Introduction
The brouhaha over Financial Papers 7 and 8 in the National Assembly has served to expose the state of the public financial management in Guyana. The issue is a natural consequence of the new configuration in the Assembly which compels the Minister of Finance to demonstrate some accountability to the country. In that sense November 28, 2011 is potentially a blessing as prior to that date and that event, a request to the National Assembly for approval of Supplementary Appropriation of any number of millions would have been a non-event and automatic confirmation.
This column had written ad nauseam about the several breaches of the Fiscal Management and Accountability Act which was intended to address all matters concerning the preparation and execution of the annual budget; the receipt, control and disbursement of public money; the accounting for public money; and all other matters to bring transparency and efficient management of the finances of Guyana. While the Act requires some amendments, it was an improvement over what it replaced and should have brought greater accountability to the country. It did not, and it has become progressively worse as state and party lines become blurred.
But Guyana is not alone in this situation. A recent article in the World Economic Journal said that government accounting makes Enron look good. According to the article, accounting practices employed by many governments around the world are not only deficient but “sometimes fraudulent”. The rest of this column is based on that article.
Remembering Enron
The informed observer will recall the spate of corporate failures just over a decade ago. While the major problems were in the USA in which Enron was the worst face, in Europe a company called Parmalat was able to get a clean audit report even though there was huge $3 billion hole in its balance sheet. As is so often the case, governments reacted swiftly with legislation to remedy identified shortcomings in the financial reporting and assurance of publicly listed companies. The most significant legislation was the Sarbanes-Oxley Act (SOX) in the United States, which – in the context of already robust reporting requirements – imposed detailed requirements for the assessment of internal controls over financial reporting.
SOX also imposed stricter independence requirements on auditors, who became subject to closer scrutiny and inspection by government regulators. Perhaps because the Act had a number of extra-territorial effects, modified elements of it became a template for government action in many jurisdictions around the world.
Both in the USA and elsewhere, these measures were aimed at restoring confidence in capital markets, which had been dealt severe blows by the misreporting of corporations and the associated audit failures.
Not for governments
But there are some double standards when it comes to making rules by governments and their own practices. The seriousness of the situation was brought home very strongly in the instance of the Greece basket case in which self-interested politicians and public servants were keen to ensure that an accurate picture of the country’s finances was not made available. While changing reporting arrangements and processes will not of itself ensure that fraudulent reporting is eliminated, implementing a system that is based on a structured, robust framework permits reported information to be audited – that is, it allows independent assurance about the reliability of the information presented, and whether it is free from material misstatement.
Of course, one of the reasons is that politicians and public servants do not always act in the public interest – hence the explanation why governments do not want transparency, why they do not want anyone else setting their financial reporting standards, and why ministries of finance generally do not advocate for better accounting. Indeed, we have seen in Guyana a strong reaction against the calls for better accountability to the point where no less a person than the President, less than four months following one of the most expensive elections anywhere, wants to go back to the polls for a majority that would stifle calls for greater accountability. Of course the President tells the taxpayers that those calling for greater accountability are anti-development!
The countries of Europe and more directly Portugal, Ireland, Italy, Greece and Spain (PIIGS) have made it abundantly clear that not only in the Third World but in northern countries as well, government debt cannot be considered ‘risk free’. Private-sector organisations must provide detailed, audited financial reporting and disclosures to banks and credit providers so appropriate risk premiums and the price of borrowing can be determined. Once the ‘risk-free’ assumption can no longer be made, investors in public debt require similar detailed information from governments, and for the same reasons.
The cons
Arguments against enhanced public-sector financial reporting, disclosure and financial management typically involve arguments that superior methods are either not available, or that they come at a prohibitive cost. The former is patently untrue for governments that continue to use traditional, cash-based methods of accounting; while the latter can be countered – perhaps with a little more effort – through careful examination of the costs of making, and of not making, such improvements.
The unexpected costs of poor decision-making and fraudulent reporting are currently being felt in not-so-uncertain terms.
Citizens and investors deserve more reliable and complete financial information, and greater transparency and accountability, from governments. The costs of not doing so are just too high.
The Chairman of the International Accounting Standards Board noted recently that “without transparency, neither can there be trust or accountability”. Governments that employ traditional cash-based public-sector accounting cannot be transparent; their reporting necessarily presents only part of the total picture. Traditional methods of government accounting – cash-based accounting are simply insufficient to allow governments to discharge accountability to the public, or to permit investors and potential investors to make fully informed decisions. Better accounting practices are required.
Cash-based versus accrual accounting
The cash-based accounting which Guyana and most other countries practice, reports cash inflows (eg from taxation receipts, interest earned on investments, and proceeds from sale of assets) and cash outflows (eg spending on government programmes, interest on borrowing, lending, asset purchases, public-sector salaries and wages).
A major weakness in that system is its failure to distinguish between the economic characteristics of different types of transactions since it treats the sale of public property in the same manner as cash raised through taxation. Likewise, government lending – a cash outflow – is treated the same as the payment of public-sector salaries.
Not that cash-based accounting does not have its use. It clearly does – both in the private as well as the public sector. Any entity, whether an NGO, government or a commercial entity needs to know its cash position, inflows and outflows, borrowing requirements, and liquidity position. But cash is not all and in fact cash-based accounting can be significantly misleading, if not plain creative accounting.
A government faced with the difficult decision of balancing its budget may find it expedient to dispose of the crown jewels rather than cutting expenditure or raising taxes. But what happens when there are no further assets to sell? In other words, cash-based accounting allows politicians to delay and defer the tough decisions to subsequent years and generations of taxpayers.
Conclusion
As the Minister of Finance prepares his 2012 Budget, he may just spare a thought about the manner in which the government accounts are kept and whether the existing cash-based system serves the long-term interest of the country. Both the United Nations System of National Accounts (SNA) and IMF Government Finance Statistics (GFS) – promote the use of accrual-based reporting.
As an accountant himself, the Minister of Finance may find it a relatively straightforward exercise to remedy the reporting deficiencies of government accounts: introduce a robust accrual-based financial reporting framework.
There is already a framework called IPSAS (International Public Sector Accounting Standards) developed and issued by the International Public Sector Accounting Standards Board. To do so requires two important things: (i) the existence of such a framework; and (ii) the will by politicians to make the decision to improve government transparency and accountability, and therefore enable greater scrutiny of their decision-making. While the former exists – in the form of IPSASs – the incentives provided to politicians in most countries mean that the latter is very difficult to achieve.
And that is why I do not hold out much hope for change any time soon.
