Sub-National Financial Management and Accountability Reforms Experience from Indonesia Asmeen Khan &...

Sub-National Financial Management and Accountability Reforms

Experience from Indonesia

Asmeen Khan & Rajiv Sondhi

Presentation Roadmap

Key features of decentralization in Indonesia– Regulatory Developments and Framework

– Country Profile Defining the Country’s FM Reform Agenda Moving from National to Sub-national levels Some Outstanding Issues at Sub National level The Challenges of Transition The Bank’s approach and response

Key Features of Decentralization

Fundamental and simultaneous transitions – political, economic, fiscal, administrative. Far reaching impact.

‘Big Bang’ Fiscal Decentralization 2001: Laws 22 and 25 in 1999 on Decentralization and Fiscal relations and Law 34 on Regional Taxes in 2000

Expenditure responsibilities for public service delivery decentralized to localities

Laws revised 2004: Some political claw-back. E.g. Ministry of Home Affairs must approve provincial budgets (ex-ante)

Raises some very fundamental issues on administrative capacity, fiduciary management and accountability.

Country ProfileThe Story so far….

32% of overall country’s total budget is SN expenditures.

There has been a substantial decline in overall development spending, despite fiscal consolidation at the centre.

Development budgets remain scattered between the Centre (about half), provinces (14%) and Local Govts. 440 local governments *, average budget of $32.8 million each, population of 470,000, on average spend 34% of budget on development expenditures.

Local Govts. remain highly dependent on fiscal transfers from centre. IG system of fiscal transfers is based on equalizing grant (DAU), shared revenues and taxes and capital grant.

Degree of inequality between regions and provinces is staggering.

Domestic borrowing limited, foreign borrowing needs approval by Ministry of Finance (borrowing less than one half of one percent of GDP)

Own source revenues limited but have doubled in past 4 years !

Data show trend of budget surplus in local governments.

* Kabupaten, Kota

1999-2002

High Dependency on IG transfers

Structure of Local Govt. Revenues

Structure of Local Government Revenue

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

1997 1998 1999 2001 2002

Perc

en

t o

f T

ota

l R

even

ue

Other Rev

Grants

Shared Rev

Ow n-Source

Large increase in level of expenditure

Majority of spending goes to staff

Structure of Local Government Expenditure

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

1997 1998 1999 2001 2002

Perc

en

t o

f T

ota

l E

xp

en

dit

ure

Other

Trd & Trns

Oth Rt

Staff

Poor budget forecasting

Local Government Surplus and Reserves

-2,000

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

1997 1998 1999 2001 2002

Bln

s o

f R

up

iah

Deficit/Surplus

End-of-Period Reserves

Significant increase in surplus and reserves as percentage of total expenditure—16 percent for all sub-national governments (1.2 percent of GDP);

The Country’s PFM Reform Journey

Bank diagnostic work ( PER 2000, CFAA & CPAR 2001-SN FM assessment 2003); on-going policy dialogue.

The National Reform Agenda gets set– White Paper issued by Govt. 2002– New Laws on State Finance, Treasury and Audit (2003,

2004). Implementing regulations being issued in stages.– Budgeting reforms – performance budgeting, GFS,

Accounting Standards.– Modernization of Ministry of Finance– GFMRAP Project to lock in reforms, treasury automation– Audit sector reform recently commenced.

Changing practices may be a bigger challenge, as law enforcement is endemically weak.

Moving Reforms to the DistrictsThe challenge is local, as districts move centre-stage

Political IssuesPolitical Issues

•Evidence of elite capture

•Limited local information

•Some participation

in local decision making

Administrative IssuesAdministrative Issues•Inconsistent legal framework

•Proliferation of regional governments •Limited authority over local civil service

•PFM systems improving, gradually. •Weak local capacity

Institutional IssuesInstitutional Issues•Pressing need for institutional reforms

to support increased responsibilities:–To improve investment climate

–To strengthen governance

–To improve service delivery• Huge variation in regional needs,

capacity and performance

Fiscal TransfersFiscal Transfers•Formula-based DAU,

though limited equalization•Shared taxes fluctuate

and create inequality

DevelopmentImpact

The Financial Management and Accountability BeehiveSome Outstanding Issues at Local Level

BudgetExecution

Planning

&

Budgeting

AccountingReporting

External Audit

Oversight

Public Debt and Asset

Management

Regulatory

Framework

Some Outstanding Issues - Regulatory Framework

BudgetExecution

Planning

&

Budgeting

AccountingReporting

External Audit

Oversight

Regulatory Framework Regulatory

Framework

Legal architecture- Inter Government

fiscal relations


Management

Key National Laws on PFM passed - but many implementing regulations are yet to come out. Implementation handicapped.

Central Regulations are PFM Regulations; links between sectors and between plans and fiscal budgets not well laid out.

Regulatory authorities unclear – between MOF and Home Affairs; Conflicts in some regulations.

Regions not always clear on what their legislative authority is. Few districts have appropriate and comprehensive local legislation or institutional arrangements in place for FM

Although modernized Procurement decree issued (2003), there is no procurement law.

Law enforcement continues to be a major concern.

Limited public consultation on draft local laws or budget process-though required by law

Some Outstanding Issues – Planning and Budgeting

Five year plan lacks targets, priorities or hard budget constraint

Many bank accounts for technical departments, not all revenue reported

Though communities participate in planning activities—disconnect between plans and budgets

Budget realization varies from 80-95%, budgets amended at least once a year, Region’s own revenues exceed targets

Some districts use different expenditure classifications not consistent with GFS classification - difficult to account for costs.

Districts starting to use performance based budgeting – can’t distinguish salaries versus goods and services

BudgetExecution

Planning

&

BudgetingComprehensiveness

Classification

Projection

AccountingReporting

External Audit

Oversight

Regulatory Framework


fiscal relations


Management

Some Outstanding Issues – Budget Execution

Weak cash management – inefficiency from idle funds and pilferage risks;no cash forecasting;

Local revenues collection – arbitrary basis for setting levies, fees, resulting in random and nuisance taxes; no analysis of revenue potential;poor revenue forecasting.

Procurement – weak capacity;collusive practices endemic.No transparency.

Outdated administrative procedures weaken internal controls.

Internal audit agencies at regional and provincial levels cover about 5% of budget, not professionally staffed, seen as punishment posting.

Weaknesses in internal controls over local cash collections

Multiple bank accounts, frequently not reconciled to accounting records.

BudgetExecution

ProcurementTreasury Mgmt

Internal Controls

Planning

&


Classification

Projection

AccountingReporting

External Audit

Oversight



fiscal relations


Management

Some Outstanding Issues – Accounting, Reporting

Cash basis and single entry accounting.

Confusion over accounting standards due to inconsistency between MOF and Home Affairs guidelines

Very weak capacity that do not allow move to improved accounting practices and accrual accounting

Reporting restricted to Budget realization reports.

Timeliness of reporting improving, now legally required within 4 months of year end. But reliability?

BudgetExecution


Internal Controls

Planning &


Classification

Projection

AccountingReporting

StandardsTimelinessReliability

External Audit

Oversight


- Legal architecture- Inter Government

fiscal relations


Management

Some Outstanding Issues – External Audit

Supreme Audit Institution (BPK) is able to cover only 50% of sub-national governments.

Audit Reports not yet publicly disclosed.

Audit mandate primarily to certify Budget Realization Reports of governments. Performance audits not yet developed.

BudgetExecution


Internal Controls

Planning &


Classification

Projection

AccountingReporting




fiscal relations

External Audit

Oversight


Management

Some Outstanding Issues – Oversight

Limited capacity of Local Legislatures to review budgets or review performance

Public disclosure of financial and procurement virtually non-existent. Budget documents difficult to read and accessible.

Civil Society and slow slowly flexing their power

Oversight

BudgetExecution


Internal Controls

Planning &


Classification

Projection

AccountingReporting


External Audit



fiscal relations


Management

Some Outstanding Issues – Public Debt and Asset Management

No consolidated information on regional public assets;

Local Public debt requires central (MOF) approval.

Municipal debt market very nascent

Few formal records on local public debt

Oversight

BudgetExecution


Internal Controls

Planning &


Classification

Projection

AccountingReporting


External Audit



fiscal relations


Management

PFM Reforms Critical Success Factors

(i) Commitment to reform; Supply side vs Demand side - Stimulating the demand for reforms. Role of civil society, media and donors. Change champions.

(ii) Identification of functional reform priorities; thinking small. Which end of cycle to start? Synchronizing with central reforms.

(iii) Adequacy of the roll-out plan and the sequencing of reforms; clearly defining benchmarks and milestones;modular approach. Should reform of budget preparation precede or follow budget execution reforms?

(iv) Adequacy of technical solution; use of technology, aligned with institutional reforms. But change in business processes bigger challenge.

(v) Adequacy of capacity building activities; capacity to absorb and then sustain reforms.

(vi) Realism of short, medium, and long-term cost estimates.

How the Bank has responded in Indonesia: challenges and opportunities

Challenge: How to reorganize and work with 400 plus SNGs with weak capacity, and unfamiliar with the Bank, poor fiduciary environment and incomplete decentralization policy framework

Strategic organization Indonesia CAS FY2004-2007, cross-cutting focus on SNGs

through “multi-sector” local government platform group-estimated lending $400-600 million over current CAS

Coordinated policy advice dialogue and analysis through dedicated decentralization team

Capacity Building Coordinated capacity building program through WBI and

partnership with other donors (DFID, Dutch)

Approach and Response

Continue to consolidate National reform. GFMRAP – APL to lock in reforms at National Level

Sub-national Lens on Country Diagnostic Work Regional PER to provide sub-national component

Cross-sectoral Reform Loans Series of sub-national local governance reform projects with “reform

minded” districts and cities targeting capacity building, TA in procurement, FM, budget transparency and accountability, and improving local investment climate

Sectoral projects which build in governance reform at local institutions (e.g. Water Utilities, Higher Education Institutes)

PFM Measurement Toolkit under development

Sub National Measurement Framework for Good Financial Governance

Measurement framework and toolkit under development Toolkit measure integrity of processes at each stage of PFM spectrum Design will provide ‘Snapshot’ and ‘Trajectory’ Scorecard PFM Toolkit will embed PFM outcomes in a wider sectoral context

Key OutcomesPublic Service Delivery

Reduced CorruptionEffective Governance Structures and Processes

Good Financial Governance

Budget Formulation

ExternalAudit

OversightBudget

ExecutionAccountingReporting

Thank you!

Sub-National Financial Management and Accountability Reforms Experience from Indonesia Asmeen Khan &...

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