Doug Hadden, VP Products

We released a set of Public Financial Management (PFM) documents last week following on our mandate of sharing good practices for the community.

The fourth released document, embedded below, describes good practices in Multiple Year Chart of Accounts design. That might seem a bit odd that we produced something of a “technical” nature that may not seem material to the running of public finances. Yet, the Chart of Accounts (COA) or “budget classification” is arguably the most critical part of effective PFM design.

The number of times that I have showed that the answer to a complex question is in the COA is almost innumerable. Why? The COA contains the meta data for the government. It encapsulates the organizational structure including regions, source of funds, programs and objectives and accounting concepts like capital and recurrent budgets. It is used to create and control budgets. To support international public sector accounting standards. To provide management information. To aid in decision-making.

That’s why getting the COA right is important.

But, it’s not about a COA “best practice.” It’s about a COA good practice – where the budget classification is structured to what is important and the capacity of the public service. That’s why the COA needs to be multi-year: to easily enable changes over time to reflect reform in organization, capacity and objectives. This is a requirement in all countries and we have seen numerous material changes to the COA from Canada to Timor-Leste.

And, this means that governments should have the ability to compare across structures and years. Look at last year information by different COA structures.

This is difficult to do in software. Users of ERP packages in government have told me that significant changes to the COA are difficult. Frequent changes over time, more so.

Public Financial Management Good Practices Multiple Year Chart of Accounts by FreeBalanceGRP

Lessons learned in International PFM to Assist Good Governance Reform in the Global Public Sector

Tweet

Ottawa, Canada (January 30, 2013) – FreeBalance, a leading vendor of Government Resource Planning (GRP) software, today released a set of five (5) PFM Good Practice Documents. FreeBalance Good Practice documents collect lessons learned with FreeBalance government customers in 20 countries and research used for product and services development.

• Anti-Corruption – functions of financial management systems that reduce corruption
• Budget Formulation – practices to ensure more credible budgets and improved government performance
• GRP Reform Sequencing – techniques to help determine reform phases tied to PFM goals
• Multiple Year Chart of Accounts (COA) – practices in the design of Budget and accounting classifications and the agility to adapt COA over time to support reform
• Total Cost of Ownership (TCO) – methods to calculate all the potential costs for Commercial Off-the-Shelf (COTS) financial systems for government

FreeBalance has a mission, as a For Profit Social Enterprise (FOPSE), to share lessons learned with the global PFM community. “There are very few ‘best practices’ in government financial management,” said Manuel Pietra, FreeBalance President and CEO. “Yet there are good practices that are ideal for governments based on their context.”

About FreeBalance
FreeBalance helps governments around the world leverage robust Government Resource Planning (GRP) technology to accelerate country growth. FreeBalance is a recognized leader in fast, adaptable and successful GRP implementations. FreeBalance software manages a global civil service workforce of 1,500,000, and a quarter trillion ($US) annual budgets worldwide. FreeBalance provides software solutions for public financial and human resource management, and supports reform and modernization to improve governance, transparency and accountability. Good governance is required to improve development results. For more information, visit www.freebalance.com.

###

Tweet

Doug Hadden, VP Products

Why is budget formulation important in government?

• Profitability is the key concept in the private sector. Budget is the key concept in government. In business the budget is only an internal document. In governments and not-for-profits, the budget is the key fiscal document.
• Budgeting in the public sector is fundamentally different from budgeting in the private sector. At the heart of the difference are the absence of a bottom line and the presence of a shared and limited source of funding.
• Governments operate using “commitment accounting” where budgets control expenditures. The budget is the government’s key policy document:  the legal embodiment of government policy.
• Budget formulation, or budget preparation, is the process by which governments produce budgets. An effective budget pursues three (partially competing) objectives: maintaining fiscal discipline, allocating resources in accordance with policy priorities and efficiently delivering services, or ‘value for money’. Budgets should be comprehensive, transparent and realistic.
• Budget formulation needs to be aligned with budget execution which is the way in which spending is managed and in-year budget changes are enabled.
• Budgeting in the public sector is a complex exercise. It involves the combination of information from multiple sources, bringing together different perspectives and dealing with diverse interest groups, all influencing complex decisions.

How is the quality of government budget management evaluated?

The Public Expenditure and Financial Accountability (PEFA) Performance Measurement Framework highlights the four objectives for budget formulation:

• Credibility of the budget – The budget is realistic and is implemented as intended
• Comprehensiveness and transparency – The budget and the fiscal risk oversight are comprehensive and fiscal and budget information is accessible to the public.
• Policy-based budgeting – The budget is prepared with due regard to government policy.
• Predictability and control in budget execution – The budget is implemented in an orderly and predictable manner and there are arrangements for the exercise of control and stewardship in the use of public funds.

What is the budget formulation process?

Budget formulation differs among countries and levels of government. The budget formulation process typically starts economic analysis and prediction for government revenue. The process follows sets of budget rules during a budget calendar that includes a broad set of financial information.

How does budget planning fit into PFM processes?

Government budget planning begins during the fiscal year and leverages historical and current revenue and expenditure information.  Budget planning processes align, in theWorld Bank Treasury Reference Model, with economic forecasting, debt management and treasury systems. Liquidity and cash management is critical to understanding the expected revenue and expenditure variations in government.

What budget categories are used by governments?

Budget planning categories differ among countries. The processes used can be different depending on the categories. Typical categories include:

• Separation of capital expenditures from operating or recurrent expenditures.  Experience shows that in the absence of properly organized capital budgets, governments resort to borrowing without due consideration of the sustainability aspects, assets are inadequately maintained, and major projects suffer from overall poor management and performance
• Special budgets for procurement (procurement planning) and Public investment planning (PIP), particularly national infrastructure projects
• Separate planning for debt and aid that informs the budget planning process
• Human resources and payroll planning can be a special categories because salaries make up the greatest portion of the expenditure budget

How do budget classifications enable budget formulation across categories?

Government budget formulation software can adapt to the planning workflow and categories used by governments through budget classifications. Government budget classifications, often called Charts of Accounts (COAs), represent the underlying meta data for Public Financial Management (PFM).

The COA is made up of a number of hierarchical data segments and is considered the lynchpin of a government’s accounting and reporting system and serves as a key tool to meet its business requirements.

The COA, although appears to be just concerned with classifying and recording financial transactions, is critical for effective budget management, including tracking and reporting on budget execution. The structure of the budget—in particular the budget classification—and the COA have a symbiotic relationship.

The COA structure can be used within the budget formulation software to map:

• Users and roles to elements in the COA to ensure that planners are only able to see the correct sub-section of data
• Workflow processes and that the budget formulation process follows government standards for different budget preparation categories
• Revenue sources such as donors (aid), debt and government revenue can be shown in “fund” source segment or included in the accounting codes
• Capital, recurrent and salary categories are typically modeled in the accounting (or object) codes
• Program segment and can be combined with object codes can be used to model public investment projects
• Organization or location segment can be used to control decentralized budgets across line ministries, government owned enterprises and sub-national governments

What are the major trends in government budget preparation?

• Analysis: government budgeting is transitioning from a ceremony where more time was spent creating a budget than analyzing it to more rigorous thinking to rethink action plans including techniques such as macro-fiscal frameworks, zero-based budgeting and spending reviews
• Benchmarking: many government agencies began emulating private-sector best practices by integrating benchmarking activities into planning and budgeting processes
• Decentralization: enabling bottom-up budget proposals from those who are closer to citizens
• Multiple year: use of multiple-year planning to develop more credible budgets
• Performance: Budget formulation and execution was traditionally focused primarily on resource allocation and input control is maturing “towards a focus on results” or government performance.
• Participation: use of participatory budgeting outreach to citizens and civil society, particularly at the local and regional levels of government
• Policy: techniques that align government policy and objectives to budget categories
• Transparency: use of open data and budget reports throughout the budget cycle to be more responsive to citizen needs by encouraging advocacy

How does budgeting differ among developing and developed country governments?

• Budget performance: Government deficits caused by weak revenue mobilization, profligate government spending and anticipatory spending, including anticipation of donor inflows. Poor budgetary discipline will raise demand-pull inflation, crowding out the private sector from the financial market because of high interest rates and unsustainable debt profiles, all of which slow private sector growth and reduce business confidence in the economy.
• Resource Shocks: Low-income countries are inevitably subject to the risk of resource shocks.
• Short term focus: In migrating from underdeveloped to highly developed countries, fiscal sustainability has shifted in focus from the near term to the distant future. In less developed countries, the immediate concern is whether the government will be able to service its debt if capital flees, the currency depreciates, and interest rates surge.
• Under spending: In developing countries, and particularly in fragile states, under spending is frequently as much of a problem as overspending.  A failure to spend funds in a timely manner and in accordance with the budget points to a failure to deliver planned services. It is therefore useful to consider the budget execution responsibilities of spending agencies
• Unreasonable Expectations: Even in developed countries with access to significant resources, such systems have taken many years to implement, and not always successfully. Indeed, some developed countries themselves see the challenge and complexity of say, implementing accrual budgeting as too great, preferring instead to adopt a modified accrual methodology. So to expect small developing and middle-income countries to implement such systems seems to be overly ambitious and more often than not doomed to failure. Where implementation fails, the effect can be to set back process reform many years.

What is fiscal sustainability?

Governments need to develop credible budgets to ensure that long-term spending is sustainable.  Credible budget planning takes into account the four dimensions of fiscal sustainability:

• Solvency – the ability of government to pay its financial obligations.
• Growth – fiscal policy that sustains economic growth.
• Stability – the capacity of government to meet future obligations with existing tax burdens.
• Fairness – the capacity of government to pay current obligations without shifting the cost to future generations.

How are credible budgets achieved?

• Policy: linking  policy and resources including the presentation of budget priorities to align budgets with government objectives
• Economic analysis: linking  macroeconomic framework with revenue forecasts to provide realistic projections of tax and other revenue sources and reducing the need for additional debt
• Risk: identification and determining  risk and risk mitigation strategies  to identify potential deviations from the forecast of the key economic assumptions underlying the budget
• Trend analysis: analyzing past outturns to predict future budget needs to ensure that programs are neither overfunded or underfunded
• Multiple year perspective: planning for multiple years identifies medium term costs for programs
• Comprehensive financial budgets: articulating all details for capital and recurrent expenditures,  information on budget financing, debt and the government’s financial position to ensure that supplemental budgets are not necessary under regular conditions and all activities aligned to government priorities in a unified budget
• Controls: linking of the legal budget allotments and appropriations with budget execution controls in the public finance management system

What are Medium Term Expenditure Frameworks (MTEF)?

MTEFs represent rolling plans, normally over three to five years, which move forward each year with the first year representing the budget and the “outer” years representing projections of spending. The purpose of MTEFs is to enable more credible budgets, address fiscal sustainability and better link policy, planning and budgeting for meaningful shifts in spending priorities. However, although there is widespread recognition that this is a promising way forward, in practice establishing MTEFs is difficult, and implementation takes longer than is often anticipated.

MTEFs differ among countries depending on the fiscal context, capacity and tradition. MTEF is an aggregate term that can include:

• Medium Term Macroeconomic Frameworks (MTMF) to provide a multiple year view on expected and relevant economic activity that can drive
• Medium Term Fiscal Frameworks (MTFF) to predict the government revenue and expenditure envelop to inform
• Medium Term Budget Frameworks (MTBF) that provide the basic structure of expenditures based on government priorities that can include
• Medium Term Sectoral Strategies (MTSS) of specific programs designed to improve economic sectors whose performance can be managed by
• Medium Term Performance Frameworks (MTPF) that align budgets with desired performance outputs and outcomes

Why are MTEFs challenging?

Traditional approaches to budget reform – multiyear budgeting, output based and accrual budgeting – have been particularly difficult to implement in developing countries and the development landscape is littered with failed reform strategies. Challenges to effective MTEF implementation include:

• Accounting: poor accounting processes and bad execution data can lead to poor plans
• Economic stability: high uncertainty in terms of their terms of trade and hard-to-predict commodity price earnings, as well as in the predictability of aid)
• Off-budget: donor funding and government-owned enterprise budgets can be “off-budget” where governments are unaware of the full revenue and expenditure footprint for effective planning
• Overloading: doing too much at once can overload human capacity prevent progress on all reforms
• Political will: unwillingness to change policy to reflect macroeconomic analysis or performance measures
• Fiscal sustainability: focus on the medium-terms makes the process not attuned to long-term issues

How does government budget planning software meet unique requirements?

Effective government budget planning software can be configured to meet unique requirements. There are numerous budget management software applications available but, in practice the World Bank and aid agencies have funded the introduction of private sector financial systems, which do not include core budgeting functionalities.

Government budget formulation software must support:

• Financial functions including the ability to develop budgets in any combined top-down/bottom-up process. Effective budget preparation software can take previous data and adjust by formula (such as reduce by 5% all revenue categories or increase the cost of oil by 10%). The software enables linking budget justification directly with the budget classifications. The budget passed by the legislature, often called the “organic budget law” or “the vote” is automatically integrated with the budget execution/accounting system to ensure proper budget controls.
• Content. Budget formulation software needs to use data from other sources including importing spreadsheet data directly to the financial budget plan, attaching narrative to budget requests and referencing documents.
• Workflow: Flexible workflow functions are necessary to follow the government budget calendar and address budget categories. Multiple budget versions are required.
• Performance: Governments with higher capacity can integrate output and outcome data to the COA and develop scorecards.

Component model for budget formulation automation software.

What are the inputs for government budget software?

Inputs in the budget formulation process include:

• Financial transactions from previous years (and the active fiscal year) including the tracking of multi-year commitments that roll-over to subsequent years
• Budget variances from previous budgets including changes that occurred to the budget during operation such as budget transfers and virements to provide trend information
• MTEF year 2 and 3 budget estimates to provide a baseline for the working budget
• Macroeconomic data that predicts government revenue, identifies risks, and creates baseline budget assumptions such as currency exchange rates
• Cost drivers or established estimates for products and services so that budgets use credible assumptions and align with scenario planning such as analyzing the impact of changing energy costs and currency fluctuations
• Documents like budget justification, policy information and reports
• Integration with underlying systems and spreadsheets

What are the outputs for government budget software?

Outputs in the budget formulation process include:

• Budget controls to be integrated with the treasury system components of the Government Resource Planning (GRP) software for commitment accounting including support for warrants, supplemental budgets, continuing resolutions
• Scenario plans that enables government to quickly adjust budgets should risk factors come to fruition during the fiscal year
• Documents generated from the system such as budget books

Why are flexible controls required?

Flexible controls in GRP software are critical for governments to match regulations and enable modernization:

• Budget laws address high-level budget items in the COA. Therefore, strict control at details or “line item budgeting” is not material to the law
• Capacity is critical when determining decentralization and needs to be flexible to support more discretion in spending and budget transfers to improve results
• Allotments, appropriations, warrants and cash controls differ among countries based on legal frameworks, traditions and liquidity
• Treasury departments provide more value to governments by managing liquidity and adjusting allotments based on surplus and deficit forecasts than approving commitments and transferring amounts among budget line items

What budget control functions are necessary in GRP software?

• Multiple Controls: numerous controls can operate simultaneously such as cash warrants and annual appropriations
• Periods: different controls can be active for different time periods, typically from a month to a year
• Aggregate: controls can operate from detailed line item to high level and where the total of detailed line items could equal or not equal the total for the high level controls
• Tolerances: discretion enabled for some controls such as the ability to overspend some monthly controls by a fixed amount or a percentage as long as aggregate controls are not overspent
• Commitment Controls: where tolerances can be applied to commitments and obligations
• Segregation of Duties: workflow controls to ensure proper separation of duties for spending approvals, payment approvals and budget transfer approvals that meet government fiscal regulations
• Organization Configurations: support of different control schemes for different government organizations reflecting legal status and organizational capacity

Why not use spreadsheets or simple web applications for budget preparation?

Spreadsheet and simple web applications do not provide sufficient control, error management and integration for budget planning:

• Version management and approval: versions of budgets and approvals for budgets require more sophisticated software that uses workflow control
• Controls: budget formulation software is required to create controls, manage segregation of duties integrate with commitment accounting
• Errors: validation on data input is not sophisticated in spreadsheet and simple web applications resulting in mistakes
• Historical information: integrated budget preparation and budget execution software provides accurate analytical information for budget planners

What are good practices for budget formulation?

1. Budgets are the legal embodiment of government policy and is critical in public financial management
2. Budget formulation practices should match country conditions and human capacity
3. The Chart of Accounts is critical for effective budget processes
4. Budget formulation software can help to create more credible budgets that provide fiscal sustainability and internal controls

Doug Hadden, VP Products

Why is the Chart of Accounts critical in government financials?

• Many governments are increasingly adopting Commercial-Off-the-Shelf (COTS) software to replace legacy and custom developed software applications for financial, budget, expenditure, tax, treasury and civil service management.
• Government organizations can chose to acquire Enterprise Resource Planning (ERP) software from large software firms whose software is used in multiple “vertical” markets or Government Resource Planning (GRP) software designed exclusively for governments.
• Government budget classifications, often called Charts of Accounts (COAs), represent the underlying meta data for Public Financial Management (PFM) for statutory financial statements and decision-support.
• COAs tend to be more complex in government than in the private sector. Government COAs include multiple segments such as fund, organization, program, economic purpose, geography and object. COAs are often consolidated across agencies and departments or across all government levels.
• Government COAs capture budget and allocation information, support international standards, provide reporting information and are increasingly used to map government objectives to performance outcomes.

What is the COA challenge in government?

• Government organizations are challenged to adapt COAs to support modernization such as the introduction of program budgeting, accrual accounting or new national reporting. Changes within the organizational structure of government are also commonplace requiring changes to the classification structure.
• Many countries should improve Budget Classifications according to Public Expenditure and Financial Accountability (PEFA) reviews.
• Many governments are reforming financial reporting to support international standards such as the International Financial Reporting Standard (IFRS), International Public Sector Accounting Standards (IPSAS), Classification of the Functions of Government (COFOG), Government Finance Statistics (GFS), International Aid Transparency Initiative (IATI), and the eXtended Business Reporting Language (XBRL).
• Many governments find that underlying custom-developed or Commercial-off-the-Shelf (COTS) ERP software make changes to COAs difficult.
• Frequent changes to COAs across fiscal years makes reporting and comparison difficult. Budget preparation and analysis requires the ability to compare information across fiscal years even though that information is classified differently.

What is a multiple year Chart of Accounts?

A multiple year COA enables governments to map across classifications through many years including:

• Reporting on any fiscal year based on the COA of any year in the system
• Matching aggregate budgets and programs across multiple years
• Supporting accrual accounting reporting on previous non-accrual years
• Calculating the reality of cost savings initiatives like departmental consolidation or shared services
• Supporting multiple year commitments and obligations even though classifications have changed
• Providing full budget histories across multiple years to assist in developing more credible budgets
• Identifying cost efficiency opportunities through multiple year comparisons

Classifications frequently change in government to accommodate organization structure, international standards, reporting requirements, accrual accounting and performance information.

How is a multiple year COA supported in GRP software?

• COA designer in GRP software requires flexibility to change structure such as add segments, change organization alignment and re-classify some or all of the metadata
• COA designer must have ability to map classifications from year to year
• Data integrity must be supported to eliminate any “orphan” COA elements
• Side concepts or reporting objects must be used to enable rolling up detailed information within the COA must be supported to support reporting standards without complicating data input
• Adding a new line item within the existing COA structure during the fiscal year should require little effort
• COA designer should support valid code combinations and standard offset accounts to reduce data entry errors
• Desirable that the tool for COA design is graphical, supports XML import and provides for draft classifications for review

What is the good practice in COA design?

1. Government Resource Planning (GRP) software should enable the modeling of complex Charts of Accounts include support for side tables
2. GRP software should not require significant effort to deploy a new COA
3. GRP software should support multiple year COA to enable government decision making

Doug Hadden, VP Products

(white paper draft)

The Integration of Donor and Recipient Government Financial Systems

The International Aid Transparency Initiative (IATI) “aims to make information about aid spending easier to access, use and understand.” IATI seeks to improve aid effectiveness through transparency. Transparency can improve aid harmonization and reduce aid transaction costs throughout the entire aid lifecycle from donor funding through to result.

The IATI Technical Advisory Group (TAG) has been studying methods for aid data integration among all aid participants. The integration of data between donor systems and recipient government budget systems is critical to IATI success. This integration can reduce administrative transaction cost. It can improve the coordination of donors and governments to achieve results. And, it can lead to direct budgetary support that ensures that aid better meets recipient government objectives. It’s all about improving aid effectiveness.

The TAG has encountered technical issues with donor and recipient government integration. Stakeholders from donors, civil society, governments and NGOs have differing aid effectiveness improvement objectives. Some stakeholders are concerned about the quality historical statistical information, while others seek a better understanding of transactions. Aid sector categories differ among stakeholders. There are differing needs for the level information granularity. Current standards in use by International Financial Institutions (IFIs) and governments operate at cross purposes, satisfying few stakeholders.

These difficulties are seen as technical metadata integration problems – data structures from operational systems used among donors and recipient governments cannot be rationalized.

The technical problem of project, transactional and statistical information integration among donor and recipient government budget systems is thought to be too complex and too expensive to contemplate. Nothing should be further from the truth. At its core, the IATI technical integration challenge is integrating donor budget with recipient government budget systems. Project data and statistical data are hierarchical constructs of budget and financial transactions. Additional data elements, including documents, project and statistical information can be linked directly to this transactional data.

What’s the Technical Problem?

Timely, effective, and automated integration among financial and project systems across the aid lifecycle requires the adoption of good practices in financial management systems – the use of program classifications. Herein lies the problem.

Developing nation governments, particularly FreeBalance customers, use program classifications. (And, the software enables progressively activating program classifications.) Many donors are not using this established good practices and have financial software systems that are too rigid to quickly and inexpensively adopt this good practice. (Financial software designed for the private sector often provides rigid classifications because these change infrequently. Government COAs change frequently to reflect modernization, reform, government restructuring, adoption of performance management, support of standards – including new standards like IATI.) Some donors pull project information from documents and have to manually reconcile with transactions.

Towards Donor to Government Integration: Automating the Financial Aid Lifecycle

The integration of donor systems with recipient government budget systems for on-budget aid projects includes the following elements:

1. Donor budget preparation systems where donors determine upcoming project budgets. These systems could integrate directly with recipient government budget preparation systems that include anticipated on-budget aid resulting in legally mandated budget
2. Alternatively, and perhaps preferably, the donor budget preparation and system could integrate with aid management systems. Aid Management systems enable donors and recipient governments to collaborate in the definition, funding and management of aid projects. Also recipient government budget preparation systems could integrate with aid management systems to enable budget planning and to harmonize the government and aid budgets.
3. The resulting budget prepared in the donor budget preparation system is formalized in the donor financial management system for disbursements during the fiscal year.
4. Disbursement information from the donor financial system could integrate with the recipient government financial system. The recipient government receives the funds against the budget item and provides authority to spend through appropriations or warrants.
5. Alternatively, and perhaps preferably, the donor financial management provides disbursement information to the aid management system that also integrates with the recipient government financial management system. This provides disbursement information to all stakeholders to improve aid harmonization.
6. Outcome and project reports are generated from the Aid Management System.
7. Outcome and project reports from the donor financial management and recipient government financial systems can also provide output, project and outcome information.
8. Recipient government financial systems typically output statistical data using the IMF GFS standard.
9. Output, project, outcome and statistical data can be compared to support historical analysis.

Budget Preparation

All public sector organizations operate using commitment accounting techniques for financial management. Budgets are developed that become the legal embodiment of government policy in recipient governments. Bi-lateral donors are government entities and operate based on the legal budget. Multi-lateral donors also manage financials based on commitment accounting to satisfy funders.

The budget preparation cycle is similar among public sector organizations whether special budget preparation software or spreadsheets are used.

Recipient Government Perspective:  Aid intentions from donors, regardless of the certainty of that aid, are critical to forming budgets. Recipient governments require harmonizing with donor budgets to achieve government objectives. The fact that a donor might commit to funding is important because the recipient government can identify this likelihood and be prepared should these funds be disbursed later.

1. Numerous factors are analyzed during the budget preparation process. This includes organizational objects, or the general policy of the organization, macroeconomic analysis and historical information to determine budget assumption for the upcoming year, typically in the form of a budget circular. This budget circular is scheduled during the current fiscal year for planning for a subsequent fiscal year. Many government organizations plan ahead on a medium term; therefore, the historical information includes preliminary information about the upcoming fiscal year and multiple year projects and commitments.
2. The budget circular typically provides guidance on budget assumption in the form of budget ceilings to organizational units.
3. Government organizations follow an iterative process of numerous internal budget proposal or versions with project and cost justifications. These versions are rolled-up to budget organizations and analyzed. Scenarios are examined.
4. The budget organization completes a detailed budget document or budget book for approval.
5. The budget is adapted by legislative processes through a vote.
6. The result of the budget vote is a budget law in government.
7. The budget law provides the allotment or appropriation information for budget execution in the government financial system.

Aid management

1. Donors prepare budgets based on donor objectives
2. Donor objectives are harmonized with government objectives to determine areas of mutual interest
3. Projects that meet objectives are proposed
4. That include a set of risk factors and performance measurements for expected outputs and outcomes
5. Projects that are approved for funding are shown in donor and recipient Budget Preparation systems
6. Budget information is shown in the Budget Execution module of donor and recipient government Financial Management systems
7. Funds are disbursed by donors to the recipient governments and progress shown in a Monitoring and Evaluation module
8. Funds received by donors are executed by the recipient governments, with progress shown in a Monitoring and Evaluation module
9. Results from the projects can be tracked against risk factors and performance measures in a Monitoring and Evaluation module

Budget Execution

Budget execution includes the financial management of all revenues and expenditures controlled by the budget. The budget can be adjusted throughout the fiscal year based on cash availability, macro-economic changes and availability of new revenue sources.

Recipient Government Perspective: Budget execution is difficult for many developing countries to effectively manage. These governments tend to experience cash shortfalls. Some governments are not able to spend the entire budget, hence reducing the effectiveness of many initiatives. Many donors examine recipient government disbursements as an indicator of progress. Yet, budget execution processes can expose in-progress spending through commitments and obligations to give a better indication of the recipient government project budgets.

1. The budget law developed during formulation creates the annual budget. The budget typically includes annual spending limits that are aggregated by organizational unit, fund source, project and type of expenditure such as capital or recurrent. The budget law also includes detailed line-item budget estimates that are used for advisement in most governments. Some government organizations use full line-item budgeting. The appropriations including authority to spend typically include the aggregate annual budget, some elements of the line item information and period budgetary controls. Many governments operate with monthly or quarterly controls that are more detailed than the annual appropriation to enable more effective fiscal control.
2. Expenditures in government financial management systems leverage commitment accounting functions. Funds are set aside during expenditure cycles to ensure that budgets are overspent. Many governments support two phases of commitments where money is set aside during the requisition stage as a soft commitment or pre-encumbrance. Good practices in government financial management ensure that contractual obligations set aside funds when purchase orders are created.
3. Goods and services are received by the government are paid for through disbursements.
4. Government revenue may be higher or lower than expected based on macroeconomic changes. There may be cash and liquidity issues. These situations often change expenditure budgets and appropriations.
5. Governments often receive supplemental budgets. Recipient government receive project funds when fiscal years are not aligned with donors and there is no budget preparation integration. Special supplemental budgets are often created because of macroeconomic shocks, such as stimulus packages or because of natural disasters.
6. The spending status against the budget can be analyzed. Budget deficits and surpluses can be predicted. It is considered a poor practice to under-spend because this will reduce outputs and outcomes. Appropriations can be loosened to encourage spending or tightened to reduce spending.
7. Budget reports showing outputs and variances are produced.

Commitment Accounting Transactions

Commitment Accounting is sometimes considered as part of the Budget Execution cycle. PFM transactions combine the traditional accounting transactions used in the private sector with budget controls.

Recipient Government Perspective: The status of commitments and obligations provides a better indicator of project progress than disbursements. It should also be noted that there can be delays in payment cycles after expenses have been approved. Therefore, the goods received and expense voucher stages in expenditures can also provide insight to project progress because these indicate goods and services completed but not yet paid.

The commitment accounting transaction structure includes the following:

1. Budget law provides one or more appropriations that act as expenditure controls
2. Internal purchase requisitions are checked for budget availability in some countries. The estimated amount of the expenditure is committed or set aside.
3. Purchase Orders are checked against budget availability. Differences with requisitions are adjusted. The purchase order represents a contractual obligation or hard commitment. The obligation is set aside.
4. Goods and services are received and returned via Goods Receipt and Goods Returned Notes are accrued if the government is using modified accrual or accrual accounting.
5. Goods and services that are accepted are approved for expenditures through Expense Vouchers that are shown in the Accounts Payable sub-ledger. PFM systems tend to post Accounts Payable transactions to the General Ledger immediately in order to show the true cash and budget situation.
6. Cash Receipts, revenue from taxation and other sources of government income are provided to Bank accounts and shown in the Accounts Receivable sub-ledger, posted in real time to the General Ledger.
7. Payments are posted to the Accounts Payable sub-ledger and honoured by the Bank.
8. The Bank information is reconciled with the General Ledger.
9. The recipient government manages Cash and liquidity based on Bank information, expected payments from Accounts Payable and the commitment cycle, revenue expected from Accounts Receivable, forecasts based on Appropriations, investments and debt.

The Classification of Aid Information

Classifying data is a typical information management problem. Information systems need to catalogue and classify data to support process workflow, analysis, decision-making and reporting.  Information systems classify data based on needs. This data classification is known as “metadata.” Organizations often require using “master data management” tools to harmonize data across multiple information systems. These systems reclassify and transform data to create common information. These systems also rationalize differing levels of detail required in information systems.

International data exchange standards like IATI provide a standard data target to facilitate integration. Organizations use MDM tools to import and export data.

The aid lifecycle includes project, budget and financial information. This metadata associated with aid information tends to be multidimensional and hierarchical. For example, budget classifications often include multiple data segments. Each segment includes a hierarchy of details.

There are numerous COA practices including:

• Budget classification structures tend to change over time as donors and recipient governments change objectives, accounting methods (i.e. accrual accounting) and items to measure
• Organizations tend to modernize from a simple structure including fund, organization, object/economic item to add programme and output segments.
• Mid developed countries are often less likely to support international standards and multiple segments. Lower developed countries are most likely to follow international standards. High developed countries have mature national standards that are often at a par with international standards.
• International and some national standards are supported via side tables or side concepts. These items roll-up transactional data in alternative methods through mapping ranges of data to a different structure. Budget and accounting users should not be exposed to most statistical, project, and performance objects.

The Government of Sierra Leone utilizes the program segment of 8 characters with 5 levels of hierarchy. Users enter budgets and accounting transactions where:

• Character 1 = Project Type
• Characters 2 & 3 = Project
• Character 4 = Component
• Characters 5 & 6 = Sub Component
• Characters 7 & 8 = Activity

COA rules are able to take the 8 characters to infer 3 levels of Government Financial Statistics support, 2 additional levels of project reporting, 4 additional levels of output or performance information and 1 level of Millennium Development Goals.

The use of Side Concepts, supported by financial management systems used in almost all donors and most developing countries is conceived to be the method to support IATI reporting and integration.

Aid Management Classifications

Aid management systems track information and transactional information related to projects. This can vary from government to government, but the data structure for any project typically includes:

• Project identification including title , description , objective , purpose , agreement number and agreement date
• Planning information including project start and end dates , extension dates if any and project status
• Project implementation information which includes whether it is implemented at national/sub national level and the sector.
• Alignment of project to national priorities or MDGs
• Project implementing and beneficiary partners
• Government and donor focal point contact information

Integrating Structure across Systems

Integrating donor and recipient government systems is enabled because these systems hold more detailed information than is needed by the IATI standard. The structure of the budget data is different among stakeholders. However, there is sufficient commonality to infer or roll-up to the aggregate project and statistical information required by the IATI standard. The process is conceptually no different than donors supporting CRS or recipient governments supporting GFS.

1. The donor budget system includes Chart of Accounts that describes objective, project, sector, recipient and object code. This information could be in as few as 2 segments structured hierarchically. The objective, project, sector and recipient government information can integrate with an aid management system through a mapping process. Mapping data structures is well understood in information technology using Extract, Transform, Load (ETL), Enterprise Application Integration (EAI) or Business Process Management (BPM) tools.
2. The same information provided to the aid management system can integrate with the recipient government Chart of Accounts. The conditions of the donor can be integrated through the fund and object segment and controlled through valid code combinations to prevent improper spending.
3. Documents and other material such as assessments, reviews and proposals can be linked directly to elements of the budget and aid classifications.
4. The highly detailed transactional information can be exported from donor budget systems through side table COA structures or via mapping tools.
5. The less detailed transactional information can be exported from aid management systems through reports or via mapping tools.
6. The highly detailed transactional information can be exported from recipient government budget systems through side table COA structures or via mapping tools.
7. Common elements from DAC/CRS produced by some donors and GFS could be used to enhance the IATI data set or simplify the process of reporting. Of course, the IATI data structure can align with data elements found in documents. Navigating and drilling through IATI data could include document discovery.

Conclusions

• Aid information including transactions (and transaction stages),  project information (including documents) can be integrated because charts of accounts provide the linking metatdata
• Differences among charts of accounts can be facilitated through the use of side tables or side concepts
• Members of the aid ecosystem need to adopt program budgeting to enable integration – this cost will enable timely aid reporting including monthly
• Manual methods of integration compromises data quality and timeliness resulting is less coordination and less effective aid
• Integration can be accomplished with aid management, budget preparation and budget execution systems
• Tracking disbursements from donors and payment by recipient governments does not show progress so aid transparency and effectiveness can be improved by following the commitment cycle

What benefits has FreeBalance software provided to government customers? Software assists governments to achieve results in Public Financial Management (PFM) reform.  As described earlier, FreeBalance customers have achieved higher than average Public Expenditure and Financial Accountability (PEFA) assessments in PI-5 Budgetary Classification, PI-10 Public access to key fiscal information. PI-20 Effectiveness of internal controls on non-salary expenditure, PI-25 Quality and timeliness of annual financial statement.

The annual FreeBalance customer survey found that FreeBalance software has been used to achieve many positive PFM results. The improved Chart of Accounts was rated as having the biggest impact. FreeBalance Accountability Suite  was designed for government with a flexible and adaptable multiple year Chart of Accounts. The Chart of Accounts builder enables supporting International Public Sector Accounting Standards (IPSAS), Government Financial Statistics (GFS), Classification of the Functions of Government (COFOG) and national standards. FreeBalance experience in many countries has helped to create good public accounts classifications. Unlike software designed for the private sector, FreeBalance easily supports changes to reflect reform and modernization such as government reorganization, or adding program and performance structures.

The FreeBalance Customer Survey

The FreeBalance Customer Survey helps achieve a very important company mission: public financial management knowledge transfer, as a For Profit Social Enterprise (FOPSE). It also helps us improve customer-centric processes by gauging satisfaction and measuring trends.

More results of the FreeBalance Customer Survey will be presented on this blog during the FreeBalance International Steering Committee conference in Madeira Portugal. Many of the items on the agenda are built from the survey, so discussions here in Madeira will add more context to the survey results.

Customer Presentations and Panel

FreeBalance government customers presented information about country Government Resource Planning (GRP) implementations, Public Financial Management (PFM) reform and lessons learned at the FreeBalance International Steering Committee (FISC) conference in Madeira Portugal.

PFM Challenges

Public management and reform challenges described by governments at FISC included:

• Financial Control: Liquidity and fiscal deficits
• Inefficiencies: Structural inefficiencies requiring streamlining

PFM Accomplishments

Accomplishments made by FreeBalance government customers, some leveraging the FreeBalance Accountability Suite:

• General Financial Management: improved PEFA assessments, reform plans based on PEFA assessments, clearance of backlog in annual reports, timely production of budget and statutory reports, better budget execution
• Standards: support for IPSAS, GFS, COFOG standards
• Treasury: automated cheque printing, electronic signatures, electronic funds transfer, automated bank reconciliation, better cash and liquidity forecasting
• Performance: management reporting including OLAP and dashboards with Key Performance Indicators (KPIs) and analytics, automated budget planning and budget book creation, program budgeting and performance management in the Chart of Accounts
• Civil Service: reduction in ghost employees, more rapid generation of payroll
• Receipts and Revenue: faster recognition of cash receipts
• Audit: improved audits, unqualified audits, better audit trails and fraud reduction
• Procurement: improved purchasing and payment efficiency
• Decentralization:  decentralization of accounting, purchasing and budget functionality to line ministries and sub-national governments

PFM Lessons Learned

FreeBalance international customers completed the FISC Survey prior the conference. FISC members rated “government ownership” over PFM reform as the most important lesson learned in implementing Government Resource Planning (GRP) systems.

FISC member agreed that Project Management and a project steering committee are essential to GRP implementation success. They disagreed that Information Technology personnel should manage the project.

About FISC

The annual FreeBalance International Steering Committee (FISC) conference runs from January 16 – 19, 2011 in Madeira, Portugal. FISC provides an interactive forum to exchange Public Financial Management (PFM) good practices among international customers and PFM thought leaders. FISC drives the FreeBalance Accountability Suite product vision to direct FreeBalance GRP solutions. Previous FISC events were held in Mt. Tremblant, Canada (2010); Prague, Czech Republic (2009); Cascais, Portugal (2008); and London, United Kingdom (2007).

The FreeBalance Customer Survey

The FreeBalance Customer Survey helps achieve a very important company mission: public financial management knowledge transfer, as a For Profit Social Enterprise (FOPSE). It also helps us improve customer-centric processes by gauging satisfaction and measuring trends.

More results of the FreeBalance Customer Survey will be presented on this blog during the FreeBalance International Steering Committee conference in Madeira Portugal. Many of the items on the agenda are built from the survey, so discussions here in Madeira will add more context to the survey results.

Doug Hadden, VP Products

Sharing Good Practices in Public Financial Management Reform

Delegates from the Government of Liberia Ministry of Finance recently visited Sierra Leone for a study tour to learn good practices in “macro-economic and fiscal projections and analysis; revenue tax policy, forecasting and analysis.” Study tours are particularly effective because the sequence of PFM reform differs based on country context. Study tours provide the depth needed for governments to understand what works under different circumstances.

Of course, the governments of Sierra Leone and Liberia share many characteristics that made this study tour effective. Both are post-conflict countries with similar macroeconomic situations. Sierra Leone has successful implemented the FreeBalance Accountability Suite

GoSL first Electronic Cheque

. Liberia has acquired the same software and the project is in development.

The Government of Sierra Leone has achieved significant progress in RFP reform and governance despite trying circumstances. We’re in process of completing a Case Study of PFM Reform for Sierra Leone, similar in scope to the recent study of Kosovo. We hope that our Case Study series will help the knowledge transfer of what works.

“The Government of the Republic of Liberia is committed to advancing key governance reform initiatives in support of its reconstruction efforts,” said the Honorable Tarnue Mawolo, Deputy Minister Administration. “The FreeBalance Accountability Suite will serve as a tool to support reform initiatives and will provide the foundation for economic growth and transparency. By building a more transparent government, public trust in the Government of Liberia will only increase.” 

Among the good practices leveraged by the Government of Sierra Leone, according to the 2007 Public Expenditure and Financial Accountability(PEFA) assessment, is an excellent budget classification and good reporting. We’ve heard since 2007, at our FreeBalance International Steering Committee meetings that Sierra Leone has achieved:

• Improved purchasing and procurement control
• Decentralization of PFM processes
• Reduction in financial management processing time
• Clearance of all backlog of annual financial statements and timely preparation of annual Accounts
• Legal reform for PFM and sequencing of reform and transparency
• Integrated Public Financial Management Reform Program (IPFMRP)
• Improved governance through the proper segregation of duties and availability of audit trails

The first phase of the Sierra Leone FreeBalance Accountability Suite implementation went into production in June of 2005 – 7 months from project inception. The Government of Sierra Leone current uses the following Government Resource Planning (GRP) modules and is very active in our software enhancement initiatives:

• FreeBalance Financials
• FreeBalance Revenue
• FreeBalance Purchasing
• FreeBalance Assets
• FreeBalance Human Capital
• FreeBalance Performance Budgeting

Liberia and Sierra Leone are continuing to improve governance mechanisms despite technical infrastructure and capacity challenges. This is why the Sierra Leone experience in capacity building is critical for Liberia.

Aid Management software enables governments and development partners to collaborate. To harmonize aid. To meet development objectives.

Government Resource Planning (GRP) software supports the entire budget cycle. GRP systems track government expenditures in support of objectives. These systems can also be used to manage donor funds provided to the government.  Donor projects and government expenditures are planned and executed in budgets. Budgets are forward-looking to enable multi-year planning and evaluation. Yet, these systems are rarely integrated despite the international effort through the Paris Declaration and the Accra Agenda for Action. It is time for action.

The lack of integration between aid and government financial management makes it difficult to monitor aid effectiveness. Some experts suggest that country systems should rarely be used – that a series of disjointed and disconnected systems can somehow improve development outcomes. Our view is that aid management is an integral part of GRP. And, we’re doing something about it.

FreeBalance and the Development Gateway Foundation

FreeBalance and the Development Gateway Foundation (DGF) have been partners since 2006. DGF is an international non-profit organization. We tested an integration between the DGF Aid Management Platform and FreeBalance Financials in 2006. We were able to transfer donor budget and disbursement information as budgets and allotments into FreeBalance Financials. And, we were able to transfer reporting information to AMP. Transaction costs are a significant concern in emerging economies. Governments require producing numerous project reports in different formats across different fiscal years in order to meet donor needs. This integration reduces these costs dramatically.  And, there are numerous benefits to integration in advancing aid harmonization and improving decision-making information.

We’re pleased that Jean-Louis Sarbib, the Chief Executive Officer of the Development Gateway Foundation, will be speaking to our customers at the upcoming FreeBalance International Steering Committee meeting.  We working on a joint white paper that describes the benefits and mechanisms for integration.

FreeBalance and the International Aid Transparency Initiative

The International Aid Transparency Initiative(IATI), “aims to make information about aid spending easier to access, use and understand.” DGF is an active member of IATI. And, FreeBalance has been assisting in creating a standard for financial information exchange. The Government Chart of Accounts, including budget classifications, often includes all of the metadata necessary to communicate objectives, progress and results for aid management.

FreeBalance has implemented GRP systems in every World Bank region. At all tiers of government. From post-conflict to G7. We’ve shared classification methods used by our customers and how the COA was modernized over time. We’ve been able to analyze classification systems from other countries. The IATI team is hard at work analyzing these in detail.

The International Monetary Fund has published a new Technical Note about Budget Classifications. The IMF has been advancing the sharing of PFM knowledge with a number of recent notes that we’ve commented on including:

• Fiscal Rules-Anchoring Expectations for Sustainable Public Finances
• Modernizing Cash Management
• Commitment Controls
• A Basic Model of Performance-Based Budgeting
• Transition to Accrual Accounting

The Budget Classification Technical Note was authored by Davina Jacobs, Jean-Luc Hélis, and Dominique Bouley of the IMF Fiscal Affairs Department. This technical note provides a good case for the importance of budget classifications. It provides some good high-level technical advice in designing budget classifications. Some of the assertions, though, do not appear to follow standard practice. Sequencing PFM reform is considered a good practice. This technical note generally supports this approach. But, the implied sequence does not appear to follow the typical pattern.  We agree that the budget classification is ”one of the fundamental building blocks of a sound budget management system.” Perhaps even the most important building block – we often say that all government financial management begins with the Chart of Accounts. (In our world, the COA includes budget classifications.) The budget classification enables controlling government finances, following the budget law.

Issues to consider:

1. “Separate presentation in the accounting classification to ensure the proper recording of budgetary transactions” does not seem to follow typical practices. The (COA) Chart of Accounts should include all budget and accounting classifications. That does not mean that accounting data entry is more complex in automated systems. And, budget preparation and execution can be managed by filtering out any unnecessary accounting details.
2. “Once established on a sound basis, a classification scheme should not be substantially changed unless there are strong reasons; a stable classification facilitates both the analysis of trends in fiscal policy over time and intercountry comparisons.” This is an interesting ideal. In practice, governments adapt the classification scheme to improve outcomes. And, as indicated in Section VII, governments are constantly reforming. So, an ideal budget classification for any government, should it exist, often requires time to implement because of legal reform. And, there is no reason why changing details in the classifications can inhibit intercountry comparisons. Like with GFS, the intercountry comparisons can roll-up from the detailed COA. And, financial systems with multi-year Charts of Accounts enable comparisons such as viewing the 2007 fiscal year based on the 2010 fiscal year classifications.
3. The technical note recommends that 3 mutually exclusive classifications, administrative, economic, and functional should be used. These would represent segments within the COA. (Of course, the standard accounting or object segment is needed to support accounting functions.) The note suggests that financing source should be considered as an additional classification. This does not seem to be wise for emerging countries that have a high percentage of Official Development Assistance. The use of a financing source segment enables governments to track donor conditions. This makes it more likely that governments, rather than 3rd parties, will be entrusted in executing donor funds. This reduces transaction costs.
4.  The addition of a program segment is typically sequenced later. The example provided shows how the addition of the program concept can extend the administrative segment. This approach is effective only when administrative units own programs. This is sometimes not the case. Expenditures can be controlled when there is a separate segment for program and administration. Automated financial systems support valid code combinations so that the 1 to 1 or 1 to many association between program and administration can be modeled and controlled. We have found a higher likelihood that functional and program classifications share the same segment.