIC (6) BFA (8) MRT (7) CMR (7) GUY (8) MOZ (5) ETH (7) 2 HND (8) NIC (5) GHA (7) MLI (8) BEN (8) 0 NER (3) HND (7) RWA (8) RWA (8) STP (4) SEN (7) TZA (8) UGA (8) SEN (4) SLE (7) TZA (11) TCD (8) BFA (9) ZMB (3) TCD (7) MLI (12) UGA (8) GUY (10) Little Upgrading Required Some Upgrading Required Substantial Upgrading Required Source: Fund-Bank AAP database 2001 2004 Majority of PEM Systems Still Require Substantial Upgrading

11. Main elements of a ‘strengthened approach’ to PFM PFM Strengthened Approach: • A country-led agenda – including a PFM reform strategy and action plan • A donor coordinated program of support – coordinated, coherent, multi-year program of PFM work that supports and is aligned with the government’s PFM strategy • A results focus with objective performance measurement

12. The Performance Measurement Framework Performance Measurement Framework • PFM Performance Report • Integrative, narrative report based on indicators using observable, empirical evidence. • Updated periodically, depending on country circumstances and operational needs • Contributes to coordinated donor assessment • Feeds into government-donor policy dialogue • A standard set of high level indicators • Widely accepted but limited in number • Broad measures of performance relative to key PFM system characteristics • Enabling credible monitoring of performance and progress over time Credible results measurement framework with standardized reporting should help shift focus to capacity building

13. Trends in PFM can be monitoredNet Change in HIPC Tracking Indicators, 2001-2004 8 7 7 6 6 6 5 4 3 2 2 1 1 0 Decline in 3 Decline in 1-2 No change Improvement Improvement categories categories in 1-2 in 3 or more categories categories

14. PFM operations perform satisfactorily regardless of governance starting point,but ACSR operations are successful in stronger settings OED Evaluated PSGB-mapped projects with PFM (without ACSR) and ACSR (without PFM) primary themes, FY00-FY05

15. Improving PFM – A Platform Approach Cambodia – Sequence of Platforms Platform 4 Integration of accountability and review processes for both finance and performance management Enables more accountability for performance management Enables focus on what is done with money Platform 3 Improved linkage of priorities and service targets to budget planning and implementation Broad Activities Enables a basis for accountability Platform 2 Improved internal control and public access to key fiscal information to hold managers accountable • Full design of FMIS • Develop IT • Management • Strategy • Initial design of asset register Platform 1 A credible budget delivering a reliable and predictable resource to budget managers Broad Activities • Re-design budget cycle (e.g. MTEF) • Pilot program based budgeting & budget analysis • Further fiscal • Decentralization Broad Activities • Re-design • Budgeting • Classification system • Initial design of FMIS for core business processes • Strengthen external audit and define internal audit function Broad Activities • Integration of budget (recurrent & capital budgets) • Strengthen macro and revenue • Forecasting • Streamline spending processes Source: See “Study of measures used to address weaknesses in Public Financial Management systems in the context of policy-based support,” by Peter Brooke, at www.pefa.org

16. Reforming PFM Systems:Strengthen Links with Broader Accountability Systems Citizens/Firms • Political Institutions • Political Parties & Leadership • Social & Econ Interest Groups Executive-Central Govt • Oversight Groups in Society • Civil Society Watchdogs • Media • Business Associations • Check & Balance Institutions • Parliament • Judiciary • Oversight institutions Citizens/Firms Citizens/Firms PFM Systems Service Delivery & Regulatory Agencies Subnational Govt & Communities Citizens/Firms

17. Strengthening Demand for Public Financial Accountability Civil Society Oversight; transparent, competitive procurement (Slovakia) Transparent, competitive e-procurement (LAC) Strengthening Supreme Audit Institutions (Hungary) Strengthening Public Accounts Committees of Parliament (Kenya, Ghana, Zambia -- AFR) Procurement oversight by CSOs (Philippines) Accountability, Transparency & Integrity Project (Tanzania) Strengthening Public Accounts Committees of Parliament (India) Participatory Budgeting, Puerto Alegra (Brazil) Public Expenditure Tracking & Information Campaigns (Ghana, Madagascar, Mozambique, Peru, Senegal, Tanzania, Zambia) Key Issue: Instrument to Support Demand-side Interventions

18. Philippines: Procurement ReformMobilizing Support & Oversight by Civil Society Transparency and Accountability Network (20+ member groups) Walang Ku-Corrupt Movement (Youth) Drew other civil society groups into the advocacy efforts and coordinated the activities PAGBA & AGAP (w/in Gov’t) CBCP (Church) Philippine Contractors Association (private sector – main stakeholder) Local chambers of Commerce (Private sector)

19. Radio: The swath & the dagger TV: Raising the ante Print Media: Amplifying the problem Advertising: Creating a ‘brand name’ The Media Campaign:The Communications Strategy Reaching Out

20. Media,Transparency, and Combating Corruption “BIR Officials Amass Unexplained Wealth”By Tess Bacalla, Philippine Center for Investigative Journalism Owner: Regional Director in the Bureau of Internal Revenue; forced to resign; currently facing corruption charges; other officials suspended, also facing charges CAR MODEL BENEFICIAL OWNER REGISTERED OWNER Nissan Patrol Edwin Abella Sulpicio S. Bulanon Jr. BIR Reg'l Director, 1817 Jordan Plains Subd., Quezon City Quezon City (listed address of Abella in his SALs) Merrick Abella (son of Abella) Suzuki Grand Vitara Ditto 24 Xavierville, Loyola Heights, Q uezon City Nissan Cefiro Ditto Elizabeth S. Buendia asa, Quezon City 152 Road 8, - BMW Lucien E. Sayuno Limtra Dev. Corp. BIR Reg'l Director, Zone 4, Dasmariñas, Cavite Makati City BMW Ditto Marie Rachel D. Mene c/o Metrocor and Holdings, G&F, Makati City Honda Accord Danilo A. Duncano Daniel Anthony P. Duncano BIR Reg'l Director, 2618 JP Rizal, New Capital Estate, Quezon City Quezon City Mitsubishi L200 Corazon P. Pangcog Alberto P. Pangcog (husband) Asst. Reg'l Director, B2 L23 Lagro Subd., Quezon City

21. Strategic directions for PF work for future … to integrated, harmonized, PFM assessments From fragmented, overlapping PFM diagnostics … … to more systematic PF policy analysis From ad hoc PE analysis … … to capacity building & improving PF performance From diagnosis & producing reports… … to strengthening demand-side pressures & accountability systems From technocratic, supply-side interventions … to integrated country PF teams From silos of separate EP, FM, Procurement, PSG teams

22. Broadening of the PF Agenda • From PREM preoccupation in early years of PERs to broad cross-network interest • PFAM course is offered in collaboration with HD, INF and AGR networks, as well as participation of IMF • PEFA Indicators developed in partnership between FM, Procurement and PREM within Bank, and with PEFA donor partners • Integrated Public Finance Thematic Group • Finally: Thanks to Course Organizers: • Anand Rajaram, Bill Dorotinsky, Tuan Minh Le as thematic leaders • Excellent supporting work by Juliet Teodosio, Zhicheng Li Swift, Nataliya Biletska

23. Discussion

24. EXTRA SLIDES

25. Anticorruption has many dimensions Bank operations focus only on some • Effective Public Sector Management • Ethical leadership: asset declaration, conflict of interest rules • Meritocratic civil service with adequate pay • Transparency & accountability in budget mgnt • Transparent, competitive procurement • Anticorruption in sectors • Political Accountability • Political competition, broad-based political parties • Transparency & regulation of party financing • Disclosure of parliamentary votes • Institutional Checks & Balances • Independent, effective judiciary • Legislative oversight (PACs, PECs) • Independent oversight institutions (SAI) • Global initiatives: UN, OECD Convention, anti-money laundering GOOD GOVERNANCE • Private Sector Interface • Effective, streamlined regulation • Transparent public-private dialogue • Break-up of monopolies • Transparency in Extractive Industries • Corporate governance • Collective business associations • Civil Society & Media • Freedom of press • Freedom of information • Civil society watchdogs • Public hearings of draft laws • Report cards, client surveys • Participatory country diagnostic surveys • Local Participation & Community Empowerment • Decentralization with accountability • Community Driven Development (CDD) • Oversight by parent-teacher associations & user groups • Beneficiary participation in projects Primary focus of WB operations in governance

26. Control of corruption, 2004: World map Purchasing of public positions Proportion of firms affected by capture of … Percent of public officials believed to have purchased their positions 30 Parliamentary Votes Colors are fromDark Red- the worstbottom 10th percentile rank toDark Green- the best above 90th percentile. Source: Governance Matters IV: Governance Indicators for 1996–2004, D. Kaufmann A. Kraay, and M. Mastruzzi (2005) 25 Presidential Admin. Decrees Source: Kaufmann, Pradhan, Ryterman (1998) Public expenditure tracking (Uganda) Civil Court Decrees 20 Public info campaign (1999) 15 10 5 Source: Reinikka and Svensson (2004) Hungary Estonia Russia Ukraine Cutting-edge diagnostics help ‘unbundle’ corruption & identify entry points

27. Development Effectiveness Risk That corruption in weak PFM systems will undermine the achievement of development goals in general and in donor supported projects Reputational Risk Fiduciary Risk That large amounts of aid in countries with high corruption & weak PFM systems will tarnish donors’ reputation That donor resources will not be used for the purposes intended Robust PFM can mitigate key risks from corruption

28. Improvements in Satisfaction: public Services in Bangalore 100 94 96 92 85 90 78 77 80 73 73 73 67 70 60 47 % satisfied 50 42 41 34 34 40 32 32 25 30 16 14 20 9 6 5 4 10 1 n/a n/a 0 Police Electricity City council Telephones Public buses Water supply Land authority Public hospitals Transport authority Agencies 1994 1999 2003 Source: Public Affairs Committee, India

29. Corruption is not just a developing country problem Percentage of firms that pay public procurement kickbacks by country of origin of foreign direct investment Source: “Are Foreign Investors and Multinationals Engaging in Corrupt Practices in Transition Economies?” by Kaufmann, Hellman, Jones, in Transition, May-June 2000. Note: Survey Question was “How often nowadays do firms like yours need to make extra, unofficial payments to public officials to gain government contracts?” Firms responding “sometimes” or “more frequently” were classified as paying kickbacks. These figures are subject to significant margins of error and thus should be regarded as approximate.

30. Transparency in Extractive Industries

32. Political Leadership Control Legislative Framework Accountability & Control Guidance Codes of Conduct Professional Socialization Management Coordinating Body Public Service Conditions Ethics Infrastructure

33. Progress in Meeting HIPC Benchmarks (Percentage of benchmarks met by indicator) Source: Fund-Bank AAP database 2005

34. Budget Realism: Is the budget realistic, and implemented as intended in a predictable manner? Accountability and Transparency : Are effective external financial accountability and transparency arrangements in place? Six PFM System Aspects Comprehensive, Policy-based, budget: Does the budget capture all relevant fiscal transactions, and is the process, giving regard to government policy? Control : Is effective control and stewardship exercised in the use of public funds? Comprehensive Fiscal oversight: Are the aggregate fiscal position and risks are monitored and managed? Information: Is adequate fiscal, revenue and expenditure information produced and disseminated to meet decision-making and management purposes? Performance Measurement Framework The PFM performance areas monitored in the framework All represent different aspects of risk to client and Bank funds, projects and objectives