PFM in India June 2010 Workshop Proceedings

NATIONAL INSTITUTE OF PUBLIC FINANCE AND POLICY

Public Financial Management in India Proceedings of a June 2010 Workshop

Proceedings of a workshop held in New Delhi June 8-9, 2010 by National Institute of Finance and Policy (NIPFP) to disseminate its Performance Assessment Report of systems of Public Financial Management (PFM) in the Union government of India. The proceedings summarize the NIPFP research findings and the workshop participants’ views with respect to possible priorities for PFM reform in four major parts of the PFM cycle: budgeting, budget execution, accounting and reporting, and oversight.

National Institute of Public Finance and Policy ii


Contents

Introduction ....................................................................................................................................1 Background to the Workshop ..............................................................................................1 Purpose of the Proceedings ..................................................................................................1 Group 1: Budgeting .......................................................................................................................2 Summary of NIPFP Assessment ..........................................................................................2 Group 1 Report ....................................................................................................................3

Group 2: Budget Execution...........................................................................................................4 Summary of NIPFP Assessment ..........................................................................................4 Group 2 Report ....................................................................................................................7

Group 3: Accounting and Reporting ...........................................................................................7 Summary of NIPFP Assessment ..........................................................................................8 Group 3 Report ....................................................................................................................8

Group 4: Oversight ........................................................................................................................9 Summary of NIPFP Assessment ..........................................................................................9 Group 4 Report ..................................................................................................................10

Annexes: 1 Workshop Agenda .............................................................................................................14

2 Workshop Participants .......................................................................................................16

3 Text of Inaugural Speech by Dr. C. Rangarajan, Chairman, Economic Advisory Council to the Prime Minister .........................................24

4 Text of Keynote Address by Dr. Avind Mayaram, Additional Secretary, Ministry of Rural Development ......................................................28

5 Presentation by Dr. Arindam Das-Gupta, Senior Professor, Goa Institute of Management ................................................................32

6 Presentation by Dr. Pratap Jena, Fellow, NIPFP ...............................................................35

7 Summary Assessment from NIPFP Performance Assessment Report ..............................39

8 Group 1 Presentation..........................................................................................................48





National Institute of Public Finance and Policy 1

Background to the Workshop

Introduction

In March 2010, National Institute of Public Finance and Policy (NIPFP) published a Performance Assessment Report of the systems of Public Financial Management (PFM) in the Union government of India. The Performance Assessment Report used a PFM performance measurement framework established by the Public Expenditure and Financial Accountability (PEFA) program. PEFA is a partnership between the World Bank, the European Commission, the United Kingdom’s Department for International Development, the Swiss State Secretariat for Economic Affairs, the French Ministry of Foreign Affairs, the Royal Norwegian Ministry of Foreign Affairs, and the International Monetary Fund. As of October 2009, over 150 PEFA assessments had been completed in over 100 countries of the world. NIPFP used publicly-available information to assess the performance of PFM in India at the central government level, through analysis of performance against the 28 high level indicators of the PEFA performance measurement framework. The NIPFP study was peer reviewed by the PEFA secretariat, and is published on the NIPFP website at http://www.nipfp.org.in/. The Summary Assessment from the NIPFP study is shown as Annex 7 to these Proceedings. The NIPFP study, like all PEFA assessments, assesses performance against six critical dimensions of performance of an open and orderly PFM system: (1) credibility of the budget; (2) comprehensiveness and transparency of the budget; (3) policy-based budgeting; (4) predictability and control in budget execution; (5) accounting, recording and reporting; and (6) external scrutiny and audit. The study represents an assessment of current performance only. It does not analyse underlying reasons for relatively good or relatively poor performance, and it does not contain any recommendations for priority actions in PFM reform. NIPFP did expect, however, that the report would contribute towards identifying priorities for PFM reform, and informing efforts to formulate and implement a PFM reform strategy. On June 8-9, 2010, NIPFP hosted a workshop on PFM in India, using its PFM Performance Assessment Report as a basis for discussion amongst academics, NGOs and government officials responsible for aspects of PFM. The workshop attracted approximately 80 participants who were divided into 4 working groups to deliberate on the implications of the study findings. Annex 1 presents the workshop agenda, and annex 2 lists the participants. Purpose of the Proceedings

These Proceedings summarize the findings of the NIPFP Performance Assessment Report and the written reports submitted by the group chairs following the workshop. The four working groups were as follows:

Group 1: Budgeting Group 2: Budget Execution Group 3: Accounting and Reporting Group 4: Oversight

The annexes to these Proceedings provide the text of speeches made at the workshop, and the contents of presentations made by speakers and by the group chairs, as well as the Summary Assessment from the NIPFP Performance Assessment Report. The Proceedings may prove useful for any persons interested in identifying priorities for PFM reform and in formulating a PFM reform strategy for the Union government of India.

http://www.nipfp.org.in/�



Group 1: Budgeting

Group 1 was asked to consider three key dimensions of PFM performance:

• 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. Summary of NIPFP Assessment

The first 12 of the 28 indicators of the PEFA PFM performance measurement framework are concerned with budgeting. Those indicators dealing with the comprehensiveness and transparency of the budget (Performance Indicators 5-10) generally scored A or B. Of the four indicators of budget credibility (PI-1 to PI-4), only 1 was A. Two scored C, and one was not rated. Policy-based budgeting was assessed the weakest area of budgeting, with scores of C or D. The credibility of the budget was assessed mainly through two indicators of expenditure and revenue out-turn as compared to the budget estimates. At the aggregate level the expenditure out-turn (expenditures net of debt repayments and the donor funded project expenditure) was substantially higher than the budget estimates for all the three years reviewed (12.95% in 2006-07, 10.62% in 2007-08 and 36.95% estimated in 2008-09). The increased level of expenditures was made available through the mechanism of supplementary demands, used for in-year budget adjustments, the primary objective of which is intended to be to meet unforeseen expenditures. The higher expenditure out-turn as against the budget estimates, largely in the revenue expenditure rather than the capital expenditure, adversely affects budget credibility, as it indicates poor planning and implementation of expenditures and non-regard for the sanctity of the budget estimates. The pattern of revenue out-turn as against the budget estimates shows that revenue projections have remained a challenge depending upon the growth of the economy and the global market situation. This was evident when the revenue out-turn as against the budget estimates turned negative in the year 2008-09 following the international economic crisis and consequent slow down in the growth rate of the economy. Overall budget credibility is affected by the absence of a hard budget constraint, thereby allowing substantial adjustments in the budget during the year through supplementary grants, and the absence of an accurate revenue projection mechanism by which the movement of economy and changes in tax administration determine the actual revenue collection. A multi-year perspective in expenditure planning and budgeting has been lacking in India. While attempts were made in past to initiate medium term fiscal policy, they were given up in latter years. The enactment of the FRBM Act and stipulation of presenting a Medium Term Fiscal Policy (MTFP) along with the budget brought back the issues once again into the budgeting system. However, while the MTFP mandates presentation of three year rolling targets relating to major fiscal indicators such as revenue deficit, fiscal deficit, tax revenue and outstanding liabilities as percent to GDP, a detailed medium term expenditure framework for various sectors is not worked out by projecting expenditure implications of programmes undertaken for outward years. The budgeting thus remains strictly annual without a multi-year perspective relating to expenditure commitments of various sectors. It is maintained that the five year plans in India provide the basis for a multi-year perspective for resource allocation. However, the economic planning and budget differ in their scope and time span. While plans provide a conceptual framework by focusing on various sectors in the economy, the budget is more concerned with systems of control over the use of funds by government and pays more attention to



financial aspects. It is not uncommon to initiate major projects and schemes which are not provided for in the plan. Further, in the context of current budgetary practice, the link between the plan and the budget is weak. In the process of budget preparation the plan allocations are dispersed over various heads and sub-heads of expenditure. While the debt information including both from external and internal sources are regularly reported by the government and Reserve Bank of India, debt sustainability analysis in a multi-year framework is not carried out; nor are costed sector strategies prepared. Group 1 Report

Introduction: To undertake reforms in the Budget, it must first be understood that Budget making is a Constitutional process drawing its essence from the relevant constitutional provisions supplemented by various procedures and accounting arrangements drawn up by the CGA and the C&AG and approved by the Parliamentary Committees. Therefore it may not be appropriate to expect that information as sought by say an academic would be easily accessed. However, there is room for taking a re-look at the several Explanatory documents which accompany the Budget so that the information presentation can be tweaked so as to make it more relevant. A Task Force or similar body can be assigned the job to do so. In the recent past new innovations have also addressed themselves to this issue of supplying information that may be required by the general public/stakeholders. Developments in budgeting such as statement of revenue foregone, plan scheme monitoring, introduction of new MIS statements and other initiatives have served the purpose of making the Budget presentation more contemporary. IT initiatives in the CGA’s office as well as in Budget division will further improve the information as well as widen its scope. Budgeting Process: Amongst the various issues that are repeatedly flagged for reform relate to credibility of estimates and large number of supplementary demands for Grants. It has been seen that in the recent past large number of Supplementary Demands for Grants have become the norm which vitiate the Budget Estimates as proposed at the beginning of the year. Similarly, large variations between the Budget Estimates and the Actual numbers indicate that due thought was not given to the formulation of the Budget Estimates. It was suggested by the Group that perhaps the solution to this may be possible if timelines for the communication of ceilings are preponed for both Plan as well as Non-Plan. By communicating Plan ceilings well in advance, say by the middle of January, adequate time would be available with the line Ministries to work out the schematic allocation of their outlays which currently they are doing in a last minute rush. Ensuring appropriate allocations would lead to greater purity in the Budget Estimates. Form and Content: The group also made some suggestions in the form and content of the Budget documents –it may be clarified that mostly the suggestions relate to the Expenditure Budget since the Receipts are receiving adequate attention through various initiatives in Direct and Indirect Tax reforms. Some of the suggestions discussed by the group are:

• Fungibility of receipts: Cess backed allocations should be discouraged. Such allocations are counterproductive in an era of Deficit financing. By making all receipts fungible, we are ensuring that all sectors and schemes compete for allocations on the merit of their requirement and performance.

• Non lapsable pools: These too are counterproductive given the fact that they merely indicate the lack of capacity of a scheme/area to utilize its allocations. Placing unspent provisions in a non-



lapsable pool may also be an indication of parking of funds. Basically, to borrow and then to place scarce and expensive resources in a non-lapsable pool is indicative of bad budgeting.

• Efficiency dividends: these should be built into the budgeting process. Efficiency parameters should be mapped and ongoing models studied form other countries so that a system of awarding better performance evolves.

• Delinking of MIS statements from the main budget to be submitted separately immediately after the budget: Such information is acquiring greater usage with stakeholders’ requirement of further refinements built in. However, as this is bundled along with the main budget documents, quality time as well as expansion of information gets constrained by the overall Budget deadlines. Therefore, the MIS statements can be compiled separately and presented along with the other post-budget documents such as the Supplementary Demands for Grants, etc. All post budget reporting documents can thereafter be presented together

• Sectoral MTEF for 5 years: No doubt this should be there. However, to make it more meaningful the period of the Plan and Finance Commission award should be made coterminous and a detailed MTEF then prepared.

• On the Plan and non-plan distinction the Group held the view that though not technically appropriate it serves the purpose of highlighting and earmarking expenditure on developmental/non developmental goals. Unless an alternate model is put in place which categorizes between Developmental and non-Developmental expenditure, placing the entire expenditure under one umbrella would have a crowding out effect and could adversely impact outlays on Developmental requirements.

• The Group also felt that the Outcome budget should be prepared along with expenditure outlays so that it could be used as a tool for budget execution-in particular releases should be mapped in accord with outcomes. TO get better outcomes, the possibility of building in Social Audit into schemes should also be explored and implemented.

Group 2: Budget Execution

Group 2 was asked to focus on systems to ensure predictability and control in budget execution. This includes a variety of areas, including transparency of taxpayer obligations and liabilities; measures for taxpayer registration and tax assessment; effectiveness in collection of tax payments; predictability in the availability of funds for commitment of expenditures; recording and management of cash balances, debt and guarantees; effectiveness of payroll controls; competition, value for money and controls in procurement; effectiveness of internal controls for non-salary expenditure; and effectiveness of internal audit. Summary of NIPFP Assessment

Only 2 of the 9 indicators of performance for this aspect of the overall PFM architecture scored A or B. The indicator for procurement could not be rated due to a lack of publicly-available information as to the competition, value for money and controls in procurement actually realized from public spending through the public procurement system. Six indicators scored C or D. The central taxes are administered based on explicit legal provisions, which are subject to procedural and legal safeguards. However, in the Indian tax system the scope for administrative discretion is considerable in practice due to large numbers of exemptions and reliefs, and frequent changes in tax provisions, making the tax laws relatively complex. The internal audit system is not strengthened to ensure



accountability of tax collection staff and adherence to established tax administration policies and procedures in their dealings with taxpayers. Despite various efforts of the government, taxpayers face difficulties in accessing information on tax liabilities and administrative procedures. A structured taxpayer education programme covering various aspects of tax payment is absent, which adds to the compliance cost.

The Indian tax system is, however, marked by a well structured tax appeal mechanism through which the tax disputes arising out of various provisions relating to tax assessments and penalties are taken up. Despite a well laid out appeal mechanism, the time taken to dispose of the appeals is long, and a large number of cases remains pending. The taxpayer registration is maintained by allotting a Permanent Account Number (PAN) to individuals. The PAN is the key element of maintaining a taxpayer registry and it is linked with other government registration system. While tax administration in India has adequate legal provisions to take action against delinquent taxpayers, its ability to collect the taxes assessed is obstructed by the taxes remaining under dispute, and arrears both in dispute and not in dispute are only slowly cleared.

Efforts were made to improve the predictability in the availability of funds for commitment of expenditure through efficient cash management and planning of market borrowing calendar by stipulating monthly and quarterly ceilings of expenditure for the departments. However, in practice the unevenness of expenditure and rush of expenditure towards the end of the financial year still remains a problem due to weak adherence to the cash management programme.

Recording and management of cash balances, debt and guarantees by the government of India have improved significantly and a comprehensive report on central government liabilities is provided in the budget documents. Over the years, the coverage and compilation procedures of external debt statistics have become more comprehensive and the dissemination of external debt statistics too has improved; India has also been able to comply with both IMF's Special Data Dissemination Standard (SDDS) and World Bank's Quarterly External Debt Statistics (QEDS). As regards financial assets, the budget provides information on the government’s opening cash balance, which is maintained by the Reserve Bank of India (RBI). The RBI maintains the cash balance of the Government and invests in government securities held in its portfolio for the purpose. While loan guarantees given by the central government are reported in the budget, complete information on implicit guarantees is absent.

An Integrated Financial Management Information System (IFMIS) incorporating systems for management of personnel database and payroll records at central government level in India does not exist. The management of personnel, maintenance of the personnel database, and preparation of payroll are the prime responsibility of departments and ministries. The personnel database of government employees in terms of their number, staffing pattern as against approved posts, salary bill are maintained by each department and ministry. While a direct link between personnel database and the payroll for each month is not established, the payroll is prepared after reconciling with the previous month’s payroll. Ministries and departments maintain a service book for each employee where all the personnel details and payroll data are recorded. Any change in personnel records and the payroll are recorded in the service books of the Government employees, which are updated regularly. The Budget section of Ministry of Finance collects the information from every ministry, which is part of their expenditure proposals shown in demand for grants, and this information enters into the budget estimates of the government.

There is no law exclusively governing public procurement of goods by the departments and ministries. Rules and directives in this regard provided in the General Financial Rules (GFR), 2005 and manual on procedures for purchase of goods guides the procurement process. An important number of instructions, issued by the Central Vigilance Commission (CVC), supplement these regulations. With the exception of



certain control and oversight functions carried out by central authorities such as the Comptroller and Auditor General and the CVC, no central authority exists that is exclusively responsible for defining procurement policies and for overseeing compliance with the established procedures. As per the rules and procedures on procurement stipulated in the GFR the Ministries or Departments have been delegated full powers to make their own arrangements for procurement of goods. Tenders for contracts above a threshold size are issued and are reported by the respective departments. In the absence of required expertise, a Ministry or Department can procure goods through the Central Purchase Organization, Directorate General of Supplies and Disposals (DGS&D). While rules and principles governing procurement are published, the data on actual procurement by various departments and ministries of the Government is not publicly available.

Despite the existence of the financial rules for effective internal expenditure control, the actual practice falls short of the standard. The unevenness of expenditures during the year that spikes during the last quarter of the financial year still remains a problem in expenditure control. The surrender of unspent amounts, ‘savings’, from various grants to the Finance Ministry and excess expenditures not regularized are witnessed regularly as brought out by the CAG in their audit reports. These deviations indicate inadequate programme management and internal control through the year. There is also the prevalence of personal ledger accounts, a device intended to facilitate the designated officer to credit receipts into and effect withdrawals directly from the account to avoid losing it at the end of the year. Lack of comprehensive data base limits the ability to manage the assets efficiently. The internal audit, a useful management tool to control misuse and mismanagement of public funds, has not been effective to serve the objectives of an effective internal control system.

The expenditure commitment controls are not effective in India. The Appropriation Act, meant for authorizing withdrawals from the Consolidated Fund for incurring expenditure based on the approved budget estimates, do not distinguish between commitment and expenditures. The budget preparation exercises faults on overlooking expenditure arrears as there is no provision in the budget for the ensuing year to discharge the expenditure arrears of the previous year(s). The year end financial statement, Appropriation Accounts, is prepared on a cash basis reporting cash execution of the expenditure plans approved by parliament and do not report on commitments. The statutory requirements for budget implementation focus exclusively on controlling expenditures with respect to budget appropriations. The cash management system is not integrated with control over commitments. Lack of an effective cash management mechanism in the line Ministries and Departments is a stumbling block to implement commitment control system. The expenditure ceiling, which is communicated to the departments during their pre-budget meeting with the Ministry of Finance, mostly relate to the line item control. There is no instrument to assist and guide the Head of the Accounts to know that sufficient unencumbered funds are available at the time of entering into obligations.

Internal audit has remained a weak link in the financial management system. Internal audit in India is conducted in a routine manner and the result of this audit on improving the financial management system is insignificant. The internal audit system has not been updated over several decades and due importance has not been given to securing ‘value for money’ and accountability. The Task Force on Internal Audit, constituted by the CAG observed that the internal audit in India has a restricted mandate, does not have the ability to evaluate risks. It was also noted that that no standards have been evolved for internal audit in India and it did not have the required independence for its effective functioning.



Group 2 Report

Group-II discussed Budget Execution. The group noted that Budget Execution was assessed by NIPFP as being the weakest part of the overall system of PFM in India. Keeping in view the vastness of this field, the Group confined itself to what it considered to be the highest priority areas: procurement, cash management, and internal control and internal audit. The Group noted with concern the less than average physical condition of public capital assets, post-commissioning. It was felt that the process of sanction itself needed review. Most public projects had very little committed maintenance funds due to which these projects were in a dilapidated condition – a national loss. The Group therefore suggested the adoption of the PPP model where maintenance costs of a project should be included in the cost of a project at the sanction stage itself. In addition, service standards needed to be incorporated in the agreement itself. This would ensure superior maintenance and continued maintenance funding for departmentally-executed public projects irrespective of the political priorities of governments. The Group felt that NIPFP was best placed to study the process of sanction/procurement of/for projects. Further, the Group noted that often advertising for procurement for projects was done without any detailed terms and conditions to secure the best price from vendors. The Group therefore suggested that the RFP be accompanied by all terms and conditions of contract. This would help obtain a better price, ensure accountability, and fruitfully serve the nation for decades. For the issue of cash management, major sub-issues discussed related to belated release of funds, direct transfer of funds by GOI to local bodies and NGOs, and lack of actual utilization of funds by recipients and beneficiaries. Overall, the Group felt that integration of cash management functions was mainly confined to governments and some executing agencies only. Such integration did not stretch from apex to the service delivery point. The Group therefore suggested leveraging ICT by way of standardized software, accounting procedures, etc. that bring about vertical integration of cash management from the apex level to the service delivery point. This would ensure optimal utilization of funds, particularly borrowed from the market, and provide greater accountability of executing agencies, including those in the private sector such as NGOs. On the issue of internal controls, the Group reserved its opinion, since DPAR is in the process of evolving a comprehensive risk management framework on the lines of PFM. The Group observed that the internal audit function in governments was marked by the absence of any statutory backing and any real independence. Unlike the IFD, the Internal Audit is not fully integrated with the Ministry. Compounding these is limited capacity, technical and physical; nor is Internal Audit’s processes institutionalized, unlike that of the CAG of India. The Group also observed that presently only extracts of Internal Audit reports were being sent to Secretary, MoF (Expenditure) annually. Such system of internal oversight does not recognize key aspects of timeliness for corrective action, systems failures, etc. The Group therefore suggested that the Internal Audit function be integrated with the Ministry, akin to the IFD and provided with enabling statutory basis. Capacity building and further leveraging of ICT for the internal audit function were also suggested by the Group. Group 3: Accounting and Reporting

Group 3 was asked to discuss accounting, recording and reporting issues such as the timeliness and regularity of accounts reconciliations, the availability of information on resources received by service delivery units, the quality and timeliness of in-year budget reports, and the quality and timeliness of annual financial statements.



Summary of NIPFP Assessment

All dimensions of the 4 indicators of performance in this area scored A or B, except for only 2 dimensions or aspects of performance, namely the scope of in-year budget reports in terms of coverage and compatibility with budget estimates, and the accounting standards used in the preparation of the government’s annual financial statements. Central government accounts are reconciled with those of the accounts kept by the Reserve Bank of India (RBI), the banker to the government, on a monthly basis. The general banking business of the Central Government (which includes the receipt, collection, payment and remittance of moneys on behalf of the Government) is carried on and transacted by the RBI. The Controller General of Accounts (CGA) in the Ministry of Finance compiles the aggregate accounts of the ministries/departments from the compiled accounts received from the departmental accounts sections and these accounts are reconciled with the cash balance of the ministries/departments maintained by the RBI in its Central Accounts Section.

While there are no provisions for presenting a mid-year budget report to the Parliament, the aggregate monthly accounts prepared by the Controller General of Accounts (CGA), compiled from the departmental accounts, provide monthly accounts of budget implementation. The monthly accounts of the central government are important in-year budget reports that are accessible to the general public through the website of the CGA. These monthly accounts are reviewed and a critical analysis of expenditure, revenue collection, borrowings and deficit is prepared for Finance Minister. The Finance Accounts and Appropriation Accounts prepared by the CGA are the consolidated year-end financial statements of the Government of India. These documents are based on the detailed information for all the ministries/departments and decentralized units. The year-end financial statements are accessible to the general public. The accounts for the government sector in India are prepared on a cash basis and the year-end financial statement reflects this accounting system. However, the year-end financial statements in the form of Finance Accounts and Appropriation Accounts are presented with a time lag of 8 to 10 months. Group 3 Report

The group deliberated upon the systemic and procedural problems faced in the existing system of Government accounting, cash basis versus accrual basis of accounting, issues relating to reporting of information Accounting Standards, use of IT and possible areas for Business Process Re-engineering. Due to paucity of time other important issues like gender budgeting, reforms in accounting classification and consolidation of data and accounting information could not be discussed. The group felt that the existing accounting system and procedures needs review and revision to simplify them and make them more user friendly. For example, the existing system of reconciliation between a DDO or a paying authority and the banks involves multiple stages and creation of heavy balances in suspense account. These balances have been increasing every year and efforts involved in the process of reconciliation much more than required for desired results. Some of best practices need to be studied in close consolidation with the RBI. These need to be revamped by simplification and use of IT system. Meanwhile, the existing systems and procedures need process re-engineering. Issues relating to cash balances and accounting that were discussed included Assets Registers, Liability Registers and GIA registers, consolidation of accounting policies and proper implementation of existing rules and policies. The group recommends alignment of existing cash basis of Government accounting with International Public Sector Accounting Standards. This need to be accompanied with sincere efforts to shift towards accrual accounting as recommended by 12th and 13th Finance Commission. The Group



supports the efforts of GASAB in this regard. However, some important issues in accrual accounting like valuation of assets particularly in defence, disclosures norms etc. need careful consideration. On the payment side, some of the good practices being followed in Railways which provides seamless integration from “proposal to payment”, use of liability register for contractual commitments, e-procurement and e-bills etc. need to be studied and improved upon. Similarly, creation of standardized data base for expediting administrative approvals, financial sanctions, committed liabilities vis-a-vis budget available etc. are required for better formulation and execution of budget. Financial and reporting management system needs to be made from user friendly, timely and helpful for decision making. One suggestion is to put the unaudited annual reports in public domain as audit takes time. Thus reporting structure could also be customized to meet the requirements of both the managers and users. Group 4: Oversight

Group 4 was asked to look at the scope, nature and follow-up of external audits conducted by the Comptroller and Auditor General, and at the scrutiny provided by the legislature, both ex-ante scrutiny of the annual budget and ex-post scrutiny of the external audit reports. Summary of NIPFP Assessment

Legislative scrutiny of the annual budget law scored an A. However, the timeliness of external audit reports to the legislature and the extent of follow up on audit recommendations resulted in a D overall ranking for the external audit indicator. Similarly, the timeliness of PAC/COPU examinations of audit reports and the extent of hearings undertaken on key findings resulted in a D overall ranking for the indicator on legislative scrutiny of external audit reports. A unitary audit in federal setup is designed to play a significant role in effective financial administration of the country. The Constitution of India has provided the Comptroller and Auditor General of India (CAG) as a high independent statutory authority. The Constitution prescribes exhaustive safeguards for the independent functioning of CAG. The range of audit performed by the CAG includes regularity (financial) audit, regularity (compliance) audit, IT audit and performance audit. The audit assists Parliament in exercising financial control over the executive to ensure that funds approved have been utilized with due regard to economy and efficiency, and the funds authorized to be raised through taxation and other measures have been assessed, calculated and credited to the government properly. The Action Taken Notes submitted by the departments and units audited by the CAG relating to audit observations other than those examined by the PAC as described in the following paragraph, were found to be largely formal rather than substantive. In addition, CAG’s reports are sometimes not timely because there can be a substantial time gap between the occurrence of an irregularity and its reporting by CAG. It reviews programmes after these have run for a few years. The audit reports of CAG are examined by a Parliamentary committee called the Public Accounts Committee (PAC), which makes recommendations to Parliament on various issues involved. However, the PAC’s examination of the audit report is not comprehensive, as the Committee over the years has scrutinized only a limited portion of the audit reports. While the recommendations made by the PAC were taken seriously by the executive, its scope was limited as the PAC considers only a small portion of the audit reports.



Group 4 Report

Introduction: Group-IV based its deliberations on the outline of the issues identified by NIPFP for deliberation by the group. In all, 8 issues were identified in the overview document. These are summarized below:

i. Scope of the CAG DPC Act of 1971: Whether the Act provides adequate power to the CAG to conduct audit to fulfill his constitutional obligations

ii. Timeliness of audit Reports: Whether reports are timely in view of the perceived delay between occurrence of an irregularity and its reporting by audit, and the tabling of report before the parliament.

iii. Audit Procedures: Whether audit reports of the CAG suffer from an excessive focus on faultfinding, not sufficiently constructive, repetitive, are in the form of scattered observations not identifying systemic issues or providing a macro level view of functioning of the department.

iv. The Legislative scrutiny of external audit Reports: Whether the follow-up of CAG’s Audit report is adequate in view of huge pendency in examination of audit reports by the Parliamentary committees, and the quality of response of the Ministries/Departments.

v. External audit as a management tool: Whether external audit (By CAG) is functioning solely as a system for policing government organizations.

vi. The functioning of the Audit Committees: Whether the functioning of Audit Committees set up to review departmental action taken on audit reports is effective.

vii. Co-ordination between external audit and internal audit: Whether there is adequate synergy between external and internal audit.

viii. The role of CAG in the audit of Local Bodies, NGOs: Whether the level and extent of CAG’s role in the audit of local bodies, and in the audit of grants and loans to NGOs is adequate.

The deliberations and recommendations of the Group are summarized below: 1. Scope of CAG’s Act: CAG’s duties and powers are derived from Articles 148 to 151 of the Constitution, which are further amplified in the CAG’s Duties, Powers and Conditions of Service Act, 1971 (DPC Act). The group was of the view that as set out in the Act, the powers of the CAG are wide, but more implicit than explicit. For instance, the expression ‘Audit’ or scope of the audit itself has not been defined either in the Constitution or the CAG’s DPC Act, 1971. The scope of external audit is, therefore, wide and audit by CAG can respond to changes, reforms, new initiatives, changing patterns of Government activities, international developments in the profession and rising expectations of the stakeholders regarding public accountability without making any amendment to the Act. Similarly, the CAG has the power to determine the nature and extent of audit and related access to records and to relevant information, and finally decide on what to include in his audit reports. For this reason, the group felt that the Act gives wide powers to the CAG, without explicitly spelling it out in all cases. While this loose definition of the scope of CAG’s audit largely works in his favour in helping him cover new areas of audit with changing pattern of governance, the Group was of the view that the Act still needs to be modified so as to explicitly state the power of CAG in relation to the following:

a. Audit of Budgeting: Budgeting is a critical component of the PFM framework. The credibility of the budget, its comprehensiveness and transparency, its link with the stated policy of the government and its predictability directly impacts financial management. Explicitly empowering the CAG to take up audit of Budget will aid in financial management especially since the CAG’s audit reports regularly point out large variations between the budgeted and actual figures.



b. Performance Audit: The CAG has been conducting performance audits for more than a decade now. The Regulation on Audit and Accounts, 2007, framed by the CAG has a separate chapter on Performance Audit, which both defines and explains the procedure for conducting such audits. However, performance audit is not explicitly mentioned in the DPC Act.

c. Audit of PPP contracts: Increasingly, governments are relying on Public Private Partnership as an instrument for leveraging public finance by attracting private capital. This has been done with the assumption that private sector investment and management and the underlying appetite for innovation would lead to timely completion of projects, reduce stress on scarce public resources and result in better value for money. Looking at the quantum of public funds involved, and the fact that underlying resource being exploited is a public resource, the DPC Act should explicitly empower the CAG to take up the audit of all PPP contracts.

d. Access to records of all agencies receiving public funds: In the last decade, we are seeing an increasing trend in the transfer of public funds for expenditure to a wide variety of agencies, not all of which come within the scope of audit of CAG as defined by the DPC Act. To ensure accountability and obtain required assurance, it is essential that CAG be provided access to records of all agencies receiving public funds.

e. Penal provision for non-production of records: While the CAG is empowered by the DPC Act to require that any record relevant to his audit be sent to such place as he may appoint for his inspection, this has not universally led to the records being made available within reasonable time. Incorporating penal provision in the DPC Act for non-provision of records may lead to better compliance with the Act, and improved quality of audit.

Finally, the Act needs to formally state that the CAG is the national mentor of public auditing in India. 2. Timeliness in Audit Reporting: All parties involved in timely tabling of the audit report on the floor of the House should give due importance to this aspect of financial management. Specifically, it is important that the audited accounts of the Union or the State for any financial year are available well in time to facilitate budgeting for the next financial year. It was agreed that all players would co-operate to ensure that the audited annual accounts are available by September and the audit report on accounts are finalized by December of the next financial year. Currently, the target set by the CAG for its field formation for finalization of accounts is in keeping with stated target. In case of State Government wherein the accounts are maintained by Accountant General (Accounts & Entitlements), and the audit certificate provided by Accountant General (Audit), the duly audited Annual Accounts (Finance Accounts and Appropriation Accounts) of the State government are targeted to be ready by 15th September for counter signature by CAG. The report of CAG on State finances is targeted to be finalized along with reports on Annual accounts.

3. Revisiting Audit Procedures: It is perceived that the present audit procedures followed by CAG covering audit planning, execution, and reporting appear somewhat ineffective in achieving its goal of bringing in executive accountability. This view emanates from the observation that frequently, the CAG audit reports refer to irregularities which are already known, and had been reported in earlier years without corrective action by the executive. Further, the observations appear disjointed and do not provide a macro level view of the functioning of the department. This issue was discussed by the group, and the group was informed of changes made by the CAG in the recent past to address some of the issues, including a greater emphasis on performance audits and integrated audit of departments. The group was of the view that this may be continued, and



that audit planning should be done on improved risk analyses of issue areas and audit reporting should highlight systemic issues and analyze causes in entirety. The group felt that simply identifying the irregularity is not sufficient, and that audit should identify the underlying causes, and control weakness if any which lead to the irregularity being observed year after year. The group was of the view that ICT (Information and Communication Technology) has multiplier effect on individual productivity and effectiveness, and it should be used extensively by the auditors in conducting their audits. In addition, organizations are increasingly conducting their business using IT applications, and audit should try to conduct their audit by leveraging on the availability of data in electronic format by increasing the level of substantive testing, and placing lesser reliance on paper documents for audit.

4. Legislative Scrutiny Sufficiency & Transparency: In view of the fact that percentage of audit observations discussed by the Parliamentary Financial Committees is miniscule when compared to the total number of observations included in the CAG’s report submitted to the parliament every year and the resultant pendency in discussion on the reports, the group felt that the present system of legislative scrutiny of the audit reports is insufficient. This was further exacerbated by the delayed and formal rather than substantive nature of response in the form of Action Taken Notes by the concerned Ministries/Departments. The group felt that the two parliamentary financial committees, PAC (Public Accounts Committee) and COPU (Committee on Public Undertakings), with 22 members each, needs to be expanded suitably to deal with the large body of audit reports presented to it, and the increasing complexity of governance. One of the options in this regard may be through the PAC/COPU setting up Working Groups, Sub-Committees, and Departmentally related Standing Committees for examining the audit observations featuring in the audit reports. The group was also of the view that legislative scrutiny may become more effective if the process is made transparent, say by allowing media to attend the proceedings or by putting the report on proceedings in public domain. It is recommended that the rules of business of legislative committee be amplified while clearly defining its core functions and responsibilities.

5. External Audit and Management: The group was of the view that it is internal audit which when strengthened can become an effective tool of management in ensuring good governance. External audit and management serve the same larger purpose, but external audit acts as a ‘tool’ for a larger body of stakeholders and its role as aid to the auditee management is at best incidental. This issue is elaborated further in paragraph 7 below.

6. Functioning of the Audit Committees: Audit committees, comprising representatives of audit and government agencies, have been set up to review the departmental action taken on audit observations. The group was of the view that this body, serving as an Audit-Executive interface needs to be institutionalized. Nodal agencies need to be created at both Union and State Governments level for each department for this purpose. The Audit Committee should have an independent status and deal with matters related to both internal and external audit. All Departments should be duty bound to furnish information as and when required by this Committee. Summary of Audit Committees’ deliberations should be in public domain, and should also be laid before the legislative committees.

7. Internal & External Audit Coordination: The function of audit has been entrusted to the Comptroller and Auditor-General of India by the Constitution. Internal audit, as the name suggests, has to be a part of the government organization. Thus, the audit conducted by the CAG is very clearly, external audit. The Institute of Internal auditor defines internal auditing as “an independent, objective assurance and consulting activity designed to add value and improve an organization's operations. It helps an organization accomplish its objectives by bringing



a systematic, disciplined approach to evaluate and improve the effectiveness of risk management, control, and governance processes.” So, while internal auditing aims at assisting the organization in accomplishing its objectives, external audit is a third party review of the operations of the organization for consumption by interested stakeholders outside of the concerned organisation. The Group deliberated on the key difference between external and internal audit, and the different role played by the two. The Group was of the view that Government internal audit systems are presently very fragile and insufficient at all levels; and needs to be significantly strengthened. CAG’s external audit should make a strong case for strengthening of internal audit. The weakness of internal audit at the department level has been repeatedly highlighted by the CAG in his audit reports by undertaking special review of internal controls. Once internal audit is on a sound footing, operational synergy should be formally built by external audit (done by CAG) with internal audit such that external audit can base the extent and duration of audit on the work done by internal audit. For this, it is essential that the modalities for ensuring non-duplication of work vis-à-vis the CAG should be formalized. This should be aimed at assisting the CAG in concentrating on carrying out specialized audit/tasks, while internal audit focuses on routine regular governance issues within the organisation.

8. CAG’s Audit & Decentralized Governance: Decentralized governance through Local Bodies as brought about by the 73rd/74th amendment of the Constitution has been a watershed event in civic governance. The governing bodies so created need strong institutional support for sustenance and growth in the area of governance. While there has been increasing devolution of funds to local bodies, the accountability structures are not yet commensurate with the funds flow, and there is a need for ensuring that devolution and accountability go hand-in-hand. The group was of the view that the CAG should play a key role in this exercise of decentralized governance by setting up decentralized and effective audit structures. In this regard, legislation explicitly stating the CAG to be the National Mentor of Accountability through auditing may be of help.



Annex 1

National Institute of Public Finance and Policy New Delhi

Workshop on Public Financial Management in India June 8-9, 2010

Venue - Le Meridien Hotel, New Delhi

Agenda Tuesday, June 8, 2010 9.30 -10.00 AM Registration 10.00 – 10.10 AM Welcome Note and Overview of the Workshop

Dr. M Govinda Rao, Director, NIPFP and Member, Economic Advisory Council to Prime Minister of India

10.10 – 10.40 AM Inaugural Address Dr. C. Rangarajan, Chairman, Economic

Advisory Council to prime Minister of India 10.40 – 11.00 PM Keynote Address Dr. Arvind Mayaram, Additional Secretary,

Ministry of Rural Development, Government of India

11.00 – 11.30 AM Tea/Coffee 11.30 – 11.45 AM PFM in India: Some Observations Dr. Arindam Dasgupta Professor of Economics and Finance, Goa

Institute of Management 11.45 – 12.30 PM PFM Assessment in India Dr. Pratap Ranjan Jena, NIPFP 12.30 – 1.00 PM Introducing the Groups and Group Chairs Dr. Pratap Ranjan Jena, NIPFP 1.00 – 2.00 PM Lunch 2.00 – 5.00 PM Group Work (3 hours incl. tea)



Wednesday, June 9, 2010 10.00 – 10.30 AM Presentations of Groups 1 and 2 10.30 – 11.00 AM Presentations of Groups 3 and 4 11.00 – 11.30 AM Tea/Coffee 11.30 – 12.00 PM Summary/Next Steps

Dr. M Govinda Rao, Director, NIPFP and Member, Economic Advisory Council to Prime Minister of India

12.00 PM – 12.30 PM Valedictory Address

Shri Vinod Rai, Comptroller & Auditor General of India

12.30 – 12.45 PM Vote of Thanks 12.45 PM Lunch Group 1: Budgeting Chair: Smt. Dakshita Das, Controller of Aid Accounts and Audit, Government of India Group 2: Budget Execution (including cash management, procurement, internal control and audit) Chair: Dr. Arvind Mayaram, Additional Secretary, Ministry of Rural Development, Government of India Group 3: Accounting and Reporting Chair: Ms. Soma Roy Burman, Chief Controller (Pensions) Group 4: Oversight (including external audit and legislative scrutiny) Chair: Shri Niranjan Pant, Director General, (Local Bodies), C&AG, Government of India



Annex 2 List of Persons Attending the Workshop on

Public Financial Management in India June 8-9 2010

1. Shri D.D. Verma AS & FA Ministry of Consumer Affairs, Food & Public Distribution Department of Food Room No. 173, Krishi Bhawan New Delhi 110 001. 2. Shri. Vinod Rai Comptroller and Auditor General of India New Delhi 110 002 3. Mr. Amar Nath Special Secretary (Finance) Govt. of NCT of Delhi New Delhi 110 002. 4. Mr. Ajay Kumar Garg Addl. Secretary (Finance) Govt of NCT of Delhi New Delhi 110 002. 5. Mr. Himanngshu Sakhar Das Principal Secretary Finance Department Govt. of Assam Assam Secretariat, Dispur Guwahati. 6. Dr. Arindam Das-Gupta B-401, Grand Landscape Dada Vaidya Road (Behind Mahalakshmi Temple) Panaji Goa – 403001. 7. Shri Mayank Sharma Joint Controller General of Defence Accounts Headquarters Defence Accounts Department Delhi Cantt 110 010. 8. Mrs. Devika Raghuvanshi Jt. Controller General of Defence Accounts



Headquarters Defence Accounts Department Delhi Cantt 110 010 9. Mr. Rajneesh Kumar Jt. Controller General of Defence Accounts Headquarters Defence Accounts Department Delhi Cantt. 110 010. 10. Shri K.N. Srivastava AS & FA Ministry of External Affairs 164, South Block New Delhi 110 001. 11. Shri P.R. Devi Prasad Director, Fiscal Policy Institute, Fiscal Policy Analysis Cell Finance Department Govt. of Karnataka, Room No. 36, 8-9 Floor MSIL Building, Cunningham Road Bangalore 560 052. 12. Shri Kashmira Singh Budget Officer Government of Punjab Department of Punjab Chandigarh 13. Shri Harmohan Kumar

Research Officer Directorate of Financial Resources & Economic Intelligence Finance Department Govt. of Punjab Chandigarh

14. Shri Sushil Pal

Controller of Accounts CBDT New Delhi

Email: [email protected]

15. Shri Harish Srivastava Dy. Controller General of Accounts Office of the Controller General of Accounts New Delhi Email: [email protected]

mailto:[email protected]�




16. Shri Bhaskar Verma Controller of Accounts Ministry of Urban Development New Delhi

Email: [email protected]

17. Ms. Suman Bala Controller of Accounts Ministry of Earth Sciences New Delhi Email: [email protected]

18. Shri Raju Sharan

Controller of Accounts Ministry of Finance New Delhi Email: [email protected]

19. Ms. Bandhula Sagar

Jt. Controller General of Accounts Office of the Controller General of Accounts New Delhi Email: [email protected]

20. Ms. Bharti Das

Jt. Controller General of Accounts Office of the Controller General of Accounts New Delhi Email: [email protected]

21. Ms. Preeti Jha

Office of the Comptroller & Auditor General of India New Delhi Email: [email protected]

22. Shri Satish Sethi


23. Shri K.S. Gopinath Narayan

Office of the Comptroller & Auditor General of India Email: [email protected]

24. Shri Yashwant Thakre Office of the Comptroller & Auditor General of India











New Delhi Email: [email protected]

25. Shri Sarit Jafa

Office of the Comptroller & Auditor General of India Mumbai Email: [email protected]

26. Shri L.V. Sudhir Kumar

Office of the Comptroller & Auditor General of India Kolkatta Email: [email protected]

27. Shri Jagbans Singh


28. Shri Govind Bhattacharjee


29. Shri Shantanu Basu


30. Ms. Meenakshi Gupta


31. Shri Gautam Guha


32. Shri G. Sudhir

Special Chief Secretary to Government Finance Department Govt. of Andhra Pradesh Secretariat Building Hyderabad 500 022.











33. Shri Ajit M. Sharan, IAS Financial Commissioner & Principal Secretary Finance Department Govt. of Harayana Chandigarh 34. Shri Harinder Kumar, IRS Special Secretary Finance Department Govt. of Harayana Chandigarh 35. Shri Rajeev Ranjan, IAS Joint Secretary Finance Department Govt. of Haryana Chandigarh 36. Shri Yash Pal, IES Advisor to Government of Haryana Finance Department Chandigarh 37. Shri Ashok Sarin Joint Secretary Lok Sabha Secretariat Parliament of India New Delhi 110 001. 38. Shri Yogesh Kumar Meena Dy. Controller of Accounts Ministry of Health & Family Welfare Room No. 313-“D”, Nirman Bhawan New Delhi 110 011. 39. Shouvik Datta

Delegation of European Union of India 9818771109

40. Dr. Anuradha Balaram Economic Advisor Office of the Comptroller and Auditor General of India 9, Deen Dayal Upadhyaya Marg New Delhi 110 024.



41. Smt. Dakshita Das Controller of Aid Accounts and Audit Govt. of India New Delhi. 42. Dr. Arvind Mayaram Addl. Secretary Ministry of Rural Development Govt. of India New Delhi. 43. Ms. Soma Roy Burman Chief Controller (Pensions) Controller General of Accounts New Delhi 44. Shri Niranjan Pant Director General (LB) C & AG Govt of India New Delhi 45. Shri Milind Vaikar Dy. Secretary Finance Department Govt. of Madhya Pradesh Bhopal. 46. Shri M.C. Worthing

US (Budget) Ministry of Finance

New Delhi 110 003. 47. Ms Shagun Mehrotra Programme Manager, Development Cooperation

Delegation of the European union to India

49. Dr. UTE Schnmann Health Advisor European Union Delegation to India 65 Golf Links [email protected]




50. Shri Sundar Lal Director

Institute of Financial Training and Research Govt. of UP Lucknow

51. Ms. Ishita Ray, IAS

Secy, Expenditure Govt. of Kerala Trivendrum

52. Dr. Jaideep Mishra

Dy. CGA 53. Shri R. Bhattacharya

AS & FA Ministry of Consumer Affairs, Food & Public Distribution Department of Food Room No. 173, Krishi Bhawan New Delhi 110 001. 54. Shri S. Balshekhar

Additional Secretary Lok Sabha Secretaria New Delhi

55. Shri Manoj Sahary

Dir, Department of Expenditure

56. Ms. Parama Sen

Dir Department of Expenditure

57. Shri Pandip Kumar 58. Shri Yash Pal Finance Department Govt. of Harayana Chandigarh Participants from the World Bank

59. Mr. Mohan Nagarajan

60 Mr. Tidiane Toure

61. Mr. Les Kojima



62. Mr. Mohan Gopalakrishnan

63. Mr. Manoj Jain

64. Ms. Barbara Kafka

65. Ms. Jennifer Thomson

66. Mr. Savinay Grover

67. Mr. Puneet Kapoor

68. Ms. Tanya Gupta

69. Mr. Arun Manjula

70. Mr. Roland Lomme

Participants from the NIPFP

71 Dr. C. Rangarajan, Chairman

72. Dr. M. Govinda Rao, Director

73 Dr. Pratap R. Jena

74 Dr. Tapas Sen

75. Dr. Manish Gupta

76. Dr. H.K. Amarnath

77. Dr. Sachidananda Mukherjee

78. Dr. Debdulal Tahkur

79. Dr. Surajit Das

80. Dr. Satadru Sikdar

81. Ms. Alak Matta, Secretary



Annex 3

Dimensions of Public Financial Management by

Dr. C. Rangarajan June 8, 2010

I must complement the National Institute of Public Finance and Policy for convening this Workshop to identify and discuss the important issues in Public Financial Management (PFM) in India. I understand that this is based on a study sponsored by the World Bank at NIPFP. I am sure that detailed discussion on various aspects of public financial management based on this study would help to identify and initiate important reforms needed to strengthen the financial management in the country and making it more responsive, efficient and accountable.

Ensuring service value for taxpayers’ money has always been a major concern of governments around the world. Several reforms have been introduced over the years to enhance efficiency and accountability in government spending. The more recent reforms, in addition, were also intended to impart greater fiscal discipline and maintain a sustainable fiscal policy. The entire process of budget formulation, implementation, monitoring and control as well as auditing and accountability has undergone significant changes over the years. There have been changes in the systems of expenditure management as well as institutions associated with them. Expenditure management has become all the more important with public expenditure as a proportion of GDP rising. For the OECD countries, the average is 40.4 per cent. In India, government expenditures at the Centre and States taken together constitute 30 per cent of GDP.

A sound PFM system should be comprehensive, transparent, predictable and sensitive to shocks. Comprehensiveness requires that all expenditure commitments should find a place in the budget and should be subjected to detailed Parliamentary scrutiny. There is no scope for having off-budget items. Furthermore, it is important that future expenditure commitments of all policies and various capital works will have to be properly estimated and taken account of in the budget. Estimating future expenditure liabilities of current policies and spending programmes is by no means an easy task.

Transparency is necessary for greater accountability. Predictability helps the spending department plan their public service provisions in a much better manner and minimises cost and time over-runs by taking only those projects which are feasible within the resource envelop. Perhaps, it is also necessary to ensure continuity in the budget so that the ongoing projects can be adequately funded. The recent global financial crisis has shown the need for calibrating counter cyclical fiscal policy and this would require accommodating changes in the public finance management systems.

In the ultimate analysis, a good PFM system will demand discipline to maintain macro economic stability and facilitate counter cyclical fiscal policy. It should also provide checks and balances to ensure spending according to what is affordable besides ensuring that the expenditures are incurred as planned



and reach the intended beneficiaries. In other words, it should ensure that the spending conforms to policy priorities, besides maximising allocative and technical efficiency.

Like in other countries, in India too there have been number of initiatives towards PFM reform. The most important of them was the attempt to make a transition from input based compliance budget to result oriented management based system of financial administration. The government tried to introduce performance budgeting in the 1970s when performance budgets were prepared for a few Central ministries. Later, the scope of performance budgeting was expanded to cover all the ministries. However, over the years the scope was restricted to plan programmes and performance budgets remained supplementary to the main budget without drawing any attention or being discussed, and without much impact on either efficiency or accountability. Similarly, the introduction of Zero Based Budgeting (ZBB) in the late 1980s did not matter much as it became difficult to discontinue the projects and programmes even when they were found to be of doubtful value.

Another important reform was the introduction of outcome budgeting in 2005-06. The attempt was to move from the traditional line item system to clearly defined outcomes of various government programmes. While the intention of bringing out the outcome budget was commendable, much remains to be done in achieving clarity of outputs and outcomes and institute a system to assess them in an objective manner. In fact, outcomes in respect of many services can be influenced by a number of exogenous factors and it may be difficult to link expenditures with outcomes. Instead, it may be desirable to relate expenditures with measures of outputs. Further, as over 40 per cent of the Centre’s revenues are transferred to subnational governments and service providing agencies, it seems appropriate to build the outcome budget from these agencies upwards. Thus, much remains to be done to achieve conceptual clarity and comprehensiveness in preparing the outcome budget.

Targeting the financial management system to impart fiscal discipline started with the Fiscal Responsibility and Budget Management (FRBM) Act in 2004. The Act besides determining the fiscal and revenue deficit targets limited the scope of government borrowing from the Reserve Bank of India and put a cap on government guarantees. The 12th Finance Commission also made recommendations to set the targets for fiscal and revenue deficits for States. Until the year 2007-08, the Central government had considerable success in achieving the deficit targets by bringing down the fiscal deficit from 4.5 per cent in 2003-04 to 2.7 per cent in 2007-08, although the Act required that it should be brought down to 3 per cent by 2009-10. Similarly, revenue deficit was brought down from 3.6 per cent in 2003-04 to 1.1 per cent in 2007-08. However, there was a sharp increase in fiscal and revenue deficits in 2008-09 and 2009-10 (excluding off-budget liabilities), increasing to 6 per cent and 6.7 per cent respectively and revenue deficit increasing to 4.5 per cent and 5.3 per cent respectively. For 2010-11, the fiscal deficit is budgeted at 5.5 per cent and revenue deficit at 4 per cent for Central government. For the future, the 13th Finance Commission has recommended that the fiscal deficit should be further brought down to 4.8 per cent in the next year and 4.1 per cent in the following year. The target of 3 per cent is to be achieved before 2014-15. The Centre needs to plan its fiscal path accordingly.

The FRBM Act also mandated that a Medium Term Fiscal Programme (MTFP) should be placed in the Parliament every year. This has brought in multi year perspective to fiscal management. However, targets set are too broad and expenditure compression targets were hardly achieved. Much of the



compression in expenditure was in capital expenditures. In any case, as all the targets went overboard in 2008-09 and 2009-10, the Central government has to initiate fiscal consolidation programme again based on the targets set by the 13th Finance Commission from 2010-11 to 2014-15.

All these imply that the significant reform measures are needed to improve public financial management system in India and therefore the detailed study undertaken by the NIPFP gains relevance. This assessment is expected to quantify priorities for PFM reform and put forth a PFM reform strategy for implementation. The PFM assessment provides a review of prevailing systems and processes with a view to identifying the problem areas. It brings out both strengths and weaknesses of public financial management system. Although the coverage of the present exercise is limited to the assessment of PFM at the Central level, it provides a starting point for discussion on improving the public finance management at the State level as well.

The framework for the PFM was prepared by the World Bank and the NIPFP study applies it to evaluate the PFM at the Central level. The framework takes account of a number of factors to evaluate the (i) credibility of the budget, (ii) comprehensiveness and transparency, (iii) linkage of policies with budgeting, (iv) accounting, recording and reporting systems and (v) an external scrutiny and audit. In other words, the performance assessment takes account of all the 4 aspects of public finance management, namely, budget formulation, implementation, monitoring and control and external auditing.

Credibility of the budget depends upon the accuracy of the forecasting. The analysis at the Central level shows that in some years, there are significant variations between expenditure put forth in the budget estimates and actual expenditures. In 2008-09 for example, the actual expenditure of the Centre was higher than the budget expenditure by about 37 per cent. While the exceptional circumstances of 2008-09 are understood, substantial deviations have happened even in more normal circumstances. The recourse to supplementary demands for grants during the course of the year to soften budget constraint reduces the credibility of the budget.

Comprehensiveness of the budget is an important factor in determining the efficacy of PFM. Practice of showing expenditures outside the budget not only escapes Parliamentary scrutiny but also obscures the true nature of the fiscal imbalances. Fortunately, the Finance Minister in the last budget has declared that the practice of issuing bonds to fertiliser and oil marketing companies will be given up and the subsidies given to them will be shown in the budget itself. Indeed, there are a lot of expenditure commitments arising from initiatives of various projects and various policy pronouncements made by the government from time to time and unless we bring in the accrual accounting system, it is not possible to make the budgets comprehensive. A true picture of government finances requires that all revenues and expenditures are accounted on accrual rather than cash basis. This would require significant reforms to be undertaken. Making the budgets comprehensive also requires a significant upgradation of reporting systems and oversight on public sector enterprises as well and estimation of the risks from the guarantees given by the government to the public sector enterprises.

Formulating budgets on the basis of policy pronouncements require considerable augmentation of capacity. Each of the department has to work out the cost of implementing the new set of policies and include them if the budgets have to become policy based. When these are done in the context of medium



term fiscal policy, the challenges are formidable. In this regard, there needs to be a strong connection between policy pronouncements and the expenditure ceiling implicit in the MTFP. Harmony between political expansionism and fiscal conservatism is by no means an easy task. Indeed a policy based budget would also require a multi year perspective in resources allocation. While MTFP brings in some multi year fiscal targeting, policy based multi year framework would require that the expenditures for continuing schemes should be adequately provided for. In other words, the problems faced by the spending departments currently for having to spend the amount allocated in the budget before the end of March in order to avoid the lapse of funds and consequent lower allocation in the subsequent year will have to be overcome through a proper calibration of multi year budgeting system.

Predictability in expenditure depends on predictability in revenues. This would require overhauling of the tax administration to provide effective and transparent mechanism to ensure that the budgeted revenues are indeed collected. It is also necessary to avoid taking up projects outside those approved in the budget during the course of the year. The more important issue is that the attempt to achieve the deficit targets in the budgets should not result in overestimating revenues and under funding of unavoidable expenditures and bringing in large supplementary demands later. In other words, predictability is closely related to credibility and effective predictability would require effective control over budget institutions.

An equally important component of budget execution is the system of accounting, recording and reporting. In order to exercise effective control over the budget, it is necessary to have reliable systems of accounting and reporting at regular intervals so that if necessary, the government can undertake mid course correction. The monthly report prepared by the Controller General of Accounts (CAG) is a useful starting point. Accounting and reporting system is crucial not only for effective budget management but also to ensure accountability by the spending departments and agencies.

The most important component in the public finance management is the system of external auditing. Indeed, the office of the Comptroller and Auditor General (C&AG), which is an independent statutory authority, is an extremely important institution entrusted with the task of external scrutiny of the expenditures undertaken. The purpose of the scrutiny is not merely to ensure that the rules and procedures involved in incurring expenditures are followed but also to examine whether expenditures have, in fact, served the purpose they are meant to do. Often, there are complaints that the focus is more on the processes than on the outcomes. One should, however, admit that the task of the external auditor is not easy and considering the volume of work which has constantly been expanding, it is not easy to do justice to both processes and outcomes.

The NIPFP study makes a detailed analysis of each of the components of financial management at the Central level in India and it would be in fitness of things that these are deliberated upon in detail to identify the areas requiring improvement. The listed shortcomings in the system should be addressed by prioritising them so that we have a comprehensive, credible and accountable system of financial management with sufficient checks and balances. The study is a starting point and the PFM framework outlined in the study can be used usefully to develop PFM performance evaluation methodology at the centre and in different states. I am sure the deliberations in the workshop today and tomorrow will be extremely useful and productive.



Annex 4

Public Financial Management : The New Dimensions

Ladies and Gentlemen, At the very outset, I would like to convey the regrets of Secretary Expenditure who could not be here on account of some pressing and emergent work. Delivering a key note address can be challenging at most times. When it entails the daunting prospect of speaking after Dr. Rangarajan, one of the most eminent economists of our times, it becomes almost intimidating ! Having just heard one of the most comprehensive and lucid expositions on public finance, I have decided to restrict what I have to say to two emerging realities that are impacting public finance management and would increasingly continue to do so in times to come. These are:

a. Public-private partnerships (PPPs) as an instrument for leveraging public finance to attract private

b. Use of IT for managing delivery of services and improving public finance management at the grass-roots level.

PPPs

The decision to move towards PPPs as a preferred mode of delivery has been based on an analysis of public expenditure over a period of time. Traditional implementation of public projects has been on the basis of rate contracts awarded through the tender system. It is now established that this method has not yielded optimum results and time and cost overruns have resulted in massive sub-optimal utilization of public resources. The inadequate provisioning for recurring maintenance costs has also resulted in the rapid deterioration in public assets. Engineering Procurement Contracts (EPC) are decidedly an improved version of procurement, but the issue of recurring maintenance cost remains unanswered. It is expected that private sector investment and management and the underlying appetite for innovation should lead to timely completion, reduce stress on public scarce resources and result in better value-for-money. Efficiency gains should off-set to a large extent higher private sector borrowing costs. The determination of ‘reasonability’ of the private sector fee when determined by a robust Public Sector Comparator can yield expected results. It must be noted that the financial cost of a PPP contract may generally be higher on account of higher cost of private borrowing because of risk diversification and default risk, and the unmitigated institutional, regulatory, and political risks. However, while comparing costs between PPP and public sector spending all costs, including the establishment over-heads (budgeted under the ‘establishment’ head) should be fully accounted for. It is understood that PPPs are a marriage between the public sector imperative to provide good quality services at affordable cost and without exclusion and the private sector impulse to make profit. To optimize the convergence between the two seemingly opposite impulses, public finance is often used judiciously to cement the relationship. The VGF (viability gap funding), and payment of annuities in PPPs is one example of creating the right framework for private sector participation. There are, however, major concerns regarding the PPP format. Some of these are: 1. How to account for contingent liabilities?

a. The issue of compensation for change in law, penalties for authority default and termination payments is critical. GoI’s exposure to PPP termination payments is approximately Rs. 40,000



crore ($10 billion, 1% of the exposure, which is relatively. Under similar assumptions, we can calculate somewhat loosely that the combined exposure of 17 state governments could be around $16 billion and additional exposure of GoI and the state governments combined could increase by approximately $50 billion in the next five years.

b. Out of the total availability of debt financing for infrastructure in the Eleventh Plan of $206.38 billion, almost 70% would come from domestic bank credit, non-banking financial institutions and pension/insurance companies, most of these institutions with government interests. Should these be treated as contingent liabilities of the Government because of the ownership issue? On the other hand, should all the future likely liabilities be added up for the purpose of provisioning/disclosure? (It must be noted that disclosure of contingent liabilities would impact country’s credit rating). The other related issue is that public infrastructure assets will continue to give economic returns and to large extent commercial returns even after the termination. How should the asset be valued ? Should there also be an entry on the asset side of the public partner’s books? How should the apportionment be done?

2. Accounting aspects

a. How does the accounting system distinguish between operating and financial leases? The substance of a PPP transaction may suggest that it should be treated as a financial lease, whereas the assets and services rendered by such a lease would indicate these are operating leases.

b. If risk transfer to a private partner is limited, the government can be regarded as the economic owner of a PPP asset, which it is assumed to obtain under the terms of a financial lease. (This is the basis of accounting in Australia and the United Kingdom).

c. Accounting for Limited Risk Transfer is also complicated. Under the financial lease approach, limited risk transfer results in; PPP assets being placed on the government balance sheet; PPP investment being treated as public investment; and PPP debt being treated as a government liability. With related transactions – lease interest, amortization and depreciation – the fiscal accounts are complicated by many imputed entries. Net asset value builds up slowly on the balance sheet, but the basis on which private partner continues to use the asset is unclear. How would investment by the parent company be reported in the balance sheet if the assets created are owned by the public sector? Are we certain that we have guarded against double counting at the aggregated nation accounts’ level?

In this regard, the EU decision is of interest. It states that : i. PPP asset should be classified as private sector assets if the private partner bears the

most construction risk, and either most of the availability or the demand risk. ii. Since the private partner typically bears the construction and availability risk, most

PPP assets are likely to be classified as private assets, even though the government bears considerable demand, residual value, and other risks.

However, in the Indian context, PPP assets are deemed to be public assets. Classifying PPP assets as government or private sector assets does not do justice to the fact that PPPs are designed to share risk according to which party can manage it best. An alternative accounting and reporting approach would be to record PPP assets on private sector balance sheets, consistent with legal ownership. The fiscal costs and risks associated with PPPs would then be assessed, quantified, and disclosed. A similar approach is being considered for private sector accounting of leases, where the focus is shifting to the assets and liabilities created for each party to a lease contract. Pending agreement on a general accounting and reporting standard for PPPs, it would be advisable that Government guarantees should be disclosed as required under the IMF’s fiscal



transparency code and PPP commitments/obligations should be treated as primary spending when undertaking debt sustainability analysis. Government guarantees should also be taken into account.

PURA In this complex universe of PPPs, the Department of Rural Development has added a new dimension through the redesigned PURA scheme which strives to implement rural public infrastructure projects and provide services through private sector participation. The strategy is:

a. Management by private sector on commercial considerations b. Design to align with the objective of rural development c. Projects based with well-defined risks d. Optimum risk allocation between Panchayats, GoI and State Govt. and private developers e. Concession period – 10 years f. Financing largely through schemes funding

The Business Model is:

a. MoRD schemes to converge in CAPEX provision b. Execution through private partners c. Implementation under guidelines of identified schemes d. Developer may invest some CAPEX on his own e. Capital Grant up to 35% of the project cost for meeting viability gap for O&M (including

return on investment by the private party) The schemes to be covered include water and sewerage, village streets, drainage, solid waste management, skill development etc. With financing mostly coming from the existing schemes, the assets created being public in nature but under private control for the concession period and risk being equally shared by the public and the private partner, PURA would throw up unique accounting issues. Use of IT for more efficient financial management

Innovative use of IT has considerably improved financial management of the RD programmes. On-line monitoring of all major MoRD projects has been introduced. From the current fiscal, the fund releases will be based on MIS reporting by the states and districts. This will ensure better co-relation between physical and financial progress. To increase transparency in the scheme implementation, maximum information has been placed in the public domain on the web-site. Electronic transfer of funds has been ensuring timely fund releases. Under the PMGSY, the operational agencies draw upon payments from a single State Fund account thereby easing the fund requirement considerably. On account of the streamlining of financial management of the various schemes, there was net saving of about Rs. 5,500 crores in the budget allocation of the Ministry of Rural development during the year 2009-10. To ensure efficient and secure IT invironment, adequate safequards have been put in place to prevent data loss (e.g., back-up, recovery processes, contingency and disaster recovery management). Similarly effective application controls have been built into the system to ensure completeness and accuracy of data. This is backed by a robust authorization and data-validation system. Information is regularly available to management through on-line accounting date, and detailed custom-designed on-line MIS. MNREGA has been a special case and more complex to implement that the other schemes. It is more so because it is backed by an Act of the Parliament. With works spread over 2.5 lac panchayats across the



states, leakages and mis-appropriation of public finances has been a major concern. One of the major causes of misuse is the alleged existence of a large number of ghost workers on the mister-rolls. To address this issue, the Department of Rural Development is moving towards bio-metric attendance on site. Consideraring that on an average 70-80 million people are employed under MNREGA at any given time, the exercise is not only massive but quite challenging. There are two objectives that this exercise should help in achieving. These are:

a. Primary objective of ensuring biometric attendance on work-sites to eliminate largely ghost workers and the problem of the local leadership appropriating the job cards. These problems result not only in financial irregularities but also deny the workers their rights under the Act. To achieve this, the following processes would be put in place: i. Collect bio-metric data of all MNREGA workers and create a State Data Warehouse ii. Put in place a system of taking biometric attendance on site everyday through hand-

held devices and transmit this date through mobile phone or nearest Internet connectivity to the Data Warehouse for authentication.

In addition, the following two processes would easily fall in place: i. GPS enabled lat-long coordinates of the work for which bio-metric attendance is

being taken to ensure attendance is on site ii. Electronic creating of muster-rolls without manual process

b. Long term objective of integrating MIS with the bio-metric data with the purpose of setting up an integrated process of capturing demand in real time, generating date receipt, allocation of work, opening of works and reducing the delays in measurement.

c. Even though there are many on-going projects for capturing bio-metric data, the needs of MGNREGA are very different and to ensure the process is completed in a time bound manner Department of Rural Development would undertake this exercise independently. However, the biometric data so collected may be used by the UIDAI for generating UID number for the MGNREGA beneficiaries and by the banks for payment of wages.

d. The project would be implemented with a one year completion schedule.

e. Both the data collection and warehousing and field operations through biometric devices, private service providers should be selected and appointed in Public Private Partnership mode. This would address effectively the issue of technology obsolescence and efficient uninterrupted operations in the field.

Ladies and gentlemen, the new challenges that would continue to confront all those who manage public finances would also throw up new solutions. I am confident that what we take away from here in the next two days would equip up better to meet these challenges. Thank you. Arvind Mayaram Additional Secretary & FA Ministry of Rural Development [email protected]



Annex 5







Annex 6









Annex 7

India Public Expenditure and Financial Accountability

Public Financial Management Performance Assessment Report

Summary Assessment

The objective of this PFM performance report is to assess the current status of the PFM system in India at the central government level. The assessment is expected to contribute towards identifying priorities for PFM reform, and informing efforts to formulate and implement a PFM reform strategy. It will serve as a baseline against which progress on PFM performance can be measured over time. The assessment indicates both the strengths and weaknesses of the existing PFM system. The approach of the performance report is based upon careful analysis of existing PFM systems, procedures and practices in India in recent years as determined through interactions with government officials related to financial management systems, and reviews of official documents and reports. The report also draws from the contemporary literature on the subject relating to India.

It needs to be noted that the coverage of the assessment is limited to central government and leaves out the sub-national governments in the Indian Union. These governments are entrusted with substantial functional responsibilities spanning both social and economic sectors. In India both the central and state governments play crucial roles in undertaking mandated functional responsibilities for key areas of policy regulation, oversight, revenue administration, debt and cash management, budget management, and monitoring and evaluation. The sub-national governments have a wider service delivery role in the Indian Union and the information on resource availability at field level in the front line service delivery units is limited for the central level. However, the PFM system at both levels of government is largely similar and in some areas a unitary institutional set-up exists that caters to both levels with a similar set of financial rules and institutional machinery.

The PFM performance review for India at the central level presents an assessment of the 28 high level indicators of the PEFA Performance Measurement Framework. The report, however, is not intended to provide recommendations to improve the PFM system in the country in terms of an action plan. The report also does not provide any specific fiscal policy inputs relating to revenues or expenditures. It is a diagnostic assessment only. It is expected that the assessments of the PFM system through the various indicators will assist policy makers in determining subsequent reform efforts.

Integrated Assessment of PFM Performance The summary of the performance of PFM systems, procedures and practices as measured through

the PEFA indicators is described in the following sections. The six critical dimensions of PFM performance assessment provided by the PEFA framework are credibility of the budget, comprehensiveness and transparency, policy-based budgeting, predictability and control in budget execution, accounting, recording and reporting, and external scrutiny and audit.



Credibility of the Budget

The credibility of the budget was assessed mainly through two critical indicators of expenditure and revenue out-turn as compared to the budget estimates. At the aggregate level the expenditure out-turn (expenditures net of debt repayments and the donor funded project expenditure) was substantially higher than the budget estimates for all the three years reviewed (12.95% in 2006-07, 10.62% in 2007-08 and 36.95% estimated in 2008-09). Internal policy interventions to increase subsidies and to a lesser degree to raise grants to states were important causes. Scheme-specific grants transferred to the states by the departments and ministries have been included within the sector expenditures. The increased level of expenditures was made available through the mechanism of supplementary demands, used for in-year budget adjustments, the primary objective of which is intended to be to meet unforeseen expenditures. Through the supplementary demands funds for under budgeted central schemes and fiscal stimulus packages in the difficult year of 2008-09, when the growth of the national economy plummeted below the target level, were also provided. The higher expenditure out-turn as against the budget estimates, largely in the revenue expenditure rather than the capital expenditure, certainly adversely affects budget credibility, as it indicates poor planning and implementation of expenditures and non-regard for the sanctity of the budget estimates. Favorable revenue out-turns as compared to the budget estimates during the first two of these years mitigated the effects of these higher expenditures. This was due to the high growth of the economy and some timely improvements in tax administration. The pattern of revenue out-turn as against the budget estimates, however, shows that revenue projections have remained a challenge depending upon the growth of the economy and the global market situation. This was evident when the revenue out-turn as against the budget estimates turned negative in the year 2008-09 following the international economic crisis and consequent slow down in the growth rate of the economy. Overall budget credibility is affected by the absence of a hard budget constraint, thereby allowing substantial adjustments in the budget during the year through supplementary grants, and the absence of an accurate revenue projection mechanism by which the movement of economy and changes in tax administration determine the actual revenue collection.

Comprehensiveness and Transparency

India has achieved a reasonably high level of fiscal transparency and the comprehensiveness of the fiscal information publicly available has improved in recent years. Transparency is viewed here as reflecting the aims of government and the financial results of its operation at the end of the year. The major objective of fiscal transparency is to inform the common citizen about the policy choices available, the implications of each choice, and the reasons as to why a particular choice is preferred. Some progress has been made in this direction. After the adoption of the Fiscal Responsibility and Budget Management Act (FRBM), the government started presenting fiscal policy strategy documents and projected major fiscal indicators in the medium term. This has provided better understanding of government fiscal policies relating to revenue generation and expenditure prioritization. The budget documents also contain relevant information on macroeconomic forecasts, fiscal deficit indicators, deficit financing sources, government borrowings and debt stock, prior year budget out-turns, and outlines of new tax polices and fiscal data. The extent of unreported government operations is limited and the financial operations of extra-budgetary funds are reported in the budget. However, these are not accounted for in the estimation of the fiscal deficit.

The budget classification system in India which takes into account the COFOG functional classification system is consistent with the GFS manual of 1986 based on the cash accounting system. However, the GFS manual of 2001, which presents advanced standards for compilation and presentation of fiscal statistics, follows the principle of accrual accounting and its coverage of events is broader than the earlier version representing cash based transactions. Efforts are now being made to introduce an accrual based accounting system for government transactions.



The intergovernmental fiscal transfer system is complex due to the existence of various sources of funding to state governments. In the system of transfer of resources to the state governments, the discretionary elements have increased over the years. The tax devolutions recommended by the Finance Commission are transparent and based on a formula devised by taking into account various indicators and their weights. However, in the actual plan transfers, the relative share of formula based transfers have declined and discretionary components in the form of scheme based transfers have increased. Under many of these scheme based transfers, the funds are routed to the implementing agencies out of the state budget. While a considerable amount of information on the likely flow of resources to the state governments becomes available to assist their budget estimates, uncertainties remain because of changes in central tax collections during the year.

More attention needs to be paid to providing public access to key fiscal information, and to reporting on central government oversight on the public sector enterprises and the details of fiscal risks arising from the activities of these enterprises. Although the central government has a formal oversight and monitoring mechanism, the aggregate fiscal risk is not generated and reported in budget documents, except that of the loan guarantees.

Policy Based Budgeting

The budget preparation in India is guided by a budget calendar, which is generally indicated in the budget circular issued by the Ministry of Finance for the year. The budget circular is issued in the month of September and it provides sufficient time to the ministries/departments to complete their budget preparation before the budget is presented in February. The budget preparation involves participation of ministries/departments when they submit their initial budget estimates followed by interactions with the Ministry of Finance, where the budget ceilings are communicated to departments. The departments finalize their budget estimates after taking into account the expenditure ceilings communicated by the Ministry of Finance and the plan allocations from the Planning Commission, which determines the size of funding for new schemes.

A multi-year perspective in expenditure planning and budgeting has been lacking in India. While attempts were made in past to initiate medium term fiscal policy, they were given up in latter years. The enactment of the FRBM Act and stipulation of presenting a Medium Term Fiscal Policy (MTFP) along with the budget brought back the issues once again into the budgeting system. However, while the MTFP mandates presentation of three year rolling targets relating to major fiscal indicators such as revenue deficit, fiscal deficit, tax revenue and outstanding liabilities as percent to GDP, a detailed medium term expenditure framework for various sectors is not worked out by projecting expenditure implications of programmes undertaken for outward years. The budgeting thus remains strictly annual without a multi-year perspective relating to expenditure commitments of various sectors.

It is maintained that the five year plans in India provide the basis for a multi-year perspective for resource allocation. However, the economic planning and budget differ in their scope and time span. While plans provide a conceptual framework by focusing on various sectors in the economy, the budget is more concerned with systems of control over the use of funds by government and pays more attention to financial aspects. It is not uncommon to initiate major projects and schemes which are not provided for in the plan. Further, in the context of current budgetary practice, the link between the plan and the budget is weak. In the process of budget preparation the plan allocations are dispersed over various heads and sub-heads of expenditure. While the debt information including both from external and internal sources are regularly reported by the government and Reserve Bank of India, debt sustainability analysis in a multi-year framework is not carried out; nor are costed sector strategies prepared.



Predictability and Control in Budget Execution

The predictability and control systems in budget execution is assessed taking into account performance of indicators such as effectiveness of tax administration in providing a transparent mechanism with regard to taxpayer obligation, registration and assessment, and effectiveness of collecting tax arrears; predictability of availability of resources; reporting practices relating to cash balances and debt; payroll controls; transparency in procurement; and effectiveness of internal control and internal audit.

The central taxes are administered based on explicit legal provisions, which are subject to procedural and legal safeguards. However, in the Indian tax system the scope for administrative discretion is considerable in practice due to large numbers of exemptions and reliefs, and frequent changes in tax provisions, making the tax laws relatively complex. The internal audit system is not strengthened to ensure accountability of tax collection staff and adherence to established tax administration policies and procedures in their dealings with taxpayers. Despite various efforts of the government, taxpayers face difficulties in accessing information on tax liabilities and administrative procedures. A structured taxpayer education programme covering various aspects of tax payment is absent, which adds to the compliance cost.

The Indian tax system is, however, marked by a well structured tax appeal mechanism through which the tax disputes arising out of various provisions relating to tax assessments and penalties are taken up. Despite a well laid out appeal mechanism, the time taken to dispose of the appeals is long, and a large number of cases remains pending. The taxpayer registration is maintained by allotting a Permanent Account Number (PAN) to individuals. The PAN is the key element of maintaining a taxpayer registry and it is linked with other government registration system. While tax administration in India has adequate legal provisions to take action against delinquent taxpayers, its ability to collect the taxes assessed is obstructed by the taxes remaining under dispute, and arrears both in dispute and not in dispute are only slowly cleared.

Efforts were made to improve the predictability in the availability of funds for commitment of expenditure through efficient cash management and planning of market borrowing calendar by stipulating monthly and quarterly ceilings of expenditure for the departments. However, in practice the unevenness of expenditure and rush of expenditure towards the end of the financial year still remains a problem due to weak adherence to the cash management programme.

Recording and Management of Cash Balances, Debt and Guarantees by the government of India have improved significantly and a comprehensive report on central government liabilities is provided in the budget documents. Over the years, the coverage and compilation procedures of external debt statistics have become more comprehensive and the dissemination of external debt statistics too has improved; India has also been able to comply with both IMF's Special Data Dissemination Standard (SDDS) and World Bank's Quarterly External Debt Statistics (QEDS). As regards financial assets, the budget provides information on the government’s opening cash balance, which is maintained by the Reserve Bank of India (RBI). The RBI maintains the cash balance of the Government and invests in government securities held in its portfolio for the purpose. While loan guarantees given by the central government are reported in the budget, complete information on implicit guarantees is absent.

An Integrated Financial Management Information System (IFMIS) incorporating systems for management of personnel database and payroll records at central government level in India does not exist. The management of personnel, maintenance of the personnel database, and preparation of payroll are the prime responsibility of departments and ministries. The personnel database of government employees in terms of their number, staffing pattern as against approved posts, salary bill are maintained by each



department and ministry. While a direct link between personnel database and the payroll for each month is not established, the payroll is prepared after reconciling with the previous month’s payroll. Ministries and departments maintain a service book for each employee where all the personnel details and payroll data are recorded. Any change in personnel records and the payroll are recorded in the service books of the Government employees, which are updated regularly. The Budget section of Ministry of Finance collects the information from every ministry, which is part of their expenditure proposals shown in demand for grants, and this information enters into the budget estimates of the government.

There is no law exclusively governing public procurement of goods by the departments and ministries. Rules and directives in this regard provided in the General Financial Rules (GFR), 2005 and manual on procedures for purchase of goods guides the procurement process. An important number of instructions, issued by the Central Vigilance Commission (CVC), supplement these regulations. With the exception of certain control and oversight functions carried out by central authorities such as the Comptroller and Auditor General and the CVC, no central authority exists that is exclusively responsible for defining procurement policies and for overseeing compliance with the established procedures. As per the rules and procedures on procurement stipulated in the GFR the Ministries or Departments have been delegated full powers to make their own arrangements for procurement of goods. Tenders for contracts above a threshold size are issued and are reported by the respective departments. In the absence of required expertise, a Ministry or Department can procure goods through the Central Purchase Organization, Directorate General of Supplies and Disposals (DGS&D). While rules and principles governing procurement are published, the data on actual procurement by various departments and ministries of the Government is not publicly available.

Despite the existence of the financial rules for effective internal expenditure control, the actual practice falls short of the standard. The unevenness of expenditures during the year that spikes during the last quarter of the financial year still remains a problem in expenditure control. The surrender of unspent amounts, ‘savings’, from various grants to the Finance Ministry and excess expenditures not regularized are witnessed regularly as brought out by the CAG in their audit reports. These deviations indicate inadequate programme management and internal control through the year. There is also the prevalence of personal ledger accounts, a device intended to facilitate the designated officer to credit receipts into and effect withdrawals directly from the account to avoid losing it at the end of the year. Lack of comprehensive data base limits the ability to manage the assets efficiently. The internal audit, a useful management tool to control misuse and mismanagement of public funds, has not been effective to serve the objectives of an effective internal control system.

The expenditure commitment controls are not effective in India. The Appropriation Act, meant for authorizing withdrawals from the Consolidated Fund for incurring expenditure based on the approved budget estimates, do not distinguish between commitment and expenditures. The budget preparation exercises faults on overlooking expenditure arrears as there is no provision in the budget for the ensuing year to discharge the expenditure arrears of the previous year(s). The year end financial statement, Appropriation Accounts, is prepared on a cash basis reporting cash execution of the expenditure plans approved by parliament and do not report on commitments. The statutory requirements for budget implementation focus exclusively on controlling expenditures with respect to budget appropriations. The cash management system is not integrated with control over commitments. Lack of an effective cash management mechanism in the line Ministries and Departments is a stumbling block to implement commitment control system. The expenditure ceiling, which is communicated to the departments during their pre-budget meeting with the Ministry of Finance, mostly relate to the line item control. There is no instrument to assist and guide the Head of the Accounts to know that sufficient unencumbered funds are available at the time of entering into obligations.



Internal audit has remained a weak link in the financial management system. Internal audit in India is conducted in a routine manner and the result of this audit on improving the financial management system is insignificant. The internal audit system has not been updated over several decades and due importance has not been given to securing ‘value for money’ and accountability. The Task Force on Internal Audit, constituted by the CAG observed that the internal audit in India has a restricted mandate, does not have the ability to evaluate risks. It was also noted that that no standards have been evolved for internal audit in India and it did not have the required independence for its effective functioning. Accounting, Recording and Reporting

Central government accounts are reconciled with those of the accounts kept by the Reserve Bank of India (RBI), the banker to the government, on a monthly basis. The general banking business of the Central Government (which includes the receipt, collection, payment and remittance of moneys on behalf of the Government) is carried on and transacted by the RBI. The Controller General of Accounts (CGA) in the Ministry of Finance compiles the aggregate accounts of the ministries/departments from the compiled accounts received from the departmental accounts sections and these accounts are reconciled with the cash balance of the ministries/departments maintained by the RBI in its Central Accounts Section.

While there are no provisions for presenting a mid-year budget report to the Parliament, the

aggregate monthly accounts prepared by the Controller General of Accounts (CGA), compiled from the departmental accounts, provide monthly accounts of budget implementation. The monthly accounts of the central government are important in-year budget reports that are accessible to the general public through the website of the CGA. These monthly accounts are reviewed and a critical analysis of expenditure, revenue collection, borrowings and deficit is prepared for Finance Minister. The Finance Accounts and Appropriation Accounts prepared by the CGA are the consolidated year-end financial statements of the Government of India. These documents are based on the detailed information for all the ministries/departments and decentralized units. The year-end financial statements are accessible to the general public. The accounts for the government sector in India are prepared on a cash basis and the year-end financial statement reflects this accounting system. However, the year-end financial statements in the form of Finance Accounts and Appropriation Accounts are presented with a time lag of 8 to 10 months. External Scrutiny and Audit

The preparation of budget and its approval in the Parliament, provisions for which are enshrined in the Constitution of India, goes through legislative scrutiny and the Parliament exercises full control over the annual budgetary system through this mechanism. Without the approval of the parliament no tax measures can be introduced (barring executive ordinances for temporary measures) and no expenditures can be incurred by the executive. The process of preparing the budget, discussing it in Parliament, and its subsequent approval is considered as an effective instrument of financial control of government activities. To facilitate proper examination of different Demands for Grants leading to more meaningful discussion in the Parliament departmentally related Standing Committees are constituted drawing members from both the houses of the Parliament. The Standing Committees consider the demands for Grants of the concerned ministries/departments and make a report to the House. The Parliament also exercises its control over the provision of supplementary or additional funds required in a particular year and for regularizing any excess expenditure over the approved appropriations.

A unitary audit in federal setup is designed to play a significant role in effective financial administration of the country. The Constitution of India has provided the Comptroller and Auditor General of India (CAG) as a high independent statutory authority. The Constitution prescribes exhaustive



safeguards for the independent functioning of CAG. The range of audit performed by the CAG includes regularity (financial) audit, regularity (compliance) audit, IT audit and performance audit. The audit assists Parliament in exercising financial control over the executive to ensure that funds approved have been utilized with due regard to economy and efficiency, and the funds authorized to be raised through taxation and other measures have been assessed, calculated and credited to the government properly. The audit reports of CAG are examined by a Parliamentary committee, Public Accounts Committee (PAC), which makes recommendations to Parliament on various issues involved. However, the PAC’s examination of the audit report is not comprehensive, as the committee over the years has scrutinized only a limited portion of the audit reports. While the recommendations made by the PAC were taken seriously by the executive, its scope was limited as the PAC considers only a small portion of the audit reports. The Action Taken Notes submitted by the departments and units audited by the CAG relating to other audit observations not examined by the PAC were largely formal rather than substantive. CAG’s reports are sometimes not timely because there can be a substantial time gap between the occurrence of an irregularity and its reporting by CAG. It reviews programmes after these have run for a few years.

Assessment of Impact of PFM Weakness When judged from the perspective of the three main objectives of an effective public financial management system—namely, aggregate fiscal discipline, strategic allocation and the efficient delivery of services—many problems exist in India. While efforts of the government and the role of legal and institutional mechanisms in strengthening the financial management systems are evident in many areas, the actual practice leaves much to be desired. The adoption of rule based fiscal management by enacting the Fiscal Responsibility and Budget Management Act helped in monitoring aggregate fiscal indicators, but its impact on the actual practice of financial management is not clear. The budgeting system in India is conventional input-based and more concerned with basic financial compliance; but this has not resulted in establishing effective fiscal discipline. Absence of a multi-year perspective in expenditure planning, lack of robust macro-economic forecasting on which to base the budget, and inherent weaknesses in adhering to the procedures laid down in Constitutional and legal provisions have negatively affected PFM outcomes. The assessment of PFM practices at central level provides little opportunity to measure service delivery as these are the responsibilities of sub-national government. While the PFM practice at both central and state government are largely similar the information on actual service delivery and resource availability to implementing agencies at field levels is limited at the central level leaving few flagship programmes.

Aggregate Fiscal Discipline

With respect to aggregate fiscal discipline, an elaborate expenditure control mechanism exists in India; debt strategy and debt management practices are reasonably well developed; rules and regulations are developed for procurement system; rule based fiscal management is adopted through the FRBM to monitor and adhere to stipulated deficit indicators; and Parliamentary control over budgetary practice and expenditure control is established following the Constitutional provisions. At the same time, the absence of a multi-year perspective in the expenditure planning that indicates future year commitments, a lack of effective fiscal risk assessment at an aggregate level, the unevenness and the late spike in the annual spending pattern, surrender of money at the end of the fiscal year in an annual lapsable budget cycle due to a lack of effective programme management in budget implementation, an absence of a hard budget constraint, and weak internal control and internal audit system are important weaknesses of the PFM system that limit fiscal discipline. While external audit in the country is well established and facilitates the legislative in exercising control over the executive, the process of scrutiny of the audit reports has deteriorated, adversely affecting its effectiveness.



Strategic Allocation of Resources

Strategic resource allocation in India is affected by the lack of well developed sector strategies based on government objectives, developing and costing of programmes to achieve those objectives and linking the resource allocation to the priorities specified in sector strategies. Although the five year economic plans provide strategic resource allocations at an aggregate level, the five year plans and budgeting differ looking at their scope and time span. While plans provide a conceptual framework by focusing on various sectors in the economy, there are divergences between plan and budget in the resource mobilization and allocation and organizational structure. In the existing budgetary practice, the programmes referred to as schemes in Indian practice are diffused and do not provide a comprehensive perspective as to their link with government policy objectives. The cash basis of accounting followed by the government does not have the capacity to reveal the full outlays either on a programme or a project. In the existing budgeting system performance information is not included to improve strategic resource allocation.

Efficient Service Delivery

In the federal arrangement the sub-national governments have wide ranging responsibilities with regard to service delivery. The central government, however, intervenes in the state subjects through specially designed central schemes to improve the front line service delivery. The role of central government in contributing to efficient service delivery through effective monitoring of transfers to implementing agencies, providing guidance through policy measures and evaluating the performance in these services become important. The overall financial management system including the efficient revenue collection, expenditure control, cash and debt management to address liquidity problems, efficient intergovernmental transfer system are all important elements to facilitate better programme management and service delivery.

Prospects for Reform Planning and Implementation The institutional arrangement within the government provides support to initiate reform planning and implementation processes. The initiatives taken by the government in recent years has put PFM issues at the forefront. The role of PFM systems in contributing to fiscal discipline, strategic resource allocation through better programme management and improving service delivery has gained attention in recent years. The government policies in expanding social sector spending has made it necessary to look at ways to improve programme management and actual service delivery. Attention is being given to improve the PFM systems and processes including planning for budgeting, budgeting process, resource management, internal control and audit, accounting and reporting and external audit. The government has appointed important study groups to examine various aspects of PFM systems and to recommend reform measures. A comprehensive view needs to be taken to strengthen the financial management systems in the country as it will be difficult to deliver through isolated reform initiatives.



PFM Performance Measurement Framework Indicators Summary

Table 0.1

Overall Summary of PFM Performance Scores

Note: NR - Not rated

PFM Performance Indicator

Scoring Method

Dimension Ratings Overall Rating i ii iii iv

A.PFM-OUT-TURNS: Credibility of the budget

PI-1 Aggregate expenditure out-turn compared to original approved budget M1 C C PI-2 Composition of expenditure out-turn compared to original approved budget M1 C C PI-3 Aggregate revenue out-turn compared to original approved budget M1 A A PI-4 Stock and monitoring of expenditure payment arrears M1 NR D NR

B. KEY CROSS-CUTTING ISSUES: Comprehensiveness and Transparency

PI-5 Classification of the budget M1 A A PI-6 Comprehensiveness of information included in budget documentation M1 A A PI-7 Extent of unreported government operations M1 A A A PI-8 Transparency of inter-governmental fiscal relations M2 B B A B+ PI-9 Oversight of aggregate fiscal risk from other public sector entities M1 C C C PI-10 Public access to key fiscal information M1 A A

C. BUDGET CYCLE

C(i) Policy-Based Budgeting

PI-11 Orderliness and participation in the annual budget process M2 A D C C+ PI-12 Multi-year perspective in fiscal planning, expenditure policy and budgeting M2 D D D D D

C(ii) Predictability and Control in Budget Execution

PI-13 Transparency of taxpayer obligations and liabilities M2 C C B C+ PI-14 Effectiveness of measures for taxpayer registration and tax assessment M2 A B B B+ PI-15 Effectiveness in collection of tax payments M1 D A A D+ PI-16 Predictability in the in the availability of funds for commitment of expenditure M1 C B C C+ PI-17 Recording and management of cash balances, debt and guarantees M2 A A A A PI-18 Effectiveness of payroll controls M1 B B B C C+ PI-19 Competition, value for money and controls in procurement M2 NR NR D NR PI-20 Effectiveness of internal controls for non-salary expenditure M1 D B D D+ PI-21 Effectiveness of internal audit M1 D C D D+

C(iii) Accounting, Recording and Reporting

PI-22 Timeliness and regularity of accounts reconciliation M2 B B B PI-23 Availability of information on resources received by service delivery units M1 A A PI-24 Quality and timeliness of in-year budget reports M1 C A A C+ PI-25 Quality and timeliness of annual financial statements M1 A B C C+

C(iv) External Scrutiny and Audit

PI-26 Scope, nature and follow-up of external audit M1 B D C D+ PI-27 Legislative scrutiny of the annual budget law M1 A A A A PI-28 Legislative scrutiny of external audit reports M1 D C A D+



Annex 8



Annex 9





Annex 10







Annex 11



PFM in India June 2010 Workshop Proceedings

Documents