Achieving the Benefits That Introducing PFM/IC Can Generate and Accounting for the Costs

Abstract

For the PFM/IC reform to be successful an appreciation of the benefits of the reform is essential. These are described in this chapter. These benefits do not arise simply from the technical reforms that accompany the implementation of PFM/IC but rather from the managerial improvements that PFM/IC makes possible. This again emphasises the managerial implications of the reform. Of course, as with any reform there are costs and the sources of those costs are also described. The extent of those costs will depend upon the basis from which the reform is developed and how the reform is to be implemented. If, for example, a well functioning managerial structure already exists then the costs will be less than would otherwise likely need to be incurred. Each country adopting the reform will need to make its own judgement about the benefits and costs of the reform, bearing in mind that costs will need to be incurred ‘upfront’ with the benefits accruing largely over time. This in turn will affect decisions about how those costs are to be financed such as from development aid funds or from ‘own’ budgets, or both.

Adopting PFM/IC creates the opportunity to achieve important benefits. These are explained in this chapter. However, these benefits will only materialise if the political and senior official management of public organisations recognise these benefit opportunities and are determined that they should be achieved. To achieve these benefits the political and senior official levels of management need to recognise that PFM/IC should be treated as fundamentally a management reform. The benefits arise principally from the better quality of management that PFM/IC facilitates.

The application of the reform is not ‘cost free’ and the full range of costs should be identified. They cover a wide range of issues and are about the professionalisation of civil and local government service management. The process of identifying and assessing the costs will help, particularly ministries of finance, to establish the range of issues that need to be considered to apply the reform and perhaps may also help them decide how they wish to proceed or even whether to continue with the reform. Exactly what a particular country’s costs will be depends upon the starting point, that is, what information is currently available and the extent to which the associated managerial arrangements require reform. However, whatever the circumstances a major cost will be an investment in training, not just training in technical matters but in developing the skills of management. Success with achieving the benefits of the reform ultimately depends upon the quality of management. Other factors in assessing the costs include the proposed coverage of the reform (i.e., affecting all public organisations or only some), proposals for the phasing of the reform and the likely time the reform will take to achieve comprehensive application.

10.1 Management and Policy—The Core Factor in Achieving the Benefits of PFM/IC

The PFM/IC reform is not easy to apply. The benefits do not ‘automatically’ emerge and they will mainly only emerge over time. Achieving the benefits is made possible through the development of good quality policy and the actions of managers responsible for the operational delivery of public services which the introduction of PFM/IC facilitates. Policy making is improved because PFM/IC potentially makes available better quality information to policy makers and to the operational managers advising them. Operational managers are enabled to make better quality decisions based upon the financial and performance information that should become available to them. But they need to know how to use that information, including how to motivate their staff to secure efficient and effective delivery of objectives and performance standards and objectives. In other words what becomes available is a combination of performance and financial analytical information to support the political and operational management objectives.

A feature of PFM/IC is effectiveness along with increased transparency and accountability. Effectiveness in expenditure requires that regard is had to the interests of the user of the service being provided, that is, is it relevant to their needs and provided in a manner which is convenient to the user? Effectiveness in income generation, particularly taxable income, depends upon clarity of the income generating policy (especially true for tax policy) and its consistency with government expenditure policies (e.g., fuel duties could be consistent with a government policy to reduce harmful emissions). Tax policy ought not to distort the development of the economy. Effective tax policy often also evolves from wide consultation, something that governments are not necessarily particularly good at. Introducing PFM/IC means that Top management will need effective communication skills to respond to increased parliamentary and civil society scrutiny of operational and tax performance.

None of the available literature on the development of PFM/IC¹ specifically refers to the benefits that can accrue from the reform. The impression given is that the benefits that do arise come from strengthened internal control processes and then largely limited to financial and budgetary controls. The linkage with an enhanced role for management and the controls it needs to deliver objectives and performance standards and objectives is usually not considered. The discussion usually does not extend to the quality of management or the impact of enhanced transparency and accountability.

In describing the opportunities for generating benefits, Sect. 10.2.2. below shows how the focus on management, coupled with the additional financial and performance information required by the development of PFM/IC, creates the possibility to improve the efficiency and effectiveness with which public services are delivered and public resources used. This is central to the achievement of the benefits because it facilitates better quality policy making as well as better quality operational management. The section builds upon comments made in previous chapters of this guide. But to allow those benefits to emerge, budgetary stability is of central importance. Without the implementation of PFM/IC these benefits would not be available.

10.2 The Benefits of the Reform

10.2.1 Budgetary Stability

To achieve the benefits of the reform, one of the most important factors besides the opportunity to improve the quality of policy making and operational management is budgetary stability and its accompanying partner cash flow stability. Budgetary stability means reliability in funding from the ministry of finance to individual ministries and other public organisations. The reality of management in many developing and transition economy countries is that budget funding is unstable (often caused by unreliable forecasts of taxable income) and managers are consequently very often mainly concerned with how to manage with shortfalls in funding and budgetary uncertainty. Such uncertainty effectively prevents management from achieving efficiency and effectiveness and diverts the management focus from achieving objectives. An example of this is from a report into the effectiveness of the Health Sector Services Fund (HSSF) in Kenya. Here researchers from the KEMRI-Wellcome Trust Research Programme and the London School of Hygiene & Tropical Medicine evaluated the HSSF. One key challenge (and there were several) to effective implementation that they identified was delays in receiving funds and arduous financial reporting requirements, both of which affected the ability of facilities to deliver services effectively.² Similarly, a report prepared by US Aid on challenges to ensuring adequate and timely funding for maternal, new born and child health commodities covering Bangladesh, Kenya, Nepal and Uganda identified major bottlenecks that adversely affect financing and therefore access to the required commodities. These bottlenecks included, funds for health commodities were not allocated based on evidence, which leads to inadequate funding or budget allocations, disbursed funds do not always match the allocated funds or budget, delays in disbursement slow commodity procurement and distribution and complex processes for budgeting and financial reporting delay auditing.³

A good annual budget is underpinned by at least a realistic annual plan. Where inadequate budgeting arrangements are the reality, it does raise a question about whether PFM/IC is an appropriate reform in such circumstances. Regular instability and shortfalls in funding indicate that the budget process is deficient and, in such circumstances, aiming to build a sophisticated system like PFM/IC is almost certainly inappropriate without basic budgetary reform. Introducing PFM/IC will not solve underlying budgetary problems (just as it will not solve underlying financial control problems caused by indiscipline or by fraudulent or corrupt activity. These problems must be addressed first.)

10.2.2 The Sources of Benefit Derived from Better Quality Management

The benefits that are potentially available from introducing PFM/IC arise from the following.

• (i) Linking financial inputs with outputs and the professionalisation of ‘management’.

  PFM/IC adds significantly to the responsibilities of management because it requires that management should have objectives and performance standards and objectives and be expected to deliver them efficiently and effectively. Given the size, complexity and the nature of the objectives of most public organisations, responsibility for operational management activity ought to lie with a professional managerial civil or local government service. Professional management requires specialist skills and experience and advantage cannot be taken of the benefits of applying PFM/IC without the existence of such a management. As is pointed out elsewhere in this guide, civil service reform is an essential concomitant to PFM/IC reform. It would be most unlikely that a single individual (a minister or mayor) or a small group (deputy ministers and deputy mayors), appointed for political reasons without the practical experience of public service operational management would have the skills needed to deliver complex public services, no matter how skilled they may be, and be able to generate the benefits that PFM/IC potentially makes available. In practice, without managerial reform, many elements of PFM/IC, such as all those necessary to achieve efficiency and effectiveness, will go by default. Therefore, introducing this reform will, or ought to, lead to the development of a more professional operational management. Successful operational management depends upon the employment of persons with managerial skills and with considerable experience, or whose managerial skills can be developed.

  The quality of operational management determines the quality of policy application, the efficiency and effectiveness of the utilisation of public resources and the ability to engage with parliament and civil society in the scrutiny of public organisation activity. Without good quality operational management, the political level of management is exposed to added risk and criticism. It also cannot take advantage of the benefits that PFM/IC makes possible.

• (ii) The focus of the management interest has a greater emphasis upon outputs (what is being achieved) and performance, and not just with what is being spent (the inputs).

  The immediate impact of this change of emphasis is to improve the possibility that a government (central or local) will achieve its objectives. But it will only do so if those objectives are well defined and the focus on management attention is upon delivering those objectives, to time, within budget, efficiently and effectively. All of this requires a much higher quality of and well informed operational management. Management activity will take up more time than the relatively simple task of delivering services and only being concerned with controlling ‘inputs’. PFM/IC is designed to provide the tools to assist managers in this complex task. PFM/IC provides politicians with greater confidence, although not absolute confidence, because no government controls all circumstances (witness the 2020 corona virus pandemic) that its objectives will be delivered and that they will be delivered efficiently and effectively.

  Therefore, applying PFM/IC in substance is essential if a government is serious about achieving its objectives and doing so efficiently and effectively.

• (iii) A feature of PFM/IC is the need for better quality planning such as business planning, forward strategic planning and strategic financial planning

  Business planning (described in Chap. 9) should be undertaken by operational management and should involve the head of finance as well as the relevant managers. The benefit that business planning has is that operational managers are required to define how they will deliver a policy, examine the alternatives in a disciplined manner and then selecting the most appropriate arrangements, subject to any political approvals that may be required. The political level of management consequently has the benefit of a well-informed assessment of a policy. That in turn may result in a reassessment of political policy decisions. The benefit is the reduced possibilities of wasted resources and more effective delivery once the policy is determined.

  Another factor affecting the delivery of objectives is the focus on strategic planning. This means that much more emphasis is placed on assessing all the factors affecting the delivery of objectives including the current and longer run financial and operational implications. This reduces the possibility of ‘unforeseen’ events including financial pressures impacting upon the ability of an organisation to achieve its objectives. Top operational management should engage in strategic planning as part of the process of informing political management. Strategic planning requires a longer term assessment of what is needed to achieve an objective and of the constraints including financial, environmental, personnel, technical and other constraints that will impact upon the possibilities of achievement. This makes the likelihood of achieving the objectives more likely and reduces the risk of unforeseen events impacting adversely upon the level of achievement. Therefore, again there is less likelihood that resources will be wasted.

  Strategic financial planning requires a forward look at all the factors which could affect the finances of the organisation into the future. For a public organisation to run out of funds, sometimes almost ‘overnight’ is both a reputational and an operational disaster as well as causing an actual or potential significant waste of resources. A feature of effective financial management is that decisions are not made which impose unsustainable financial commitments on the organisation in the future. Effective management of commitments is essential to avoid overspending. A manager must consider the impact that policy and investment decisions will have upon future current budgets and whether the costs of current policies can be afforded or whether those policies need to be changed.

  Long-run financial resilience of an organisation should be a managerial aim and strategic financial planning enables decisions to be made which are less likely to over commit the organisation financially into the future. This, therefore, reduces the risk of political and top operational management having to make short-term, often inefficient cuts to service provision in order to meet a budgetary or other financial constraint.

• (iv) Managers are required to address the risks that may affect the delivery of the objectives.

  Delivering objectives carries elements of risk. This requires operational management to identify and consider the impact of those factors (i.e., risks) which may make it difficult or impossible to deliver the objectives that have been set and to consider how to best manage those risks. Risk management also reduces the costs that may be incurred because of the occurrence of unforeseen events. This again reduces the possibility of waste of public resources and makes more likely the achievement of political objectives.

• (v) Managers can actually achieve greater levels of efficiency (see also item xi).

  An effective operational management should always be concerned to achieve improvements in efficiency. The operational manager should therefore know what drives costs, the costs of each operational activity, each cost centre and how costs would be affected by different pressures, such as more or less demand for a particular service or activity, that is, how performance affects costs. This emphasises the importance of linking performance information with costs. Cost analysis is also essential if appropriate decisions are to be made where the provision of services or activities involves charges levied upon the users of those services. Where charges are not based upon full cost recovery, this means that some users will be subsidised and the manager should know which users and the extent to which they are being subsidised. Cost analysis should not only consider the current year costs but also the forecast costs for forward years (the exact number of forward years depending upon the circumstances). Managers should also know the value and costs of the assets being employed to deliver those services and activities and whether they are being used in the best way or could be disposed of and used for other purposes. Determining efficiency is not a ‘one-off’ process and managers should have a constant regard for efficiency and that to secure and maintain it is a systematic process. Through the managerial accountability process top and senior political management has not only the opportunity to obtain the information to enable it to set the efficiency targets that it wants operational management to achieve, but also the knowledge of what is being achieved. To support the manager this means that the skills and role of the head of finance and the finance department will need to be enhanced including the development of management and cost accounting. All of this requires a much greater appreciation of financial awareness than that of simply ensuring that expenditure does not exceed budgetary limitations.

  PFM/IC requires that finance plays a much more central role in management than in traditional systems of public administration.

• (vi) Managers are expected to develop an assessment of effectiveness

  Effectiveness is derived from an understanding of what the user of a public service wants rather than assuming that the user wants what the supplying organisation continues to provide (the user could be another ministry or department or a third party such as a beneficiary recipient, a student, parents of schoolchildren, a patient, a central or local government taxpayer, a supplier of services to the public sector or any other user of a public service). If a service is being provided that either is not required or is not being delivered in a way that is of value to the user or at a time the user requires, then resources are being wasted no matter how efficiently that service or activity is being provided. Because very often public services and activities are provided in a manner which is convenient to the provider, rather than the user, assessing effectiveness may well cause this to change. The user should be consulted. As national economies improve and society becomes better educated and wealthier, the demand to be consulted will grow. Consumers of public services are also likely to make comparisons with how private sector services are provided and expect the public sector to follow the same standards. Therefore, effectiveness should become a much more important feature of public service delivery. The only way to find out what the user requires is to ask them. Asking them can take many different forms but establishing effectiveness should become an important feature of public service management. This is a key reason why parliamentary and civil society consultation is so important because it provides inter alia information about effectiveness.

  PFM/IC encourages the development of a focus on effectiveness and it also does this through requiring enhanced transparency and accountability,

• (vii) Requires of managers greater discipline and quality in the operational management process both for top and senior management and for lower level managers.

  PFM/IC clarifies and extends the responsibilities of operational management by introducing more structure and discipline into the management process, including accountability. Managers should be held to account for achieving objectives, performance standards and performance objectives, not just for financial and budgetary control. The responsibility of the political and the top operational management is to set those objectives and standards and to determine the policy framework within which they are to be achieved, along with the strategy for achievement. Their responsibility is then to ensure that operational management delivers those objectives and performance standards to time, within budget and efficiently and effectively.

  A consequence of the PFM/IC reform will be that HR policies will need to be modernised with recognition being accorded to the role of civil and local government officials as managers and therefore being required to take risks. Managers will have to make judgements in taking decisions.

• (viii) Facilitates better quality policy making and strategy development

  If effectively implemented, PFM/IC facilitates better quality policy making and the strategy for the implementation of policy. It does this through potentially making available to the policy maker a better quality of financial and performance information and by introducing delegation. Delegation allows for more time to be available to political management to develop policy along with the implementation strategy by removing most operational management responsibilities through delegation. Delegation has the further advantage that it facilitates the development of the experience and quality of the civil or local government service and through that creates the potential for a better quality of policy implementation advice to the political management. Delegation has the benefit that it allows for a full political management focus on the issues that really matter politically, and for the civil (or local government) service to gain practical operational management experience. Critical to successful policy development and the strategy for its implementation is the need for effective coordination between policy makers and those experienced in delivery. The more experienced those responsible for delivery are, the more effectively they can support policy makers.

• (ix) Facilitates improved operational management decision making.

  Improved operational management decision making is made possible because with PFM/IC managers can be provided with both performance and financial information. This is not available with traditional administrative systems. The focus on financial awareness (see item xi below) makes possible an improved utilisation of public resources and through that more effective and consistent service provision. By delegating operational management decisions, apart from those with a significant political relevance or where there is considerable uncertainty, decisions will be made nearer to the problem, that is, decisions can be made by persons more expert and experienced in the delivery of the service concerned. Delegation means that, on the whole, extraneous and irrelevant factors (including political advantage) as far as possible do not enter into the routine operational decision making process. Consequently, the concerns of political management can be focussed only on those operational matters that may be of a particular interest for them.

• (x) Potentially reduces the risk of the development of a ‘silo’ mentality within a public organisation and hence enhances the opportunities for managers to make more effective use of available resources.

  Features of PFM/IC are a strong operational managerial leadership and improved communications within the organisation. This facilitates coordination of activity and more effective utilisation of resources. This applies whether services or activities are delivered by the first-level organisation itself or by second-level organisations controlled by the first-level organisation. A ‘silo’ mentality means that resources may not be effectively used and activities duplicated or different standards and objectives applied by different parts of the organisation. Through the development of information and communications senior management can rationalise service delivery and activities.

• (xi) Operational managers are made more financially aware and this in turn encourages better quality budget making, more effective use of resources and performance delivery.

  This is because through the operational manager’s involvement in the budget making process which ought to occur with the introduction of PFM/IC and the provision of cost and performance information:

  • Budgets can be more effectively linked to strategy, objectives, performance standards and performance objectives.

  • Performance indicators can be included within the budgetary documentation which enhances accountability.

  • The relevant operational manager will be responsible for delivering the objectives to standard and within budget. The operational manager should therefore agree the adequacy of the budgetary provision. (Those objectives and standards should be agreed between the political and operational managers as being capable of delivery within the specified budget.)

  • The relevant operational manager will know how all the elements of the budget are constructed (i.e., including personnel, supplies and services, transport, accommodation costs and overhead costs). Therefore, that manager should be able to make judgements about the appropriateness of the allocation of resources over these different elements if the objectives are to be achieved.

  • The focus upon efficiency and effectiveness with PFM/IC encourages operational management to systematically aim to improve use of resources. The operational manager should have available the financial and performance information to enable judgements about efficiency and effectiveness to be made.

  • The operational manager can be held specifically accountable for delivery of the agreed outputs efficiently and effectively. This is because of the operational manager’s commitment to the level of resources being made available, compared to the objectives and performance standards expected to be delivered with agreed improvements in efficiency and effectiveness.

• (xii) Better quality of control can be exercised by political management and by top and senior operational management.

  Making every decision, no matter how trivial, does not put political management in effective control of an organisation, although some believe that it does. Establishing an effective management structure with operational managers appointed with delegated powers and accountable for how they have used those powers in the delivery of objectives and performance standards will give to political management a much clearer understanding of what is happening in the organisation. Political management also retains the power to ‘call-in’ decisions if they feel that appropriate or can set specific conditions affecting the exercise of delegated powers. Through these types of arrangements introducing PFM/IC provides a greater opportunity for political management to be in control of an organisation without feeling the need to try to make every decision.

  Managers exist at all levels in an organisation and ought to work within a policy framework defined by the political and top operational management or by their immediate superior manager. The organisational structures that should be introduced with PFM/IC mean that higher levels of management will also decide on what the lower levels of operational management are to achieve. They will also determine the powers and resources individual managers will have available to them. These conditions mean that managers at all levels can be held accountable.

  By adopting the PFM/IC reform the political management are more able to secure control through the managerial accountability processes that will be established.

• (xiii) Creates the opportunity to identify much more systematically fiscal risk.

  Fiscal risks ought to be identified and assessed, and if they are not, a consequence could well be of an entirely unforeseen impact upon the finances of an organisation. Fiscal risks can arise from a variety of circumstances. They may be treated as part of operational risks but very often they are not. They can arise from arrangements designed to defer immediate costs into the future, from long-term contracts, such as for specific commodities (e.g., oil, or minerals), from certain types of contracts, such as public/private partnerships, from the issue of guarantees, from assumptions made in entering into agreements with third parties or from changes in economic conditions. They can also arise from arrangements made with aid agencies and other third party organisations, not least because the policy considerations of those third parties can change without any regard for the impact upon particular local circumstances. Specific and potential fiscal risks ought to be disclosed along with estimates of their magnitude and, where practicable, their likelihood. A particular responsibility of the head of finance within a ministry or local government should be to ensure that top and senior political management is aware of such risks and that before such risks are accepted that appropriate consultation occurs with the ministry of finance. Performance agreements with second-level organisations should include a specific requirement that a second-level organisation should not enter into arrangements that may lead to fiscal risks arising without the specific approval of the first-level organisation. Political management is particularly vulnerable where fiscal risks emerge which ought to have been foreseen and PFM/IC should help to protect them from such a possibility.

• (xiv) Improves the quality of budgetary and financial control by operational management.

  Budgetary and financial control is improved because the operational manager responsible for a budget has to take direct responsibility for managing the budget on a day-to-day basis and for the way in which resources are used. At the same time the operational manager should deliver the objectives and the prescribed performance. The primary responsibility for financial and budgetary control is not that of the finance officer but the operational manager. However, the head of finance should be advising the operational manager about spending and income (where appropriate) on a regular basis and should ensure that appropriate managerial action is taken should variations from the budget appear likely. Nor can the responsibility for budgetary and financial control be ‘delegated upwards’ to a political level or left to an external controller such as the ministry of finance. PFM/IC involves a stronger financial discipline by ensuring that no commitments are entered into that will lead to a potential overspend at year end or generate unpaid liabilities that are not reflected in the budgetary allocation. It should also require systematic re-forecasting of income and expenditure during the year measured against operational performance in achieving objectives. The benefit of these arrangements is that there is a greater likelihood that resources will be well used compared with the traditional arrangements partly because an operational manager has a specific responsibility and therefore can be challenged about those decisions and partly because the whole process results in the manager becoming more financially aware.

• (xv) Improves the quality of governance within public organisations.

  Because of the consequential separation of responsibilities for policy and strategy setting from operational management, if properly applied no single person should have full responsibility for all aspects of all decisions. This reduces the risk of mistake, because it makes challenge possible, and allows for different views to be considered. The risk of corruption is also reduced. The opportunity for ‘challenge’, as has been pointed out elsewhere, can be a valuable tool to test the quality of decision making. In some countries the idea of ‘challenge’ is not acceptable and this can be a legacy of the historical development of a country, including its colonial history. No one individual has perfect knowledge, particularly where complex issues arise. For their own sake top and senior management should not be ‘sheltered’ from what may be uncomfortable realities. For financial management and internal control to be effectively applied, scope for ‘challenge’ should be accepted.

• (xvi) Improves accountability externally

  With the development of PFM/IC and the availability of additional information about performance, the opportunity for parliamentary scrutiny of managerial performance is enhanced. Scrutiny of managerial performance by the state external auditor is also enhanced. The state auditor usually has a responsibility to undertake performance audits and to report to parliament. The additional managerial and performance information developed as part of the PFM/IC process will facilitate this. (Added parliamentary scrutiny is not always welcomed by a government but is a very important benefit from the point of view of transparency and accountability in a democratic environment. To be effective though, parliament may need additional technical assistance to enable parliamentary members to analyse information and to focus enquiry. Members of the parliament may also need to have available to them training support.) Not only is this an important element in the development of ‘challenge’ but it also provides an opportunity to inform civic society. External ‘challenge’ is a necessary element in the development of democratic processes and will serve to stimulate an improved quality of management.

  Accountability should also indicate to interested parties, who may be external to the organisation, how all aspects of internal control have been applied including, where objectives and performance standards have not been met, what has gone wrong and the changes management has made in response. Political management needs to know this in order to avoid or lessen potential public criticism. External accountability is also improved with the publication of information about the quality and effectiveness of the internal financial control arrangements (see Chap. 13).

  Externally, the civil or local government service is usually completely anonymous to the service user and yet with the delegation of operational management that anonymity should not necessarily remain, although much depends upon individual country traditions. In the normal course of business, the service user should know with whom they are dealing and should be able to directly communicate with them and not just via the political head of the organisation. Public accountability should be a feature of delegation.

  The accountability arrangements should also put the political head of the organisation in a better position to exercise pressure to improve the quality of operational management. These internal accountability arrangements also provide the political level of management with an ‘early warning’ system if something is going wrong or external events are occurring which are likely to affect performance. In summary, improved accountability, which PFM/IC requires, encourages the systematic improvement of the operational quality of public organisations, provided the signals generated by the internal and external accountability arrangements lead to appropriate managerial action being taken at whatever is the relevant level.

• (xvii) Effective mechanisms can be introduced where second-level agency and similar public organisations are established to ensure that the interests of the first-level or controlling public organisation are properly protected.

  Second-level organisations should be properly supervised by the controlling organisation and should not be allowed to pursue their own objectives. They should also be set specific terms of reference and objectives by the controlling ministry or local government and these should be set out in a formal agreement such as a service level or performance agreement (see Chap. 12). These may change from budget year to budget year depending upon the objectives and budget of the controlling ministry or local government. PFM/IC requires that better supervision of second-level organisations occurs and that mechanisms are put in place to ensure that this happens. This ‘better supervision’ will mean that the objectives and activities of second-level organisations will be more effectively coordinated with those of the controlling first-level organisation. It will also require the second-level organisation to apply standards, including internal control standards set by the first-level organisation and at the same time establish effective accountability arrangements between the second- and first-level organisations. To achieve this though, the controlling ministry or local government must develop a policy capacity to oversee and test the objectives and performance of second-level bodies. With PFM/IC controls should exist to prevent second level bodies being used as a mechanism to avoid budgetary and other controls. 

• (xviii) Effective mechanisms exist to supervise those state-owned enterprises for which a ministry (or the equivalent in local government) has an ownership or supervisory responsibility.

  State-owned enterprises have a degree of independence not available to other public organisations. However, very often the performance of such enterprises is poor. They can be used to avoid fiscal controls and are a potential source of corrupt activity. Governance arrangements can be particularly weak. They also may accept fiscal risks which if they mature could have significant adverse effects on the owning or supervising ministry or local government. Where they operate in a contestable market place unless they are charged for the cost of capital and an allowance is made for risk in the financial returns they are expected to make, they can undermine the development of private market participants. The introduction of PFM/IC creates the opportunity for the ministry of finance and owning or supervising ministries (and local governments) to establish greater discipline over such enterprises and therefore limit losses and costs arising from inadequate performance. The performance and governance arrangements of state-owned enterprises (and local government equivalents) should be systematically reviewed by the owning ministry or local government (see Chap. 12).

10.3 Summary on Benefits

These benefits will only accrue with the recognition that PFM/IC is a comprehensive managerial reform. If governments are not prepared to undertake the managerial reforms that are required as part of the PFM/IC application programme, these benefits will not be achieved.

None of the available literature, so far as this author has been able to establish, refers to this catalogue of potential benefits or to the significance of the linkage with managerial reform. This lack of any reference to the benefits which flow from adopting the PFM/IC reform has the consequence that it serves to emphasise the impression that the reform is a financial reform of interest only to a ministry of finance and to finance staffs in ministries, rather than being primarily a management reform affecting the interests of government as a whole and promoting the opportunities to enhance transparency and accountability, not least to parliament and civil society.

A ministry of finance responsible for applying this reform should aim to ensure that these areas of potential benefit are identified in any policy paper and that an objective of the reform should be to ensure that the potential benefits are achieved. They will not be achieved immediately but over time and they require managerial reform. In the periodic reports by public organisations on the application of PFM/IC, the ministry of finance should assess the extent so far, to which the benefits have been achieved and highlight the difficulties where achievement is proving problematic. Equally the state external auditor in reviewing the performance of public organisations should include an assessment of effectiveness of the PFM/IC arrangements.

This schedule of benefits applies both to the management of public expenditure and to the management of public income and particularly taxable income. Most of the benefits described above apply equally to the development and management of tax policy and the arrangements for the collection of taxable income. In particular, the linkage of tax and expenditure policies is very important to avoid conflicting signals developing in the economy.

10.4 The Main Areas of Cost

Applying PFM/IC is not cost free and the analysis contained in this guide demonstrates the extent to which reform may be required, depending upon country circumstances. This affects costs. The costs fall into 12 main categories and these are set out below. The calculation of these costs should reflect the period over which they would be expected to be incurred. In addition to these costs will be the costs of familiarising parliamentarians with the new processes and the utilisation of the information that will become available.

• (i) The costs arising from the establishment of a specific ‘driver’ department to assist in the application of PFM/IC.

  There will be considerable additional responsibilities falling upon the state secretary in the ministry of finance to develop the policies and to secure their application. Because of this, the state secretary will require extensive support from a specialist department and an important area of cost would be that of this department. As explained in Chap. 9, the staffing of this department should reflect the comprehensiveness of the PFM/IC reform. (This would be in addition to the staffing required for the development of internal audit which would probably also be a responsibility of the same department.) Associated with the department staffing costs will be a range of other costs arising from the equipping and running of any ministry of finance department, that is, office costs, transport costs and staff training costs. Such costs could also include the costs of visiting other countries which have either developed a PFM/IC policy and then applied it, including considering how they have responded to the managerial consequences of the reform.

• (ii) The costs arising from the impact upon civil service and public administration reform coordination arrangements.

  Additional costs will be incurred falling upon the organisation responsible for civil service or public administration reform because of the very strong interdependence between the PFM/IC reform and civil service/public administration reform. These costs though should not be significant but may require that an additional official is appointed to act in a continuing liaison capacity. The extent of this cost will depend upon the stage in the development of civil service/public administration reform that has been reached.

• (iii) The costs of creating appropriate managerial structures.

  To reorganise the administrative arrangements within public organisations to create appropriate managerial structures will also add to costs and will take time (i.e., measured in years). This may mean introducing new levels of official civil service/local government management, especially where the delegation of operational management responsibility is a new development. In some countries it may even require the development of a professional civil and local government service (see training below) and not least the appointment of an official head (a state secretary or equivalent) in each public organisation, where such officials do not presently exist. This is a critical appointment given this official’s key role in the application of PFM/IC. It may also mean introducing new levels of management where the existing ‘span of control’⁴ would be too great for effective management. This could be a substantial cost with the scale of those costs depending upon the present organisational arrangements. Because PFM/IC imposes additional responsibilities upon the manager, this is likely to require the appointment of additional staff to support state secretaries and other managers. Examples would include those responsible for the supervision of second-level organisations, for developing and undertaking risk management analyses, for those who will need to collect and interpret performance information.

• (iv) The cost of providing management training for senior operational management.

  Training costs are likely to be significant and cover both this item and item (v). Specific management training for the top and senior operational managers in public organisations (i.e., such as a state secretary or chief local government official and their immediate deputies) will be required. A related area to managerial training will be to ensure that these managers have an appreciation of the implications and requirements of PFM/IC and are familiar with their additional responsibilities as the top operational managers and know how to take advantage of the additional information that should become available from its application.

  Training in the development of managerial skills will be a critical activity. Where previously civil servants have not had managerial responsibilities, such training probably will require the support of a specialist organisation such as a university or perhaps the development of a governmental training institution. This training should include leadership skills and the raising of political awareness. Another important element of this training would be to develop the financial awareness of the top operational management including a focus upon the management of the finances of the organisation, short and long term. Some technical training may also be required including in the specific features of PFM/IC such as risk management, although what is central to this reform is management training.

  These training costs may need to include financial support to a local academic organisation to provide appropriate courses where an ‘in-house’ training programme cannot be provided. The cost of ‘in-house’ training is not cost free but its cost will depend upon the extent to which in-house training resources already exist.

  The costs incurred in this area of training and the types of training to be provided may need to be agreed with the ministry/department responsible for civil service/public administration reform.

  Given the scale of the reform, training is likely to be an ongoing process over several years.

• (v) The cost of training for lower level operational managers.

  Training for operational management at lower levels in public organisations will be required. This training should cover a wide range of managerial topics such as developing leadership skills (see previous point), decision making, delegation, management of staff and time management. For certain officials it would include technical training in the key elements of PFM/IC and not least in an appreciation of the financial aspects of PFM/IC, including what to seek for and how to interpret financial information. This training should also include raising financial awareness and creating an understanding of the manager’s responsibility for managing the financial resources that are available, not least to improve efficiency and effectiveness in the delivery of services and activities.

  As with the previous item these costs may include financial support to a local academic organisation to provide appropriate courses. The types of training to be provided may need to be agreed with the ministry/department responsible for civil service/public administration reform.

• (vi) The cost of developing a future civil service with a capability to manage in a changing environment

  Training is not a ‘one-off’ activity for a particular group of officials at a particular point in time. Public organisations should be concerned about the systematic development of staff at all levels in the organisation over time because the operational environment is constantly changing, not least because of technological and economic change. The objective should be the establishment of a civil and local government service which has the capacity to respond to such changes. The OECD in its publication on Skills for a High Performing Civil Service⁵ referred to the three main drivers of change:

  • 1. The complexity of policy challenges

  • 2. Digital transformation and future of work

  • 3. The changing demographics/plurality of modern societies and the civil service workforce.

The publication indicated that this requires the development of a civil service:

• which is professional, independent of political control and driven by a common set of values that emphasises an ethical orientation to the public good;

• has a strategic dimension which can use its professional skills to create impact and improve public value for their citizens and clients;

• which is innovative.⁶

Again, to develop such a civil service and local government workforce may involve coordination with an appropriate academic organisation and allowance ought to be made for the cost of the long-run provision of such courses that will facilitate the development of such a service. These are the characteristics that will be required as PFM/IC becomes embedded in the management processes.The costs incurred in this area of training and the types of training to be provided may need to be agreed with the ministry/department responsible for civil service/public administration reform.

• (vii) The cost of familiarising all other staff with the changed operational environment

  Training should not focus simply upon the staff most directly affected by the reform but should also include the familiarisation of staff with the new managerial operational environment for the public sector. Achieving staff commitment throughout the organisation is essential to creating an effective operational organisation. This will be necessary to support the managerial changes that PFM/IC will engender. It will also be necessary to engage staff in the whole reform exercise and to avoid the development of ‘staff cynicism’ about the reform. An example is that in many public organisations what appears to be paramount are the interests of the organisation rather than those it is supposed to be serving. There is in effect no ‘customer orientation’ of staff. Yet both efficiency and effectiveness require that orientation and that is emphasised in the OECD report referred to above.

• (viii) The cost of introducing performance information systems and developing a data analytical capacity

  To enable managers to focus upon outputs they require performance information systems. Building such systems and collecting the data to feed into those systems will be expensive both in terms of the systems themselves and the personnel required to collect and manage the information. This will also require developing a data analytical capability that will allow budgets and financial information to be analysed in a format that facilitates efficient and effective management. This will add to costs. This capability should be designed to allow budgets and financial information to be linked to individual managerial objectives and performance standards. At the same time the arrangements must facilitate the financial and budgetary controls. Those controls should also provide the information that the ministry of finance requires for its own budgetary control, financial reporting and statistical purposes. This may involve the commissioning of specific consultancy support to advise on appropriate data analysis systems and the purchase of additional IT hardware and software, including the ongoing costs of providing technical support. A factor that should be considered in designing performance information systems is that it will also be essential to ensure that individual managers are not able to manipulate that performance information and those systems. This means considering security issues. Developing such systems and ensuring that they are robust and not capable of manipulation is likely to be an expensive exercise involving new information recording systems, staffing and supervision arrangements.

  Accounting arrangements should allow for the allocation of costs (and any income) over inter alia individual cost centres, with the range of cost centres being determined, as explained in previous chapters by individual managers not by the ministry of finance, and over those factors that a manager deems appropriate for his/her purposes which may include cost drivers. (The forecast of costs should also include those for the retraining of internal audit staff to ensure that they are familiar with the managerial context in which they will be expected to operate.)

• (ix) The cost of the research and analysis necessary to identify objectives and performance measures/indicators.

  To facilitate effective management, it will be necessary to identify and develop clear, definable and measurable objectives and the associated performance measure/indicators and performance information systems, including the linking of those, as far as possible, to budgetary systems. This may require the employment of consultants and academic researchers.

• (x) The cost of developing the finance function.

  This will include both training costs and systems costs. Costs will also include raising the status of the head of the finance department. Training will be required to enable the finance department to undertake those financial analytical responsibilities that managers will require. The role of the head of finance as an adviser to operational management will also need to be developed. A state secretary will also require skilled financial managers who can advise on the development of policy and the strategy for its application as well as supporting the development of strategic financial planning including the provision of advice on the long-run financial resilience of the organisation. An important technical component of the training for a finance function within an organisation will be the development of management and cost accounting. If these skills do not presently exist, then they will need to be acquired and that can be either through recruiting additional staff or training.

• (xi) The costs or training the budgetary and finance staff of the ministry of finance.

  Ensuring that the capabilities of the ministry of finance, especially of the staff concerned with budgetary management and financial accounting, are fully appraised of the revised arrangements and have the capacity to work with the management structures in public organisations. The work of such staff is likely to be considerably developed by the increased emphasis upon performance with the application of performance measures and objectives including the linkages to budgets. Failure to do this is likely to create conflict between the perceived needs of the ministry of finance and those of ministry operational managers.

• (xii) The costs of employing consultants for specific activities.

  Employing the consultancy advice that may be necessary to properly apply all the changes that will be required can be expensive. Developing the management of some public organisations in order to improve efficiency and effectiveness may require the employment of specific specialist consultancy advisors, especially where complex reforms are required. Envisaging what such advice may be required is difficult, but in assessing the overall costs of the reform this is a potential cost which should not be ignored. For example, assessing effectiveness is not necessarily a simple exercise and may require specialist research and advice. Therefore, those responsible for the application of this reform policy should consult with public organisations about what their consultancy requirements could be and when they might arise. A problem with employing external consultancy advice is that such advice needs to be directly relevant, familiar with the public sector operational environment and consistent. Such conditions may add to costs.

The total of these costs depends entirely upon the base position, that is, the present administrative structures, budgetary and accounting arrangements. For example, if all decision making responsibility presently lies with politically appointed managers and there are no effective civil service or local government managerial structures within government organisations, then the extent of the reform required will be substantial and so will be the costs. Again, if the budget and accounting systems are designed to meet only the interests of the ministry of finance, as, for example, most IFMIS systems are, or those of the finance department of a ministry or local government, the costs also will be quite high. If though, for example, an elaborate coding structure already exists so that budgets and accounting information can be analysed over alternative headings to those required for budgetary control and statistical reporting purposes and that costing is a current feature of the financial management arrangements, then costs will be much less. Similarly, where management structures already exist based upon civil service or local government managerial arrangements and those managers have significant service or activity delivery responsibilities, the costs of the reform will be less. Another example would be that in some countries programme budgeting has been developed. In theory this should lead to lower costs of application, but only if the programme budgeting arrangements are themselves accompanied by managerial reform (which in practice does not always occur). Managerial reform would mean that a manager has specific operational responsibility for the delivery of a programme and that each programme is accompanied by clear and measurable objectives and performance information. The budgeting and accounting arrangements should fully reflect the costs of implementing that programme.

Unfortunately, the reality is that the only costs that are usually identified with the application of PFM/IC are those directly associated with the additional costs falling upon the ministry of finance for staff employed in the PFM/IC ‘driver department’. The other costs which may also be identified are training costs, but only of finance staffs and of administrative/managerial staffs in undertaking the additional bureaucratic activities, such as risk management arrangements associated with the introduction of the managerial disciplines identified by COSO. None of this covers the need for managerial training or recognises the different needs for different levels of management or the changes that are likely to be required to the approach of staff generally. Such costs are usually ignored including the additional costs falling on the organisation responsible for civil service reform as well as all costs associated with developing more elaborate managerial structures, coding, budgeting, accounting and costing systems.

A further factor associated with the costs of applying PFM/IC is the timeframe over which costs are likely to be incurred. That timeframe should be realistic and it should reflect an assessment of what requires to be changed including how far and how quickly a government is willing to accept change, especially through the delegation of responsibility to civil service (or to local government service) managers. Another factor affecting costs is the decision about whether the application of the reform is to be through a single reform programme for the whole public sector or is it to be applied through pilot arrangements and in stages. Or alternatively, are the different types of public sector organisation to be reformed in sequence (e.g., central government, then local government, then second-level organisations such as public agencies or some other sequence)? Exactly what that sequencing should be will depend entirely upon local circumstances and hence local decisions. However, it should be borne in mind that some elements of the PFM/IC reform may be very difficult to implement in stages, such as personnel reforms.

This lack of cost identification with little or no regard to the timeframe over which the costs are likely to be incurred usually happens because of a lack of a substantive appreciation of what PFM/IC involves. Identifying the costs and the timeframe represents an important form of analysis that ought to be undertaken because it has the benefit, not just that it identifies the costs, but that it also recognises the scale of the reform required and therefore makes clearer the extent of the political decisions that will be needed.

This broader identification of costs will encourage governments to consider other factors such as:

• How the costs are to be funded, for example, from a country’s own budget or from aid funds or both. Ideally, given the nature of this reform and timescales involved, it ought to be funded directly from a country’s own resources with foreign aid only being involved for specific and definable elements of the reform. In reality, it would be most unlikely that a single donor would be willing to provide the finance over the whole period of the development of the reform.

• The sequencing of the reforms, because it is important that reforms do not occur out of sequence⁷ because this will only add to costs and waste resources.

• The timing of the whole reform process and how it should be undertaken.

What should be recognised though is that many of these costs arise from the need to professionalise the civil and local government service. Introducing PFM/IC is the stimulus for that but such costs should be accepted as necessary in any event if a country is to manage its resources efficiently and effectively and to meet the needs of its citizens and the users of public services.

10.5 Summary on Costs

The costs of applying this reform can be substantial. A key responsibility of political leaders (and a minister of finance in particular) is to ensure that the full costs are fully identified, even if precise numbers cannot always be demonstrated. The timeframe over which they are expected to be incurred should also be shown. Decisions can then be made about how those costs are to be financed.

The costs that are to be incurred mainly arise from establishing the managerial structures that are required to deliver services efficiently and effectively, the professionalisation of civil and local government service management and the consequent costs of managerial training and development. In addition, costs will also arise from generating the financial and performance information that managers require if they are to manage efficiently and effectively the resources that are made available to them through the budgetary process. These could be significant areas of cost.

Overall, the costs are wide ranging reflecting the impact that this reform will have upon the arrangements for the management of the delivery of public services including a refocusing of the civil and local government service to have regard to public service user needs and interests rather than simply those of the organisation itself. They are not simply administrative type costs and they involve the acquisition of information and the utilisation of that information by managers to deliver more efficient and effective public services.

Although these costs can be wholly attributed to the implementation of the PFM/IC reform, in practice many of these costs are essential to the creation of an effectively functioning civil (or local government) service.