Report No. 26162-ZA Zambia Public Expenditure Management and Financial Accountability Review Country Financial Accountability Assessment Annex, Volume II: November 2003 Financial Management Operational Quality and Knowledge Africa Region Document of the World Bank IPSAS IntemationalPublicSector AccountingStandards IMF IntemationalMonetaryFund INTOSAI IntemationalOrganization of Supreme Audit Institutions KCM KonkolaCopper Mines KDMP KonkolaDeepMiningProject LCC LusakaCity Council LGAs Local GovemmentAuthorities LM LineMinistry LPO LocalPurchase order MFNP Ministry of FinanceandNational Planning MoH Ministry of Health MLGH Ministry of LocalGovernmentandHousing MTBPS MediumTerm BudgetPolicy Statement MTEF MediumTermExpenditureFramework MTPRS MediumTermPay ReformStrategy MWS Ministry of Works and Supply NA NationalAssembly OAG Office ofthe Auditor General OP OperationalManual PAC Public Accounts Committee ofParliament PE Personal Emoluments PEM Public ExpenditureManagement PEMFA Public ExpenditureManagementandFinancialAccountability PPP PurchasingPower Parity PRGF Poverty Reductionand Growth Facility PRSC Poverty ReductionSupport Credits PRSP Poverty ReductionStrategy Paper PS Permanent Secretary PSC Public Service Commission PSCAP Public ServiceCapacity Building Project PSPF Public ServicePensions Fund PSRP Public Sector ReformProgramme PSU ProcurementSupply Units RDC RecurrentDepartment Charges RFP Requestfor Proposals SOEs StateOwnedEnterprises SSA Sub-SaharanAfrica ST Secretaryto the Treasury TA Technical Assistant TAZAMA TanzanidZambiaPipeline TAZARA Tanzania-ZambiaRailways TNDP TransitionalNationalDevelopmentPlan USD USDollars VAT Value-addedTax WSM Works and Supply Ministry WHO World HealthOrganization ZAMIM Zambia Instituteof Management ZBIC Zambia InsuranceBusiness college Trust ZCCM Zambia ConsolidatedCopper Mines ZESCO Zambia Electricity SupplyCompany ZNOC ZambiaNationalOil Company ZNTB Zambia NationalTender Board ZNTBA ZambiaNationalTender BoardAct ZPA Zambia PrivatizationAgency ZR Zambia Railways ZRA Zambia RevenueAuthority TABLE OF CONTENTS Preface................................................................................................................................. v ExecutiveSummary vi 1. Introduction ................................................................................................................. ........................................................................................................... 1 Methodology ................................................................................................................. 2 Overview of Bank Portfolio ........................................................................................... 2 2. The macrocontext and legalFramework ................................................................... 6 Overview of Government's macroeconomic record ....................................................... 6 PFMLegalframework and InstitutionalArrangement................................................... Overview of thePublic Sector ....................................................................................... 8 9 3. Budget Preparationand Implementation ................................................................. 14 Budget Preparation..................................................................................................... 14 Revenue Controls........................................................................................................ Budget Releases .......................................................................................................... 19 20 Payroll Expenditure Controls...................................................................................... RDC Expenditure Controls.......................................................................................... 25 27 CapitalExpenditure Controls...................................................................................... 30 Asset Management ...................................................................................................... 33 Internal Audit .............................................................................................................. 34 4. Accounting, Reportingand InformationSystem ..................................................... 37 Statutory guidance on accounting and reporting ......................................................... 37 Accounting and Monthly Returns................................................................................. 38 Timelinessand Accuracy of Financial Reports............................................................ 39 Financial ManagementInformation System................................................................. 43 5. ExternalAudit and Oversight ................................................................................... 46 External Audit ............................................................................................................. 46 49 Anti-Corruption and money laundering.,..................................................................... Parliamentary oversight - the role of thePublic Accounts Committee......................... 51 6. Management of PublicDebt ...................................................................................... 53 Legal and Institutional Framework ............................................................................. 53 7. AccountabilityFrameworkfor Quasi-publicSector Entities .................................. 56 Extra Budgetary Funds ............................................................................................... State-OwnedEnterprises ............................................................................................. 56 58 NGOs.......................................................................................................................... 60 8. FinancialAccountabilityArrangementsfor LocalGovernments ........................... 61 Legal and regulatoryframework ................................................................................. 61 Budgeting and Budget Execution................................................................................. 61 Financial Reporting andAuditing ............................................................................... 62 Procurement................................................................................................................ 63 Asset Management...................................................................................................... 64 ... 111 Listof Tables Table 1: Zambia . Summary as at 31December 2002 ............................................. Lending 3 Table 2: Zambia .Disbursementso f IDA Credits by LendingInstrument (1991 . US$Million...................................................................................................................3 2002) Table 3: Zambia LendingPipeline January 2003 to June 2005 - ( inmillions) ...................... 4 6 Table 5: Zambia: Macroeconomic Indicators, 1970s- 2002 (inpercent)................................. Table 4 Zambia: Structure o f Outputand Real GDP Growth, 1970s- 2002 ........................... Table 6: Illustrative Examples o fUse o f Supplementary Appropriations ............................. 7 15 Table 7: A Comparison o f Historical Spendingwith Approved Budget Estimates for Selected Table 8: Comparison ofthe 2001 GRZbudget and Actual Funding..................................... Line Items................................................................................................................... 17 23 Table 10: Staffing o f the OAG ............................................................................................ Table 9: Comparison o f Budget Releases and Actual Expenditures ..................................... 41 47 Table 11: Fundingo f the OAG for the period 1998-2001................................................. 48 Table 12: List o f Budgetary Funds..................................................................................... 56 Table 13: Program o f Priority Actions................................................................................. 65 List of Figures Figure 1: Composition o f the 1999 Public Sector Deficit inZambia ...................................... 9 iv PREFACE This Country Financial Accountability Assessment (CFAA) considers the strength o f financial accountability processes inthe Zambian public sector. It i s intendedas a tool to aid the Government's efforts to strengthen the financial accountability framework and build capacity to carry out financial management functions. The fieldwork for the CFAA was conducted primarily during August and September 2002. The CFAA was developed as part o f the Public Expenditure Management and Financial Accountability Report (PEMFAR) and teams frequently overlapped in their composition and areas o f attention. Fieldwork on the PEMFAR hadbegan several months earlier. Though primarily a Bank-led effort, the Zambia CFAA reflects contributions from other several donors concerned about financial accountability. In particular, the European Union shared its audit o f financial management on EUprojects, and then subsequently made this consultant available to contribute additional research and analysis to the CFAA over a four week period. The UK Department for Intemational Development (DffD) also took a strong interest inthe development of the CFAA and offered fundingfor other consultants. The Government's collaboration in the CFAA exercise was led by Mr. Chitundu Mwango, the Accountant General, Ministry o f Finance and National Planning. Important inputs were provided by officials from various departments of the Ministry o f Finance, as well as from several line ministries, including Works & Supply, Education, Local Government & Housing, and the Central Boardof Health. A joint Bank-Government workshop was conducted during September 12-13, 2002 (under the auspices o f PEMFAR) in order to discuss initial findings in financial accountability and the likely way forward. The workshop was attended by deputy Ministers o f Finance, Kalifungwa and Mutati, and officials from the Ministry o f Finance and National Planning (MFNP), Cabinet Office, line ministries, Auditor General's Office and the Zambia National Tenders Board. A variety o f donors participated inthe workshop: representatives o f the IMF, World Bank, SIDA, DFID, NORAD, JBIC, UNDP, EC, UNICEF, USAID. In addition, civil society was represented by the Zambia Institute o f Chartered Accountants and the Economic Association o f Zambia. The findings and proposals were well-received by the donors, who agreed to form a joint Govemment-Donor steering committee to monitor implementation o f any priority action plan that i s developed. The Bank team contributing to the CFAA included Iraj Talai (Team Leader, AFTFM), Ed Olowo-Okere (AFTFM), Fenwick Chitalu (AFTFM), Bemard Myers (AFTPl), Mushiba Nymazana (AFTPl), Abebe Adugna (AFTPl) and Ron Quist (Consultant, European Union). Peer reviewers for the report were David Shand (OPCFM) and Mike Stevens (AFTPR). V EXECUTIVESUMMARY I. Overview 1. This report focuses specifically on financial accountability in the Zambian public sector, including the institutional arrangements for promoting accountability and the specific processes, procedures, and systems inplace inZambia. Although the report was done as part o f the Public Expenditure Management and Financial Accountability Report (PEMFAR) and draws substantially from it, the CFAA takes a more detailed view o f the financial management systems o f the public sector and the external mechanisms for control. With the recent change in Government, Zambia has had an opportunity to began addressing many o f the structural and institutional issues that are important to promote accountability. Work by the Anti-Corruption Commission, for example, has prompted a wave o f investigations into financial misconduct by government officials. Likewise, the recently initiated constitutional review creates a window o f opportunity to strengthen the legal framework and clarify institutional responsibilities. Indeed, any long-term solutions to improve financial management must go beyond technical proposals and address the underlying legal framework and the incentives for complyingwith financial regulations. 2. The Bank's engagement in Zambia over the past several years, has shown that financial management and institutional reforms are difficult to achieve quickly. The relatively low pay for professional staff within the civil service i s certainly one contributing factor to the weak public sector capacity. But a lack appropriate o f institutional incentives and poorly defined institutional responsibilities also undermine public finance management. With macroeconomic growth prospects very limited over the coming years, it is more important than ever that Government adopt measures that can assure at least a more effective use o f the available public resources. Moreover, for the World Bank and other cooperating partners, the CFAA suggests that major shifts inassistance from individual projects to budget support need to be accompanied by substantial reinforcement o f Government systems if the use o f those funds i s to be monitored accurately. 3. The overall conclusions o f the CFAA are that there remain substantial weaknesseshks within the public financial management system o f Zambia. In brief the problems canbe grouped into five broadthemes: e Lack of compliance or enforcement of existing rules and regulations. Existing accounting regulations would be adequate to assure appropriate controls and reporting ifthey were fully compliedwith. e Weak institutions of accountability. The Office o f the Auditor General and the Parliament are ill-equipped to provide adequate oversight due to lack o f funding, low technical capacity, and insufficient authority to ensure follow-up. This undermines democratic accountability for public expenditure. e Excessive discretion given by law to the Minister of Finance to change the budget and the agreed spending priorities without further recourse to Parliament or timely accounting for it. vi Poor information management and reporting. Reports on government commitments and expenditures are usually late and incomplete. Information at line ministries i s oftennot reportedto MFNP, and reports to Parliament are also poorly prepared. Lack of transparency concerning the cost of public sector activities. Because the annual budget under-estimates the cost of many functions (including parastatals), it presents a misleadingpicture o f the economic trade-offs. II. MainIssues Budget Preparation 4. Problems infinancial management start with the preparation o f the annual budget (or Yellow Book). Budget estimates that are submitted by the Executive and approved by Parliament often bear little relationship to the true cost o f carrying out the activity. Because the budgets are widely viewed as over-committed, it has greatly reducedthe credibility o f the budget process itself. Yet, the incentive for Government to produce more reliable budgets may be undermined by the fact that MNFP has broad authority to propose supplementary appropriations without the ex-ante approval o f Parliament. This points to the need to tighten legislation concerning budget amendments. The transparency o f the budget i s also obscured by its line item format, which makes it difficult to discem the genuine policy priorities o f the government. Activity Based Budgeting (ABB) has been slowly introduced by MFNP into budget preparation, buthas not yet been fully integrated across ministries. Revenue Controls 5. With the creation of the Zambia Revenue Authority (ZRA), as a independent agency reporting to MFNP, revenue collection has been one o f the strong points in the Zambian public administration. The accountability arrangements are robust and the measures for transmitting receipts to the Treasury are sound. Longterm fundingmechanisms o f ZRA need to be reviewed inlight o f possible declines indonor funding, and controls should be reviewed for border posts. Budget releases 6. Budget releases are largely left to the discretion o f MFNP and often bear little relationship to the monthly budget estimate. With the exception o f personal emoluments, budget releases are often unpredictable for line ministries, causing them to either wait until cash i s available for procurement, or to risk accumulating arrears. Inaddition, the decisions by MFNP are generally not informed by the commitments already entered into by line ministries. As a result, activities such as road construction can endup beingunder-funded and incurring additional project financing costs due to the absence of effective cash flow planning within MFNP. Insome cases, the cost of capital projects have more than doubled due to late payment penalties, interest, and other charges. Control of Expenditures 7. Although good financial regulations are in place, the cash rationing process and lack o f enforcement o f the procedures have helped undermine basic internal controls on operating expenditures. Payment vouchers are often kept unrecorded until cash i s available, leading to unrecorded arrears. In other cases, checks are written before goods have been delivered, vii while some agencies have used unauthorized overdrafts to pay for expenditures beyond their budget. Effective control requires a separation o f duties and depends upon compliance with the rules. Insome cases, restructuring o f ministries has broken down the separation o f duties. Intemal audit, while well-staffed at MFNP, has generally been weak inthe line ministries and needs further support. Payroll controls 8. The sheer size o f personal emoluments in Zambia (K 907 billion in 2001 or 37.5 percent o f all cash releases) makes it a potentially large financial risk if not managed well. The Government faces two challenges in the administration o f the payroll. First, there are risks associated with cash payments made to civil servants who work in districts which lack banks (26 out o f 72 districts). The second challenge i s in developing effective controls to assure the regular updating o f the payroll database. Under the current procedures, the payroll unit heads have no way of knowing systematically who has beenpaid within their unit. As result updates are not beingmade as quickly as they should and payments are being made to those who have left, died, or transferred. CapitalExpenditure Controls 9. Capital expenditures made up only about 12 percent o f budget releases in2001 (or K 300 billion) but the financial losses can be very significant due to late payment penalties and interest that accrue on many o f the contracts. Inaggregate, the cost to maintain the work on existing projects typically exceeds the amounts that are budgeted. The actual cash releases are even less. Moreover, because the accounting system does not separately record the costs associated with late payments, the magnitude o f the losses i s obscured. For MFNP to make better cash management decisions would require a more robust system o f reporting fiom the Ministry of Works and Supply on outstanding commitments and the structure of the contracts. Under the current system, even accounting unitswithin the Ministry o f Works and Supplyare often unawareo fproject contracts untila request for payment is received. Internal Audit 10. Intemal Auditors have been effective in diagnosing problems in the financial management procedures, but their potential impact i s still severely limited by the lack o f adequate resources to carry out their work (especially for the provinces) and insufficient follow-up on their recommendations. Indeed, without the legitimate threat o f sanctions, audits may be counter-productive by emboldening the behavior o f wrongdoers. Accounting and Reporting 11. If they were fully observed, the existing provisions in the Finance Act and in the Procedures Manual would be adequate to ensure proper accounting records and financial reporting. However, in practice there are number o f problems that arise due to poor compliance. As noted above, commitments are often entered in the accounting ledger when the check i s issued, and expenditure is recorded at the same time. This represents a breakdown o f the formal system, undermines the distinction between commitment and expenditure, and distorts the financial information. Secondly, there is no systematic reconciliation o f fiscal accounts with statements from the Bank o f Zambia. Even reconciliation within MFNP between reported expenditures and cash releases does not seem to occur. (Some ministries, consequently, show expenditures that are in excess o f their ... Vlll budget releases.) Third, there i s evidence of omissions and double counting in the quarterly consolidated reports, which in turn, calls into question the accuracy o f the annual financial statements. Lastly, the roles and functions o f the Accountant General need to be defined in the existing legislation, and the position should be attached directly to the Secretary to the Treasury if it i s to exercise its supervisory role. Currently, it i s inhibitedinperforming some reconciliation functions by inadequate access to information from ZRA and the Budget Office. Financial Management Information Systems 12. Although computerization i s not a panacea, the Government's dependence upon primarily manual accounting procedures and outdated technology does contribute to the difficulty in obtaining reliable and timely financial information To develop an IFMIS, the Government has formed a projected team and several donors, including the World Bank, have provided financial and technical assistance to the Government. Despite this, IFMIS development still remains inthe early stages. External Audit 13. The appointment, tenure, and auditees o f the Auditor General (AG) are well-defined in the existing legislation. However, in practice the Office o f the Auditor General's independence is hamperedby a lack o f adequate human and financial resources to discharge the AG's statutory responsibilities. Staff o f the OAG are subject to civil service conditions o f service and compensation, which has made it difficult to attract and retain qualified individuals. Independence may also be compromised by the fact that the OAG's budget i s subject to approval by MFNP, as are subsequent cash releases. Parliamentary Oversight and the Anti-Corruption Commission (ACC) 14. The Public Accounts Committee (PAC) i s Parliament's primary means of exercising ex-post oversight of the budget. The actual independence and capacity o f the PAC depends on several factors in practice. For example, though the PAC i s headed by a member o f the opposition, the committee's votes tend to be controlled by the ruling party. In addition, funding of the committee's work is dependent upon MFNP, and the committee lacks professional accountants/auditors. The ACC, on the other hand, has gained substantial financial resources since 2002 to carry out its investigations. Yet, many o f the gains at ACC have coincided with the change inpolitical leadership, which implies the need to review the longer-term fundingmechanisms to assure autonomy. Public Debt 15. Day-to-day debt management i s performedjointly by the Bank o f Zambia (BOZ) and the Investment and Debt Management Department (IDM) o f MFNP. Problems arise in the management o f debt inpart because Zambia lacks a policy framework for the contracting and repayment o f debt. Inaddition, wide discretion i s given to the Minister o f Finance to contract debt without specific oversight from the Parliament. In fact, Parliament receives no reports either ex-ante or ex-post on new government debts. Restructuring of state enterprises and payment arrears to domestic suppliers have also contributed to the growth inpublic debt. ix State-owned enterprises 16. State-owned enterprises (SOEs) generally operate at a loss, and will probably continue to due to the frequency o f political interference. Some institutions such as the Zambia National Commercial Bank (ZANACO), operate in a competitive environment, but still have not been profitable for a long time. Moreover, large debts have been passed on to Government because o f the absence o f borrowing limits or effective financial oversight in general. Audits conducted by the AG are normally a transaction audit and do not cover the financial statements o f the SOEs. Financial performance targets are not set by government, and others face conflicting political and commercial indicators. Local Governments 17. There are 72 local councils in Zambia. They are funded through subsidies from the Ministry of Local Government and Housing (MLGH) as well as direct receipts from local sources, such as property taxes and licensing fees. Budget management has been a special challenge for local authorities, as expenditures estimates are often unrealistic relative to the revenue capacity. In some cases this has lead to arrears, especially for salaries. Audits are supposed to be conducted for each local council though the quality and timeliness varies. As with central government, low salary scales affect the ability o f local authorities to attract staff to the audit function. Procurement procedures have not been implemented in all o f the councils, and economies o f scale have suffered due to the poor liquidity position of many councils. Uncertainty over the timing o f receipts also adds to the difficulty o f planning purchases. IIL Major Recommendations 0 To improve the credibility o f the budget, use historical data to compare budget estimates with actual expenditures for each budget line and assure that policy actions are taken to reconcile the differences. 0 To improve accountability, reduce the discretion and excess authority given in law to the Ministry o f Finance to deviate from the approved budget (ie., reduce the discretion on supplemental appropriations). 0 To improve predictability o fbudgetreleases, implement quarterly cash flow plans and assure that annual releasesmore closely mirror the budget. 0 To assure an accurate payroll, institute procedures to reconcile the payroll lists with the people actually working on a regular basis, preferably at the level o fthe pay point. 0 Enforce the existing regulations on the recording o f commitments and assure that checks are not issuedprior to the reception o f goods or services. 0 Institute a separate recording o f interest, penalties, and other price variances in the accounting for capital projects so that these may inform the cash management decisions at MFNP. 0 Increase the staffing levels and operational funding o f Internal Audit so that it may be more effective in carrying out its workplan, and track implementation o f IA recommendations. X 0 Elevate the position o f the Accountant General to report directly to the Secretary to the Treasury, andclarify its responsibilities inlegislation. 0 Reconcile monthly expenditure reports with monthly releases, and restrict funding for those ministries which do not submit a monthly return on time. 0 Require annual financial reports be presented to Parliament within 6 months after the end o f each fiscal year, and the AG's reports within 9 months. 0 Strengthen the Office o f the Auditor General by placing authority over its budget and human resources inthe hands of an Audit Boardthat reports directly to Parliament. 0 Provide a more secure source o f funding for the activities o f the PAC, and strengthen its authority infollowing-up with the Executive on recommendations. 0 Revise the Loans and Guarantees (Authorization) Act in order to incorporate features of a government debt policy and to provide for adequate Parliamentary oversight over contracting of debt. 0 Tighten the financial oversight over SOEs, includingthe setting o f borrowing limitsin order to reduce the contingent liabilities upon the government. xi 1. INTRODUCTION 1.1 This chapter presents some vital background information to the CFAA. This includes the main objectives and specific issues that are addressed inthe CFAA. The methodology for conducting the CFAA i s described with specific reference to the sources o f information for the assessment and their validity. An overview o f the Bank portfolio inZambia i s presented with a special emphasis on fiduciary issues. Objectives and Scope 1.2 The CFAA i s a diagnostic tool designed to enhance the Bank's knowledge o f public financial management (PFM) in a country. It facilitates the diagnosis o f public financial management systems and the development of an action plan for its reform. Objectives of the CFAA: 1.3 Fiduciary obiective. To identify the strengths and weaknesses o f financial management and accountability arrangements in the Zambian public sector so that the risks that these may pose to the use o f Bank funds canbe assessed and managed. 1.4 Development obiective. To facilitate a commonunderstandingby the government and the Bank o f the PFM arrangements so that capacity buildingprograms can be designed and implemented to improve PFM inZambia. 1.5 Scope o f the CFAA. The CFAA provides an assessment o f the public financial management and accountability systems o f Zambia as well as its constituent parts, i.e. Local Government Authorities (LGAs) and State Owned Enterprises (SOEs). It also includes and assessment o f the accountability regime for NGOs. More specifically, the assessment covers the following aspects o f PFMinZambia: Institutional and legal framework for financial management and accountability Budget development, including budget comprehensiveness and the adequacy o f the budget preparation process. Budget execution and monitoring, including budgetary control processes, recording o f transactions, intemal control arrangements and cash management ' Revenue issues with special reference to the adequacy o f revenue monitoring as part o f overall budget monitoring and cash management Asset management, including arrangements for recording and safeguarding assets Debt management, including institutional arrangements and information systems for managing debts Management of contingent liabilities, including consideration o f contingent liabilities duringbudget preparation, monitoring and evaluation, and reporting 1 External fiscal reporting and transparency, including the reliability, standards, adequacy, timeliness, format, contents, andtimely publication Auditing, including adequacy o f institutional arrangements for the independence o f the OAG, andthe scope and quality o f audit Legislative oversight with respect to public financial management, including priori andposteriori functions Anti-corruption initiatives, including government anti-corruption strategy and institutional arrangements for dealing with corruption Financial management and accountability arrangement in local governments, includingbudgeting,internal controls, accounting, reporting and auditing Financial accountability regime for SOEs, including the relationship o f the public enterprise sector to the government budget, accountability regime for public enterprises, financial relationship with the government and financial performance Financial accountability arrangements for NGOs Methodology 1.6 The assessment began with a desk review o f relevant publications followed by fieldwork. During the fieldwork, information about current practices was collected mainly through interviews. Additional studies, reports, and other relevant documents were identified and reviewed. The field work was followed by an assessment which included comparison o f the current system and ongoing reforms with international standardshest practices; identification and analysis o f the risk to public funds; and identification o f actions to improveheform the system. 1.7 Both primary and secondary information sources were used in the assessment. The primary information was obtained through interviews and questionnaires administered on government officials with key responsibilities in the public financial management. The secondary information was obtained through the review o f published and non-published documents, includinggovernment publications and reports. Overview of Bank Portfolio 1.8 The World Bank's involvement in the development agenda for Zambia dates back to the 1950s. As o f December 31, 2002, there had been 9 adjustment credits and 94 Investmentcredits totaling US $ 3.2 billion. Table 1provides a summary o f IDA lending to Zambia as o f December 2002. 2 Table 1: Zambia-LendingSummary as at 31December2002 I Total number of Loans/Credits I 32 I 1 I 103 I 1.9 Disbursements. In the last 12 years, the World Bank has disbursed about U S $ 1.9 billion to Zambia (see Table 2). Table 2: Zambia Disbursementsof IDA Credits byLending - Instrument(1991-2002) -US$ Million Investment Adjustment Source: Integrated Controller System-Adapted Year Credit Credit Total . from the Summary Statement o f 1991 43.1 235.9 279.0 LoanslCreditsJGrants 1.10 Current Portfolio. As o f December 31,2002 the IDA portfolio comprised 13 active investment projects and 2 projects awaiting signing and completion o f effectiveness conditions. The relative sector shares in the portfolio were: Social Services 37 %, Infiastructure & Environment 33 percent, Privatisation, Private Sector development and Technical Assistance 21 percent, and Emergency Drought relief 9 percent. The total IDA commitments stood at U S $ 563 million, out o f which U S $ 330 million i s available for disbursement (Table 3). Out o f the total commitments, U S $ 62 millionrepresents Grants onHIV/AIDS and drought relief. 1.11 Proiects inthe Pipeline. Between January 2003 and June 2005, 10 projects with a total commitment o f US $ 540 million (see Table 3) are expected to be added to the IDA portfolio inZambia. 3 Table 3: ZambiaLendingPipelineJanuary 2003 to June2005 -( in millions) 1.12 Fiduciarv arrangements for existing portfolio. Reliance has not been placed on the government accounting and reporting system inthe implementation o f IDA-assisted projects. Project Management Units (PMUs) are normally established, each with its own financial management systems - the systems are not integrated with the Central Government systems. Professionally qualified accountants are employed as consultants, with exceptionally higher salaries than civil service salaries, to operate the project financial management systems. Also, the projects' bank accounts are held in commercial banks, not inthe Bank o f Zambia. Regarding audit, the Office o f the Auditor General (AG) i s responsible, under the Constitution o f Zambia Act 1996, for the external auditing o f all Government Funds. However, due to capacity constraints, the AG normally appoints relevantly qualified, experienced and independent private sector auditors as hisher agents (and on terms o f reference acceptable to IDA) to audit most IDA-assistedprojects. 1.13 Fiduciary issues inthe existing portfolio. The available sources o f informationon the portfolio performance (e.g. Annual Audit Reports, Management Reports on matters arising from the audit, Country Portfolio Performance Review (CPPR) in FY 2001/2002, the Statement o f Expenditure (SOE), and Post Review ProcurementReviews inFYB2001) reveal several fiduciary issues inthe portfolio. Generally, the portfolio is characterised by: 0 Delays in new proiects becoming effective. In most cases, the delay i s caused by the inability o f the implementing agency to establish a satisfactory financial management systemor makingnecessary improvements on the existing arrangements. 0 replenishment applications on a monthly basis as required - many projects takes several Slow disbursements. Nearly all the projects in the portfolio are unable to submit months to submit replenishment applications. This problem i s caused by the lack o f capacity in the projects, including lack o f knowledge o f Bank procedures in disbursements and procurement, and by the arbitrary transfer of project accounting staff. Only about 15 % - 20 % o fportfolio funds have been disbursed. 4 0 Delays in the submission o f annual audited financial statements. On average, only about 55 percent o f the financial statements and audit reports are received within the due date. Most o f the late submissions are from projects that are managed under a ministry, where staff take on project work as additional responsibilities to their normal duties without any extra remuneration. The staff are demoralised and tend not to work as hard as their colleagues who are paid outside the civil service conditions. 0 Poor auality annual audits reports. There have been some cases of poor quality audit reports. For example, there have been cases where the TORSwere not fully addressed in the performance of the audit. Some audit reports have been retumed to the borrower because the reports did not include all the opinions required by the Bank. There have been situations where the amounts reported inthe audited accounts could not be reconciled to the information available within the Bank. Also, there were some audited financial statements that didnot conform to the agreed formats. 0 Poor accounting systems and lack o f accountability. There have been cases o f outright misuse o f project funds. At times, this was done with the full knowledge o f the Controlling Officers but no actions were taken against erring officers. Auditors' management letter and recent SOE and Ex-Post Procurement reviews, revealed significant ineligible expenditure and mis-procurement amounts, which had to be refunded to the Bank. The situation i s particularly bad in project activities that are implemented at lower levels o f government such as districts where monitoring and follow up are difficult due to their remoteness. 0 Inadeauate supervision o f proiects by the Government. There appears to be very little Government interest in the performance of the projects. The Government has failed to take necessary actions where the problems are well known, e.g. in cases where audit or other reviews revealedthat funds are beingmisused. 0 Inadeauate and irregular counterpart funds. There has been delays in the implementation o f those project components not financed 100 percent by the Bank due to lack of counterpart funds. In some cases, the lack o f counterpart funds had given rise to ineligible expenditures because the PMUs spent 100 percent from IDA funds with a view o f reimbursing IDA SA after receiving the counterpart funds. 5 2. THE MACROCONTEXTAND LEGALFRAMEWORK 2.1 This chapter provides some background to macroeconomic and financial management in the central government. It presents an overview o f the Government's economic record and an overview o f the Public Sector. Inthe last part o f this chapter, the focus i s on the legal framework for financial management and accountability. Overview of Government'smacroeconomicrecord 2.2 With an estimated per capita income in 1999 o f about $320, Zambia is one o f the poorest countries in sub-Saharan Africa. Zambia's economy i s un-diversified, and exhibits heavy dependence on mineral resources and exports, inparticular copper, which generates over 50 percent o f the foreign exchange earnings o f the country. Over the last three decades, the structure o f the economy and composition o f output changed perceptibly: the share o f agriculture inthe economy increased from around 15 percent in the 1970s to about 21 percent in the 1990s; manufacturing from 16 percent to 21 percent; services from 35 percent to 40 percent; and energy from 2.4 percent to 2.8 percent. On the other hand, the share o f mining declined from 24 percent to about 11 percent and that o f construction from 7.3 percent to about 4.5 percent. As o f 2000, nearly half o f the Gross Domestic Product (GDP) came from services, about 27 percent from agriculture, and about 13 percent from manufacturing. Mining contributed only about 3 percent o f GDP (Table 4). Table 4 Zambia: Structureof Output and Real GDP Growth, 1970s- 2002 1970s 1980s 1990s Avg. Avg. Avg. 95 YR96 YR97 YR98 YR99 YROO Y R O l YR02 PercentShare inGDP Agriculture 14.6 15.8 21.1 17.6 18.7 21.1 24.1 27.3 22.1 22.0 Manufacturing 16.2 25.0 21.2 13.4 13.2 13.0 12.2 12.7 11.1 11.6 Mining 24.4 15.5 10.7 13.7 11.3 7.1 4.2 3.2 4.4 3.9 Construction 7.3 3.0 4.5 4.0 5.0 5.0 5.2 5.0 6.2 7.4 Energy 2.4 1.7 2.8 3.7 4.7 4.1 3.7 3.2 3.8 3.4 Services 35.1 38.9 39.6 47.7 47.1 49.7 50.6 48.6 52.3 51.7 Growth Rates, 1994 prices GDP 1.6 1.4 0.3 6.6 3.3 -1.9 2.0 3.5 4.9 3.0 Agriculture 2.2 3.5 4.8 -0.6 -5.1 1.2 6.9 1.8 -2.4 -4.1 Manufacturing 4.5 3.6 1.8 5.5 5.1 1.8 2.8 13.5 4.2 5.8 Mining and quarrying -2.2 -0.8 -10.2 2.8 2.2 -25.1 -24.8 -5.1 14.0 16.4 Construction -1.9 -2.7 -3.2 -11.0 29.0 -9.1 10.2 1.2 11.5 17.4 Energy 2.5 -2.0 2.8 1.5 -5.6 4.2 0.6 2.6 1.1 12.6 -3.2 Services -0.2 1.1 1.8 15.0 4.0 4.3 6.6 6.0 4.9 3.2 Source: World Bank, Zambia Live Database. 2.3 From a long-term perspective, Zambia's growth record has been disappointing (Table 5). The GDP growth rate fell from an average o f 1.5 percent in the 1970s to 1.4 percent in the 1980s and 0.3 percent in the 1990s. Inflation increased steadily, on average, from around 10 percent in the 1970s to about 70 percent in the 1990s. The steady increase in inflation, coupled with population growth which was above the GDP 6 growthrate, resultedina decline inreal per capita income o f 1.6 percent per annum. The country has therefore got poorer. Among the reasons for Zambia's poor growth record are (i) poorperformanceofthecopper sector andadverseterms oftrade shocks; (ii) the macroeconomic instability, in particular high inflation and high interest rates, which deterred private investments; (iii) the lack o f timely structural reforms aimed at reducing the cost o f inefficient public enterprises; and (iv) failure to realize anticipated benefits from privatization. Table 5: Zambia:MacroeconomicIndicators, 1970s- 2002 (inpercent) CPI Inflation Rate 10.2 36.1 70.9 35.2 45.2 24.5 24.4 26.8 30.1 21.7 22.2' Domestic Savings/GDP 33.2 14.0 7.1 12.2 5.3 9.4 3.9 -0.9 3.1 9.8 3.8 Investment/ GDP 30.2 16.2 14.1 15.9 12.8 14.6 16.4 17.9 18.3 20.0 18.0 InterestRate (lendingrate) 7.8 16.0 54.7 45.5 53.8 46.7 31.8 40.5 38.8 46.2 45.2 Current Account DeficidGDP-6.6 -10.8 -4.7 -4.2 -3.8 -8.0 -10.9 -8.6 -13.7 -13.0 -9.6 (incl. Grants, percent) Exchange Rate (Kwacha/USD)0.7 4.8 903.1 866.0 1,207 1,315 1,862 2,388 3,110 3,608 4,398 ExternalDebt/ GDP 64.5 171.9 204.1 100.7 215.5 170.2 212.0 209.7 216.8 168.8 168.1 Source: World Bunk. The 1990s average inflation rate was highbecause of the very high inflation in the frst half o f the 1990s (not reported). 2.4 Duringthe 1990s, Zambia undertook fundamentalchanges inits economic policy. Exchange and interest rates were liberalized; the trade reforms in 1995-98 simplified the tariff structure, removed quantitative restrictions, and transformed the Zambian trade regime into one o f the most outward-oriented in the sub-region; and, the Government successfully concluded debt reduction and rescheduling agreements with the Paris Club, andreached the HIPC Decision point inDecember 2000. 2.5 Despite significant structuralreforms, however, the economy continued to grow at a lower rate. Over the period 1995-2000, the GDP grew by an average o f only 2.1 percent per annum, compared with an average population growth o f 3.1 percent per year. Inflation averaged about 25 percent, reaching near 30 percent in2000, and showing signs o f decline to about 20 percent in 2001. In addition, domestic savings remained low; interest rates remained high; the current account deficit increased; and, the exchange rate depreciated precipitously. 2.6 In2000, Zambia's nominal external public andpublicly guaranteed debt stood at about US$6.5 billion, more than twice the level of GDP (Table 2.2). As of 2000, debt service stood at 5.5 percent o f GDP, or about 21 percent of the value of exports. On the domestic front, the fiscal deficit o f the government averaged about 2 percent o f GDP over 1995-2000, and stood at about 5.4 percent in 2000. The overall public sector deficit (quasi-fiscal deficit) in Zambia-which includes the deficits o f the central government, the local governments, extra-budgetary accounts, state owned enterprises, and the Central Bank-was estimated to be much higher at about 17 percent o f GDP in 1997'. The high overall public sector deficit has in part continued to provide the structural basis for high inflation inthe country. ' 1997is the latest year for which estimates o f quasi-fiscal deficits are available. 7 2.7 The macroeconomic performance since 2000 has been encouraging. In the aftermath o f the sale o f ZCCM, the economic outlook for the country brightened and a strong performance by the mining, manufacturing and service sectors ledto GDP growth rate o f 3.5 percent in 2000 and 5.2 percent in 2001. Fiscal and monetary performance continued to be satisfactory, and inflation, which stood at about 30 percent by end-2000, substantially came down and reached about 18.7 percent at end-2001 on account o f prudent financial policies, decelerated food prices, and appreciation o f the Kwacha. However, inflation rose to about 26.7 percent in 2002 on account o f a rise in food (in particular maize) prices due the region-wide food crisis caused by drought. 2.8 Since 2000, Zambia faced three major challenges. First, the deterioration in the global economic environment due to the September 11tragedy and the general slowdown in the world economy depressed the world demand for Zambia's major export commodities and tourism services, and reduced the foreign exchange earnings. Second, on January 24, 2002, Anglo-American Corporation (AAC) announced that it would not continue operating the Konkola Copper Mines (KCM), its joint -venture, which comprised the major part o f ZCCM's assets when it was privatized in2000. This decision introduced considerable economic uncertainty inZambia, as K C M produced about two- thirds o f Zambia's total copper production. InAugust 2002, AAC and the Government reached agreement on a financing package that finalized AAC's withdrawal from the copper sector. The government i s now searching for a strategic partner to runK C M on a commercially viable basis. Finally, Zambia's economic difficulties were compounded by a serious regional food crisis which began inM a y 2002. The food crisis was caused by drought in the previous production season, which severely reduced crop production and led to a significant shortfall (over 600, 000 tons) o f maize, Zambia's main staple crop, which had to be imported by the Government. Despite these difficulties, overall economic performance has remainedfavorable since 1999. 2.9 The overall macroeconomic picture that emerges is clear: while Zambia saw a significant progress in the area o f structural reforms during the 1 9 9 0 ~full ~ macroeconomic stability and sustainable growth have remained elusive. On the one hand, apart from areas like agriculture and energy, most major market distortions have been eliminated, the role o f the government in commercial activities has been reduced, prices are largely market determined, and some o f the previously state-owned enterprises have been restructured and divested to the private sector. On the other hand, Zambia's economy continues to exhibit weak and at best uneven growth, high inflation, very low savings rate, high real interest rates, a very weak external position, a high degree o f dependence on copper production and exports, and a high degree o f vulnerability to shocks. Overview of the Public Sector 2.10 Central government is o f course only one component o f the public sector. This i s especially important to keep in mind in light o f the large contributions that other components have to Zambia's overall public sector deficit. For the purposes o f this analysis public sector will be defined as including central government, local government, state-owned enterprises, extra-budgetary funds, and the central bank. The first four o f these will constitute the non-financial public sector. Reliable data on the size o f the public sector deficit i s very difficult to come by, but the best analysis thus far has been 8 done by Adugna, Dinh, and Koryukin (2002).* There are many assumptions that are made to account for the incompleteness o f the data. But for 1999, their analysis suggested that SOEs probably accounted for the largest share o f the non-financial public sector deficit at 9.2 percent o f GDP, while central government may have added another 4.0 percent. Losses by the BOZ on foreign exchange losses and due to the failure of commercial banks i s estimated to total 7.1 percent o f GDP. Figure 1shows an estimate o f the composition o f the public sector deficit. Resource constraints on the CFAA team did not permit a comprehensive analysis on the revenues collected by each o f the public sector components. Figure1:Compositionofthe 1999 Public SectorDeficitinZambia 10.0 9.0 8.0 7.0 6.0 a 0 n 5.0 u- s 4.0 3.0 2.0 1.o 0.0 Central Local Extra-budgetary SOEs I BO2losses on BO2 losses on Contingent Government Government Funds Parastatals forex transations wmmerical liabilities bank failures (unrealized) PFMLegalframework andInstitutionalArrangement 2.11 Accountability in Zambia i s based on the Westminster tradition and very similar to the models found in the neighboring countries with the British heritage. This three- tiered legal framework has at the apex the Constitution, last revised in 1996. Below the Constitution are the Finance (Control and Management) Act and the Public Audit Act o f 1980. The lower tier comprises the FinancialRegulations. The Constitution 2.12 The Constitution articulates the respective roles and responsibilities of the Legislature, Judiciary, and the Executive inall matters including financial matters. It also defines the accountability framework. Articles 114 - 121 o f the constitution gives the National Assembly some powers over the government purse - powers to establish taxes, and authorize expenditures. The Articles define the financial management roles o f the 2Adugna, Abebe, HinhDinh, andLeonidKoryukin,WorldBank, unpublishedpaper,March2002, "Fiscal andQuasi-fiscalDeficitsinZambia." 9 president, as the head o f the executive, the ministerincharge o f finance (M-MFNP), and the Auditor-General o f the Republic (AG). They set the framework for estimates, government expenditures and other charges to the general revenues. The Articles provide for annual appropriation acts, supplementary and "excess" estimates and supplementary, and "excess expenditure" acts. Article 122 defines the AG's tenure o f office and the procedures for his removal. The Finance Act- Chapter 347 of the Laws of Zambia 2.13 Below the Constitution is The Finance (Control and Management) Act, which defines the roles and responsibilities for financial management within the Executive. It gives the Minister o f Finance the responsibilities for the management, supervision, control and direction o f all matters relating to the financial affairs o f the republic and allows himto designate a Controlling Officer (CO) for each head o f expenditure provided for in the annual budget. The Act makes the CO the Chief Accounting Officer and charged himwith the duty o f controlling the resources under the relevant head, subject to directions given by the Permanent Secretary (PS-MFNP)3. It also allows the CO to delegate some o f its responsibilities to any accounting officer (AO) under his responsibility, and to provide the latter with necessary directions to secure the proper exercise o fthe delegated functions. 2.14 Sections 5-9, Chapter 347, inter alia, includes provisions such as: (i) certification by each A0 o f correctness of accounts andpropriety o fcharges; (ii) obligation o f AOs to keep books and records and prepare accounts; (iii) procedures for opening bank accounts; and (iv) conditions for bank overdraft facility - that no bank should permit an overdraft on any account unless authorized inwriting by the PS-MFNP. 2.15 However, the Act gave some flexibilities and authorities to the PS-MFNP. The following are some examples: (i) when deemed necessary, the PS-MFNP can establish funds and working accounts for different purposes; (ii) PS-MFNP may authorize the the issue, from general revenues, o f sums which may be used: to meet payments due for public services which, for reasons the PS-MFNP deems sufficient, cannot presently be charged to any vote, and to makeprovisionfor any payment which has been made under any head o f expenditure and which has been disallowed as a charge against the head o f expenditure in the approved estimates; (iii)the PS-MFNP may authorize that the outstanding balance o f any advance account be charged to appropriate expenditure. ThePublicAudit Act of 1980 2.16 The Act contains similar provisions as inthe Constitution with respect to the AG. It spells out clearly the roles, responsibilities and report obligations o f the AG. It is noteworthy that the 1980 Act essentially gives the AG the authority to follow public money to anywhere it may go. It widens the power o f the AG beyond the audit o f books, records and reports o f government departments and the statutory corporations described inthe Finance (Control andManagement) Act to include the audit, as she deems fit, of every statutory corporation, and every private institution that receives Government grant, subsidy or subvention in any financial year. The AG is empowered to request from This reference to "PS-MFNP" refers specifically to the Secretary to the Treasury. 10 independent auditors o f State-owned Enterprises (SOEs) any document, reports or information relating to the accounts o f SOEs. Also, every contract involving the Government or its agencies and enterprises was to include a clause allowing the AG to have access and examine all books relating to the contract. It also provides for the hiring o f agents or specialist consultants by the Minister o f Finance, at the request o f the AG, to assist the AG inthe performance o fherhis duties. Financia1Regulations 2.17 The Finance Act is complemented by a subsidiary legislation Cap. 600, entitled "Financial Regulations" which contains general financial rules and procedures, some Ministry o f Financehreasury regulations (1985) and circulars, the accounting guides o f 1992 (financed by ODA), and other procedures andinstructions such as stores regulations o f 1969. Intemal audit function is explained inthe financial regulations (cap. 600). Analysis of the Problem 2.18 The following essential features for accountability are present in the legal framework: (4 The Constitution lays down the steps for Parliamentary approval o f the annual budget and safeguard o f the public revenues. It stipulates that moneys shall not be expended fkom general revenues o f the republic unless: (i) the expenditure is authorized by a warrant under the hand o f the President; (ii) expenditure is charged by the constitution or any other the law on the general revenues; or (iii) the expenditure is a money received by a department o f government and is made under the provisions o f the Constitution. (b) The Constitution also instructs that a warrant shall not be issued by the President authorizing expenditures from the general revenues unless: (i) the expenditure i s authorizedby an appropriation act; (ii)the expenditure i s necessary to carry on the services o f the government in respect o f any period, not exceeding four months, beginning at the commencement o f a financial year during which the appropriation act for that financial year i s not in force; (iii) expenditure has been proposed in a supplementary the estimate approved by the National Assembly; (iv) provision does not exist for the expenditure and the President considers that there is such an urgent need to incur the expenditure that it would not be in public interest to delay the authorization o f the expenditure until such time as a supplementary estimate can be laid before and approved by the NA; or (v) the expenditure is incurred on capital projects continuing from the previous financial year and i s so incurred before commencement o f the appropriations act for the current financial year. (4 Furthermore, the existing legislation and guidelines provide adequate guidance on accounting and reporting and make the AOs and the M- MFNP responsible for producing annual accounts. Article 118 (2) has briefly described the content of the final financial reports to be presented 11 to parliament. MFNP instructions and guidelines provide detail description on how to handle transactions, maintain accounts, andproduce financial reports. The AG has the responsibility to provide independent audit report to the Parliament. 2.19 While the above are all necessary ingredients for the accountability framework, several shortcomings exist. First, the deadline for seeking Parliamentary authorization for government expenditures is not appropriate for proper financial accountability For example, the legislation stipulates that the M-MFNP should: (i) lay before the NAYwithin 3 months after the commencement of each FY, estimates o f the revenues and expenditure o f the republic for that year (Art. 117 (1)); (ii) introduce in the NA not later thanfifteen months after the end ofthat FY, a supplementary appropriationbill; and (iii) introduce in the NAYnot later than thirty months after the end ofthat FY, the excess expenditure appropriation bill. 2.20 Second, the specified period for preparing and laying before Parliament the annual financial reports is too long and does not allow time for the scrutiny o f accounts and reports before the debate on the following FY's budget. Article 118 stipulates that the M-MFNPshall cause to be prepared and shall lay before the NA not later than nine months after the end of each FY a financial report in respect o f that year. The AG's report i s also to be submitted 12months after the end o f each FY. 2.21 Third, while the flexibilities provided in the legislation can be used for good management, they can also be misused in the absence o f a proper Parliamentary oversight, they may be used excessively or misused. The legislation gives flexibilities and excessive authorities to the M-MFNP, the PS-MFNP, and other ministers and their deputies 2.22 Finally, the AG is appointed by the President. There is a provision in the constitution stating that any person appointed by the president under the constitution or other law can be removed by the President. This dilutes his independence from the executive and may impose undue pressure on the AG, in practice. In contrast, other countries often make the President's nomination and removal o f the AG subject to Parliamentary approval. Future Action Plan 2.23 Zambia's legislation and regulations are not as complete as that o f comparable neighboring countries. They are, to some extent, internally inconsistent delegate excessive discretion to the M-MFNPand PS-MFNP. While a strong Ministry o f Finance is beneficial for sound economic management, it is essential that it reside within a strong system o f checks and balances, where it must give account for its stewardship. To improve the legal framework for accountability, Zambia should address the following issues: 0 The deadline for the presentationo f annual budget estimates to Parliament should be advanced so that the budgetcan be enacted by the beginningo f each year. 12 Supplementary estimates should be presented to Parliament for approval before the expenditures have occurred and should be limitedto exceptional circumstances. 0 The provision regarding Excess Expenditures i s too lax and should be defined as unauthorized expenditures incurred by a CO without Ministry o f Finance approval. The reporting period for such expenditures shouldbe significantly reduced (e.g., to 12 months), andbe accompanied by corrective actions by the Ministryo fFinance. 0 Annual financial reports should be presented before Parliament within six months after the end of each FY and the AG's reports should be laidbefore Parliament within nine months after the end o f the fiscal year. 0 Ministers and Permanent Secretaries should be requiredby legislation to declare their personal assets every year. 13 3. BUDGET PREPARATIONAND IMPLEMENTATION 3.1 The various aspects o f budget preparation and execution are examined in this chapter. The budget preparation process is described analyzed. Then, each aspect o f budget implementation, including RDC control, payroll controls, and capital expenditure controls. The chapter concludes with a review asset management and internal audit. BudgetPreparation 3.2 Government budgets have been an unreliable guide to actual public spending that will occur during the year. Though approved by Parliament, the Executive nevertheless possesses wide latitude to vary the budget as it deems necessary. In some cases, the variation may be in response to a dynamic economic and political climate, and the necessity to adjust priorities accordingly. But it i s also rooted in weaknesses in the budget preparation process itself. Effective budgetingis hamperedby a persistent over- commitment o f the government to activities which exceed the resources that are available. 3.3 The problem o f over-commitment or under-budgeting cuts across various sectors and economic classifications, and has ramifications on the overall efficiency and cost o f government operations. Addressing these acute problems effectively is likely to require a multi-year budget planning horizon and strong political leadership in making hard choices. Likewise, changes are needed in the budget preparation process to assure that the right information is exchanged between MFNP and the line ministries to inform their decision-making. Finally, budget priorities themselves are obscured by the shortcomings inthe classification system. Analysis of theproblems 3.4 Budgetshave lacked credibility because actual expenditures at the end of the year sometimes bear little relationship with what was budgeted. The PEMFAR report documents this phenomenon in greater detail. Though the overall level of domestically- financed expenditures remains close to the programmed amount, there i s substantial dislocation o f resources across sectors and across economic classifications. Supplementary appropriations are very common across ministries, with the amount o f the increase quite substantial insome cases. See table 6. Obviously, as some ministries gain additional resources, others lose them. The appropriated amount for a ministry may not change, but the budget release and consequently the actual expenditures will end up lower. 14 Table6: IllustrativeExamplesofUse of SupplementaryAppropriations 697 1,122 164 1,884 RDCs Immigration 942 1,075 2,O 17 114 1,147 Nat'l Registration 398 5,507 5,905 1384 1,865 Defense RDC HQ 618 2,4 12 3,030 390 3,054 Air Force 1,941 24,295 26,236 1242 46,423 Nat'l Service 2,793 0 2,793 nla 13,814 Intelligence 183 1,176 1,359 643 1,498 ForeignAffairs RDCs HQ 2,228 4,842 7,070 217 5 311 Finance RDCs ERM 115 186 301 162 219 Labor RDCs HQ 207 858 1,065 414 802 3.5 Some dislocations in expenditures are caused by structural under-budgeting for activities which have inflexible cost drivers. The long-term economic decline o f the country has reduced the real value o f government resources, and made it increasingly difficult to finance the level o f activity known inprevious years. Inthe absence o f hard choices at the political level to curtail certain programs and activities, the MFNP i s challenged infinding ways to distribute sufficient resources to cover the underlying fixed costs that are associated with the broad array o f government activities. Embassy rents, prisons, and school meals arejust a few examples o f recurrent activities which may have costs that must be met during the year whether accurately budgeted for or not. Payroll increases have sometimes also been much higher than originally budgeted. With the respect to capital expenditures, existing works projects may include contractual obligations that have to be met. At the Ministry o f Works, it i s generally acknowledged the amounts budgeted are significantly below what is need just to fund the ongoing projects for which contracts are signed. Moreover, the cost o f not fundingthe projects on a timely basis can be quite high - with interest and payments penalties accruing each month. 3.6 Changes in the budget may also be inevitable because the legislative framework governing preparation and execution of the budget does not adequately/meaningfully circumscribe the authority o f the Executive to alter the budget. As noted inchapter 2, the Zambian Constitution contains several articles governing execution o f the Government budget. Although article 115 clearly states that no expenditure may occur without an appropriation approved by Parliament, article 117 nevertheless gives the Minister o f Finance the authority to make substantial modifications o f the budget without seeking prior Parliamentary approval. The legislation prescribes that the Minister o f Finance must table in Parliament either a Supplementary Appropriations Bill, or an Excess ExpenditureAppropriation Bill depending on the particular type o f expenditure that was made. This must be done within 15 and 30 months after the close of the budget year respectively. 3.7 Inpreparation of the initial budget, as well, Parliament's role is limited to one largely o f review and consent. In Zambia, Parliament is only permitted to propose savings and cannot propose additional spendingfor a particular head. Because the budget 15 i s voted by head, one practical implication is that Parliament is not able to make broad functional reallocations within the overall envelope. Instead, its focus i s on the allocations within each head. Moreover, since the budget does not generally contain programmatic information, the quality o f the debate about the estimates is naturally going to be limited. 3.8 Decisions by Cabinet and MFNP are not adequately informed by the underlying costs o f government activities. It is common for budget estimates to be significantly lower than the current cost o f the activity, even if they represent an increase over the prior year's budget. (See table 7.) This suggests that budget development is largely an incremental process based upon the prior year's budget. Where the policy dictates a lower budget than past expenditure levels, there must be accompanying actions to lower the cost drivers o f the activity. Decisions to suppress budget estimates but without a corresponding policy or programmatic changes will inevitably lead to cash reallocations duringthe year or the accumulation of arrears. Again, inthe case o fWorks & Supply the annual cost o f existingprojects i s reportedto exceed the budget amounts, perhaps arguing for a need to either reassess their continuation or to allocate more resources in order to clear the backlog. Furthermore, new programs and policies are initiated by Cabinet without a rigid requirement that the cost be accurately estimated and the funding source (or offsetting savings) beingidentified. 3.9 Decisions by line ministries during budget preparation are not adequately informed by guidance from above. Line ministries indicate that they are typically required to prepare budgets without adequate guidance as to their projected ceiling. When reductions are made, line ministries feel that they are often done without correlation to the priorities o f the ministry. Notification o f the final budget estimates i s only made known to them once the Yellow Book i s sent to Parliament. To the extent that work plans and procurementplans have beenprepared based on a higher level o f funding, this may lead to inefficient procurement practices or delays in implementing work programs. 16 Table7: A ComparisonofHistoricalSpendingwithApprovedBudgetEstimates for SelectedLineItems (millions of Kwacha) HomeAffairs RDCs HQ 469 944 400 1,020 620 1,553 1,653 Prisons 447 4,285 390 1,495 1,508 3,871 2,126 Defense PES Army 24,970 30,396 26,259 30,697 28,098 44,579 40,320 Defense RDCs Army 3,078 19,373 4,360 30,989 3,935 42,369 4,569 Air Force 2,468 8,584 2,063 27,602 1,941 46,423 3,889 Nat'l Service 2,247 5,257 2,794 8,286 2,793 13,814 3,099 Med Services 2,230 2,229 3,512 4,607 3,511 5,967 2,495 Foreign Affairs RDCs H Q 2,440 5,116 797 3,415 2,228 5,511 4,210 Lubumbashi 47 276 75 205 57 107 58 Washington 305 622 264 629 385 120 912 Cairo 260 589 223 641 661 644 597 Kinshasa 145 429 135 430 139 546 191 Addis Ababa 302 566 237 725 804 1,110 829 Abuja 160 608 124 474 168 360 358 3.10 Clarity in the policy choices being proposed i s obscured by the classification system used. The reliance strictly upon organizational and economic classifications ' obscures the purposes and objectives being pursued by government. In addition, the distinction between capital and recurrent spending has broken down, as any projects funded by donors have automatically become classified as capital. Likewise, spending to support remuneration o f civil servants can be found in multiple categories and is not strictly limitedto personal emoluments (PE's). Actions Taken to Date 3.11 The most significant reforms in progress at MFNP with respect to budget preparation have been the piloting o f Activity Based Budgeting(ABB) and the planning o f a Medium Term Expenditure Framework (MTEF). ABB i s an attempt to focus ministries on achievement of objectives rather than merely inputs. It has been supported by an EU-financed resident advisor for the past few years. Although only used as a budgeting preparation tool in four ministries up until 2001, ABB was to be extended to 14 ministries by 2003 and linked to other parts o f the budget management system. The MFNP is currentlyworking on ways to ensure that cash releases and accounting are also using the ABB functional classification. ABB is expected to form a basis for doing bottom-up costings that canbe fed into the MTEFbudget process. 3.12 Development o f an MTEF i s also expected to be a multi-phased process, but it should eventually improve credibility o f the budget. Its development has been supported throughthe World Bank's Fiscal Sustainability Credit (FSC) and Public Service Capacity BuildingProject (PSCAP). As a transitional step toward the MTEF, the MFNPprepared a Budget Framework Paper for the 2003 budget. This document was designed to lay out the macroeconomic context and the major budgetary trade-offs that confronted the 17 Government if it were to remain within the fiscal resource envelope. In this respect it should be a helpful planning tool to help reduce the prevalence o f under-budgeting that occurs. Eventually as the MTEF becomes operational it should become a vehicle for reaching consensus on the broader allocation issues and trade-offs and for line ministries to receive earlier guidance on resource flows. 3.13 Recent implementation o f a commitment and expenditure capturing software program in line ministries may also increase the completeness and timeliness o f information on historical costs. Although only rolled out to ministries in mid-2002, the program has the potential o f providing data that could inform preparation o f the following year's budget. Eventually, it will need to be made compliant with AE3B. 3.14 Finally, the MFNP is also considering the possibility o f presenting the budget to Parliament earlier inthe year so that it can be approved by January 1. Under the current timeline, the budget circular is not transmitted to line ministries until about July, with budget conferences taking place inNovember and December. Government submits the budgetto Parliament inlate January, andit is not approved untilabout March. FutureActions 3.15 Weaknesses in budget preparation help to exacerbate problems in cash management and commitment control. These are explored ingreater detail insubsequent sections o fthis chapter. 3.16 To improve the reliability o f the budget as a planning tool, MFNP should take several actions: Identifythe ministries or activities that have contributedto the largest expenditure overruns or accumulation o f arrears. For each o f the above, identify the cost drivers for each and the policy or programmatic actions that would be required o f Cabinet to reduce them (i.e., to bringcosts inline withbudget). Fully implement a medium term budget planning horizon that enables the Government to anticipate the policy andprogrammatic changes that are required. Inthe case of capital projects, restrict initiation of new projects and ensure that budgets give priority to clearing high-interest arrears on existing projects. Use the medium term budget planning horizon to get Cabinet level agreement on resource ceilings so that sector ministries can prepare budgets accordingly. Continue implementing ABB as a basis to increase the transparency o f budget allocation priorities and the targeting o f resources. Make use o f current accounting data to ensure that budget submissions from line ministries adequately reflect the cost o f ongoing commitments, or that programmatic changes are made that will generate savings. 18 0 Modify the budget calendar so that the budget is submitted to Parliament in October/November, and enactedby January 1. Revenue Controls 3-17 The responsibility for collecting all government taxed revenues, including income taxes, VAT, custom and excise duties is entrusted to Zambia Revenue Authority (ZRA), a government agency created by an Act o f Parliament in 1993. The Authority is supervised by a Boardwhose membersare appointed bythe Government from the public andprivate sectors. The Board reports to the Minister o f Finance who i s accountable to Parliament for the performance o f the Authority. The Authority prepares annual financial statements which are finalized within three months o f the end o f the year, audited by an independent firm o f auditors and laidbefore Parliamentwithin 6 months o fthe end o fthe year. Also, its accounts are examined by the AG. 3.18 MFNP and ZRA jointly set the target o f revenues to be collected. The estimated revenues are included inthe annual budget that i s laid before Parliament by the Minister o f Finance. The revenue collection is monitored regularly by MFNP through daily reports on Control Account 99 from the Bank o f Zambia, monthly reconciliation betweenMFNP and ZRA, and quarterly and ad-hoc reports from ZRA. ZRA has put in place arrangements to ensure that all revenues collected in Lusaka and Kitwe are banked promptly with the Bank o f Zambia, while revenues collected from remote areas are banked promptly with participating by commercial banks for onward transmission to the Bank o f Zambia within 4 - 14 working days. All revenues collected by ZRA are deposited in the government general revenue account. The Authority is sourced by funding from the government budget. There are no ad-hoc exemptions from taxes. Every exemption requires Statutory Instruments, i.e. an Act o f Parliament that provides appropriate instructions on the exemption. Actions taken to date 3.19 Several factors have helped to ensure proper collection o f revenues and adequate monitoring o f the revenue collection process. They include the following: ZRA is adequately staffed. It was set up as a government agency outside the civil service recruitment and remuneration arrangements. It therefore operates on a different salary scale from the civil service and i s able to compete effectively with the private sector for skilled and experienced personnel. The Authority has adequate material resources to perform its functions, although much o fthe funding has so far come from donors. ZRA is relatively independentand able to apply the full letter o fthe law in collecting government revenues. It is, therefore, not bedeviled by questionable exemptions - the exemptions granted are backed up by statutory provisions. 19 (d) The accountability arrangements for ZRA are reasonably robust. They include a supervisory board, reporting to Parliament through the Minister o f Finance, external audit conducted by private audit firms, and audit by the OAG. (e) The arrangements for transmitting revenues collected to the government account is fairly adequate, given the state o f the banking network in Zambia. Future Actions 3.20 The Government needs to capitalize on the current strengths o f ZR4 and ensure that the Authority can continue to operate efficiently. ZRA i s adequately resourcedat the moment due to generous funding from donors. However, there is a needto put inplace a mechanismthat will assure adequate funding for ZRA ifandwhen donor funding stops.. Budget Releases 3.21 Although budget implementation officially begins with the granting o f the permanent warrants to line ministries, it is the cash releases that have the biggest impact on budget execution. GRZ operates a decentralized payment system in which MFNP transfers cash to the bank accounts o f line ministries who inturn make payments to their vendors. There i s no legal provision concerning who makes those decisions or formal guidance as to the amount and timing o f the releases. As a general practice, a committee made up o f representatives o f Budget Office and the Account General's Department, and others have tended to make the decisions. During the mid-1990s the cash release decisions o f this committee were heavily guided by limits on the deficit that had been agreed to with the IMF. Still, while the IMF agreements set aggregate limits on spending, the composition o f the releases were still intended to be guided by the Yellow Book and the committee's judgment as to priority needs. As a rule o f thumb, statutory obligations such as debt service came first, followed by personal emoluments, and then RDCs. Capital expenditures tended to be funded only as a residual. Across ministries, MFNP tried to provide some degree o f protection to social sector spending as part o f the ESAC agreement with the World Bank.4 3.22 More recent agreements with the Bank (notably in the context o f the Fiscal Sustainability Credit) have prescribed guidelines as to the minimum monthly amount o f releases to a givenministry. Inthe FSC, it was suggested that social and economic sector ministries should be assured o f at least 80 percent o f their budgeted RDCs. Inpractice, the decisions are still left to the MFNP and the actual amount o f releases have varied widely from month to month and ministry to ministry. The amount o f fluctuation is The ESAC called for releases to the social sector (as defined inthe agreement) to be maintained at least 36% of total discretionary budget releases. 20 down considerably from what it had been even in the late 1 9 9 0 ~Nevertheless, there ~ remains a fairly highdegree o f variability inthe cash release decisions. 3.23 Two factors about cash releases that are particularly relevant to line ministries is the timing o f the releases and the amounts o f the releases. Almost consistently over the past several years, line ministries have had little prior information as to the amount o f their release or the timing o f it. At the most basic level, ministries might expect cash to be released on a 1/12thbasis according to their Yellow Book allocation. Under a more sophisticated regime, one might expect MFNP to take into consideration the seasonality o f needs across ministries and to apportion the cash releases based on that. Neither o f those practices has really been implemented successfully. To date, line ministries still do not know on what basis cash releases decisions are made or the amount that they can expect in a givenmonth. Under FSC, the Bank had suggested that ministries be notified quarterly inwriting as to the minimum amount they could expect to receive ineach o f the three months for RDCs and grants. Although implemented briefly, this system o f advance notification was not sustained. 3.24 Not only is the monthly amount to be released frequently uncertain, but the cumulative amount for the year i s also up inthe air. While the amounts released for PE's i s generally fixed, annual amounts released for RDCs, grants, and capital vary widely from ministry to ministry as a percentage o f their Yellow Book allocation. Overall, RDCs to ministries in the social sectors tended to be maintained, while those in the administrative sector ministries increased, and those providing economic services tended to see reductions. (Table 8 shows the releases for 2001 as a percentage o f budget for all ministries.) Analysis of theProblems 3.25 The most serious weakness in the cash release framework in Zambia i s the absence o f any systematic linkage between the cash release decisions by MFNP and the commitments entered into by line ministries. Though line ministries need to procure goods and services for their programs throughout the year, they must do so without any certainty as to the amounts that will be available through the year. To compensate for this, some procurement officers defer initiating a local purchase order (LPO) for goods and services until they are assured cash is available (Le., has been transferred to the ministry's account). Waiting untilcash i s available to commit may be more problematic for procurements that are o f larger scale and/or require a tender process. For example, instead o f being able to order the first quarter's supplies in January, one may be compelled to wait until March or April when the cash has been accumulated in the account before even signing a contract. In some cases, this simply may not be practical to do. Ring-fencing the resources for that purpose, in the face o f other pressing needs, may not be possible. Moreover, ifthe supplies are really needed for the quarter, then the entity has to purchase inless economical quantities as cash becomes available. The point At that time it was not unusual for a ministry to receive zero one month and double the next month, followed by another small amount inthe following month. Regression analysis showed that there was not predictability from month to month, a wide standard deviation, and very little correlation with revenues. See the World Bank's Africa Region Working Paper Number 39 "The Impact o f Cash Budgets on Poverty ReductioninZambia," November 2002, for more details. 21 i s that even if the cash were not released at the beginning o f the year, certainty about the amounts to be released would make it easier to enter into the contracting process. 3.26 Inlieu of cash, ministries are inclined to rely uponthe supplier to provide credit. The procurement unit enters into a contract and may even receive delivery o f goods or services prior to the cash being available. As long as there i s a commitment by MFNP to release the cash in amount X, then those funds can be committed to that contract. However, under the current system there i s a very real risk that funds will not be there when the contract comes due for payment. In fact, MFNP does not commit itself to releasing any particular amount. Nor does MFNP possess information at the time o f the cash release decision to know that an obligation has been incurred by the line ministry. As a result, ithas become commonplace for ministries to develop arrears. 22 Table8: Comparisonof the 2001 GRZbudgetandActualFunding Agency IPES VARIAhCE: ACTUAL VS. BUDGET (RDCS lGrants ICAPEX ITOTAL I I I I I 3.27 In the absence of an effective cash planning policy to match payments with commitments, the government incurs additional cost beyond merely the cost o f borrowing. Supplier credit comes in the form o f above-market interest rates (for procurements by contract) and inmany cases with LPOs inhigher unit prices, as vendors build in a risk premium for late or uncertain payment. Late payment penalties can also 23 add substantially to the cost o f procurement. Although the Bank has no reliable data to estimate the cost o f supplier credits and penalties, it i s aware o f cases where contracts/procurements have been at least double their market price. For example, inone roads contract interest and penalties alone were equal to the cost o f the road itself. Likewise, examples have been cited o f food procurement that has been at least twice the normal market value. Other officials cited cases, where they have only been able to pay the interest and not the principal amounts on their debts. For investment projects, the implications of late payments may also mean inopportune stoppage o f work that is underway. This in turn, can potentially lead to substantial cost overruns from demobilizing andremobilizing workers. 3.28 Because procurement units o f ministries are typically decentralized, it suggests that information flow on the amount of cash release is critical not merely for the central administration o f a line ministry. Ifthe spendingunits or departments are to update their procurement plans, then they also need information on resources they can expect. Under the present system, MFNP releases cash by budget head, and from there it is allocated amongst the various spending units. Although it i s presumed that the allocations will be done pro-rata, the central administration has discretion to allocate funds as it deems appropriate. So for example, if the Ministry o f Health believes that procurement o f certain goods is best done centrally by them, rather than by each o f the Hospital Management Boards, then it may initiate the procurement and reduce the cash release to the Boards. Nevertheless, since the ministries are generally uncertain as to the release they will receive from MFNP, it is unlikelythat they are able to guarantee a funding level to their subordinate units. Future Actions 3.29 While more realistic budget preparation is a central element to achieving more effective budgetimplementation, several other actions should be considered: Assign institutional responsibility for cash management, including the development and updating o f quarterly cash plans. Work should entail collaboration with revenue departments, Investment and Debt Management, Economic and Technical Cooperation, Accountant General's Department, Planning and Economic Management, and line ministries. Develop quarterly cash allocationplans that are based on robust forecasting o f the expected cash inflows for the quarter and on analysis o f line ministries' legitimate procurement requirements for the quarter. 0 Account for all anticipated quarterly domestic revenues in the cash allocations across ministries, so that the cash plan provides a realistic funding amount rather than merely a minimum. Incorporate capital spending in the quarterly allocation plan based on input from line ministries (especially Ministry o f Works & Supply), that would include detail on the principal balance, interest, penalties, etc. 24 Develop procedures for how and when the quarterly plan i s updated (e.g., should itbe a rolling quarter without revisions to the prior planmonths). Develop a policy on how changes in the budget (e.g., supplemental appropriations) influence the development o f the quarterly plan. Otherwise, commit to implement the plan as it is. RDCExpenditureControls 3.30 Inconformity with the Constitution and the Finance Act, the Minister ofFinance andNationalPlanning appoints the Controlling Officers (CO) for each o f the expenditure Heads (5 1 at present consisting o f ministries, provinces and few other organizations). Following the budget approval by the Parliament in April of each year, and issuance o f the general warrant by the President, the Secretary to the Treasury will issue sub-warrants to each CO. The record keeping o f these credits i s done by the accounting units at the appropriate level: (i) at Ministries' HQin Lusaka for RDCs o f HQs and offices in Lusaka; and (ii) provincial offices (Provincial COS and accounting Officers) for all at departments located outside Lusaka. These sub-warrants are the basis for cash release. 3.3 1 The responsibility for budget execution, including creating o f commitments; managing o f contracts; and accounting and reporting to the MFNP rests with the appointed CO or hisher designated Accounting Officer. The process and steps are clearly spelled-out in the instructions. These are reinforced with the provision o f appropriate forms and formats are provided for guidance. The institutional arrangements and instructions relies on the segregation o f duties as the basis for control. Furthermore, the secondment o f Internal Auditors (IA) to each CO i s a necessary control mechanism. A simple cash-based accounting system is maintained by each spending agency, to form the basis for financial reports. Analysis of theProblem 3.32 There are several problems with regard to expenditure control. First, it is impossible to maintain adequate budgetary control without good budget format, reliable estimates, and timely and reliable historical data (produced from the accounts).This is likely to be a daunting task for some years to come (see the financial reporting section for more on this). 3.33 Second, ad-hoc systems such as controls via cash rationing discredits the budgetary exercise and undermines the legitimacy o f expenditures. The control o f expenditure via cash rationing, although sometimes necessary inthe short-term, does not always achieve its intended purpose. It relegates parliamentary control and oversight, and creates conflict between the MFNP and the executing agencies. It often contributes to the lack o f discipline and non-compliance with rules and regulation. Furthermore, it promotes the end-of-year practice o f fitting the actual data into the Appropriation Acts or visa versa (supplementary estimates to match actual data). 3.34 Third, many spending departments in Zambia operate as if standing instructions on the cash control mechanism did not exist, although in most cases they stay within the budget envelop. In many cases, orders are placed and payment vouchers are prepared 25 and kept (often unrecorded) until availability o f cash. Once funds become available, a selected number of vouchers are sent for payment, enough to exhaust the cash. Other vouchers remain pending for the next release o f fund. The bulk o f these vouchers form the Government arrears. Because, many o f them are unrecorded inthe ledgers, the exact amount o f arrears is unknown. Ad-hoc measures are requiredfor their identification and estimation. However, even with those ad-hoc measures, there i s neither certainty about the exact amounts of arrears nor about the value received by the Government inrespect o f the arrears. 3.35 Fourth, besides the fact that some arrears are not accounted, the practices described above raise two issues: (i) late payment penalties charged by suppliers and the impact on prices quoted by suppliers and/or quality o f goods; and (ii) process o f the selecting vouchers for payment creates a rent seeking opportunity and could create an avenue for corrupt practices. (See the section in this chapter on capital expenditure controls). 3.36 Fifth, several other irregularities have also been observed: (i) released by funds the Budget Office were earmarked and the contracts (and implicitly the contractor) for which funds were released were identified by the Budget Office in several cases; (ii) in one o f the spending agencies, checks were issued before delivery o f goods and those checks were delivered to the procurement staff (or stores) for exchange against goods; (iii) some casesoverdrafts havebeenusedbythe spendingagencies to pay for in expenditures over and above the budget. Those cases relate to the influential spending agencies such as the National Assembly, Ministry o f Defense, the President's Office, and a few other agencies. 3.37 Sixth, the control mechanisms are based on segregation o f duties, and they depend on full compliance with the rules. Changes have occurred that have made the controls ineffective, among which i s the increased volume o f transactions. Staff are not well trained and, although manual and guidelines exist, staff do not have copies for reference. Internal audit i s weak. The mainwork performedby the IA consists o f pre-payment audit (or vouching). No systems audit o f risk assessment takes place. While the quality o f IA staff at the MFNP seemed good, IA staff at the sector ministries' level seemed to lack rigor in their work, including reporting. For example, working documents used in their work were not available.6 (See the discussion on Internal Audit inthis chapter.) 3.38 Finally, the financial management staffing i s generally inadequate. A team o f well qualified and dedicatedmotivated staff needs to be inplace to ensure that rules are applied as designed and that adequate controls are maintained over expenditures. The incentive system needs to be improved to attract the right caliber o f staff. (See the PEMFARchapter onhumanresource issues.) One of the tasks that recently has beengiven to the I A s is to produce the amount o f arrears. Inone case that we verified, the amount given by the IA didnot match the amount producedfrom vouchers by the accounting staff. There was no backing o f data produced by IA while the accounting staff had the full information about each voucher and the totals provided. 26 Future Action Plan 3.39 The purpose o f expenditure control is to provide reasonable assurance that public funds are spent inaccordance with parliamentary authorization and that the set objectives are achieved. To this end, it i s crucial that measurable objectives are clearly set and that the approved budget i s respected. In order to address the current weaknesses in the expenditure control process, the following measures should be considered: Strengthen and modernize the Internal Audit (IA) arrangements by adopting international standards best practices, and improving the capacity o f IA inall ministries. Carry out a comprehensive review o f business processes in order to improve the control system, inparticular the commitment control, and data integrity. Provide specific directives to staff on internal control and strengthen staff training on internal controls, especially for restructured institutions so that the control framework remains intact. Enforce existing rules and sanctions. Prepare and execute a planto repay all outstanding arrears. Tighten the legislation inorder to reduce the Executive's authority to alter budgets approvedby Parliament (as noted inchapter 2) PayrollExpenditureControls 3.40 Because o f the sheer magnitude o f the budget devoted to personnel expenditures, they represent a significant area o f financial risk if not managed well. In 2001, 37.5 percent o f budget releases were for personal emoluments (K 907 billion). The areas o f concern with payroll expenditures basically are o f two types. First, there are management and control issues that are associated with the actual transfer o f funds to pay individual civil servants across the country, i.e., how people receive their pay and whether the funds actually reach them. The second area i s more upstream, and concerns management and control o f the personnel registry to ensure that it is accurate and that only current employees are targeted to be paid. Analysis of the Problem Payment of Personnel Emohments 3.41 For a country with a relatively large landmass, and a relatively sparsely populated countryside, there are some specific challenges that arise for making sure that payments reach individuals. Zambia's financial administrative network covers an area o f some 750,000 square kilometres broken up into 9 provinces and 72 districts. The farthest provincial capital from Lusaka i s approximately 1,100 kilometres, a 12-hour drive. In some districts there i s not access to all o f the schools and health posts year round. A key element inthe implementationo f Zambia's payroll controls is the use o fbank accounts to 27 transfer funds and to effect payments. However, out o f the 72 Districts that form the financial administration network, 26 districts do not have any banks. Consequently, some ministries make payroll payments incash. 3.42 For employees working in provinces, MFNP releases cash directly to the provincial headquarters. The mechanism for making the transfers is based upon depositing consolidated sums in banks located in the provincial capital and having the bank facilitate the transfer to the district bank branches. The deposits are accompanied bypayroll schedules prepared bythe Data Centre (a unit o fthe Ministry o fFinance). On this basis the bank transfers the salaries and allowances to the corresponding staff bank accounts. Ofcourse, as noted above not all districts have banks, and consequently not all staff members have bank accounts'. Insuch cases, the salaries and allowances are thus cashed by a designated person at the district and passed on to staff members. While this mechanism may not be problematic in itself, when coupled with inappropriate reporting controls and audits it may serve to encourage delay in reporting the termination o f a given staffmember. Monitoring and Control of Payroll 3.43 Regardless o f whether PE payments are made in cash or through the banking system, there must be an on-going and effective system o f monitoring and reporting o f who has been paid. This is not currently the case in Zambia. While the Data Centre provides payroll listings segregated by pay point, these are distributed only to the provinces. Consequently, payroll unit heads (senior officers at the level o f a pay point) have no way o f ascertaining who o f the staff within their unitreceived salaries for a given month. A staff member, having left without notice, could well continue to receive salaries without the payroll unit head being aware o f it. Interviews with several line ministries, however, indicated that there is nothing that would prevent the distribution o f payroll lists to the paypoint andthat this could be implemented immediately. 3.44 The existing methods o f monitoring PE releases are ineffective in providing sufficient controls. A review o f some monthly expenditure returns showed flat releases each month to the line ministries. This is counter intuitive since for a population o f thousands o f staff in a given line ministries one would expect that terminations (retirements, death, resignations, terminations without notice, new hiring) will result in fluctuating monthly payroll expenditures. A flat release per month suggests that payroll releases are not informed by actual expenditure.8 3.45 Other reports, such as the monthly allowance requests and the Deviation Report, also fail to provide safeguards against ghosts or on unreported separations, which 7 The Ministryo f Agriculture transfers all personal emoluments directly into bank accounts, which requires that some o f its staff have to travel long distances to collect their salaries. Apart from the high cost this introduces for employees, because o f the large distances involved, it also negatively impacts productivity as staff take off work time to pick up their salaries. In the case o f the Ministry o f Education payroll is *collected incash by a representative inthose districts with out bank accounts. Ininterviews with line ministry staffthey suggestedthat the flat payroll releases observed frommonthto month occurs because while the salary component does fluctuate the allowance which are inarrears far exceedthe excess o f release over salary. Consequently the excess always goes to fund allowances. T h i s suggestion that monthly allowances are only partially paidbrings into question the very mechanismfor paying and accounting for allowances and suggests that this i s an area which requires further investigation. 28 potentially constitute a major source o f loss. The later, for example, focuses on flagging substantial deviations inindividual pay level. And even this is limitedineffectiveness by the complex and extensive system o f allowances, which make such variations a frequent occurrence. Monthly staff retums are submitted (sometimes only quarterly) by the Human Resources Departments, but often too late to be useful as a reconciliation document for accounting purposes. 3.46 The Data Centre, which is responsible for running the payroll, uses the Master Personnel Database File as a control file for payroll expenditure. The level o f inaccuracy o f the Master Personnel Database File, interms o f reflecting precisely the staff strength, directly impacts the level o f losses inpayroll expenditures. 3.47 One o f the controls implemented by the Accountant General is the request to all banks to provide to line ministries lists o f civil servants whose accounts have remained inactive for two consecutive months.' Inone example, a letter from the local bank branch to the Provincial Education requests that the ministry stop transferring salaries to a list o f 10 names who are either deceased or do not maintain accounts with the bank. What is revealing about this letter is that the notification o f termination through death i s more efficient through the bank than through the intemal payroll reporting system o f the Ministry o f Education. This is despite the fact that the Ministrypays burial costs, giving families an incentive to notify the Ministryincase o f death. 3.48 The intemal audit process o f using head counts to check on the presence of "ghost workers" i s hampered by having too few staff for an effective sample. For example inthe case o f the Ministry o f Education, currently with only 4 internal auditors assigned to the provinces to cover all internal audit assignments, and with over 5,000 pay points, it is unlikely that more than 1percent or 2 percent o f the pay points can be audited each year. That level o f audit sampling rate provides little disincentive to persons determined to fraudulently milk the payroll system. The internal audit process i s further hampered by the lack o f up to date information on the employment status at different pay points. Future Action Plan 3.49 There are three principal recommendations: (a) To ensure responsibility for checking and confirming the reconciliation between payroll lists (by pay point) and the people actually working on a regular basis, the senior pay point officer should be requiredto check and sign o f f on the payroll lists each month and return them to the provincial headquarters. These verified payroll lists would serve as the basis for preparing deletion and transfer lists to be submitted to the Data Center, after endorsement from the Human Resources Department, for the updating o f the payroll master file. Prior to implementing such a monitoring scheme it shall be necessary to assess the feasibility o f submitting these signed payroll lists from all the pay points to the provincialheadquarters. Of course, such a control is irrelevant to employees who arrange to continue to have withdrawals made. Nor does it impact those who are paid incash. 29 (b) Use the signed lists above as the basis for performing internal audits. It would immediately facilitate holding the pay point senior officer responsible for any discrepancies found between head counts and signed payroll lists. (c) Specific posts with unique identifying codes should be developed for each and every single post within all o f the positions within the ministry as a way o f implementing the establishment register as a control directly into the payroll master database. The budgetary process would include the approval o f these specific posts, which would then be filled. Consequently no new hires could be paid against a specific post while an existingpost is still beingpaid. CapitalExpenditureControls 3.50 This section examines in depth some of the characteristics o f financial management for capital expenditures, and highlights how they may impact the overall efficiency and effectiveness o f those expenditures. What is relevant here are the nature o f the contracts, availability o f information, the physical verification, and the management o fpayments. Insummary, it was observed that the structure o f the contracts themselves coupledwith the lack o f rigorous recordkeeping and management has resulted in significant financial penalties for the Government. Cash management i s highly detached from the commitment process and important information needed to inform the cash management process i s often missing. As mentioned earlier, budgets are unrealistic for the level o f resources that are needed or actually released. Without better information management, stronger internal audit, and aggressive cash management approaches, capital expenditures would continue to be inefficient. Analysis of theProblem 3.51 Government experiences financial losses on capital projects when it pays more than it should, or when work is not completed to the standards agreed to. While much o f capital spending is managed directly by donors through independent project units, a significant portion o f capital works i s nevertheless funded by government. In 2001, budget releases for capital projects totaled K 300 billion (or 12 percent o f all releases). What creates a fiduciary concern for capital projects purposes i s the relative size o f losses to the total capital expenditures. It has been estimated that capital projects inZambia may be costing twice as much as they should. 3.52 Two central problems faced with capital projects i s that budget releases are insufficient for the Ministry o f Works and Supply (MWS) to cover Government obligations, and the lack o f comprehensive and transparent accounting inhibits a careful prioritization o f cash needs. Moreover, the nature o f the contracts i s such that if not managed aggressivelythe overall costs can skyrocket. 3.53 The existing pipeline o f projects tends to have annual costs that exceed the amount budgeted by MFNF'. According to MWS, even if there were no new projects added the budget allocations would still be insufficient to cover the work envisioned duringthe year by the project schedules. Consequently, MWS has to decide how to slow 30 down progress on projects in order to fit withinthe available resources. Obviously, there are limits to how much a particular project can be slowed before it becomes very inefficient andwasteful. 3.54 Secondly, and as stressed earlier in this chapter, budget releases often vary significantly from budget estimates, and domestic capital expenditures tend to be one o f the lower priorities during the year. As a result MWS may accumulate arrears or work may not be performed as was scheduled. The interest costs on the arrears can be quite high. MWS has also said that the break down between contract payment and interest is approximately in a 1:l ratio. For some projects Government i s only making interest payments. 3.55 An important question is how the cash releases for individual projects are determined, and whether the process can be managed ina way that minimizes the impact on aggregate project costs. Under the current system, MFNP decides on cash releases to M W S with incomplete information to make economically optimal decisions. M W S sends to MFNP reports on the outstanding amounts due on projects, but other vital information are lacking. MFNP decisions should be informed by the amount o f current charges versus arrears so that an appreciation may be made o f the potential interest cost and penalties o f late payment. MFNP should also be able to know the upcoming cash needs for projects and the relative priorities as indicatedby MWS. 3.56 Some o f the challenges indeveloping cash flow forecasts are consequences of the information flows within the MWS. While MFNP obtains copies o f contracts that have been signed, the financial management units (FMU) within the line ministry are often unaware that such contracts have been entered into untilthe first request for payments o f interimcertificates is made. Within the line ministry,the project engineer typically keeps the copy o f the contract, and hence there i s no centralized repository to reference the financial elements o f a contract and to ensure that the FMUhas a comprehensive listing and up to date status o f all o f the capital expenditure contracts and variations. Thus, financial management within M W S i s limitedto the monitoring o f payments o f interim certificates with no broader perspective on the outstanding contract works, rate o f work completion. Hence they have absolutely no basis for preparing pro forma cash flows, or assessingthe impact of inflation, currency fluctuations or late payments. Further, there is only a limited basis upon which to apply controls for claims on price variations or late payment penalties, since the FMUi s often unaware o f the full terms o f the contracts. 3.57 The contracts themselves are structured in such a way that unless they are properly monitored, there may be opportunities for abuse and substantial overpayment. For example, typical capital expenditure contracts includes clauses for: 0 Contract works variations (not to exceed 25 percent o f the total value o f the contract); 0 Price variations, which in an inflationary environment, typically exceeds 20 percent; Currency rate fluctuation variations, and 31 Late payment penalties, which are, applied at Commercial Bank interest rates. These are currently at 45 percent and so this factor very quickly becomes a significant component o f capital expenditure. Allowing both price variation and foreign exchange clauses in a contract may lead to some contractors being over-compensated when price fluctuations are linked with foreign exchange rate changes. Also, allowing price fluctuations to be awarded on a discretionary basis is open to abuse. 3.58 Finally, the monitoring and evaluation o f the physical progress i s also important to preventing financial loss. However, the internal audit department o f the Ministry o f Works and Supplies, with four auditors responsible for well over 100 projects, is understaffed to perform meaningful audits o f the projects. Without any engineers assigned to the units, it i s unlikely that independent checks beyond the input from the project engineer on-site is achieved. The current level o f project audits at the Ministry o f Works and Supply is inadequate. Future Action Plan 3.59 Inother to addressthe weaknesses identified above, the following actions needbe taken: (a) Develop a regular expenditure reporting mechanism between M W S and MFNPthat segregates (i) PrincipaVOriginalContractValue (ii) WorkVariations (iii) PriceVariations/CurrencyFluctuations (iv) Late Payment Interest Penalty (b) Institute regular cash flow forecasting from MWS to MFNP to inform cashrelease decisions. (c) Develop a database and reporting structure that distinguishes for each project: (i) Total Contract Value, BudgetedYears to Completion (ii) Proportion o fproject completed, years already undertaken (iii) Proportion o fproject to be completed incurrent budget year, (iv) Future outstanding contract value, number o f years beyondcurrent year to completion (d) Review the practice of allowing both price and exchange rate variations in contracts. 32 (e) Ensure that the FMUmaintains copies o f each project contract. (f) Reinforce the capacity o f internal audit to conduct materiality audits. Asset Management 3.60 Asset management, inprinciple, starts with the labeling andrecording o f all assets procured, continues with maintenance, insurance, and security, and ends with the proper disposal o f the assets when there useful life has expired. Unfortunately, inZambia, asset management has been largely neglected in the overall scope o f public financial management. This has significant implications, however, for the financial and operational efficiency o f the Government. Audits o f Government assets are rendered meaningless without reliable asset registers, and the budget preparation process is also handicapped by the lack o f reliable data on the operation and maintenance costs associated with Government assets. Analysis of theProblem 3.61 Although traditionally the Ministry o f Works & Supply (MWS) has had responsibility for maintaining the centralized register o f all Government assets, over time the role has diminished to merely issuing sequential codes for labeling new assets. Today, line ministries generally maintain their own records o f assets via their Procurement and Supply Units (PSUS).'~ However, this i s not done systematically. The localized asset registers often do not include identifying codes or dates and amounts o f purchase, and hence it is impossible to uniquely identify any givenasset. 3.62 Several asset management activities are not consistently performed either. They include: updating the asset register, asset maintenance, security o f movable assets, insurance on assets, verifications o f the availability and status o f assets, and finally, reconciliation o f the physical assets with the financial asset registers. For example, the consolidated fixed asset register maintained by M W S at the Central Warehouse in Chilanga i s out of date and hardly reflects the total assets o fthe Government. Inaddition, no guidelines have been developed with regards to security or insurance o f assets. At the Ministry of Agriculture, steps have been taken to secure vehicles (e.g., gear locks and anti-theft devices), but some vehicles remain without insurance. Assets have not been consistently audited. Finally, since a significant quantity o f Government assets reside in staff bungalows, the lack o f asset registers constitutes a serious risk. 3.63 The disposal of assets is done uponrequest o f the line ministry to the Ministryo f Finance. A Board o f Survey Committee i s constituted to assess and recommend the disposal o f the asset. The mechanism for disposal i s by tender. The civil servants have a first option and what is not picked up i s sold by public auction. Government-funded assets are eligible for disposal after 5 years. There are no guidelines on the allocation to government departments and the eventual disposal o f assets inherited from donor-funded projects. loInsome ministries, such as the Ministryo fAgriculture, it is the PlantandEquipmentUnit,which is responsible for maintaining the asset register and for management o f the assets. Within the Ministryo f Agriculture, the Plant and Equipment Unit i s a two-man department that limits its role to the headquarters. 33 Future Action Plan 3.64 To address the weaknesses discussed above, the following actions should be taken: (a) Enforce the registry o f all Government assets, including data on the unique identification code, the amount and date o f purchase, and strengthen the guidelinesgoverning management and disposal o f Government assets. (b) Conduct checks to ensure that registers are kept up-to-date (c) Review and strengthen guidelines on the management and disposal o f assets, including assets acquired from donor-funded projects. InternalAudit 3.65 The internal audit function is critical for helpingto ensure compliance with sound financial management. In Zambia the role o f Internal Audit is set out in the Financial Regulations. The main internal audit functions are maintaining the pre-audit controls on expenditure, as well as assessing the overall adequacy o f the financial management systems and procedures in place. Inpractice, various factors impact the effectiveness o f internal audit, including the level o f independence, the scope and content o f its workplans, the level o f resources available to it, and the degree o f follow-up on its findings. InZambia, the InternalAuditors havebeen effective indiagnosing problems in the financial management procedures, but their potential impact is still severely limited bythe lack o f adequate resources to carry out their work and insufficient follow-up taken on their recommendations. Analysis of the Problem 3.66 The institutional relationships and structure o f Internal Audit appear to give it ample independence from the line ministries and other entities. However, there may be some vulnerabilities that stem from the funding mechanism for its work. The Internal Audit Department is anchored within MFNP, and headed by the Controller o f Internal Audits who inturn reports to the Secretary to the Treasury. Internal auditors are assigned to each o f the line ministries, but their reporting lines are still to the central ministry. Promotions, transfers and personnel matters are addressed through the central ministry. Yet, even though Internal Audit has a corresponding budget line within the line ministry budget, the actual release mechanism for the funds is under the authority of the Controlling Officer o fthe line ministry. 3.67 Annual audit work plans could be improved by developing cost estimates and resource allocations across specific activities. Currently, the annual Internal Audit Work Plan i s prepared by the Internal Audit Department within the line ministries in consultation with the Controlling Officer. These work plans are then reviewed and consolidated into an Internal Audit Work Planpreparedby the Internal Audit Department o f the MFNP in December prior to the start o f the Budget Year in January. Generally, activities fall in two categories: (1) Ongoing routine pre- and post-audit activities of expenditures files, procurement procedures, accounting ledgers, etc., and (2) Specific audits of targeted projects or functions. The work plan identifies the targeted areas o f 34 activities and develops cost estimates. However, only a portion o f the work plan can actually be implementedeffectively duringthe year. 3.68 Financial resources and staffing constraints are important barriers to Internal Audit's effectiveness. Even on-going routine audit activities suffer from the shortage in personnel. For example, the Internal Audit Department assigns three auditors to each o f the nineprovinces to perform internal audit for the line ministries. However due to work overload these auditors are restricted to providing services to those departments that fall under the Office o f the President. The line ministries are responsible for providing the staff for their own internal audit requirements at the provincial and district level. This may be easier in theory than inpractice. For example, at the Ministry o f Agriculture an Internal Auditor hadbeen assigned for only one out o f nine provinces. At the time o f this assessment four more hadbeenhired for assignment to four more provinces but were still located at the head quarters. Low salaries have an affect on recruitment and retention on the civil service as a whole, but the impact may be especially acute in audit, where competition with the private sector is high. 3.69 Even with staff, there is a need for computers and logistical support for Internal Auditors to be efficient in carrying out their duties, especially inthe districts. Although some institutional strengthening o f MFNP has occurred already through PSCAP, it was not clear that Internal Audit had as yet benefited significantly from this. 3.70 Finally, one o f the most important factors inthe effectiveness o f Internal Audit i s the magnitude o f follow-up to its findings. When TA uncovers problems and recommends actions to be taken, it is critical that there be follow-through. Without the legitimate threat o f sanctions, audits may be counter-productive by emboldening the behavior o f a violation o f the financial regulations it the line ministries to take necessary actions. The Auditor General would later determine, inthe cause o f the external audit, if the required actions were taken. the severe budgetary restraints o f the Auditor General, it is not evident that pursue most o f the cases. Future Action Plan: 3.71 Establish a mechanism to fully fund Internal Audit activities within line ministries. (a) Improve annual IA workplans by incorporating the following: Clear segregation o froutine on-going activities from one-off, ex- post audits. Continuing to identify the specific staffing and physical resource allocations necessary to carry out the activity, especially for those indistricts, to ensure that all activities canbe completed. Combine cost estimates with prioritization o f activities so that if budgetresources are cut back, the workplan maybe adjusted easily. Increase coordination with the Office o fthe Auditor General in development ofthe workplan. 35 (b) Prepare a quarterly report that tracks implementation o fthe work plan. (c) Increase staffing levels and RDC funding o f Internal Audit (d) Monitor and report on whether recommended sanctions are pursued in cases o fmisappropriationor fraud. (e) Hold controlling officers responsible for responding to recommended improvements ininternal control systems andprocedures. 36 4. ACCOUNTING, REPORTINGAND INFORMATION SYSTEM 4.1 This chapter describes and evaluates the government accounting and reporting arrangements. It begins with an overview o f the statutory guidance on accounting and reporting. The practices regarding accounting in government ministries as well as the preparation o f monthly returns are described and evaluated. A crucial step in the government accountability process i s annual financial reporting, which is also addressed inthis chapter. The last part of the chapter focuses on the information technology used for government accounting andreporting. Statutoryguidance on accountingandreporting 4.2 The Constitution defines the content o f the annual reports." The Subsidiary Legislation to the Finance Act and the Procedures Manual dated 1992 describe in detail the accounting procedures, and provide the following guidance to government agencies and officers: (a) A cash based accounting system with simple ledgers for recording o f commitments and expenditures is prescribed. Commitments are to be recorded when created and expenditures recorded (in a separate column), when payments are made. Monthly returns are to be produced from the books. (b) Monthly reconciliation o fbank accounts is required. (c) Stores and assets management remain the responsibility o f the COS. (d) Check books and issued checks are to be under the custody o f the Accounts Departments o f each spending agency, and issued checks are not supposed to leave the department unless proof of delivery o f goods and services has beenprovided. (e) Each CO i s required to provide to the MFNP monthly returns and any other information as the PS-MFNP may instruct the agencies. Controlling officers must produce monthly returns for the Accountant General within 15 days after the end of each month. The returns contain budget provision, total expenditure, outstanding commitments, total actual releases, and arrears. l1Article 118 o f the constitution prescribes that (1) the MOF (minister) shall cause to be prepared and shall lay before the NA not later than nine months after the end of each FY a financial report inrespect of that year. (2) The financial report shall include accounts showing the revenueand other moneys received by the government inthat FY, the expenditure o f the govemment inthat FY other than expenditure charged by the constitution or any law on the general revenue, the paymentsmade inthe FY otherwise than for the purpose o f expenditure, a statement of the financial position o f the republic at the end o f the FY and such other information as parliament may prescribe. 37 (f) The monthly retums are to be accompanied by bank reconciliation statements. 4.3 The legislation is totally silent on the role and responsibilities o f the Accountant General. The functions currently performed by the Accountant General are part o f the responsibilities assigned to the MFNP generally. Nevertheless, if fully observed, the existing provisions are adequate to ensure that proper accounting records are maintained andthat financial reporting i s satisfactory. Analysis of theProblem 4.4 There are two dimensions to the problems o f financial reporting in Zambia: (i) problems relating to recording, accounting and monthly retums: and (ii) problems with regard to the timeliness and accuracy o f financial reports. The observations are based on the procedures and processes inplace through the first half o f 2002. At that point, new software was introduced for expenditure and commitment by line ministries. As discussed later, this may make possible more accurate reporting inthe future. Untilthen, some o f the deficiencies described below may still remain. AccountingandMonthlyReturns 4.5 In exercising the powers conferred on the COS,officers in the ministries and provincial departments commit and spend, and issue vouchers for payment. According to the formal rules, vouchers are issued by the spending unit and sent to the Accounts Department for recording and payment. The vouchers are used to record both the commitment and expenditure in the expenditure control ledgerhash book. The practice is, however, different. 4.6 First, in some restructured ministries, the commitment is recorded only when the check is issued and expenditure is recorded at the same time. This represents a serious breakdown o f the formal system - it undermines the distinction between commitment and expenditure, and distorts the financial information. Another departure from the prescribed rules is a practice whereby checks are issued, and handed over to the procurement staffbefore the delivery o f goods and services. 4.7 In the restructured ministrieshnit where experienced staff have been made redundant, there has been practically no training for the new accounting staff. Moreover, reorganization o f offices was not vetted by the AG and the AccG to ensure that intemal controls continue to be adequate and that new staff receive adequate training. 4.8 Second, insome ministries the relevant spending units are keeping the ledger for commitments while the accounting department keeps records o f expenditures and i s not involved inthe commitment control process. 4.9 Finally, Accounts Department produces accounts and monthly retums from the vouchers and their ledgers. AccG's office produces quarterly accounts andreports based on those retums. The ST can freeze a spending agency's bank account if the return i s not received on time. However, the sanction has not been applied even though several ministries are systematically late in their submissions. The assistance provided by the office o f the AccG to the agencies has to some extent improved the timeliness and the 38 quality o f information. However, the quality o f returns still remains uneven across government agencies. TimelinessandAccuracy of FinancialReports 4.10 Inconformity with the legislation (article 118 of the constitution), MFNP has to produce the Republic's Financial Report for the year and lay it before the National Assembly (NA) within nine months after the end o f each FY. Before the production o f consolidated accounts, the Office o f the Accountant General carries out some checks and reconciliation. For this purpose, in addition to the monthly returns, each CO is required to send a copy of the cash book and a bank reconciliation statement to the MFNP. 4.11 For the first time inten years, the financial report for FY 2000 was issued before the legal due date. This is an achievement, given the government accounting capacity andsystem. However, several problemsremain. 4.12 First, the bank reconciliation statements do not include the beginningand ending balances o f bank accounts. It is unclear as to how bank reconciliation can be done without those balances.12Possible discrepancies may arise from cancelled checks if the corresponding funds are not returned to the BOZ.I3 Likewise, without the balances it cannot be verified whether all o f the released funds are actually used. Moreover, it has been noted that some agencies have used overdrafts, which are expressly forbidden without written authorization from the PS-MFNP. (See below for further discussion on reconciliation o fbudget releases with actual expenditures.) 4.13 Second, several other weaknesses were noted with respect to the completeness and accuracy o f financial infomation, which have implications for financial statements: 0 Ledgersdesignedto accurately account for commitments and payments/expenditures are not maintainedproperly. 0 Commitment and payment transactions are either posted at the same time -and this was sometimes done even before delivery o f goods and services. At some other times, commitments are not posted, particularly where commitments have beencreated without regard for standinginstructions from the MFNP; 0 Inthe caseofareorganizedagency, we observed a totalbreakdowninsegregation o f duties. The procurement unit performs incompatible tasks. These included control over the stores as well as receiving and keeping checks from accounting, inanticipation ofdelivery ofgoods andservices by suppliers. 0 Because o f the above irregularities, the books o f accounts are incomplete, and because the books are incomplete, the monthly returns on which financial reports are based are most likely incorrect. l2 Infact, despite the time spent inthe relevant service, the missionwas unable to receive fullinformation or fully understandthe bank reconciliation practice at MFNP. l3Any check outstanding for more than six months is cancelled automatically, butit is unclear ifthe fimds are transferred from the ministry's mirror account back to the BOZ. 39 4.14 Third, it seems that the quarterly consolidated reports are incorrect due to omissions or double counting. While some ministries wait for information from provincial offices, and consolidate the data from provinces, others send the H Q data alone. As we understood, the unit at the MFNP awaits for and consolidates data from all 51 COS. Therefore, there is a high probability o f omissions or double counting. This raises the question about the end o f year accounts and bank reconciliation as well. Lastly, it seems that not all vouchers are included inthe monthly returns and liquidated at the end o f the FY-the problem o f arrears were discussed inchapter 3. 4.15 Fourth, the exact roles and responsibilities o f the Accountant General are not defined in the existing legislation. Functionally, the AccG who produces the Republic's accounts on behalf o f the M-MFNP, has a "supervisory" role with respect to the accounting and financial information. However, he i s institutionally attached to the PS- FMA andreports to him. 4.16 Fifth, quarterly and annual financial statements produced by the Accountant General's Department reflect mostly transactions that flow through Control account 99 (i.e., C A # 99). The Account is plagued with problems o f reconciliation and availability of information inboth inflows and outflows. The inflows are deposits from: (i) Zambia Revenue Authority (ZRA); (ii) individuals or bodies depositing funds to the general revenue. However, the ZRA does NOT have any reporting relationship with the AccG, and therefore the AccG does not receive detailed informatiodexplanations as to how much i s deposited paid, by whom and why. The outflows, on the other hand, are executed by the Budget Office which again has no formal direct relationship with the AccG. The lack o f efficient and effective communication with ZRA and the Budget Office has meant that the AccG does not receive adequate information to reconcile the accounts. As a result, the consolidated accounts and aggregate statements are not reconciled. 4.17 The issues discussed above raise a question regarding the completeness o f government annual reports. It is worth noting that the resources and expenditures o f donor-assisted projects are not included in the Financial Statements. In addition, the financial reports do not contain information on contingent liabilities. Table 9 provides evidence o f some o f the anomalies that appear in the Financial Statements. For three ministries-Agriculture, Education, Health - it compares the budget releases with the actual expenditures reported inthe Financial Statements. Where the variance i s positive, it indicates that releases exceeded expenditure, and it suggests that funds would have been returned to the Treasury. It i s unclear though whether this occurred, or instead, whether the funds were actually usedfor another expenditure category, e.g., PEresources used for RDCs. Eventhough this is a violation o f the Financial Regulations, there were ministries that acknowledged this situation has occurred. The more curious cases are those where the variance i s negative, indicating expenditures exceeded the cash release. The magnitude o f the variances calls into the question the accuracy o f the reporting, and underlines the importance o f reconciliation between cash releases, expenditures, and banking data. 40 Agriculture Education 4 381 735 696 3 129275879 LocalGovemment RDC 2,656,146,358 2,592,487,824 64,258,534 2.4% Grants& Other 6,546,577,387 5,647,765,376 898,812,011 13.7% Total 10,3 14,925,910 9,256,437,24 1 1,058,488,669 ~~~,~~~~~~~ 2000 PE I I 1,608,549,697 1,472,800,020 135,749,611 8.4% 4,606,762,416 I 4,457,445,278 I 149,317,138 13.2% Works and Supplies 41 Recent Actions 4.18 In June 2002, MFNP implemented at the headquarters of each line ministry a Microsoft Access-based FMS for recording data on budget allocation, commitment, arrears, and expenditure payment. Provincial offices were expected to have the system ready by end-2002. The source document for entering payment into the system is the backing sheet that i s submitted to BOZ.14 Although the new Financial Management System (FMS) provides for entering commitments, currently these are equivalent to the payment amount because they are entered into the computer at the same time. This practice may be explained in part by the fact that Accounting is often not informed o f LPOs or contracts until the time at which payment is requested. Nevertheless, despite these inadequacies, the use o f the backing sheet to key in data almost certainly increases the accuracy o f the monthly expenditure reports to MFNP. It also creates an automatic reconciliation o f expenditure data with the bank account^.'^ Future Action Plan 4.19 While the FMS and use o f the backing sheets constitute important steps toward improving the reliability of expenditure reporting, further actions are still needed. Modify the accounting procedures in order to capture commitments and arrears, and to highlight interest charges on late payments. Overhaul the arrangements in the ministries to ensure that inputs relating to LPOs, contracts and commitment are made as the transactions occur. Reconcile monthly expenditure returns with monthly releases for each unit or department up to the Ministrylevel. Restrict funding for ministries that do not submit a monthly return on time. Ensure that agency funds related to cancelled checks are returned to the BOZ promptly. Impose penalties for overdrafts without written authorization from the Secretary to the Treasury. Clarify and clearly spell out the role of the AccG inthe legislation, so that he/she should directly report to the Secretary to the Treasury. Such shift will also improve the coordination and communications with the Budget Office. Establish mechanisms for institutional review and vetting o f any organizational restructuring. Provide specific directives to guide staff and l4The backing sheet is the list o f checks that the Ministryis issuing and serves to inform BOZ o f the amount that should be transferred to the Ministry's mirror accounts to cover the checks. l5Reconciliation is still neededto account for checks that may not have cleared or additional funds that were deposited. 42 strengthen staff training on internal controls, especially for restructured institutions so that the control framework remains intact. FinancialManagementInformationSystem 4.20 Improvements inthe financial management information systems usedby the GRZ are critical to the overall public sector reform agenda in the country. The Government's dependence upon primarily manual accounting procedures and outdated technology at MFNP make it extremely difficult to obtain reliable and timely financial information. Nor does it provide adequate safeguards for budgetary control. There i s wide recognition by the government and the donor community on the need for reform. The challenge has been trying to design a system that can meet international accounting standards, while at the same time being implementable in a medium term horizon that takes into consideration the very limited absorption capacity that exists within the government. At the center o f the reform efforts have been the Bank's FSC and PSCAP, supplemented by other donors that have contributed assistance. As part o f the preparation for FSC2, the Bank has worked closely with MFNP to beginoutliningwhat the new system should look like and to establish the tasks that lie ahead. Although it i s still relatively early in the planningprocess, there have been some promising efforts on the ground. The MFNP task force for the IFMIS has made progress in developing a credible roadmap and will soon begin working with local consultants to accomplish the next steps. Analysis of theProblem 4.21 Overall the systems used by MFNP for financial management tend to be either manual or rely on outdated technology with limited applications. Budget preparation, budget execution, and payroll management are all separate and independent applications within MFNP that do not interact with each other. In line ministries the situation is generally worse, with reliance upon basic spreadsheet applications where available. There are few personal computers available within MFNP(that are inworking condition) and many o f those are also outdated. Fifty personal computers were recently received and have been distributed for use throughout the GRZ. However, training on the new computers and networking o f these computers will be necessary before they are fully functional. 4.22 As the IMF noted in its June 2001 report, budget preparation tends to done through an in-house system called Computer-Aided Budgeting (CAB), which is used for consolidation o f line ministry estimates and eventual production o f the budget document itself. The line ministries generally do not have access to this software, but instead either submit documents in hardcopy or on a diskette. As MFNP has begun to develop an activity-based budgeting (ABB) classification system, it has been working to integrate this into CAB. Budgetreleases are managed separately and are notpart o fthe CAB. 4.23 The accounting function i s heavily reliant uponmanual record-keeping, especially in the line ministries. Line ministries and provinces submit their monthly expenditure reports on diskette to MFNP with the help o f a computer-based Financial Management System (FMS). The IMF has noted in its report that the FMS is "mainly a data- capturing application with few utilities and limited reporting functionality." The FMS records the details o f transactions after the payments have been made. The MFNP data 43 center consolidates the reports o f the various units using a Government Accounts (GA) application, though the IMFhas noted that there i s usually considerable time lag between entering the data and its eventual consolidation. During the Bank's initial PER mission in 1999, the Accountant General's office also cited the extremely limited analytical and reporting capacity o f the MFNP's COBOL-based computing system. 4.24 The IMFreported that payroll is managed ina slightly different manner, although the actual transactions are also recorded inthe FMS by MFNP. Cabinet Offices maintain the establishment register and personnel records based on manual updates received from line ministries and provinces. The Data Center processes the updated payroll lists and transmits them to the line ministries to execute payments. After check issuance, the payroll payments "are entered in the FMS system in the same way as nonwage expenditures." The weaknesses inthese procedures have been recognized and a Human Resources System is currently being developed with implementationplanned in2003. 4.25 Few will argue with the inadequacy o f the current information systems at MFNP to provide reliable control o f and reporting on public expenditures. While recognizing that computerization i s not a panacea, there is consensus that the current systems produce a number o f serious problems and must be addressed. As noted in the early part o f this chapter, expenditure reports are prone to errors and inconsistency that are difficult to find and to reconcile under the current system. Second, reporting tends to be significantly delayed because o f the various levels o f compilation required. Third, the focus on bookkeeping tasks distracts accounting staff from more meaningful analysis o f the data and trends. And fourth, the delays and inconsistencies greatly diminish the ability o f MFNPto provide sufficient oversight andcontrol over the nature o fthe expenditures. Actions Taken to Date 4.26 Several efforts have been made by donors to assist MFNP in planning for a new IFMIS, although the primary assistance over the long term i s expected to be through the Bank's PSCAF'. During 2001, a Bank consultant helped the government with an assessment o f the needs and potential options for a new system, including a rough timeline and potential costs for each. During that year the EU also funded a consultant from KPMG to work with MFNP for several months to assess the needs for an IFMIS and to develop options to consider. 4.27 An IMFmission in early 2001 also provided recommendations on managing the IFMIS implementation process and on the core hctionality o f the IFMIS. Their report o f June 2001 affirmed the MFNP's structure o f a Steering Committee, a Technical Committee (or working group), and a Project Manager. The report recognized the need that MFNP would have for external consulting advice, but stressed the importance o f in- house resources being fully involved in the project design, planning implementation o f hardware and software, and other areas. Perhaps even more importantly the report outlined helpfulguidance on the scope and core functionality o f the IFMIS. 4.28 In 2001, the MFNP established two critical working groups to shepherd development o f the IFMIS. The first was a high level Steering Committee consisting o f very senior officers to make policy decisions relative to IFMIS when necessary. The second important group was the Project Team or Technical Committee, whose full-time 44 responsibility i s to work with IFMIS consultants and to develop detailed specifications for the new system, among other tasks. Unfortunately, significant delays were experienced before the project team members were appointed or could begin to work full- time. 4.29 Through PSCAP the Bank had assisted a working group ingoing to Dar-es-Salem and studying first-hand the Tanzanian experience with IFMIS.16 Although it is not clear how applicable the Tanzanian approach will be for Zambia, it provided an important reference point in terms of functionality, cost, and timeframes for the team to factor in. The Bank also provided a quality assurance consultant for about a week to act as a facilitator inhelping the Technical Committee develop a tentative roadmap. 4.30 During 2002, the three-person Project Team and a short-term consultant made progress on several fronts. Four pilot ministries and a province were selected, and stakeholder workshops ~1anned.I~The Project Team also worked on the detailed system requirements inanticipation o f the arrival o f long-term consultants. Enhancements have been made to the existing FMS, with the improved version rolled out inJune 2002. This was expected to provide more timely information, enable the reconciliation o f expenditures against the budget, and establish a commitment/arrears database. Plans were also developed for in-service training needs and research was conducted on the futuretelecommunicationsinfrastructure. 4.31 The current plan is for the Government to pilot IFMIS by mid-2004. However, the Bank recognizes that full implementation o f IFMIS is a medium- to long-term goal in Zambia. In its assistance to MFNP, the Bank has emphasized that whatever option is proposed to donors to be funded, needs to be manageable under the limited absorptive capacity o f the Zambian public sector. 4.32 The Government has agreed that the best approach going forward is to adopt a turnkey system and to draw heavily upon the procurement experience o f other countries in the region such as Uganda. In the short term, key actions related to IFMIS would Pre-qualify potential bidders Issue biddingdocuments Select andprocure the software and hardware Continue stakeholder awareness workshops. Plan for in-house training needs for users andprogrammers. Pilot the IFMIS inselected ministriesandprovinces. l6The compositionof the Project Team or Technical Committee has changed over time, so that those visiting Tanzania are not necessarily the same as those now working full-time. As ofOctober 2002, the five pilot sites were expectedto be the Ministries of Finance, Education, Works and Supply, Health, and Northem Province. 45 5. EXTERNALAUDITAND OVERSIGHT 5.1 The focus o f this chapter is on the last stages inthe government cycle o f control. The following critical accountability issues are addressed: (i)the quality, scope and adequacy o f external audit; (ii)the posteriori role o f parliament in the government financial accountability process; and (iii) the government anti-corruption initiatives. ExternalAudit 5.2 Article 121 o f the Constitution provides for the appointment o f an Auditor- General (AG) by the President, subject to ratification by Parliament, and declares it a public office. It assigns to the office holder the responsibility for: (i) ensuring that the provisions o f the constitution on public finance (i.e. Part X) are complied with, and (ii)to audit accounts relating to public revenues and expenditures. The Constitution granted the AG unimpededaccess to all relevant public books, records, reports and documents. The AG is required under the Constitution to submit herhis audit report to the President within 12months o fthe end o fthe financial year -the President has the responsibility for laying the report before Parliament within seven days o f receiving it. The Constitution stipulates that the AG shall not be subject to the direction or control o f any other person or authority inperforming herhis functions. Itprovides for the AG to hold office untilthe age o f 60 but she may resign before attaining that age. The AG can be removed from office for the following reasons: (a) inability to perform his functions due to infirmity o f body or mind or for incompetence; (b) incompetence; or (c) misbehavior. The Constitution requires Parliament to set up a Tribunal to look into the matter constituting a ground for removal, andto consider the report o f the Tribunal before removing the AG. 5.3 Similar provisions were made in the Finance (Control and Management) Act o f 1969 and the Public Audit Act o f 1980. The 1969 Act, amongst other things, empowered the AG to audit the accounts and reports o f statutory corporations for which the law has not provided for the appointment o f an auditor. It is noteworthy that the 1980 Act essentially gives the AG the authority to follow public money to anywhere it may go. It widens the power o f the AG beyond the audit o f books, records and reports of government departments and the statutory corporations described in the 1969 Act to include the audit, as s h e deems fit, o f every statutory corporation, and every private institution that receives Government grant, subsidy or subvention in any financial year. The AG i s empowered to request from independent auditors o f state-owned enterprises (SOEs) any document, reports or information relating to the accounts o f SOEs. Also, every contract involving the Government or its agencies and enterprises was to include a clause allowing the AG to have access and examine all books relating to the contract. It also provides for the hiring o f agents or specialist consultants by the Minister o f Finance, at the request o f the AG, to assist the AG inthe performance ofh e r h s duties. Analysis of theProblem 5.4 There are adequate statutory provisions concerning the appointment, tenure, and auditees of the AG. Given the democratic setting, the functioning o f the Office o f the Auditor General (OAG) can be significantly enhanced if the identifiedweaknesses are addressed. 46 5.5 While the AG, as a public official, enjoys adequate independence based on statutory provisions, in practice the OAG's independence is hampered by availability o f adequate human and financial resources to discharge the AG's statutory responsibilities. Financial resources available to the OAG are subject to restrictions imposedby MFNT while staffing is subject to civil service regulations. 5.6 While the OAG has strived to adopt audit methodology recommended by the International Organization o f Supreme Audit Institutions (INTOSAI), inpractice, due to limitations incapacity the degree o f compliance is low. 5.7 Although the AG's remuneration i s a standing charge on the Government revenues as the remunerations o f judges, the remuneration i s inadequate, as it has not been reviewed for a long time. Inadequate compensation, especially when it involves lower pay compared to similar constitutional office holders canbe demoralizing. 5.8 The AG does not have absolute control over staffing. The conditions o f service o f OAG staff are determined by the Public Service Management Division (PSMD) in a manner similar to other public servants without regard to the level ofprofessionalism and hence compensation for audit staff. Consequently, the AG is unable to retain qualified staff due to unfavorable conditions o f service (Table 10). Table 10: Staffing of the OAG Position Staffing level Authorized Actual Auditor General 1 1 StateAudit Secretary 1 1 DirectorofAudits 5 4 Assistant Director 9 9 PrincipalAuditor 18 16 Senior Auditor 26 21 Auditor 30 27 Assistant Auditor 30 18 Audit Examiner 35 8 Assistant Audit Examiner 40 2 5.9 Only one o f the staff i s a professionally qualified accountant, but there are 15 others with a first degree or above in finance and other disciplines. Because o f the difficulty in retaining qualified staff, he has not been able to use effectively the few training opportunities that become available. 5.10 The AG does not report directly to Parliament. The AG submits herhis report to the President who then lays the report before Parliament, but the submission to Parliament has sometimes been delayed significantly. That the AG does not have reports through the overall head o f government departments that s h e audits diminishes her/his independence. More often than not, serious actions are not taken on the audit findings. This has a tendency to lower the moral o f O A G staff and lower the quality o f audit. 5.11 The OAG is not adequately funded to enable it carry out properly all the AG's statutory functions. MFNP determines the final budget estimate for the OAG that i s incorporated in the Government budget and presented to Parliament for approval. 47 Moreover, the cash releases, which are controlled by MFNP, are generally lower than the approved budget (see Table 11). The result is that the OAG is underfundedand has not been able to carry out all its plannedactivities. Table 11: Funding of the OAG for the period 1998-2001 1998 1999 2000 2001 2002 I n million Kwachas AmountsProposed 6307 6100 AmountsAppropriated 2468 2123 3573 3954 4944 AmountsReleased 1868 1183 3798 3441 I n Percentages (%) AmountsReleasedas a % ofAmountsAppropriated 76 56 96 70 AmountsReleasedas a % ofAmountsProposed 30 19 5.12 The AG currently performs regularly financial compliance audits. This is in line with existing statutory provisions, which requires the AG to audit all the accounts charged to the general revenues, and to satisfy herhimself that expenditures are in line with Parliament authorization. Recent Actions 5.13 Inresponse to calls to strengthen the Office ofthe AG (OAG), the AG contracted three consultancies between 1996 and 2001. In 1996, a former AG o f Canada, was hired from Cowater Accountability Group, Canada to conduct a study to redefine the legislative mandate and strengthen the OAG. In 2000, a former Assistant AG o f Canada was contracted to formulate proposals for the strengthening o f the function o f the AG and to enhance the effectiveness o f the Public Accounts Committee. The World Bank funded both studies. In2001, the AG contracted the services o f Deloitte and Touche to assist in developing the necessary management and financial systems and procedures that would enable the AG to operate as an autonomous, transparent, efficient and effective Supreme Audit Institution. 5.14 There have also been other attempts to strengthen the OAG. As part o f the Public Service Reform Program, the Management Development Division o f Cabinet Office performed a management assessment o f the OAG in 1996. Subsequently, the OAGheld a Strategic Planning Workshop inMay 1996 where its Mission Statement, Goal Statement, and Objectives were developed. The following year, Cabinet Office senior officials, some Parliament members and the OAGmet to consider the recommendations contained inthe 1996 consultant and management audit reports. On the basis o f the recommendations, a Cabinet Memorandum was prepared and presented to Cabinet. Although a similar Memorandum was again presented to Cabinet in 2000, no action has been taken on the implementationo f the recommendations Future Action Plan 5.15 To enhance independence, effectiveness and efficiency of the AG and his office, recommendations o f the previous studies should be implemented and inparticular: 48 The AG's report should be automatically submitted to Parliament within several days after it i s presented to the President; The OAG should be govemed by an Audit Board (an oversight body); OAG's budget should be submitted directly to the Parliament (after approval by the Audit Board); Staff o f the OAG should not be part o f the civil service and its hiring and condition o f service should follow different rules; and In order to allow the AG to adequately audit the republic's finances, the AG should also canyout performance audits and should audit the Central Bank as well. Finally, no one should escape controls and scrutiny; the OAG should be subjected to external audit. Parliamentaryoversight-the role of the PublicAccounts Committee 5.16 Parliament performs both priori and posteriori oversight roles in the public financial management and accountability process. The section on budget preparation deals with the former while this section focuses on the latter.'The posteriori oversight role o f Parliament, which i s derived from Section 118 o f the Constitution, i s largely performed by its select committee on public accounts, i.e. PAC. The Committee comprises nine members, eight o f whom are backbenchers. It is chaired by a member o f opposition, inaccordance with Commonwealth tradition, while the Minister o f Finance is an ex-official member. The Committee examines the Appropriation Accounts o f government ministries and agencies and other government financial reports laid before Parliament by the Minister o f Finance together with the AG's report on the Accounts and Reports. 5.17 Before its seating on the Accounts and Reports begins, the Committee normally ask Controlling Officers to present, in the form o f Memoranda, their responses to the issues raised in the AG's report. When the seating begins, Controlling Officers are invitedto provide clarifications on the Memoranda they have submittedto the Committee and to answer any question. 5.18 After its seating, PAC normally prepare and table its report before Parliament in the form o f a motion- the report will highlightmajor issues arising from its review o f the Accounts and Audit Reports. After members have discussed and adopted the report, the recommendations are sent to the relevant government ministries and agencies with an advice that they should take actions. Reactions o f the Minister o f Finance to Parliament on the recommendations, indicating actions which may have been taken, are normally made within 60 days of the adoption o f the PAC's report by Parliament. 49 Analysis of the Problems 5.19 The arrangements for Parliamentary oversight exhibits some reasonable features that could help enhance government financial accountability. They include: (a) The PAC i s headed by a member o f the opposition, in line with the standard practice in the Commonwealth. Also, a large majority o f the members are backbenchers who are generally more independent. (b) PAC staff normally follow-up with government departments and agencies on the recommendationcontained inPAC's reports. 5.20 There are some lapses inthe Parliamentary oversight process. They include: The membership o f PAC is such that the ruling Party controls the votes and therefore the AG's reports may not always get the needed attention. The Committee noted that it is often difficult to get satisfactory answers from the Executiveon its reviews andrecommendation. The recommendations o f the Committee are not bindingon the Executive. Worse still, the Executive can sometimes react negatively to the reports o f the Committee, and promote officers the Committee found to have done wrong things. The Committee needs to meet outside Parliament sessions to be able to perform its role effectively but the required funding i s often not available. Budget requests are often cut by MFNP. To function, the Committee depends on budgetary releases from MFNP - often, it has to write to MFNP to request funding in the form o f budget releases. Obviously, activities o f the Committee can be constrained via budgetary releases by the Executive. Although the Committee has some support staff that it considers adequate, the staff does not include professional accountants/auditors. Also, the staff are not well exposed to what PAC's support staff in other countries are doing. Future Action Plan 5.21 The following actions shouldbe taken to address the issues identified above: 0 Funding o f the Committee needs to be secured so it can conduct its work effectively and without risk o f retribution. The releases should be tied to the program prepared by the Committee andthe related cash requirement. 0 Consistent with the overall Parliamentary reforms underway, there should be a mechanism for ensuring that government responds promptly to the recommendations o fPAC. 50 Government should continue its policy o f investigatingindividuals who have been named inthe Auditor General reports or PAC reports. Anti-Corruption andmoneylaundering 5.22 An Anti-Comption Commission (ACC) was established by the 1980 Act as a government department in the Office o f the President. It was under the control and direction o f the President until March 1997 when it became an autonomous body based on the 1996 ACC Act. The transformation o f the Commission to an autonomous body was largely driven by the desire o f the people to have it as a completely independent body. At the helm o f the Commission i s a Board o f five commissioners headed by a chairman with qualifications similar to a judge. Members o f the Board are nominated by the President to Parliament for ratification. The Board directs the policies o f the Commission and also safeguards its independence. The day-to-day running o f the Commission i s entrusted into a Directorate headed by a Director-General. The Commission submits annual reports to Parliament through the President. However, it regularly reports to and appears, from time to time, before the Select Committee o f Parliament on Govemance Issues. Recent Initiatives 5.23 The Commission has observed that a lot o f wastage and pilfering o f funds occurs through the current public procurement process, and it has prepared a paper to improve the procurement process. The paper analyses the problems with the public procurement process and makes some recommendations to address the problems. The paper is currently being discussed by a Task Force comprising the big spending Ministries and other stakeholders. Where the Commission's recommendation are accepted and fully implemented, the Commission will recruit Procurement specialists which will be responsible for monitoring public procurement. The improved activities o f the Commission are increasingly serving as a deterrent. Analysis of the Problem 5.24 There are political interferences from time to time inthe work o f the Commission but the 1996 Act empowers the Commission to resist political interference. To a large extent and irrespective o f the independence o f the Commission, its functioning depends on the political will. Prior to 1996, the activities o f the Commission depended entirely on the will o f the political leadership to fight corruption. The commissioners were merely carrying out instructions o f political leaders. The arrangement was generally inadequate. After 1996, when the Commission became independent, there was still some lack o f political will which affectedthe performance o f the Commission -the Executive was still able to constrainthe Commission. 5.25 Prior to 2002, the Commission was constrained by the Executive through funding. Since 2002, the funding situation o f the Commission has improved due to the existence o f political will to fight corruption - the flow o f funds has been constant, enabling the Commission to better execute its programs. The political will has also been demonstrated through encouragement and various public pronouncements by the political leadership. The funding arrangements for the Commission have allowed the Executive to constrain its activities. Normally, a ceiling to its budget is given by MFNP at the beginning o f the 51 budget preparation circle. The Commission then submits its budget to MFNP who may still reduce it before it is incorporated in the government budget estimate and laid before Parliament. Future Action Plans 5.26 The major constraint to the effective functioning o f the Commission is fhnding which could fluctuate depending on the political will to fight corruption. Going forward, Zambia should explore ways to ensure stability in funding o f the ACC and to ensure public disseminationo fits reports. 52 6. MANAGEMENT OFPUBLICDEBT 6.1 The chapter covers the Management o f Public Debt. It discusses the adequacy o f the institutional and legal framework to manage the debt. Furthermore, an assessment is made o f the adequacy o f staffing andthe existence o f appropriate information systems for recording public debt. Legal and InstitutionalFramework 6.2 The principal legislation on debt management is the Loans and Guarantees (Authorisation) Act, Chapter 366. The Act provides for the raising o f loans; the establishment o f sinking funds; the giving o f guarantees and indemnities; the granting o f loans by or on behalf of the government and to provide for matters incidental thereto and connected therewith. Article 3 o f the Act gives general borrowing powers to the Minister o f Finance. The article states that: "The Minister may raise from time to time, in the Republic and elsewhere, on behalf of the Government such loans as he may deem desirable, not exceeding in the amount outstanding at any one time such amount as he shallfrom time to time be authorized by resolution of the National Assembly toprescribe by statutory instrument. " 6.3 Furthermore, Article 6, identifies the methods o fraising loans as: issuing o f bonds or stock; issuing o f treasury bills; or agreement in writing. In addition, the Minister o f Finance determines the terms and conditions o f the loans (Article 7). In Article 8, the Bank o fZambia (BOZ) is identified as the agent o fthe Minister o fFinance for any loans raised through the issue o f bonds or stock or treasury bills. Besides the Minister o f Finance is allowed by Article 14 to "guarantee on such terms and conditions as he may thinkfit, the repayment to any person ordinarily resident in Zambia of any loan or any portion of a loan borrowedfrom suchperson. " 6.4 The Ministry o fFinance andNational Planning (MFNP) and the BOZ are the two main institutions charged with the management o f Zambia's domestic and external debts. The MFNPhas responsibility for managing public debts and publicly guaranteed external debts. The BOZ manages private sector debts and its own external debts. At the same time, BOZmanages, on an agency basis, the traditional government debt, i.e. government securities. The key government negotiating team for debt contracting includes the Minister of Finance, Minister o f Justice and the Accountant-General. The Investment and Debt Management Department (IDM) headed by a Director at the MFNP i s the government department in charge o f debt management. Similarly, at BOZ debt management i s vested inthe International Division o f the Economics department which i s also headed by a Director. 6.5 With regard to information systems for recording and monitoring o f debt, BOZ and IDMuse the Debt Management Financial Analysis System (DMFAS) developed by UNCTAD. The system i s useful and adequate for monitoring external debts. However, the system i s inadequate for some elements o f domestic debts. DMFAS cannot capture government arrears andworks contracts. Consequently, these types of debt are managed outside the DMFAS by a unit inthe Accountant General's office. 53 6.6 For government debt servicing, DMFAS produces quarterly projections o f debt services falling due. The debt service amounts are budgeted as a charge on the Balance o f Payments. Sometimes, ifthere i s a shortfall inthe balance o f payments, borrowing from commercial banks are madeto make the debt service payments. The accounting work and prepayment audit relating to debt payment is normally undertaken inthe IDMbefore the payment requests i s passed on to BoZ. BoZ normally prepares a Debt Service Report for IDMat the endofeachmonth onpayments made inrespect ofdebt services. Onthe basis o f these reports, IDMcarries out regular reconciliation o f outstanding payments. 6.7 Parliament does not play any significant role inthe debt contracting process. The IDMis currently making some efforts to increase theNational Assembly's oversightrole inthe contracting ofdebtbythe Minister. Analysis of theProblem 6.8 Given the extent o f government's reliance on borrowing as a major source o f funding government programs and the impacts o f debts on macroeconomic stability and national development, a higher level attention needs to be paid to debt management than currently. The following are some notable weaknesses in the debt management arrangements. 6.9 Lack o f a Debt Policy: The Government o f Zambia does not have a domestic or external debt policy that could provides a framework for efficient and effective debt , contacting and repayment. The absence o f an overall strategic framework for debt management that links the volume and nature o f debts to certain macroeconomic indicators makes a nonsense o f the current procedures and institutional arrangements for debt management, which are inthemselves generally inadequate -see below. Also, there are no guidelines on debt management. This situation may have contributed to the unsustainable debt scenario inwhich Zambia has found itself. 6.10 Debt oversight: The procedures for debt oversight by the National Assembly are not defined in the Act. The power to contract debt is concentrated in one person, the Minister o f Finance. The Minister is authorized by a blanket resolution o f the National Assembly to borrow. The only restriction are the limits on how much the Minister can borrow in any one year, i.e. K20 trillion for external loans and K5 trillion for local loans -itisworthnotingthatthedebtlimitsarenotlinkedtotherelevanteconomicindicators. Although, these amounts are too big and highly unsustainable for the Country and therefore require greater scrutiny, the National Assembly is not involved inproviding the necessary oversight. This is particularly so because Parliament does not receive any either pre or ex post reports on new government debts. 6.11 Monitorinn and Reporting: The Act does not prescribe the monitoring and reporting arrangements for the national debt. The Act i s silent on whom the Minister should report to, what information should be reported, and the frequency o f the reports. At present only ad hoc reports are produced and at the initiative o f the institutions involved indebt management. 6.12 Staffing: None o f the three units under IDM, i.e. external debt, domestic debt and government investment units i s adequately staffed. At the moment, out of an 54 establishment o f 10, 9 and 9 respectively for each o f the units, only 2 positions in each are filled. 6.13 Information technolopy: Under the existing arrangements there are three data bases for government debts, two at MFNP (IDM and Accountant General) and one at BOZ. There are two databases in MFNP because the software currently used by IDM cannot capture certain categories o f domestic debt. This has a consequence for comprehensiveness, accuracy and reliability o f the information on the total public debt. In the absence o f complete information on government debts inthe IDM,it is impossible for the department to planadequately for debt repayments and rescheduling. 6.14 The impact of SOE restructuring. Records for certain types o f debt could not be found after ZIMCO and INDECO - the holding companies for public enterprises - were liquidated and their records transferred to the MFNP and Zambia Privatisation Agency (ZPA). In short, some records on government debt were lost. The main components o f domestic debt affected by this are domestic arrears, unremitted pension contributions, government guarantees, unremitted fuel levy, unpaid retrenchment payments, and Local Authorities government debt. Consequently, Zambia's total domestic debt is not known. 6.15 Unsustainable Debt Service: The Government has a high level debt stock which has resulted in huge amounts for debt service on both domestic and external debt - the debt level appears unsustainable. The situation i s further compounded by the poor government accounting systems, which fail to capture all liabilities like domestic arrears and the resultant interest. FutureAction Plans 6.16 The unsustainable level o f government debt and the highlikelihood o f contracting new debt require that the government takes some steps to improve its public debt management practices. They include the following: 6.17 The Government o f Zambia should develop a debt policy. The policy should address the volume and nature o f debts to be contracted and include debt limits that are linked to relevant macroeconomic indicators. The policy should also be accompanied with guidelines that provide adequate guidance to public officials for efficient and effective debt contracting and repayment. 6.18 The Loans and Guarantees (Authorization) Act should be revised to incorporate the salient features o f a government debt policy. Also, the Act should provide for adequate parliamentary oversight indebt management. It should prescribe the monitoring and reporting arrangements for the national debt. 6.19 The institutional arrangement for debt management should be strengthened. This would involve increasing the staff strength o f IDM and equipping it to fully perform a leadrole inthe management of all public debt. 6.20 The information technology for debt management should be overhauled so the databases inMFNP are consolidated into one database located in IDM, and the database inBoZ shouldbe linkedto IDMso allpublic debts canbe accessed from IDM. 55 7. ACCOUNTABILITY FRAMEWORK FOR QUASI- PUBLIC SECTOR ENTITIES 7.1 Inthis chapter, the accountability arrangements for extra budgetary funds, state- owned enterprises and non-government organizations (NGOs) are discussed. First, the extra budgetary funds are identified and their accountability regime is presented. Next, the govemance arrangements for SOEs are discussed. Lastly, the accountability regimes for a sample o fNGOs are presented. Extra Budgetary Funds 7.11 The Government o f Zambia has established several funds. Funds can be established in place o f organizations units and maintained within the budget. Alternatively, funds can be established outside the budget, i.e. extra-budgetary funds, in which case the inflows into the fund is not reflected in the government budget and the expenditures made from the fund are not incorporated into the Government Appropriation Accounts. 7.2 The Zambian government has established a number o f funds that are reflected in the budget and whose expenditures are reported in the Government annual accounts. Table 12 lists these budgetary funds and the ministries that are responsible for managing them. Incontrast, two o f the major sources o f extra-budgetary expenditures are the Road Fundandthe PensionFund. Table 12: Listof BudgetaryFunds Ministry/Department Fund Energy& Water Development Rural Electrification Fund Home Affairs Prisons Welfare Fund Loans & Investments - Local Africa HousingFund Government & Housing Loans & Investments - Finance & EnterpriseDevelopment Fund National Planning Zambia Social Investment Fund Local Government & Housing Gwembe Special Fund Local Authority Superannuation Fund DistrictInnovation Fund National Water and Sanitation Council Trust Fund Constituency Development Fund Community Dev. and Social Services Africa Housing Fund Health Housing Development Fund Sports, Youth and Child Dev. Youth Development Fund Copperbelt Province DagHammarskjold Trust Fund TheRoads Fund 7.3 The Road Fundwas established by an Act o f Parliament. Although owned by the government, it i s essentially a private sector drivenentity with public sector participation. It is governed by a Board comprised o f 4 people appointed by the government from the 56 public service and 7 people from the private sector. The secretary to the Board as well as other key staff are appointed from the labour market on a competitive basis. 7.4 The Fundreceives its regular income from two main sources: the fuel levy and grants from donors. Its quarterly accounts, which are normally available before the end o f the month following the quarter, are audited and published on the web. The annual reports, including audited annual financial statements, are published inprinted form and also on the web. The external auditor is appointed by the AG from the private sector. 7.5 The Fund i s accountable to Parliament through its Board, and it presents its annual reports to Parliament. Additionally, annual workshops are organized to inform stakeholders o fthe programs and performance o fthe Fund. Analysis of the Problem 7.6 This is a well-performing organization in terms o f financial accountability. However, extra budgetary funds are usually fraught with problems and this fund is not an exception. Statutorily, the levy funds collected by the government through its various agents are earmarked for the Fund. However, some o f the levies have not been remitted to the Fund. According to a study conductedby consultants hired by the Fund, the MFNP currently owes the Fund the sum o f 86 billion Kwacha in fuel levy collections. A basic premise for creation o f funds is that the resources o f a government are not "fungible" but this is faulty -resources are fungible. The existence o f multiple funds ina government creates unnecessarily complex accounting arrangements, and the arrangements are costly to maintain andmay not be very transparent. Future Action Plan 7.7 The Road Fund should be included in the annual government budget as other funds, i.e. not treated as an extra budgetary fund. This would involve transparently stating in the budget the amount of revenues to be collected from Fuel Levies and showing a corresponding amount as the appropriated expenditure for the Fund. The arrangements for collecting and transmitting the fuel levy should then be overhauled to ensure that the fuel levies are remittedto the Fundon a timely basis. Pension Funds 7.8 The Public Service Pensions Fund (PSPF) has an accrued-to-date liability which stood at nearly one trillion kwacha as o f end December 1999. Its financial problems are attributable to a distorted benefit formula, the Government's failure to pay its statutory contributions to the Fund, the lack o f a separation between employment-related benefits and pension benefits, and the lack o f administrative and computing facilities. PSPF i s in serious financial difficulties and cannot continue in its present form. While some short- term improvements are possible, they cannot possibly bring about a satisfactory long- term solution. Under the FSC, the Bank has taken aggressive steps to assist the Government indeveloping realistic options for restoring the PSPF to actuarial soundness. Yet, due to a provision in the Constitution that permits pensioners to lock in on the old plan, implementing changes to the PSPF i s only feasible through amendments to the Constitution. 57 7.9 Incontrast to the PSPF, Zambia's other public pension scheme is operating very well. The Government established a new pension plan in February 2001, the National Pension Scheme (NPS), where contributions are based on actuarially defined benefits. All civil servants hiredsince that date automaticallyjoin the NPS. The National Pension Scheme Authority ("SA), the administering agency for the scheme, has implemented major reforms to improve its operational efficiency, including retrenchment o f 800 out o f 1050 staff and replacing previously manual operations with computerized ones. The success o f this is reflected inthe growth inNPS assets - from only K 31billion to K 109 billion in2001 - and a slashing o f administrative costs by over one third. The NPS is the successor to the Zambia National Provident Fund (ZNPF), which had been the largest pension fund in the country, up until 2000 when it was dissolved. Over the years preceding its collapse, the Government had frequently used ZNPF funds for financing budget deficits and failing parastatals. State-OwnedEnterprises 7.10 In1992, when the Government ofZambia began its program ofprivatization and parastatal reform there were 280 State-Owned Enterprises (SOEs) inits portfolio. By the end o f 2002, there were only about two dozen remaining. Yet, even this number i s likely to fall inthe near future because the Zambia Privatization Agency (ZPA) is inthe process o f privatizing some o f the enterprises and restructuring others to prepare them for privatization. 7.11 The Government's equity stakes in SOEs are held on its behalf by the MFNP, while the relevant line ministries are responsible for supervising the SOEs. Each SOE is governed by a Board o f Directors whose members are appointed by the Government. Often, the members o f the Board include representatives o f the responsible line ministry and MFNP, with the former being the Chair. 7.12 The enabling Act for an SOE normally contains provisions for the preparation o f annual financial statements by the SOE and for the external audit o f the statements by an independentauditor appointed by its Board. Also, the Auditor-General is empowered by Statutes to audit all SOEs. The annual financial statements, which are prepared in accordance with (Zambia GAAP), together with the auditors' report are normally laid before the Board. After consideration by the Board, the statements and reports are forwarded to the responsible line minister for presentation to Parliament's Committee o f PublicAccounts. Analysis of theProblems 7.13 Originally, two companies (Le. ZMCO and INDCO) were incorporated by the government to manage the SOEs. When these companies were dissolved and ZPA created to privatize some SOEs and restructure others for privatization, there was a vacuum inthe financial supervision o f the SOEs. Currently, the oversight functions over the companies are somehow spread thinly. The oversight is provided by responsible ministry, MFNP andZPA. 7.14 There are no clear financial performance targets for some SOEs. And concerning SOEs for which performance targets have been set, the targets contain conflicting 58 political and commercial performance indicators. For instance, performance contracts were tried in the electricity sector in the past, but it did not work due to conflicting performance objectives. Also, the Government used to set a target o f contribution to be made by each SOE to the budget but this is no longer the practice. 7.15 Many o f the SOEs (e.g. Nitrogen Chemicals, ) are not profitable, and its clear that they cannot be profitable until political interferences, among others, are eliminated (by way o f privatization). Even Zambia National Commercial Bank (ZANACO), which operates ina competitive banking environment, has not been profitable for a long time 7.16 Currently, the government is supporting the operational existence o f some o f the SOEs with the exception o f SOEs like ZESCO. IDMestimated the level o f government subventiodcapitalization in the agency in 2002 as amounting to about 1percent o f the total government budget. 7.17 Most o f the SOEs (e.g. ZESCO, Nitrogen Chemicals) claim that the government or its agencies owes them large sums o f money. Conversely, the SOEs are generally not good in debt collections. ZESCO, Nitrogen Chemicals and the Food Reserve Agency (FRA) are owed several billions o f Kwacha. Most o f the obstacles to efficient debt collection is government ownership. For example, ZANACO has had to book a lot o f bad debts as government ownership did not allow it to appoint receivers quickly to liquidate organizations that fail to meet their debt obligations when due. 7.18 Government ought to set and approve borrowing limits for SOEs but this has not , be done in the past ten years. The consequence has been the existence o f large debts which have been passed on to the government inmany cases. The value o f these debts is unknown as MFNP does not currently have up to date statistics on the borrowings o f SOEs. Furthermore, the government has provided loanguarantees to these companies, the estimates o fwhich are not readily available. 7.19 The audit by the AG i s normally a transaction audit and does not cover the financial statements o f SOEs. Besides, it does not address the issues o f financial performance, and are therefore inadequate given the loose control over the enterprises' financial performance. Recommended Future Action Plan 7.20 Efforts to privatize the companies already earmarked for privatization should be increased to ensure that the target companies are privatized soon. Given the poor financial performance o f most o f the companies and the government' financial situation, it is not in the economic o f interest o f the government to continue maintaining a controlling interest inthem. Besides, the debt collection and other performance problems o f the companies are best addressed by transferring them to private sector partnership. 7.21 Inthe meantime, Le., while the companies are inthe process o fbeing privatized, there should be an arrangement for ensuring that the companies continue to face up to a certain financial performance target. This requires that the present proliferation of oversight over the companies be addressed. The ZPA should have the sole responsibility o f settingperformance targets for the companies, and for ensuringthat they meet the set targets. 59 NGOs 7.22 Non-Governmental Organisations (NGO's) are private organisations registered under the Society's Act o f the laws o f Zambia. Their primary objective is advocacy and activism. They are non-governmental entities that receive funds (grants and donations) from various sources, including donors and philanthropic organizations, to carry out diverse activities and programmes that are aimed at among others, alleviating the burden on the disadvantaged groups insociety and also fostering socio-economic development in the communities. Ideally they are supposed to complement the efforts of Government. 7.23 The NGO's governance arrangements usually include a Board (e.g. a Board o f trustees) and a Director or Chairperson who, with the assistance o f some staff, is responsible for the day to day administration o f the organization. The NGOs are accountable to donodfinanciers at various stages o f their cycle o f activities, e.g. budgeting and reporting 7.24 The NGOs normally present their budgets or project proposals to donors for consideration after approval by the board. The budgeting process is expenditure-oriented. Generally, the NGOs prepare annual financial statements which are audited by external auditors and submitted to donors/financiers. Analysis of theproblems 7.25 The financial management arrangements in the NGOs are generally not robust. For example, none o f the NGOs that were reviewed has an internal audit arrangement, which is a core control function. One o f the NGOs has a manual o f finance and administration while the other does not. Considering the amount o f resources that are handled by the two NGOs that were examined, the FM arrangements should have been elaborate to ensure proper financial accountability. 7.26 Delays were observed in the disbursement o f grants to beneficiaries. This is largely attributable to the absence o f an appropriate financial procedures manual that clearly defines the procedures for funds disbursement. FutureAction Plans 7.27 The NGOs need to put inplace adequate financial management arrangements that are commensurate with their size and the complexities o f their activities. The following are central to the arrangements: An adequate financial procedures manual that covers all aspects o f the financial operation o f the organization and its accountability obligations. Competent staff to perform the various financial management functions. Compliance with the manual. Internal audit should be a core part ofthe FMarrangements - it i s required to improve the reliability o f procedures and to ensure that the institution obtains value for money. 60 8. FINANCIALACCOUNTABILITYARRANGEMENTS FOR LOCALGOVERNMENTS 8.1 This chapter deals with financial management at the lower level o f government, i.e. local authorities. Itbegins with an overview o f the legal and regulatory framework for local authorities. This is followed by analyses o f the various aspects o f financial management arrangements in local authorities, including budgeting, budget execution, reporting and auditing, asset management, and procurement. The chapter concludes with a matrix o f recommended actions to be implemented by local authorities in the short term, andmedium to long term. Legal and regulatory framework 8.2 There is a single-tier system of Local Govemment inZambia comprising 3 types o f councils- City, Municipal, and District. There are a total of 72 local councils in Zambia. They are responsible for the provision of local services within their boundaries primarily because o f the central government's inability to attend to all aspects o f govemment at a local level. Their functions and powers are set out in the 1991 Local govemment Act, Section 61. Revenues come in the form o f subventions from the Ministry o f Local Government and Housing, as well as through direct receipts arising from property taxes, local levies andlicensing fees. 8.3 The provisions of the Local Government Act (CAP 281 o f the laws o f Zambia) o f 1991govern the financial management arrangements inlocal authorities inZambia. The council management reports to their elected councils. A committee o f the council, i.e. the Finance and General Purposes Committee (FGPC), plays a crucial role in directing and managing the financial affairs o f the councils. The councils are also answerable to the Minister of Local Govemment andHousing on financial matters, amongst other things. Budgeting and Budget Execution 8.4 Local authorities are required to prepare and submit annual budgets by 60 days before year-end to the Minister o f Local Government and Housing for final approval. The Ministeronly approves balancedbudgets. 8.5 Normally, the MLGHissues a memo to all councils each year indicating the dates for completing the various budgetary activities. Upon receipt o f the memo from the MLGH, the Director of Finance issues an internal memo with guidelines to all heads of departments advising them to commence budget preparation. 8.6 Local authorities in Zambia generate revenue from both internal and external sources as outlined earlier. Internal sources consist generally o f direct receipts arising from property taxes, local levies and user fees for goods and services provided by the council. External sources consist o f special purpose and discretionary grants from central government through the MLGH, donors and borrowings from lending institutions particularly for commercial purposes. 61 8.7 Regarding expenditure, local authorities' budget has the following heads; Employees, Premises, Supplies and Services, Transport and Plant, Establishment Expenses, Miscellaneous Expenses, Debt Charges, Revenue contribution to capital outlay and Land Fund. 8.8 Expenditures are incurred on the basis o f cash availability. A large proportion o f the expenditure o f some local authorities i s on staff emoluments. Due to the low revenue collections, some o f the councils visited are presently operating on a `hand to mouth' basis and unable to purchase adequate critical supplies such as stationery. Analysis of theProblems 8.9 With regard to revenue management, there is a potential risk in regard to funds arisingfrom the lack o f accurate financial figures that are not readily available especially for local authorities. This i s due to the fact that accounts operations are manual, and it is very difficult to extract or retrieve data on a timely basis. The arbitrary transfer o f funds from one account to another under the pretext o f borrowings that are never reimbursed pose another risk to funds. The Chairman o f the Finance and General Purposes Committee ratifies the `borrowings' at the end o f the year. Apart from the issue o f borrowings, other issues highlighted inthe parliamentary committee on local government include: irregular expenditure, misapplication o f funds, depletion o f funds to mention but a few. This is an indication that financial controls are weak. 8.10 In the area of budgeting, local authorities have had problems in developing feasible budgets. The budgets are based on incremental changes and do not isolate obsolete expenditure. Budgets are approved without due consideration to the actual challenges on revenue collection and the underlyingimpediments. 8.11 Local authorities need to contain their costs to minimal levels in line with their revenue expectations. The Minister of Local Government and Housing always insists on a balanced budget from the councils but does not insist on an achievable budget. Balancing the budget does not in itself mean an achievable budget. For instance, none o f the three Local authorities visited had exceeded 60 percent on revenue collection. On the other hand, they have accumulated a huge bill o f expenditure arrears especially for salaries andretrenchment benefits. 8.12 On expenditure control, the budgets are often not adhered to, and variances are too high. 8.13 Inpractice, the councils do not distinguishbetween the balances inthe different funds as i s evidenced by the non availability o f funds to service plots invarious parts o f the city. Often funds are borrowed from other funds for other uses other than the designated ones and are never reimbursed. FinancialReportingandAuditing 8.14 The Local Government Act 1991 demands that councils submit monthly financial statements to the Minister o f Local Government and Housing through the Provincial Local Government Officer. 62 8.15 Regarding audits, there are two major audits. These are Internal audit by the council auditor and External audits conducted by the MLGHauditor and a firm o f Public Accountants. Analysis of the Problem 8.16 Not all the local authorities summit their financial statements to the minister on a monthly basis. Lusaka City Council (LCC), for instance, submits its reports on a quarterly basis. Also, audited annual financial statements have been in arrears in some local authorities. 8.17 LCC has a reasonably strong audit system while those at Kabwe and Gwembe are weak. Kabwe Municipal Council (KMC) has not had any audits done inthe last 10 years. This lack o f audit has resulted inpoor budgeting due to the lack o f confirmed historical data to support any estimates. Remedial measures cannot be taken, as they are perceived too late for any meaningful consideration. In many cases ening officers have even left employment at the time errors are detected. The MLGH is overwhelmed by the amount o f work in auditing local authorities due to lack o f manpower. In both Councils and MLGHthe decline incompetitiveness of the salaries and wages has adversely affected the quality o f staff that local authorities andMLGHcan attract inthe audit section. High staff turnover has tended to weaken continuity o fthe systems being introduced. 8.18 Councillors generally have little or no training or experience in municipal financial management as a result they are unable to scrutinise and control council expenditure (PFGP). Procurement 8.19 Inlocalauthorities procurementprocedures are guidedbyfinancial regulation 133 o f the Local Government Act. Procurement and Supplies department normally handles all procurement o f goods and services ina local authority. Analysis of the Problems 8.20 Nevertheless, in the absence o f any model standing orders, procurements are mainly determined by the value o f goods and services to be procured. Councils have different thresholds at which tender or shopping i s done. The MLGH i s supposed to determine the standard model standing orders from which councils derive their procedures. This however is not done. The Consultant was unable to access any such document. 8.21 Lusaka City Council has an elaborate procurement procedure while Kabwe Municipal Council and Gwembe District Council had none being implemented. None o f the councils visited insisted on suppliers being registered for VAT purposes, nor did they insist on VAT invoices for any purchases. As a result, they have a highVAT liability and cannot claim input VAT from the Zambia Revenue Authority. 8.22 Due to poor liquidity positions o f the Councils, all local authorities visited are unable to make bulk purchases and hence often procure goods at very prohibitiveprices. Councils often buy on a hand-to-mouth basis and cannot take advantage o f the economies 63 o f scale. This could however change ifreleases o f grants from Government and collection of revenue is improved to raise the levels o f disposable income. Councils are even unable to plan for their purchases due to uncertainties inreceipts o f revenue. Stocktaking is often done erratically, sometimes annually due to empty stores. Asset Management 8.23 The overall responsibility for Asset Management is with the Finance and General Purpose (F&GP) Committee ably supported by the Chief Accountant. Regarding asset disposal, User departments upon finding that the assets are either in excess or are obsolete in any way normally initiate the process for disposal o f assets. The requests for approval to dispose o f any assets are made to the Finance and General Purpose (F&GP) Committee o f the Council. The F&GP then recommends the mode o f sale according to the assets being proposed for disposal. Management o f assets i s an important aspect o f financial management. The assets form a considerable part o f any balance sheet. Therefore an updated and comprehensive asset register is a fundamental achievement in financial management. Analysisof theProblems 8.24 Inall local authorities, asset management has been neglected andnot considered essential in financial management. Coding o f assets i s not complete while reconciliation of asset registers to the general ledger is irregularly done. 8.25 All local authorities consider insurance o f buildings and chattels not essential, invariably because of the liquidity position they are facing. It was discovered that Councils have only insuredmotor vehicles and plant. The proceeds from the disposal o f assets are mainly used to clear outstanding salary arrears and not for service provision or reinvestment. 8.26 Procedures on asset disposal are clear and straightforward. However, only L C C had undertaken disposal o f assets in the recent past. We noted that the disposal o f residential properties were done with political interference and were extremely irregular with the RepublicanPresident thendictating the values for residential properties. 64 Future Action Plans 8.27 The future actionplans are presented inTable 13. Table 13: Programof PriorityActions ~~ ~ Area Objective Issue RecommendedAction Responsibility Revenue Revenue Low revenue Set monthly revenue collection targets Director of Finance/ Management Enhancement& collections Treasurer bankingof Set up RevenueMonitoring Team possibly as a Sub-committee of Director of Finance/ funds FGPC. Treasurer Director of Finance/ Introducerevenue control measures at pay-points. For instance Treasurer introduce a register for original receipts at the revenue halls which i s compared with the cash book on a daily basis Director of Finance/ Treasurer Monthly bank reconciliation statements shouldbe reviewedby Director of Finance/ RevenueMonitoring Team Treasurer Raising ofreconnection charges and Introduction of water kiosks Director of Finance/ leased to private companies Treasurer Introduceby-laws to charge a minimum flat fee inlieu ofrates for properties not yet on valuation roll BorrowindTran Ensurethatborrowed funds arereimbursed promptly. sfer of funds from one account to another Budget Improve proper Reliability & Computerize budgetpreparationprocess Director of Finance/ Preparation planning & predictability in Treasurer forecasting budgets Ensurethat budgetpreparation isparticipatory Review costs centres and assignresponsibility of identifying redundant costs. Budget Improve Revenue & Introduce an integrated Management Information System (MIS) to Director of Finance/ MonitoringEx reporting expenditures linkbudgetto all council operations Treasurer penditure systems, not captured Control tracking & properly & Preparequarterly plans for revenue mobilization inline with Director of Finance/ control o f timely. billing systems. Treasurer expenditures Director of Finance/ Weak Ensurethat expenditures do not exceed approved amounts by Treasurer expenditure introduction of cost control measures especially on stationery and controls reduction incommitteemeetings. Noevidence of remedial actions on budget deviations. Audit Improvement of Intemal Audits Ensure that councils management accounts are updated Director of Finance/ intemal & not up to date Treasurer extemal controls Procurement Cost control & Lack of Local authorities should procure goods from VAT registered Director of Finance/ & Stores accountability Procurement suppliers in order to enable them claim input VAT exemptions. Treasurer Procedures Introduce coding systems and develop Procurement & Stores Director of Finance/ Shortage of standing orders which should be adhered to at all times. Treasurer qualified staff especially in Update procurement standing orders & set standardthresholds for MLGH district purchases. councils. 65 Area IObjective Issue RecommendedAction Responsibility Financial Buildfinancial Low levels of Arrange for capacity buildingprogrammesfor staff and Administration Management management skills in councillors Directorate capacity financial management Arrange for workshops on review of financial standing orders Administration amongst staff Directorate and councilors. Preparehandbook on financial standing orders for use incouncils. Administration Inability to Developa code of conduct for councilors. Directorate prepare management Administration accounts on a Directorate timely basis. General Increase Late Preparemonthly financial management reports Director o f Finance/ Management efficiency in preparation o f Treasurer managementof reports councils 66