1. Karnataka Public Financial Management and Accountability Study Launch Presentation September 14, 2004

2. Background and objective of report Examination of Karnataka ’ s public financial management and accountability (PFMA) system –Budget development, execution & monitoring –Accounting and financial reporting –Internal & external controls

3. Scope of report Core state government (Section 2) Other public sector entities (Section 3) –Rural local governments –Urban local governments –Government companies and corporations –Boards, Authorities and Societies

4. The financial management challenge for developing countries. Developing country governments have low resources relative to need. Development effectiveness depends not only on greater revenue mobilization but also increased spending efficiency: ensuring that spending achieves the government ’ s purposes. That is the focus of this report

5. A. STATE GOVERNMENT

6. Karnataka has the foundations of a satisfactory PFMA system … Well-established, sound legal framework for PFMA in place. Robust fiscal policy framework Annual budget provides tight controls over most areas of spending. Annual accounts prepared annually, and in timely manner; monthly accounts also used. Independent external auditor; regular, timely and useful audits Well-established framework for legislative review.

7. … but faces significant challenges Budgets cannot be fully implemented: on average, revenues only 91% of budgeted level for last 8 years. Departments lack incentives, accountability and flexibility to perform. Off-budget borrowing circumvents budgetary controls. Weaknesses in accounting: e.g. Public Accounts. Internal control weaknesses: capital projects, power subsidy; no commitment controls

8. Significant challenges (cont.) Audit and legislative review processes need to be more effectively used. Greater fiscal transparency will generated demands for financial performance.

9. Though much remains to be done, reforms are underway Fiscal reform showing results Budget being shifted towards departmental focus. Office of Controller (Accounts Management) has been created. Computerized, networked treasury system is now operational. More fiscal information in the public domain. Responsiveness to audit reports has improved.

10. Nine priorities moving forward 1.Strengthening budgetary control and effectiveness. Preparing more realistic budgets Reducing reliance on supplementary budgets Eliminating off-budget borrowing

11. Priority 2: Shift to Departmental budgeting To provide departments with greater flexibility and incentives to perform –Organize the budget around Demands for Grants (departments) –All Departments to complete Departmental MTFPs, with performance targets, and should report against these targets –Increased flexibility for Departments to spend to achieve their objectives while keeping pressure on to reduce administrative costs. –Shift to program budgeting

12. Priority 3: Improving accounting Completing the computerization agenda Improving Public Account accounting Ensuring regularity in basic accounting procedures & controls Improving GoK-CAG collaboration on accounting.

13. Priority 4: Strengthening internal controls Greater controls over capital projects Introduce controls over commitments The open-ended power subsidy obligation is the biggest threat to the budget, and needs to be brought under control through implementation of the purchaser-provider model. Introduction of internal audit function in expenditure departments. Modernization of rule books

14. Other priorities 5. Sustain and expand recent efforts to improve audit responsiveness 6. Improving information disclosure and accessibility 7. Strengthening capacity for financial management. 8. Accelerating procurement reforms. 9. Improve fund-flow predictability

15. B. OTHER PUBLIC SECTOR ENTITIES

16. Outside the State Government, PFMA systems are less robust These entities are important: there are large numbers of them and they handle significant volume of funds Weaknesses are especially evident in rural and urban local governments, and Boards and Authorities. PFMA system in government companies and corporations performing relatively better.

17. Major priorities for these other government entities Improving compliance with core PFMA priorities – timely and regular accounts, audits, follow- up on audits and legislative reports, and transparency. Strengthening governance of public sector entities by creating a Public Enterprises Selection Board for all senior appointments. Putting strengthening of financial management at the center of on-going efforts to strengthen rural and urban local governments. Improving the PFMA legal and institutional framework for some entities.

18. CONCLUSION

19. Not all reforms can be done at the state level … Abolishing the Plan/Non-Plan distinction. Introducing satisfactory accounting and financial reporting standards, and modernizing accounting. Modernizing audit. Improvements in legislative review processes.

20. But a lot can be … … The impression should not be created that there is nothing the states can do to improve financial management. To the contrary, the states have sufficient autonomy and responsibility to substantially transform their own financial management environment. Karnataka is in a good position to take a leadership role on the PFMA agenda in India. The state is fortunate to have a strong bureaucracy, a reforming political leadership, and a demanding civil society. It has already taken important actions to improve public financial management and accountability. Continued progress … will pay rich dividends for Karnataka by making government more effective, accountable and responsive.

21. 3 priority reform areas 1.Strengthen the budget: budget realistically and restrict new initiatives to the budget. 2.Rebalance financial controls: microcontrols can be relaxed, but greater controls are needed over power subsidy obligations and capital projects 3.Fully implement the state ’ s accounting and auditing framework.