Over the fold, some notes I prepared in relation to issues raised by this case regarding the ‘use it or lose it’ approach to annual budget appropriations. Maybe of interest to hardcore budget policy wonks. Comments and corrections appreciated.
The budget accounting and auditing framework used by Australian governments has evolved over many centuries. It has its origins in the 17th century struggles between the English Parliament and the Stuart kings, which established that the payment of tax revenue to the executive must be authorised by Parliament. The idea annual budget emerged gradually during the 18th century (the term comes from French ‘bougette’, a little bag, which was extended to mean a stock or store and metaphors associated with this meaning remain popular). The annual budget reached its current form in the 19th century, and was adopted by the Australian states with the advent of responsible government.
The crucial principles of the 19th century budget process were
(i) annual appropriations, reflecting the fact that many of the most important taxes, such as income tax, are levied on an annual basis
(ii) the requirement that money should be spent only for the purpose for which Parliament authorised its appropriation, reflecting the idea that the budget process embodies Parliamentary control over the executive
(iii) cash accounting: the budget embodies all money raised and spent by government and reports any associated deficit or surplus
A natural consequence of the 19th century approach to the budget has been the that funds that are unspent at the end of each budget year are returned to general revenue to be allocated in the following year’s budget.
The concerns for proper use of public funds that motivated the development of the 19th century budget process remain valid. Nevertheless, by the late 20th century, important limitations had become evident.
First, the traditional budget process takes no explicit account of the efficiency with which public funds are used or the outcomes and services that are delivered. In the 19th century, military expenditure was the main area of government expenditure. While governments were held responsible for the success of failure of military policy, this is not an area that is naturally managed through budget processes. Hence, budgetary scrutiny focused mainly on misappropriation and egregious waste, rather than on the effectiveness with which funds are used.
By contrast, modern governments are major economic actors, responsible for the provision of a range of services amounting to between 20 and 30 per cent of gross domestic product. It is crucial that this activity should be managed so as to effectiveness with which public money is used to produce services and sociall desirable outcomes. The budget process must facilitate effective management.
Second, the cash accounting framework fails to distinguish appropriate between capital and current expenditure. For this reason Australian governments have agreed to move to a system of accrual accounting. However, this process has proved more difficult than was originally anticipated with the result that cash and accrual accounting systems coexist at present.
Finally, the separation between the legislature and the executive was greater in the 19th century at present, when the normal situation is for the governing party to command a stable majority in the lower house, possibly relying on the support of independents or minor parties. This means that the idea of Parliament appropriating money for individual programs is less relevant than Parliamentary approval of the budget as a whole.
In the modern budgetary framework, it makes little sense to insist that money should be spent in the same year that it is allocated, or else returned to general revenue. Public programs are typically operated on a continuing basis and managers need the flexibility to take account of variability in demand for these services, shifts in timing and large ‘lumpy’ expenditure requirements.
A requirement for Treasury approval of carryovers from year to year, combined with a general policy of refusing such carryovers, does not serve the interests of the public. It might be justified, like other ad hoc measures such as freezes on hiring as an emergency measure in periods of unanticipated budget stringency, but should not be a continuing policy.
In a modern government, a strict annual appropriations policy is, in any case, ineffectual and counterproductive. The managers of government agencies responsible for the provision of services on a large scale can nearly always find ‘hollow logs’ in which to store unspent funds. A number of these have been noted in recent discussion.
Widespread adoption of such devices reduces the transparency of public accounting. In addition, in the rare cases where the devices are found to be unlawful, individual public servants face draconian consequences for actions that differ only marginally, and in hindsight, from the routine actions of their peers.
John Quiggin 
Procedures for forward commitment approval have existed at Federal level since I and others introduced these at Finance Dept in the 1970s.
Procedures to approve and appropriate specifically for carryovers were introduced in Victoria in 1993-94. Financial Management Act was amended to provide for this. Made any ‘hiding’ unspent funds pointless.
It is quite simple in cash systems to separate current and capital spending. Having managed the Federal civil and defence works programs, and the multi-year capital budgeting process for Victoria (which I devised), I can assure you of this. Check out the Fed & Vic Budget Papers of the cash era.
In Victoria, there is no separate cash accounting system. One integrated system delivers both cash and accrual reports and management. accounts. Same in New Zealand (since early 90s).
If ‘hiding’ unspent funds is still a practice somewhere, it is an indication of incompetent financial management.
I must say, Bill, that I was surprised that this kind of thing was still going on. I agree entirely with your last sentence.
As an ex-public-servant (though not involved with Budgets, except on the program management side), I fully agree with Bill Cushing. Atttempts to “professionalise” budgeting and thereby to remove it from political abuse will serve only to create other sorts of abuse. A by-product will be to reduce even further the disclosure which is part of the current process. The Parliamentary Library research paper “Cheques and Balances” (Research Paper no.16 2001-02) which is available online at http://www.aph.gov.au/library/pubs/rp/2001-02/02rp16.htm#blurring
provides some useful background, including discussion of how the 1999 changes tothe Appropriation Bills do not prevent the construction of “hollow logs”.
one of the characteristics of budgeting at federal level (now called “Australian government” in the official parlance) has been the decreasing importance of the annual appropriations – now less than 30% of total annual expenses. Most spending is via standing or “special” appropriations (principally the Social Security Act, but there are many others) – where the issue of carryovers does not arise, if the legislation authorises the spending it happens as a matter of course (the appropriation is incorporated in the relevant enabling legislation, and is just an information item in the budget papers).
less the case at State government level, where there is still a greater reliance on the annual budgeting process.
but for both federal and state level, the underpinnings of the budget process is a robust system of forward estimates: we take it for granted, but it is the envy of most other countries.
carryovers have long been a feature at federal level. initially, carryovers were subject to various approval processes, but the introduction of the running costs system over the second half of the 1980s (elements of the system were introduced progressively) saw agencies given automatic carryovers and also access (again, automatic) to borrowing from future years up to 10% of their running costs budget. this was aimed at removing the “end of year” spendup problem where agencies sought to spend money before it was taken away from them.
ironically, the introduction of standing appropriations under accrual budgeting has reintroduced a centralised control through a quirk of accounting. if revenue is appropriated in year one, but not spent, spending leftover cash in year 2 without corresponding revenues produces a loss. losses can’t be run without approval of the minister for finance and administration.
I don’t know if the SA case is just very old fashioned poor financial management or is a case of some problem with accounting treatment of funds: and when I tried to find out more details of the case I found only media commentary which was woefully lacking in detail. whatever the case, it was the consensus among all levels of government in the 1980s and 1990s that approval regimes for carryover of unspent funds, and treasury dept.s taking a hard line, introduced perverse incentives for poor spending decisions. If SA has reverted to such policies, it will be retrograde step, but more likely is that the problem was within the department concerned. what we found at commonwealth level was that for at least a decade after agencies were given freedom to manage their own carryovers there were always some that did not realise the system had changed; I am told some areas of the Defence department have still not cottoned on.
JQ, you referred briefly to historical practice. The error today doesn’t lie simply in efficiency matters, but in not having a replacement for the constitutional function served by active mechanisms.
I won’t go into detail (for another long ripening guest post, maybe?), but here’s an example. Until the ’60s, Britain had annual funding for the armed services. The thing was, with pre-19th century financial machinery and industrial/economic development, this created a failsafe constitutional brake.
If the military was used to attempt a coup, it could’nt be taken to a conclusion as funds would run out and soldiers – released from legal discipline – would desert. Any attempt to divert forces to raise revenue by force would face a catch-22, in that they couldn’t raise enough in the face of civil resistance to maintain themselves and apply revenue raising force.
All these budget problems are deliberate, so that no activity can continue without self policing, calling itself to the attention of supervision or automatically stopping.
While this doesn’t properly address today’s needs, the remedy is not as simple as allow a carry forward. For one thing, the same problem is likely to recur in other forms, as it does in the business world. But most importantly, a substitute should first be installed for the old control system – and ideally an inherently stable one, not one that relies on people in charge being both competent and of good will.
We have seen productivity improvements in other sectors of the economy.The time has come for the public sector to increase its productivity.
Not only do they hide money in logs, but near the end of their fiscal year they indiscriminately spend their budget so as to get an increased allocation for the next year. They run duplicated services in the different levels of government. They also collect $3 of taxation revenue to return $1 of middle class welfare.
Governments are self regulating monopolies (like an unregulated toll bridge that everybody has to cross) and as such they do not have any competition to keep them efficient. Well run private sector businesses subject to competition, achieve greater economies of scale and become more efficient as they grow with the economy. Generally they employ less capital to provide more goods or services as they get bigger and achieve greater economies of scale and efficiencies. Looking at the government the opposite appears to be happening. They spend more capital to provide less goods or services as the economy grows.
We have rudderless, inefficient and fiscally undisciplined government bureaucracies, operating on a forever rising golden river of taxation revenue.
The excesses of government have reigned unchecked more than a century. Its size has increased from 6% of GDP to 32% over the last 100 years. The time for reducing the size of government has come.
Mandate fiscal responsibility on government by pegging the percentage of GDP going to government at 25% and reintroduce the razor gangs.
One of the benefits or flexibilities that the statutory authorities in Victoria have is that they can roll-over money from year to year without DTF approval. The Departments have to go cap in hand to roll-over funds on a project by project basis.
Econowit–Really?
Wilful–Departments as per Victorian State Constitution. Ditto Australian Constitution (Canadian, US, UK, etc).
Yes Bill really,
The Procedures for forward commitment approval you introduced in the 1970s did little to stop the snouts of government embedding themselves further in the trough. The tax grab of the economy has grown 10% since 1970.
See table 27.19 on this web page:
http://www.abs.gov.au/ausstats/abs@.nsf/94713ad445ff1425ca25682000192af2/a6e24932616f91edca2569de00296982!OpenDocument
Econowit–Nothing new there.(I first did those numbers at ABS in 1968.)
Post-1970: school retention rates up 30+%. 50% transition to universities. TAFE up 50%. Medicare. PBS. Pensions for single mums. Hospital costs and aged pensions demographically-driven by ageing population… Aid to sugar growers… Etc. Etc.
Haven’t noticed voters opposing all this expanded spending on transfer payments, services and election bribes.
As was unfortunately the case during John Howard’s latest outrageous and hubristic election splurge.
I’ve served on ‘razor gangs’and the like(fed & state, incl Jeff K). Unsuccessfully, you may say.
Do you have practicable, voter-friendly, solutions to offer for containment, if not reduction, of public spending? (Bringing back Jeff not an option.)
BC, it’s easy – apart from doing it. Use some (handwave, handwave – see Kim Swales’ work) way of promoting people out of (relative) poverty into income regimes where direct state subsidies cut out. Compound indirect state subsidies by commuting them to municipally based bonds (for primary schools) and land transfers with tax exemptions on the land (for all schools), and make tertiary education entitled to levy charges on secondary schools in their catchment.
One refinement is to make schools obliged to maintain semi-retired people by offering them part time work. As you see, it is mainly an exercise in moving responsibilities around – but once that is done, you end up with far more personal responsibility and central authority out of the loop. But that is precisely why central authorities will never even move in that direction, not even state governments.
Bill,
You sound like a politician. If someone complains when the government increases a tax or charge the standard line of schools and hospitals suffering is pulled out (more people are now paying twice- taxes and privately for those services).
Check the numbers you did in 1968 at the ABS and compare them with the latest figures. You will find the proportion of GDP spent on healthcare, roads, defence and education has changed little over the same period. Welfare is up which accounts for about half of the 10% gain but the other 5% is unaccounted for so I presume its just wasted. That is why I am a proponent of reducing the proportion of GDP going to government- back to 25%.
I was around in the seventies and life seemed reasonable with a smaller government- free universal health care, free universities, free tafe, larger proportion in free public education, there weren’t toll roads all over the place and families could survive on one income.
“An effectively functioning society is founded upon educated individuals who would then act to restrain the excesses of government or the reckless actions of a mass of people.”
The intelligentsia that frequent this blog should be the ones pondering your question: “Do you have practicable, voter-friendly, solutions to offer for containment, if not reduction, of public spending?” -not me but I will give it a go anyway.
Once a consensus can be reached on “what is an appropriate level of public spending” we could then work on the solutions. There are those who subscribe to the theory that a tax and spend policy is better for the economy. My view is governments primarily role is that of regulator. Governments are not always the most efficient providers of goods and services and as such they should only be given that role in areas where it can be demonstrated that it is more efficient or there is no viable alternative.
In my view there are many areas that could be looked at but two that come to mind are middle class welfare and duplicated services.
It should be possible to wean the middle class off welfare slowly over time. The same way they were introduced to it reducing their effective tax rates to compensate.
Work out what tier of government is most suited to providing a particular service and have just them do it. My personal view is one level of government could be abolished i.e.combine state and local and just have regional and federal governments.
Econowit–fully agree with your general philosophy on govt as regulator (eg ‘steer not row’, etc, as tried under Kennett in Vic). Govts not always effective service providers. Indeed, anyone who has worked in government knows that.
But, recent experience also shows private enterprise isn’t always that good at delivery of public services either.
Savings from ‘duplicated services’ is an urban myth put about by those (usually backbench Lib politicians and shock jocks) not prepared to do the hard thinking. Fact-based examples are rarely given. Aside from the hospitals/aged care interface, it is mostly b s. Small price to pay, anyway, for maintaining the valuable political freedoms that federalism helps secure.
Three-tier govt generally works well in Canada & USA, Germany, etc; and in Australia continues to be a bulwark against overweening Canberra Govt. Look at people now worrying about Howard having too much power and Canberra’s thrust to ‘centralise’.
On top of which Canberra departments are notoriously hopeless at running anything–look at that disaster area Education whose pathetic micro-managing is completely stuffing up the unversities and TAFE colleges; Health who want to run the State’s hospitals but couldn’t even run a chook raffle; Immigration–need I say more.
Regions? I worked in Whitlam’s DURD. Been there. Done that.
Whatever. The people of WA, Qld, SA & Tas will never pass a constitutional referendum to abolish States.
You are right to raise the federalism issue, however. Cwealth/State financial relations has become a disaster area, compounded by the States’ foolish acceptance of the intergovernmental agreement on the GST which has allowed Canberra to screw them (despite Costello’s recent blustering) via cutbacks to specific purpose payments and expanded matching arrangements. The States made a huge mistake back in the late 70s when they refused Malcolm Fraser’s offer of a share of income tax–a tax which they are constitutionally permitted to levy. Over time, that would have much more closely aligned State taxing with spending, the sine qua non of public accountability and service efficiency.
Unravelling this fiscal mess is one of the biggest challenges we face.
The unaccountable Commonwealth Grants Commission and its obsolete/impenetrable formula is one major source of the trouble. But nothing can change there unless States are unanimous. Costello refuses to intervene–hiding behind States.
Do you have a way of breaking through this logjam?
The Council of Australian Governments, through which massive reform was achieved under Hawke & Keating, has become a dead letter under Howard.
Do you know how to fix this and get reform (eg in health) moving again?
Middle class welfare? This is supported by Lib & Lab, Dems and Greens. (Indeed, mostly invented by Labor.) Not much hope there. Unless (say) Costello takes a trip to Damascus.
Corporate welfare (remember Pierre Trudeau’s ‘corporate welfare bums’)? I could easily point to ways to save $billions in this area. If Libs/Nats/Lab (eg ‘sugar’, election dams, R&D grants, etc) would let me.
As I said, show me some workable suggestions. None so far.
Bill, it’s easy – apart from doing it. To quote PM Lawrence above.
I think we have some common ground. The issues mentioned above are basically the same problems just viewed through different eyes. The favourable economic circumstances Australia has enjoyed and still enjoys, we can begrudgingly afford a large inefficient government. At some point in the future this could change.
The political will to do something about it unfortunately does not exist at this time. This won’t change while politicians implement policies that benefit their short term re election chances while being detrimental in the long term.
Hopefully the deficiencies of the current political process can be overcome so a gentle evolutionary change can be implemented over time to address the above issues. This is preferable to a revolutionary change brought about by a sudden change in economic circumstances.
Anyway I live in hope.
I can’t take any great credit for the phrase quoted. It’s just an adaptation pf a free translation I once came across of one of Napoleon’s sayings.
“L’execution c’est tout” became “the trick is, doing it” (referring to clever plans).
Oh, and a good approach to getting Turkeys to vote for Christmas is one I’ve mentioned elsewhere. Change that to getting the Turkeys to vote for kicking away the ladder behind them, cutting off the supply of young Turkeys (the older ones gain by not having to worry about their competition). That grandfathering eventually leads to incremental but fundamental change.
But the trick is still doing it.
Econowit & PML–exactly. The ‘trick’.
Jeff Kennett knew it. So did Bob Hawke. Malcolm Fraser didn’t. John Howard isn’t interested, post-GST. Latham funked it.
Massive change, fast, offending all interests at once, is the only way to go.
I’m not holding my breath.
Massive change is the way to go for some things, incrementalism for others. Solon used massive change for certain of his reforms, but most success works best by the kick the ladder away method, since existing Turkeys will vote for that but not for Christmas.
Even if you do happen to have enough power to do massive change, the problem is that you weaken the structure’s institutional inertia. Augustus sincerely tried to reform the Roman republic but simply eroded its institutions so that only strong men got a look in – eventually to become what we think of as Emperors (the Dominate).
Solon worked around the weakening he caused by leaving for ten years. Even so, the next round of improvements brought in the Athenian tyrants (remember the technical meaning of tyrant in those days – not harsh necessarily but illegitimate).