46287 MIDDLE EAST AND NORTH AFRICA OCTOBER, 2008 GOVERNANCE NEWS & NOTES VOLUME 2, ISSUE 4 A NOTE FROM THE PUBLISHER IN THIS ISSUE: WHY PUBLIC FINANCIAL MANAGEMENT MATTERS: PART II A Note from the Publisher........................ 1 he most recent issue of Governance News & Notes (September 2008) introduced the topic of public financial management (PFM) and Governance Newsmaker discussed a number of problems with budget formulation that are Interview with H.E SALAM FAYYAD........................2 common throughout the MENA region. First and foremost is the challenge of ensuring credibility and making the budget the primary tool for fiscal management. Other areas for reform include expanding the PFM Reforms in Palestine scope and comprehensiveness of the budget; improving the link between ....................................4 recurrent and investment budgeting; trying to introduce elements of a multi-year framework and improved performance orientation; Budget Execution in strengthening budget classification; and enhancing greater transparency MENA..........................7 and parliamentary scrutiny in budget formulation. Our September issue Case Study: PFM Reform in also featured a discussion of Lebanon's PFM reforms, including a West Bank & Gaza..........7 governance newsmaker interview with Lebanon's recent Minister of Finance, Jihad Azour. You can access it at the following webpage: http://go.worldbank.org/UO6IVFTVB0. Upcoming Events and Activities..........................9 In this issue, we change both sub-topics and countries while remaining focused upon the broader PFM theme. Our substantive emphasis shifts Noteworthy from front-end problems of budget formulation to back-end problems of Links....................................9 budget implementation, where a number of MENA countries are pursuing a variety of important reforms. They include reducing ex-ante controls on expenditure, in which multiple clearances can often lead to unnecessary delays and dilute rather than enhance authority, while at the same time doing a better job in tracking commitments. They also include improved virement (basically, empowering line departments to shift resources between budget heads within certain specified limits); improved treasury operations and cash management; the development of computerized financial management information systems; strengthening internal audit; and improving external audit, including more independent and transparent reporting relationships. Mark Ahern, our Senior Public Sector Specialist in West Bank & Gaza, will discuss common issues and problems with regard to budget implementation in MENA. We are fortunate to include an interview with the Palestinian Prime Minister, Salam Fayyad, in this issue as well. During his first tenure as Minister of Finance for the Palestinian Authority (PA), Salam Fayyad presided over some of the most far-reaching and successful PFM reforms in the Arab world. GOVERNANCE NEWS & NOTES Page 2 VOL. 2, ISSUE 4 Major PA reform initiatives include: substance and content of these reforms in greater deal. · The payment of all PA revenues into a central treasury account, Finally, allow me to share a brief concluding work which eliminated previous about the World Bank and public financial discretionary and non-transparent management. PFM issues remain at the core of the spending of these funds. World Bank's work on governance and public management throughout the MENA region. We have provided lending support for PFM reforms in · Enhanced transparency in financial management, including the regular Morocco, Algeria, Tunisia, Iraq and Yemen and posting of budget data on the Ministry grants to support PFM reform in the West Bank and of Finance (MoF) website and Gaza. We are currently active in providing analytic expanding the formal budget document work and technical assistance in more than ten to include more detailed information countries in the region. This experience provides a on topics ranging from balance of pay- rich comparative basis for assisting the efforts of our ments to public service employment; clients to improve the quality of public spending for development and ensure that maximum value is · Improved control over the civil service extracted from every pound, dinar, rial and dirham payroll through the MoF assuming spent. responsibility for staff numbers from the General Personnel Council (GPC); Robert P. Beschel Jr. and paying salaries of all civil servants Lead Public Sector Specialist and security personnel through MENA Vice Presidency, World Bank personal bank accounts rather than in cash; and GOVERNANCE NEWSMAKER · The establishment of the Palestine INTERVIEW: H.E SALAM FAYYAD Investment Fund (PIF), which has PRIME MINISTER OF PALESTINE brought all PA equity holdings under MoF overview and provides BY RAMI G. KHOURI for a centralized and commercially based management. Fiscal trans- Salam Fayyad: "People do parency has also been enhanced by not eat or drink reform. the publication of a valuation of all They have to feel the PIF investments, and by the benefits." publication of the PIF's audited financial statements. WASHINGTON: The rapid overhaul and institution- It is particularly noteworthy that these reforms, alization of the previously which the IMF once characterized as "highly free-for-all Palestinian significant in improving both transparency and public finance sector under accountability," were implemented against the Finance Minister-turned- background of occupation and strong domestic Prime Minister Salam Fayyad is one of the more resistance. In his interview with noted Palestinian striking and well known success stories in the journalist Rami Khouri, Dr. Fayyad provides a MENA region. Less appreciated, but important for fascinating assessment of how these reforms were other would-be reformers who might learn from the implemented in the face of stiff opposition. A Palestinian experience, is the combination of companion piece by Nithya Nagarajan discusses the political, psychological and communications tools GOVERNANCE NEWS & NOTES Page 3 VOL. 2, ISSUE 4 that Fayyad and his colleagues used to achieve their A single directive from the finance ministry and goals. central monetary authority did the job. "People do not eat or drink reform," he said in an "I had a circular issued to the commercial banks interview with MENA GN&N during a visit to asking them to transfer any and all funds that come Washington in mid-October, "and especially people in as revenues for the Palestinian Authority (PA) to living in difficult political and national an account that was set up with one of the banks, circumstances, as the Palestinians were in 2002. what we called a central treasury account. People need to quickly feel the tangible benefits of any reform process if they are to protect it." Virtually immediately, all the money started to come in, which also immediately enhanced the standing of Reviewing the ups and downs of the 2002-2006 the ministry of finance in the system. period, he recalled, making changes that mattered to people and Everybody seeing such knew that if reforms they wanted persist something required they had to several simul- come to the taneous ministry of dynamics at finance -- the technical that was and political really levels. basic," he recalled. The technical level included Parallel consolidating with this, all public the ministry revenues into took control a single of the many account with commercial the finance operations ministry, that were drawing up a owned by unified state the public budget that was presented to parliament and sector and dominated by influential individuals who published on the internet, and consolidating all profited from largely unregulated and unaudited public commercial investments and monopolistic monopolistic operations in fields such as cement, and operations (like oil and cement imports and sales) oil. into a state-owned holding company managed by a credible board of directors headed by the finance "Two months into the task, we consolidated all of minister. these operations by establishing a public holding company, the Palestine Investment Fund (PIF), "The starting point was the structural need to ensure which acts as an umbrella for all of them and is that all revenues came into a central treasury 100% owned by the Palestinian Authority." account. Corruption and other such issues would be tackled, but first of all we had to stop the leakage and Finding out exactly what assets the government make sure the system functions well," he said. owned and taking control of them was a logistical GOVERNANCE NEWS & NOTES Page 4 VOL. 2, ISSUE 4 challenge that was resolved often by swooping down All the while, officials were creating a public on a company's office by stealth, seizing the books, constituency for this, "making it clear that an and freezing all bank accounts before consolidating efficient, non-corrupt public finance system was a them all into the PIF. sign of a modern government. Things that we did along the way gave the reform program a good name The third major technical move was in the petroleum and generated public support. One was to work products sector, where monopolistic control by a towards goals that were pre-announced, and not to single state importer buying from a sole Israeli talk too much, particularly in an environment where supplier led to several negative trends: inflated skepticism, if not cynicism, reign supreme." consumer prices, a flourishing black market, and reduced state revenues due to corruption. Officials implementing the reforms were conscious of the difficult political environment and the wider "Oil was an incredible opportunity for me," Fayyad nationalistic aspirations of the Palestinian people. said, and he dealt with this through the price They implemented reforms whose impact would be mechanism, by lowering prices, eliminating the felt quickly ­ like lower oil prices and government profit margin for the state, and allowing the payment of due invoices ­ but they also wanted the competitive retail market to handle distribution and public to feel that a modern state was being built in retail sales. Results were stunning and speedy. Prices Palestine that would serve all Palestinians. dropped, sales increased, the black market disappeared, and government revenues shot up. "One of the lessons of public finance reform in the developing world is that people do not eat reform or "If you are looking at anything that comes close to a relate to reform. They do not see benefits. So what is controlled experiment in a chemistry lab, there is important is to look for ways to make people actually nothing that comes closer in the field of social feel the difference. We tried to do that in part by sciences than this. You look at the data before and telling people we're working towards a system that after, and it is just incredible. Beginning in July of will let you -- the stakeholder in all this -- know what 2003, we introduced a new pricing regime. July data is it that we are doing with your money. This was compared to June 2003 is an incredible thing. Sales about a project for national liberation and building went up by 350%. PA revenues increased towards statehood, so linking what you do to that enormously. And prices dropped for the consumer." broader goal, which is something of value and importance to everyone, was always important. Now Fayyad and his colleagues learned a critically we really have a key building block of the public important lesson: when reforms are felt at the finance system. And this is something that looks like household level, consumers become supportive what good countries have. That also meant citizens who appreciate the reforms, and protect something to people. It was very important, them. nationalistically." "Reform meant something concrete here," he said, A key element of the reform program in Palestine, "people started to pay much less for oil. But along Fayyad says, was engaging the public and making the way we also continued to make public statements them feel that change was the right and fair thing to that were relatively short and easy to understand: do. `The Authority is not in the business of making money. The Authority is not a merchant. The "Our approach was to do what you can, wherever Authority collects taxes, period. The Authority you can do it, as soon as you can do it. But, at all provides services.' I would say commerce is an times have clarity as to what is important and what is honorable trade, but it's not for the state. Therefore, not too important. It was crucial to be able to put we are eliminating the [oil profit] margin; together those key building blocks, meaning henceforth, we the authority are not going to be centralization. Keep people involved, talk about making any money on petroleum. Retailers could." GOVERNANCE NEWS & NOTES Page 5 VOL. 2, ISSUE 4 goals in different fora, and interact with NGOs and Ministry of Finance (MoF) did not have oversight academia. over all PA revenues, nor was there a system to consolidate its revenues. Excise taxes in sectors such "Ultimately, when it comes to money, the right and as petroleum, tobacco, and alcohol were channeled to wrong of things do matter to people. But I find bank accounts outside the control of the MoF. The people listen to you more when you say 'fair-unfair'. PA's shareholdings in a number of commercial It resonates. Who's paying taxes, who's not paying? enterprises, including partial shareholdings in People relate to this a lot more. Ultimately, this is telecommunications, and majority or full about a government putting itself in a position of shareholdings in cement and petroleum, were not being better able to deliver services to people in an disclosed or monitored by any public oversight body equitable fashion and in a predictable way. If you including parliament. Profits from these operations say that and actually begin to do it this way, that's were diverted outside the government's budget. The what defines credibility." IMF estimates that the combined revenues ­ from PA commercial operations and excise revenues ­ PUBLIC FINANCIAL MANAGEMENT diverted from the budget were estimated to be in REFORM IN PALESTINE excess of US$898 million.1 BY NITHYA NAGARAJAN Second, the PA had no proper systems to manage its expenditures. There were multiple spending centers The signing of the Oslo accords represented a and line ministries had great discretion, making monumental turning point for the Palestinians and expenditures well beyond their budgetary Israelis. It was to lead to the establishment of a allocations. Systems for internal and external audit sovereign Palestinian state and set the framework for were very weak, which created the scope for corrupt final status agreements between the two sides. It was practices. There was no systematic process to in this context that the Palestinian Authority (PA) manage hiring of civil service and security sector was born, as a nascent government that was to personnel, which resulted in uncontrolled expansion evolve into a fully functioning government of the of the public sector and an untenable wage bill. future Palestinian state. The process of state Security sector personnel were paid in cash instead building is a complex task in any context, but there of in bank accounts. were particular features of the Palestinian situation that added to the challenges. These included limited Third, the PA did not have an adequate budget powers of the PA in terms of control over land, framework or system of oversight to manage public resources, borders; high levels of budgetary finances. For several years immediately after Oslo, dependence on Israel as a result of its control over the PA was reluctant to publish or formalize a Palestinian clearance revenues, as well as on the budget, delayed in submitting the budget, and failed international community; internal opposition as a to report on execution of previous year budget to the result of the failures of the peace process; legacy of parliament. In addition the budget development had the PLO and challenges in integrating the PLO as a major technical weaknesses, including the fact that it revolutionary movement with the PA as a developing was not linked to a macroeconomic framework. state; and the tensions inherent in the broader process of institution building. These weaknesses in the PFM system were well known for a number of years, but it was only in 2002 The PA's public financial system was one of the following intense internal and international pressure institutions that witnessed slow development in the and an untenable fiscal situation that President initial years after the signing of the Oslo accords. Yasser Arafat sanctioned reforms. As part of the The PFM system was characterized by fundamental PA's "100 Day Plan," public financial reform was to weaknesses, which not only challenged the integrity of the management of public finances but also 1 contributed to deep fiscal crisis in WBG. First, the International Monetary Fund, West Bank and Gaza : Economic Performance in Conflict Situation, 2003 GOVERNANCE NEWS & NOTES Page 6 VOL. 2, ISSUE 4 go forward under the leadership of a newly The third major area of reform related to the budget appointed Minister of Finance, Dr. Salam Fayyad. process. The 2003 annual budget represented the first serious attempt to account for all revenues and Dr. Fayyad aimed to undertake a comprehensive set meaningful limits on expenditure. Steps were reform of the Palestinian public financial system. In taken towards integrating the public investment the area of revenue management, he undertook three budget. In the 2004 budget, the previous large major reforms. First, he consolidated all PA discretionary transfer directed to the President's revenues into a single treasury account controlled by Office was nearly eliminated. Transparency the MoF. In so doing, he centralized management of improved significantly in so far as budget speeches finances and expenditures, as well as issuance of and budget data were posted on the MoF's external Treasury checks, under the MoF. Second, all website. commercial operations of the PA were brought under the umbrella of one organization, the Palestinian These reforms were considered to be successful, Investment Fund (PIF). A board of directors which especially in the areas of revenue consolidation and included the Minister of Finance was put in place to management. Nevertheless, some outstanding oversee the assets, which were subject to regular challenges remained. First, no effective, independent audit and disclosed in annual reports. Profits were External Audit institution was in place to maintain directed to the Treasury. Third, he brought the oversight of PA public finances. The existing audit Petroleum Commission under the oversight of the institution lacked independence, capacity, and was MoF, and undertook pricing reforms, so as to unresponsive to the PLC. A new national audit eliminate smuggling in the bureau was established, but it sector and increase PA's faced severe capacity and revenues. resource limitations. Second, the budget process In the area of expenditure continued to have management, Dr. Fayyad also weaknesses in terms of led a number of major budget construction, timely reforms. He tightened the submission of the budget to institutional process by which the cabinet, and Treasury checks were issued parliamentary and civil in the MoF. In so doing, he society engagement in dramatically reduced the budget development and scope for any corrupt oversight over execution. practices and improved the External factors are very credibility of the MoF vis-à- important in contributing to vis commercial banks and ongoing problems in this suppliers. He established area, namely the volatility controls over expenditure by the economy is subject to as creating a separate Department of Financial Control a result of the conflict and political circumstances. in 2004 and out-posting MoF financial controllers to Third, reformers were not able to bring the wage bill spending ministries. A number of departments were under control. In particular, the run-up to the 2006 created inside the MoF, including one for internal elections brought forth increases in public sector audit and an independent procurement division. salaries as well as hiring of security sector personnel. Fourth, he attempted to get some control over public sector hiring and the wage bill by bringing in payroll Dr. Fayyad resigned as Finance Minister at the end division under the control of MoF, enforcing strict of 2005. Since reentering the PA in June 2007, he hiring controls especially in the civil service, and has focused on strengthening the integrity of the eliminating cash based payments to security sector PFM system. Following the election of Hamas in personnel. 2006, the international community imposed a boycott GOVERNANCE NEWS & NOTES Page 7 VOL. 2, ISSUE 4 on the PA. Financial support from many donors was including re-establishing the Budget department in channeled through the President's Office through the the West Bank as well as an accounting system. "Temporary International Mechanism" (TIM) instead These were previously managed from Gaza. In of the MoF. This created parallel financing addition, new banking arrangements were developed mechanisms and undermined some past reform so that payments to Gaza are now mainly managed efforts. Since becoming PM and FM in the through West Bank banks instead of those in Gaza. Emergency Government formed in June 2007, Dr. Fayyad has focused on reversing these A third major task of the new government has been developments. He has re-established the central to develop the Palestinian Reform and Development treasury account, and ensured that all finances are Plan (PRDP). The PRDP lays out a fiscal framework channeled to this account. He has also re-established and serves as a development plan by outlining the monthly reporting and monitoring on PA revenues priorities for sectoral reform. The plan was finalized and expenditures, and recreated financial statements in 2008, and efforts are underway to try to develop a for 2006. Monitoring of financial accounts became budget for 2009 guided by the PRDP framework. very difficult in 2006 because payments were made through multiple channels, and there was no BUDGET EXECUTION IN MENA comprehensive information available at the time on payments made and arrears thatwere accruing. BY MARK AHERN A second major task for Dr. Fayyad since taking Budget execution is more technical and less political office in 2007 has been to address the operational than budget preparation, and this should make challenges resulting from the Gaza-West Bank split. reform less contentious and easier to manage. There Gaza is controlled by a Hamas government, while are also many opportunities to make "quick wins" the West Bank by an Emergency Government with budget execution reform. Although these factors formed by Presidential decree. In terms of PFM make budget execution reform an attractive option, systems, several major issues had to be dealt with, progress in the region has been slow and more should be done. I will focus on three important areas CASE STUDY of reform. Reforms in Public Financial Management: Making expenditure controls effective West Bank & Gaza In collaboration with the Dubai School of Government, If the quantity of "checking" that takes place during the World Bank has developed a program to draft cases the payment process is a guide, then expenditure on interesting examples of public sector reform drawn control is a strong point for many countries in the from throughout the MENA region. These cases are region. However, it is the timing and quality of intended to cover not only the substance of reform, checks that determine whether the controls are which is often the subject of a number of reports and effective. analyses by the Bank and other parties. They are also intended to cover the way in which these reforms were For governments with irregular cash inflows (such as implemented. How was support mobilized and Palestine, Lebanon or Sudan) it is important to be opposition overcome? Where did the reforms start? able to control expenditures in the event of a revenue What types of challenges were the most difficult? shortage. Unfortunately the controls are usually only applied once the good or service has been received or The Bank has recently completed a more detailed case delivered. At that point the government has an study on Salam Fayyad's reforms, "Reforms in Public obligation to the supplier and a shortage of revenues Financial Management in the West Bank and Gaza." This case study is available at results in payment arrears. For expenditure controls http://go.worldbank.org/C9COQMFS80. More to be effective control needs to be applied before the detailed discussions of the substance of Salam Fayyad's commitment is entered. Establishing robust reforms can be found in the World Bank's Country Financial Accountability Assessment (CFAA) for West Bank & Gaza, June 2004, as well as the West Bank and Gaza's Public Expenditure Review (PER) Vol. 1 & 2. GOVERNANCE NEWS & NOTES Page 8 VOL. 2, ISSUE 4 "commitment controls" is a priority for many of the A number of countries have taken steps to countries in the region. consolidate government cash balances into "treasury single accounts" (TSA), but more can be done. For The quality of expenditure controls is compromised example, Jordan consolidates cash at the central when too many layers of checking are introduced. bank, but is only now moving to consolidate cash in The role of each individual "checker" is not clear, commercial bank accounts; while Lebanon excludes and it is not apparent who to hold accountable in the some government cash balances in the central bank event of an irregularity. This is particularly the case from the TSA. When a TSA is established it is when internal audit departments (or even external critical that good accounting systems are developed audit in Lebanon) become part of the payment to monitor movements and balances. While Egypt process. It is preferable to apply a smaller number of was active in moving significant government cash checks ­ but to ensure that all those checking have balances to the central bank from commercial bank specific roles so that it is clear what control they are accounts, this measure has in part been unwound exercising, and who is accountable if a problem is because it was claimed the accounting systems in the subsequently discovered. Unfortunately the culture central bank were not following complaints about the of "checking" appears to be deeply ingrained in the quality of banking services provided by the central region, and even when computer automation allows bank. smarter controls to operate, there has been a reluctance to remove existing layers of signatures. Making automating of budget execution a success Improving cash management Because budget execution is a more routine operation than budget preparation it lends itself to Many countries in the region face higher than automation. The gains from automating well are necessary financing costs because they are not immense with fewer errors and reduced effort. But as actively managing their cash balances. Government importantly, automation opens opportunities to cash sits "idle" in bank accounts at the central bank devolve greater responsibility for budget or commercial banks, when at the same time the management to those closer to the action (therefore Ministry of Finance is borrowing to finance the further from the Ministry of Finance), while ensuring budget. that necessary controls are maintained. Within the region many countries have embarked on automation projects with mixed success. For example, Yemen and Jordan are introducing sophisticated integrated systems purchased from large international suppliers, while Lebanon and Palestine have focused on simpler systems developed by local suppliers. Although a few good individuals have achieved excellent progress in Palestine in a very short period, this is the exception. In general projects succeed because they have followed good project management practices. The Yemen project lost a number of years because insufficient effort was put into developing an understanding of the system at the start. By way of contrast the effort put into the initial design of the system in Jordan appears to be paying dividends. GOVERNANCE NEWS & NOTES Page 9 VOL. 2, ISSUE 4 UPCOMING EVENTS AND ACTIVITIES Ø October 30-November 2, 2008: 13th Ø November 18-19, 2008. 20th National International Anti-Corruption Conference: Conference: Foreign Corrupt Practices Act -- The Athens, Greece. iacc@transparency.org and Premier Legal and Regulatory Anti-Corruption www.transparency.org Compliance Event. Washington D.C., Gaylord National Resort and Convention Center on the Ø November 6, 2008: UAE Nationals' Corporate Potomac National Harbor, MD. www.iqpc.com Ethics Building Conference. Dubai, UAE. The "UAE Nationals' Corporate Ethics Conference" Ø November 24-25, 2008: OECD-MENA Senior will cover all facets of ethics and compliance Budget Officials Meeting. Cairo, Egypt. management in major UAE public and private helene.leconte-lucas@oecd.org and www.oecd.org sector organizations. It will examine UAE Nationals' corporate ethics management practices and their relationship to organizational NOTEWORTHY LINKS success. info@datamatixgroup.comand www.datamatixgroup.com World Bank MENA Governance Website: http://www.worldbank.org/mena-governance Ø November 9-10, 2008: Hawkamah Annual Regional Conference. Doha, Qatar. World Bank General Governance Website: http://www.worldbank.org/governance info@hawkamah.organd www.hawkamah.org Transparency Palestine: Ø November 10-13, 2008: Corporate Ethics & www.aman-palestine.org FCPA Compliance. Hyatt Regency, Dubai, UAE. Implementary Robust Anti-Bribery Ministry of Finance:Palestine Policies to Ensure Compliance with the Foreign http://www.mof.gov.ps/ Corrupt Practices Act (FCPA) and Regional Public Expenditure and Financial Laws. Corporate Ethics and FCPA Compliance Accountability Network: will tackle similar issues of the Anti-Corruption www.pefa.org Asia Summit, for the burgeoning Gulf region, but will focus more on how to build a culture of To subscribe or to change Ethics and devolve this through the organization, your subscription status, please contact: with special attention being paid to anti- corruptioncompliance. www.gulfethics.com Ms. Lida Bteddini Economic & Social Ø November 12-13, 2008: CAPE Public Finance Development Unit Conference: Can Public Finance Management Middle East & North Reform Uplift Government Performance? London, Africa Vice Presidency U.K., Delivering improved performance in public The World Bank service delivery, with particular emphasis on 1818 H Street N.W Washington, D.C 20433 improvements to strategic resource allocation and +1 (202) 458-4937 operational efficiency. e.hedger@odi.org.uk and +1 (202) 477-0432 (fax) www.odi.org.uk lbteddini@worldbank.org GOVERNANCE NEWS & NOTES Page 10 VOL. 2, ISSUE 4 FOR FURTHER READING A. Premchand, Government Budgeting and Expenditure Controls: Theory and Practice (IMF: Washington, 1983) A. Premchand, Public Expenditure Management: A Handbook (IMF: Washington, 1993) Public Expenditure and Financial Accountability (PEFA) Framework, http://www.pefa.org/pfm_performance_frameworkmn.php West Bank and Gaza Country Financial Accountability Assessment (CFAA), World Bank Report No. 28990-GZ West Bank and Gaza Public Expenditure Review: From Crisis to Greater Fiscal Independence, Volumes 1 and 2, World Bank Report No. 38207-WBG World Bank, Public Expenditure Management Handbook (World Bank: Washington, 1998) Disclaimer: views expressed in this publication reflect those of their authors and do not necessarily represent the views of the World Bank Group, its Board or its management.