Pitfalls our budget always faces

ISLAMABAD: The Nawaz Sharif government is going to present its third consecutive budget on Friday (today) with expected outlay of over Rs4.2 trillion, mainly relying upon foreign loans amounting to $9.1 billion and envisaging an ambitious FBR target of Rs3,100 billion.
With envisaged budget deficit of 4.3 percent of GDP, equivalent to Rs1,315 billion, the government is going to manage its deficit financing through external and domestic borrowings.Pakistan’s budget mainly revolves round 3 Ds - debt servicing, defence and development. Despite reduction in interest rates, the debt servicing will continue to get top slot on expenditure side followed by defence and then development.
On revenue side, the government is going to fix FBR’s target at Rs 3,100 billion for 2015-16 against revised target of Rs2,605 billion for outgoing financial year, projecting a growth of 19 percent, a highly ambitious tax collection target ondeed!
Renowned economist Dr Ashfaque H Khan says that the FBR’s collection would stand maximum at Rs2,850-2,900 billion in the coming fiscal year. However, the practice of overstating revenues and understating expenditures will persist with the wizards of Q Block (Finance Ministry).
There are some structural problems confronting budget-making process.Over-optimism of the budget forecasts: Recent years have witnessed a strong tendency for economic and budgetary forecasts presented in the budget to be over-optimistic. Revenue forecasts are routinely substantially overoptimistic; involving projected annual growth of 20 or 25 per cent, whereas, in reality, revenue growth is the range of 10-15 per cent. At the same time the approved budget usually involves substantial under-estimation of important expenditure in the budget.
The result of over-optimistic budgeting, whether on the revenue side or on the expenditure side, is that the budget as approved cannot actually be implemented in full.
Solution: Either the Government will increase the budget deficit over and above the target, leading to increased debt accumulation, or room will have to be created through cuts to the amounts provided in the approved budget.
The pattern emerging is that soon after the approval of the budget the Ministry of Finance announces cuts, in implicit recognition that actually the budget is over-optimistic. These cuts are concentrated in two main areas: (i) the operations and maintenance budget lines of the recurrent budget, and (ii) the projects provided for in the development budget.
These cuts have the effect of removing the possibility of accountability for service delivery by the concerned ministries, departments and agencies. If these bodies do not receive their full budget they have a permanent excuse for failure to deliver planned services in full.
Off-Budget Items: The main areas of under-estimation usually relate to the likely “contingent liabilities” which in all probability will arise during the budget year.
These are liabilities which sometimes cannot be forecast accurately, but which are highly likely to arise during the year. The most important examples are the “circular debts” arising from operations in the energy and other sectors - e.g. commodity financing.
The present practice is not to make provision in the approved budget for such expenditures. The second type of off-budget items are the periodic expenditures required to support loss-making public sector enterprises (PSEs).
Parliament’s role in the budget: The Constitution provides that Parliament will play a critical oversight role over the federal budget. In practice it fails to do so. Symptoms of this state of affairs are: (i) failure of Parliament to insist on ex ante appropriation of all supplementary appropriations proposed by the Executive. (ii) failure of Parliament to insist on an adequate period for Parliamentary scrutiny of the budget prior to the budget debate; (iii) failure of the Parliamentary committees to scrutinise adequately the sectoral investment plans of the ministries and agencies.
Fiscal sustainability: There is a trend over the years towards showing the federal budget being unsustainable. What do we mean by “unsustainable”? The budget is unsustainable when, after meeting the unavoidable or legally required expenditures, there is little or no room left in the budget for other expenditures which, though not legally required, are very important to provide for public services and public investment.
These expenditures are called “discretionary”. In practice there is no absolute distinction between “discretionary” and “non-discretionary” areas of expenditure. But for practical purposes, the non-discretionary areas of public spending should be considered to include: (i) the legally “charged” expenditures required to finance the constitutionally established bodies; (ii) debt service on domestic and external debt, (iii) transfers to the provinces under the National Finance Commission awards, (iv) spending on the security forces, and (v) meeting the salary costs of established public sector employees.
The problem of fiscal sustainability which the Federal Government is facing is that the amount of space in the budget remaining for “discretionary spending” after meeting the ‘non-discretionary items, has been declining year after year.
This has happened for several reasons: first, Federal revenues have risen only modestly and from a base which is very low by international standards (as measured, for example, by the revenue/GDP ratio); second, the share of the budget used to meet debt service obligations has risen steadily (is this true?); third, the size of the public sector workforce has continued to grow, and this in spite of the provisions of the 18th Amendment of the Constitution, which should in principle have led to a reduced federal work-force as important service delivery responsibilities of the Federal Government were transferred to the provinces.
The steady erosion of discretionary space in the Federal Government budget can be most clearly seen in the reduction in the size of the Public Sector Development Program (PSDP) when measured as a share of GDP. This ratio has fallen from 4.7% in 2006-07 to 3.5% in the expenditure incurred last year (2013-14). However, it has also led to chronic pressure on the non-salary component of the recurrent budget, and is reflected in divisions having inadequate operation budgets to provide quality services.
If the present trends continue, within a few years there will be no space in the budget for development programme which will have very serious long term impact on national development.
Clearly it will not be easy to reverse the existing trend towards reduced fiscal space. Any solution will necessarily involve politically difficult policies aimed at addressing the underlying causes of the problem. Such policies include “right-sizing” of the federal public sector staffing in the light of the 18th Amendment, more effective policies and administrative systems to increase federal revenues and/or several years of fiscal restraint to reduce the magnitude and growth of debt-service obligations.
The budget books used as the basis for the presentation of the budget to Parliament are antiquated and very difficult to understand for anyone who is not a public finance specialist. These books include the “Pink Book” which now runs to over 1,500 pages in 2 volumes, the Budget in Brief, which, although more concise, continues to be difficult for the non-specialist to understand, the Green Book which presents the budget broken down by the purposes (or results) which are to be achieved through use of the appropriated funds.
The budget books retain classifications which have been kept intact since the colonial period. An example is the breakdown of the budget books into the Recurrent Budget, the Development Budget, the Revenue Account, Capital Account, etc. Few people understand these distinctions.
In recent decades most countries have modernised and transformed the formats used for presenting their budgets to Parliament. It is long overdue for Pakistan to do the same and produce a set of budget documents which are readily understood by both Parliamentarians and the general public. Information which is not of interest to Parliament and the public should be dispensed with. The details presented in the Pink Book are required only by the officers directly responsible for executing and accounting for the budget. It does not need to be part of the budget package submitted to Parliament. The Pink Book is actually a nuisance as it distracts attention from the more strategic aspect of the budget.
The budget should be accompanied by a well-presented, clearly written summary of the key features of the budget which makes extensive use of easy-to-understand graphics to highlight the key features in the budget and the key respects in which this year’s budget differs from the previous year.