Introduction The 13 th NISPAcee Annual Conference Moscow, Russia, May 19-21, 2005 Working Group on Public Sector Finance and Accounting LOCAL GOVERNMENT BUDGETING IN ARMENIA David Tumanyan 1 In accordance with the European Charter of Local Self-government, an important precondition of establishment of local self-government is the securing its financial sustainability. This is the fundamental issue encountered by practically all the countries in transition. It exists also in Armenia. The financial basis of ensuring operation of local self-governments is the community budget. Community budget should contain types of revenues sufficient for fulfillment of the prescribed powers. The budget should provide for current activities of the local governments and community development. It is not less important the issue of budgeting. Organization of budgeting in transition countries shows democratization degree of the society in general and, in particularly, in local level. The experience of local self-government in Armenia shows that communities are quite weak in financial terms. Further development of local self-government system would be impossible without strengthening its financial sustainability. There is a need to exercise systemic znd complex approaches to this issue. It envisages attribution of new types of revenues to the community budgets, implementation of measures aimed at enhancing collection of existing revenues, improvement of redistribution mechanisms applicable under the state budget with regard to communities, improvement and development of budgeting process and so on. Theory mentions three major components in budgeting process: planning, implementation and monitoring, audit and evaluation. For purposes of planning budgets should answer questions about what can we do and what shall we do in the budgetary year. For purposes of implementation accounting systems help tell what is happening, what are expenses. Evaluation is necessary to know about what happened and to what extent this happened in an economic, efficient and effective way. The main aim of this paper is to analyze local government budgeting in Armenia in above-mentioned context, clarify disadvantages and provide corresponding recommendations. The paper is devoted to clarification of the following issues: government structure, the place and role of community budgets in overall system of public spending; budgeting as timing and time scale, policy-making and decision-making, implementation, control and audit; internal reallocation of appropriations; budgeting techniques; analysis of community budgets; directions to strengthen fiscal capacities of community, relevant resources and mechanisms. 1 Director, "Hamaink" Public Administration Institute, Yerevan, Armenia 1
The Political System and Government Structure Like all the other post-soviet countries, Armenia too started to build a new society following the declaration of independence (in 1991). One of the goals of building a state was the formation of a democratic state. The development of democratic society is a lengthy process, rather than an overnight action. This requires the implementation of fundamental actions and the creation of adequate mechanisms. Democracy as a whole in the country much depends on how well it is achieved at the level of local selfgovernment. Armenia is a unitary and indivisible state, which is reflected in the administrative structure. The Armenian government has a two-tier structure: central government and local governments, with most administrative powers exercised by the central government. Marzer, the regional units, are subdivisions of the state administration rather than a separate tier of the public administration system, as they lack elected officials or bodies and budgets. In Armenia, local self-governments are perceived as separate tier of government. Local self-governments make policy and implement their powers independent from the Central Government. The new system of local self-government in Armenia emerged as a result of decentralizing governance. The process of decentralization is closely connected with the establishment of local democracy. The legal grounds of decentralization were the Constitution of Armenia adopted in a referendum on July 5 of 1995, the Law on Local Self-Government (1996), the Law on Elections to Local Self-Government Bodies (1996), and other laws and regulations. In the period from 1996 to 1999, generally comprehensive legislation was created for the development of a real local selfgovernment system. The apparently broad powers assigned to local governments are in fact quite limited. The Law on Local Self-government states, that local self-government is the right and capacity of local self-government bodies, acting at their own initiative, to dispose of community property and to resolve issues of community importance with a view to improving the well-being of the population. This article is taken directly from European Charter on Local Self-government. However, contradictions in legislation and inadequate financial support prevent local self-government bodies from enjoying full autonomy. Furthermore, the state retains sweeping powers in the sphere of local self-government, such as the ability to determine community property. In Armenia, local self-government is regulated by laws, while central and regional government are regulated by presidential decrees. Relations between central and local authorities are regulated by the law. According to the current legislation, the Central Government may remove a head of a community from office upon the request of the marzpet or the Mayor of Yerevan (the Mayor is appointed by the President), in cases 2
when the community has not met its budgetary responsibilities or fulfilled powers delegated by the state. The prime minister may then appoint a city or district head, or the marzpet an interim village head, until the next elections are held. The new judicial system is still under development. Local self-government bodies may appeal against decisions or actions of state authorities, officials or citizens that infringe upon community rights. In a few cases, mayors have successfully defended their rights in court. The marzpet may likewise appeal against decisions or actions of local selfgovernment bodies in court, but this right is not generally exercised. Citizens and local government officials continue to perceive the government system as being centralized and authoritarian rather than a decentralized democracy with powers to effect change and deliver public services. The marzpet often uses administrative methods of control in its relations with local self-government bodies. In other cases, relations between central and local governments may assume the nature of a partnership. Provided that local governments have the necessary financial resources, they may choose to support services, which are responsibilities of regional governors, such as health care, primary, secondary and higher education, social services. Despite their limited financial capacity, local governments do try to exercise their voluntary powers. One of the crucial preconditions for establishment of local self-government is the fiscal decentralization. Local self-governments as a separate tier of government were legislatively granted the power to form their budgets and independently manage their financial resources. They will approve municipal policy and perform it through budget. The main document, which reflects municipal policy is three-year development program. Head of the community develops and submits it for the approval of the newly elected community council. In reality the fiscal autonomy of communities is not high connected with the unsatisfactory level of financial resources. The Budgetary System of Armenia During public sector reforms the budgetary system of the country has been restructured and community budgets became indivisible constituents of the financial and particularly budget system of the Republic of Armenia. Budgetary system plays an important role in the unified financial system of the country. The budgetary system is stipulated and established under the Law on Budgetary System of the Republic of Armenia, which regulates budget process in the country. This law was adopted in 1997 and extensively modified in the aftermath. The budgetary system of Armenia includes: The state budget, as the first level, Community budgets, as the second level. The budget of the mandatory social insurance is stipulated in the Law on Budgetary System in a separate Chapter as consequence of the recent amendment therein. 3
The budgetary system of Armenia is based on general principles of a unified budgetary system, distinction between the revenues and expenditures of the budgets of various levels, autonomy of the budgets, completeness and balance of the revenues and expenditures, efficiency of utilization of budget resources, publicity and targeted nature of the budget, as well as realism. The state budget, community budgets and the budget of mandatory social insurance constitute the consolidated budget of the Republic of Armenia, the revenues and expenditures of which reflect the aggregate inflows and outflows of the constituting components. Budgets of the two levels (state and community) are interrelated, and one of the preconditions for efficient management thereof is the clear regulation of their interrelations. The Law on Budgetary System defines regulation of budget relations as the activities of the duly authorized institutions within the legitimate powers to: structure the budgetary system, define its structure, distribute revenues among the budgets, implement budgets, report and supervise budget processes, provide budget classification system, introduce amendments and/or additions in the budgets. Comparability of the budgets of two levels is ensured through budget classification system, which is the grouping (categorizing) of revenues and expenditures by relevant types and directions with the objective to compile and execute budgets. The regulation of budget interrelations requires unified budget classification system, categorizing revenues and expenditures of the state and community budgets by types and directions. Types and structure of budget classification are defined in the Law on Budgetary System of Armenia, and application of these in budget planning and execution is compulsory for all state and local self-governments. One of the important functions of regulation of budget relations is the distribution of revenues among various budgets. Revenues of state and community budgets include revenues, credit and other borrowed resources envisaged by the legislation. These revenues constitute financial basis of the budgets and enable addressing state and community problems to a certain degree and within the relevant prescribed powers. The procedures for allocating relevant financial resources, ensuring financial autonomy with the objective to implement statutory powers, identifying the list of revenues and expenditures for conducting independent policies are stipulated in the law, separately for administrative and capital budgets. An important role in regulation of interrelations between state and community budgets belongs to subsidies apportioned to community budgets from the state budget, which are classified into following groups distinct in the purposes of allocation: Financial equalization subsidies, allocated to community budgets under financial equalization principle to cover recurrent costs. These subsidies are provided free and for good and may not be mandatory in terms of spending directions (they are discretionary). 4
Other subsidies, allocated to support funding of current expenditures of community budgets, untied to any community budget program, free and for good. Subventions, allocated for funding earmarked, targeted programs of the communities. Community budgets may also receive budget credits and loans. Budget credits are earmarked for covering temporary shortage of community budget revenues and thus finance relevant expenditures of their administrative components. Budget loans are resources necessary to carry out investments in infrastructure development in the communities, attracted on contractual basis or through issue of community bonds. Fiscal functions under the state and community budgets are fulfilled through treasury system of Armenia. The treasury system operates as a subdivision of the Ministry of Finance and Economy of Armenia with its territorial offices in the regions and Yerevan. The treasury system operates on the basis of single unified account enabling general surveillance over institutions and agencies funded from the state and community budgets. Treasury system serves as the agent for acceptance of reports and statements and their summarization, as well as a tool for implementing single financial policies in the Republic. It also supplies communities` financial streams and accounts, organizes implementation of community budgets and provides community budgets implementation methodological instructions. Apart from these advantages this system deprives communities of effectiveness and autonomy often giving rise to irrelevant intervention in financial operations of the communities. Local Budgeting The budget process for a given fiscal year lasts for about two years, beginning in June of the previous year and ending upon approval of the budget execution report in May of the following year. The head of the community, with the assistance of local administration staff, drafts the local budget on the basis of the annual objectives stated in the community s three-year development plan. Unfortunately, the local budget process does not always follow the given schedule due to delays in the adoption of the state budget, which contains necessary information on community subsidies. Community budget planning begins by the decision of the head of community and ends by the budget approval of community council. Important tasks in this stage are: preparation of timetable, distribution of responsibilities between government divisions, preparation of methodical materials, assignment of budget revenues and expenditures, organization of meetings and discussions, public hearings, etc. These are not in place in many rural communities. The budget is planned by the finance officer in them. Even more, governor`s office plans the budget for many small communities. Revenue assignment is a key issue for preparation of realistic budget. But it is difficult to plan correctly when local governments don't have tax bases. Only from 2003 transfer of property tax databases to local governments have begun. This process continues now. 5
Land tax databases will be transferred to local governments also. Community budget will be serious document after these changes. For planning the budget information about amount of state subsidies is very important. Central government, often, don't provide this information in time. This is a reason that community budgets, as a rule, are adopted after the approval of state budget. The community head must submit the following documentation to community council prior to adoption of the budget: the draft of the community budget, broken down into separate components, and detailed revenues and expenditures in accordance with defined operational and economic classifications; a report from the community head on the major directions of community development for the fiscal year; a supporting statement for the required funds and proposed appropriations for implementing special-purpose programs financed from the community budget; the debt structure, accompanied by a comparative analysis of its indicators, actual previous year indicators and estimated current year indicators; a size of deficit (surplus), a sources of its funding; information on transfers from the state budget, as stipulated by law; information on the total number of full-time local positions and total payments for wages; a comparative analysis with similar figures from the previous and current years and data on actual number of employees of budgetary institutions financed from the community budget. The head of a community may submit the draft budget to community council before or after approval of the state budget. It is then adopted by the community council, with any necessary amendments or additions initiated by either the community head or community council. The community head is responsible for the implementation of the local budget and local authorities exercise the full right to manage own financial resources. The official fiscal year begins on 1 January and ends on 31 December. Community budgets, as a rule, are formed for a year. The local self-government system in Armenia has short history and long term budgeting is not used yet. The important guarantee of communities` sustainable and regular activity is the provision of their budgets stability. The stability of communities` budgets in Armenia depends on forecasting of budget revenues and their invariability during the budget year, as well as other circumstances. The forecasting of community budget tax revenues - land tax and property tax - is rather high. According to the law on Taxes changes of tax rates, their definition or abolishment should be done only at the beginning of fiscal year and according to the law on Local Duties and Fees the rates of duties and fees should not be changed during the current year, which are very important. The rates of above mentioned taxes, duties and fees almost practically haven`t been changed recently. Besides these 6
positive aspects negative ones also exist. Now all communities receive equalization subsidies from the state budget, but the state budget, as a rule, is adopted at the end of fiscal year. Those communities, which adopt their budgets before the adoption of state budget, have to do some changes after the adoption of the state budget. Destabilizing factor is also the definition of shares of local budgets from income tax, profit tax and environmental fees according to the Law on Annual State Budget. Now community budgets are mainly changed during the fiscal year because of incorrect planning. The legislation requires preparation of the program budget in the community level. The annual budget must be developed on the basis of community three-year development program. But this requirement mainly is not implemented in reality. It is connected with some reasons. There are many small, without any capacities communities, which don`t have qualified staff. There is unstable staff of communities. The law on civil service in local level has been adopted at the end of 2004. It is not in force yet. Communities servants in-service training is not on regular bases. Line-item format budgeting is mainly used in the communities now. Some international organizations implement projects on budgeting. Now UNDP implements Performance Budgeting Project. The overall aim of the Project is to support the introduction of performance budgeting (PB) into planning, implementing, monitoring and evaluating processes at the community level. The current preparatory phase includes the experimental conversion of three communities line-item or input-based budgets into performance budgets. So far have been done the following activities: preparation of the training materials on PB, selection of the pilot communities, organization of the training workshop, development of the draft of the full fledge proposal. It is designed to involve new communities in the project, as well as include investment component into project. Community residents direct participation in budget process is not regulated by the law. There are few cases when by the initiative of local governments or requirement of citizens the latter are involved in budget process. The experience of 2001 is very interesting, when in the process of adopting the local budgets for 2002 in nine communities of Armenia (Jermuk, Sisian, Gyumri, Vanadzor, Alaverdi, Sevan, Ijevan, Yeghegnadzor, and Kapan), budgetary hearings were carried out. These hearings were organized by the Communities Finance Officers Association (CFOA), with the financial and technical support of the Urban Institute. Methodological materials on Public Deliberation of Community Budgets were prepared, on the basis of which seminars were conducted for the financial experts working for communities, the deputy heads of communities, and the staff of information and analysis centers. After the seminars were implemented, the nine model communities began budgetary hearings with the participation of citizens. Members of the council, employees of the municipality, representatives of non-governmental organizations and political parties, journalists, employees of territorial administration bodies, representatives of donor organizations, and representatives of the public took part in the discussions. The CFOA provided technical conditions necessary to hold the deliberations. The information and 7
analysis centers of the communities prepared booklets and necessary materials, which were handed out to the participants of the discussions. All the parties took active part in the deliberations and asked questions. The process was broadcast on local television. Articles were published in central and local press. Budget hearings have already become tradition in more than ten urban communities. It is necessary to widen and develop this initiative. CFOA continues its activity in this direction by giving methodological and technical support to the communities. Community Council in the Budgetary Process For the clarification of the Community Council role in budgeting process is important to mention the procedure of local elections. In the local elections, candidates self-propose to the office of a member of community council or a community head. Political parties do not play an important role in local elections and do not have the right to propose candidates. The fact of belonging to a political party is mentioned only in the actual ballot, if the candidate does belong to any political party. In the elections, more than 70.0 % of the winning candidates (communities councils members and heads) appeared in the elections as independent of any political party. This is a reason that representative body role in local level differs from such body in central level. Community Council role is little during the preparation of the budget. The head of community and his/her staff prepares the draft budget. Draft annual community budget is submitted by head of community to the council for discussion within two months after the publication by the Government of the initial data on subsidies provided to the communities based on the principle of financial equalization. Draft budget is sent to the members of community council at least one week before the discussion. In case initial data on subsidies provided to the communities based on the principle of financial equalization has been changed during the adoption of the state budget, the head of community within two-week time period submits to the council s approval relevant amendments to the budget. Head of community submits the draft budget to the community council, answers questions of members of the council. Members of council submit proposals regarding the draft budget in writing, which are discussed at the session council. In case proposal submitted by the member of council foresees new expenses, he/she shall point out relevant sources of financing. After discussions, head of community may take one week for introducing necessary amendments and additions to the submitted draft. Annual statement on the budget execution is submitted to the community council after the end of the budget year, together with the quarterly statement on the execution of the next year's budget. At the session of the council, head of community answers the questions of the members of the council and provide necessary explanations. Community council after the completion of the discussion adopts decision on the approval of the statement on budget execution. 8
In case of non-approval of the annual statement on the community budget execution, the community council may submit proposal on the removal from the office of the head of community. In case no proposal on removal from the office of the head of community is submitted or the government within one month time period after receiving of the submission on the removal from the office of the head of community, does not adopt such a decision, the annual statement on the community budget execution shall be considered approved. There is a case when the Law on Budgetary System limits Community Council power. The Constitution of Armenia and Law on Local Self-government clearly state that community budget will be elaborated by the head of community and submitted to the Community Council for discussion, and the budget is approved by the Community Council. However, pursuant to the Law on Budgetary System: Community budget will be approved with the amendments acceptable to the head of community, and this means that members of the Community Council are entitled to submit recommendations in respect of the draft community budget, but the budget will be adopted with the amendments acceptable to the head of community; In case the community budget is not adopted, the head of community will raise his/her vote of confidence clause, if the Community Council does not accept the dismissal application of the head of community within three days and at simple majority of votes. As a result, irrespective of the fact that approval of the budget is the mandatory power of the Community Council, while should the Community Council fail to fulfill its power, the head of community must raise the vote of confidence clause. If we take into consideration also that the Community Council chaired by the head of community should announce no confidence to the head of community at its session to be held within three days, while the latter not being interested does not attend that session, then the deficiencies of this mechanisms become evident. If the Community Council announces no confidence to the head of community and the issue is submitted to the government by the respective regional governor in accordance with the legislation, and the government does not announce vote of no confidence to the head of community within a month after submission, the community budget will be considered approved. These provisions of the Law on Budgetary System of Armenia show that if head of community properly and diligently fulfills his/her Constitutional and legal power (to develop community budget and submit it to Community Council for approval), but the Community Council, whose direct function is to approve the community budget, fails to perform that very power and the budget is thus not approved, then it is illogical that the head of community should be dismissed. These legislative provisions imply that head of community will define the community budget, or if a no confidence motion is initiated, then the budget is approved by the central government, which is totally unacceptable. This problem can be solved by the following way: 9
Head of community will present the draft community budget to the Community Council for discussion. Members of the Community Council may present recommendations and proposals on the draft budget in writing for discussion at a session of the Community Council. Head of the community is entitled to a one-week period after these discussions to introduce relevant changes in the draft budget. Within the specified period, head of community will convene a session of the Community Council and present his/her position in respect of the changes recommended and proposed by the members of the Community Council. If so required by the relevant member of the Community Council, the recommendation and/or proposal will be voted. The draft community budget containing approved changes will be voted in its entirety. In case the draft budget is not approved, the Community Council may define the deadlines for discussing new draft of the budget agreeing them with the head of community, or the head of community may define these deadlines through convening extraordinary session of the Community Council. Community council fulfills the general monitoring of community budget implementation. Council is empowered to check any budget transaction, effectiveness and quality of the performance of work and request statements on expenses. Council has the right to employ audit service if necessary. But it is not used in practice yet. The Government implements control of the community budget in regard to usage of target transfers from the state budget to the community (subventions, funding of delegated powers to the community by the State, share of the sum from State property privatization) as well as usage of borrowing means and their repayment program. Head of community submits to the community council once per quarter informative notes on the budget execution in compliance with the timing defined by the budgeting legislation of Armenia. Conclusion The local self-governance system has operated in Armenia since the end of 1996. The formation of this system brought along the beginning of local democracy establishment. The process is slow, because the introduction of new values in a society is related to vast difficulties and requires much time. During these years, basic legislation for the development of local budgeting was put in place. However, the enforcement of these laws and the search for mechanisms are even more important. The study of financial situation in local self-government system in Armenia shows that as a result of eight years of local self-government reforms exist not only success but also multiple problems, and only their urgent solution may have impact in further development of the system. The strong sides of local self-government financial system are the following: 10
Definition of community budget revenues and directions of their expenditures, and clear differentiation of state budget and communities budgets by the law, Allocation of official transfers from the state budget to local budgets defined by the law, Delegation of power on definition of local duties and fees to local governments in the framework of law, Clear definition of local budgeting process by the law. The problems of local self-government financial system are the following: The revenues currently ascribed to community budgets do not enable communities to fulfill their powers in full, Many small, weak and lacking relevant capacities communities cannot implement great part of their powers defined by the law, and the framework of local selfgovernment becomes narrow as the second tier of local self-government does not exist, Many communities can not provide budgeting as defined by the law, line-item or input-based budgets are used in local level, The narrow framework of local governments powers does not allow strengthening and development of local self-government. With the objective to enhance financial sustainability of the communities, development of budgeting, strengthen local self-governance system, and proliferation of decentralization processes it is necessary to implement the following measures: Consolidation of communities and creation of community unions for the raising the role of community council in budgeting process; Transfer of tax administration functions to autonomous communities and community unions; Stipulating rates of sharing from taxes (income, profit taxes and environmental fees) to local budgets in the Law of Armenia On Budgetary System; Full implementation of state supervision over formation and financial accountability of community budgets. Implementation of the above measures requires introduction of relevant amendments in the legislation, training of municipal servants, and tightening legal discipline. It is necessary to mention that first two of those measures are in the agenda of the Government in some extent. In the case of the former, discussions take place related to the creation of inter-community unions, in which participated members of the Parliament, members of the Government and employees of public administration bodies, experts of the Council of Europe and local experts, representatives of local governments, NGOs and international organizations. In the case of the latter, the Government have begun the process of property tax base transfer to communities, but it is going very slowly, because some difficulties have risen connected to their transfer to small communities. 11
References 1. Tumanyan D. (2002). Local Government in Armenia. In I. Munteanu and V. Popa (Eds.), Developing New Rules in the Old Environment. Budapest, Hungary: OSI/LGI: 323-370. 2. Tumanyan D. (2002). The provision of local Fiscal Autonomy in Armenia. In K. Davey (Ed.), Fiscal Autonomy and Efficiency. Reforms in the Former Soviet Union. Budapest, Hungary: OSI/LGI: 35-58. 3. Local Self-government Reforms in Armenia. Policy Options and Recommendations. Edited by David Tumanyan. Yerevan. 2004. 4. The Ways of Local Self-Government System Development in The Republic of Armenia. Edited by David Tumanyan. Yerevan 2005. 5. Local Government Budgeting. Edited by Mihaly Hogye. Budapest. 2002. 12