What is a Medium-Term Expenditure Framework (MTEF) - PDF by jackshepherd


									January 2000
                                      MINISTRY OF FINANCE
                          VIE/96/028: Public Expenditure Review, Phase II

    What is a Medium-Term Expenditure Framework (MTEF)?

1. Government budgets are prepared according to an annual cycle, but to be formulated well and
to contribute to high-quality and sustainable services, they must take into account events outside
the annual cycle particularly the macro-economic realities, the expected revenues, and the
longer-term needs of programs and of government’s spending policies. This is why annual
budgeting cannot be performed properly in isolation but has to be linked to planning, in the
context of a multiyear framework.

2. A medium-term expenditure framework (MTEF) consists of a top-down estimate of aggregate
resources available for public expenditure consistent with macro-economic stability; bottom-up
estimates of the cost of carrying out policies, both existing and new; and a framework that
reconciles these costs with aggregate resources. It is called “medium-term” because it provides
data on a prospective basis, for the budget year (n+1) and for following years (n+2 and n+3).
MTEF is a rolling process repeated every year and aims at reducing the imbalance between what
is affordable and what is demanded by line ministries. MTEF does this by bringing together
policy-making, planning, and budgeting early in the budgeting cycle, with adjustments taking
place through policy changes. It involves building domestic macro-economic and sector
modeling capacity. Also, even if the whole of the Government’s budgeting system is not working
well, each sector is better off managing itself with a medium-term perspective. A well-
implemented MTEF should: (i) link the Government’s priorities with a budget within a
sustainable spending envelope; (ii) highlight the tradeoffs between the competing objectives of
the Government; (iii) links budgets with the policy choices made; and (iv) improve outcomes by
increasing transparency, accountability, and the predictability of funding (Box 1).

                              Box 1: The First M.T.E.F. in South Africa

“The budget we place before this parliament marks a radical departure from the past. Since the budget is
about the present and the future, Government has decided that the budget should reflect both short-term
and long-term decisions. Consequently we have developed a three-year medium-term expenditure
framework which allows us for the first time to present to this parliament spending plans for the next
three years.”
                                          Trevor Manuel, Minister of Finance, 1998-99 Budget Speech

In his 1998-99 budget presentation to Parliament, the Minister of Finance identified four objectives that
the South African MTEF sought to achieve:
    Strengthening political decision making in the budget process. The MTEF enables the Cabinet to link
    the budget allocations to the services that are to be delivered and to translate abstract choices about
    budgets into concrete choices about priorities.
    Strengthening cooperative governance and decision-making and provide a budget framework which
    reflects the shared goals of the country.

What is a MTEF?                                                                                          1
       Improving efficiency and service delivery in the public sector and making every expenditure go
       Creating a predictable environment where the public service can plan over the medium term, in the
       knowledge of how its budget is likely to evolve and thereby improve service delivery.
Source: Republic of South Africa, 1998-99 budget speech.

3. A MTEF involves a radical change in the business of budgeting. Consequently, without
political commitment, it has little chance of succeeding. Evidence also suggests that a
comprehensive approach (all of government) is preferable for introducing an MTEF
incrementally, starting with selected sectors and then expanding coverage to all of government
(Box 2). This is partly a question of data gathering, analysis, and reporting; and partly of people
who can both supply and use the information, and the institutional mechanisms for coordinating
the efforts of participants.

                                          Box 2: The Malawi Experience

         Beginning in 1995, the four largest spending ministries (Agriculture, Education, Health, and
    Works), together with police, piloted implementation of the MTEF in preparation for the 1996-97
    budget exercise. The pilot was confined to the recurrent budget and, within that, the non-wage and
    non-salary recurrent expenditure. The rationale for this was that the real test of the Government’s
    priorities was to be found in spending in this latter category. It is worth noting, however that it has
    been based on the log frame approach, which facilitates the derivation of sector and organization
    goals, objectives, outputs, activities, and inputs (costs). For the 1997-98 budget exercise, the exercise
    was extended to 12 ministries and, at the sector level, there was an effort to integrate recurrent and
    development expenditure. For the 1998-99 budget exercise, this integration was extended to all
    remaining sectors. Recurrent and development expenditures are now integrated, and estimates are
    prepared for the budget year plus the three out-years. At the center, the approach involved is the
    development of a macro-economic framework, the derivation of aggregate and sector expenditure
    ceilings, and the reprioritization of expenditure through the interaction of top-down ceilings and
    bottom-up estimates of expenditure (linked to objectives).
     Source :World Bank, Poverty Reduction and Economic Management (PREM), Malcolm Holmes, 1999.

4.         Seven major requirements must be considered for MTEF implementation:

•      Good Macro-economic Policies: Good macro-economic analysis and forecasts are needed
       as a basis for a MTEF.

•      Adaptable Fiscal Policy and Instruments: The MTEF approach is based on a strong link
       between macro-economic policy and fiscal policy. Plans for future expenditure must be
       based on reasonable estimates of prospective resources.

•      Reprioritization and Reallocation: Behind the move to MTEF is a conviction that the
       annual budget by itself is a poor mechanism for shifting resources from lower-to higher-
       priority use. A major function of an MTEF is to provide a better mechanism for aligning
       budgets with policies.

What is a MTEF?                                                                                                 2
         Comparisons among Budget and Medium-Term Expenditure Framework (MTEF)

                                                           Traditional BUDGET                                                  M.T.E.F.
                                                              (at Ministry level)                               (3-year-rolling program at Sector level)
       AGGREGATE FISCAL                          Focused on short-term macro-economic concerns               Situates short-term macro-economic concerns within a
       DISCIPLINE                                (with international agencies providing the discipline in    medium-term macro-economic and sector perspective (3
       (to keep expenditure within the means)    many countries).                                            years: n+1, n+2, and n+3). Involves building domestic macro-
                                                                                                             economic modeling capacity.
       LINK BETWEEN POLICY,                      Very weak because policy choices are made                   Policy making tightly disciplined by resource realities. Thus a
       PLANNING, AND BUDGETING                   independent of resource realities. Thus policy is not       much stronger link exists between policy making, planning,
       (reflecting the government’s capacity     sustainable and spending patterns may not reflect the       and budgeting. Spending reflects the stated priorities of
       and willingness to prioritize             priorities articulated by government                        Government.
       expenditures programs)
       PERFORMANCE AND SERVICE                   Incentives for results in terms of outputs and outcomes     Emphasis is on the delivery of agreed outputs and outcomes
       DELIVERY                                  are generally low because emphasis is on input              with available resources. Incentives are structured to increase
       (relating to operational performance of   control. Little attention to the predictability of budget   the demand for evidence of good performance (accountability
       all resources human as well as            funding.                                                    for sector managers for results). Consequently, service
       financial)                                                                                            delivery should improve.
       AUTONOMY OF CREDIT                        Generally low, because lack of discipline within the        Generally high because of greater discipline in setting and
       MANAGERS                                  traditional budget framework is translated into             enforcing hard budget constraints plus accountability
                                                 detailed input controls.                                    mechanisms that makes it possible for managers to be given
                                                                                                             more authority to determine how agreed outputs and
                                                                                                             outcomes should be achieved.

What is a MTEF?                                                                                                                                                                3
•   Budgetary Discipline: Budget allocations must be based on a hard aggregate budget
    constraint derived from what is affordable, and line ministries must live with their budget

•   Institutional Conformity and Absence of Bias: An MTEF requires a supportive
    institutional base; that is to say, one in which the various actors use the MTEF as a
    framework within which are taken expenditure decisions. In particular, political decision-
    makers must accept the MTEF as the means by which resources are allocated.

•   Appropriate Parameters: Designing an MTEF requires that its parameters be set. These
    parameters are the definition of aggregate expenditure to be used, the relationship between
    the sectoral breakdown and the organizational structure of government, the content of
    expenditure envelopes, the appropriate price basis for estimating future expenditures, the
    mechanism for its coordination with the annual budget process, and the degree to which it is
    to be flexed for different scenarios.

•   Transparency: Fiscal transparency and policy transparency improve the accountability of
    actors engaged in the MTEF process. Fiscal transparency means being open to the public
    about the structure and functions of government, fiscal policy intentions, public sector
    accounts, and fiscal projections. Policy transparency means being open to the public about
    what Government intentions are in a particular policy area, which outcomes are to be
    achieved, and the costs of achieving these outcomes. Also, transparency means reporting
    actual performance with quality of outputs and results achieved.

5. The MTEF approach stresses that expenditure management is about appropriate policies in the
medium term, rather than about cash management in the short term. Where the available cash is
the most potent influence on expenditure, management in the normal meaning of the term
becomes impossible. MTEF provides more predictable program funding and therefore better
management. The objectives of a MTEF are to:
    Improve macro-economic balance by developing a consistent and realistic resource
    Improve the allocation of resources to strategic priorities among and within sectors;
    Increase the commitment to predictability of both policy and funding so that ministries can
    plan ahead and programs can be sustained
    Provide line agencies with a hard budget constraint and increased autonomy, and increasing
    incentives for efficient and effective use of funds.

Implicit in the above are two further objectives: to improve the linkage between annual budgeting
and medium-term considerations, such as investment plans, borrowing capacity, changing
spending policies, and priorities; and to provide information relevant to political decision-makers
on the cost implications of expenditure policies.

What is a MTEF?                                                                                  4
6. An MTEF cannot he achieved without the operation of key government processes on which it
depends. For the MTEF to work key supporting processes have to work as follows:

             CORE PROCESSES          SUPPORTING PROCESSES                    PURPOSE

          Define the aggregate      Macro-economic                  To provide a realistic
          resources                 analysis, revenue               estimate of the total
                                    forecasting and definition of   resources available in the
                                    sustainable fiscal policy.      medium term to allocate
                                                                    to spending programs.
          Formulate and cost        Spending ministries             To show sectoral
          sectoral spending         formulate sectoral              objectives, programs and
          plans                     expenditure programs            activities and their costs.
          Reconcile available       Politicians and other           To reach agreement on
          resources with sectoral   decision makers reconcile       medium term expenditure
          spending plans            top- down constraints with      programs.
                                    bottom-up spending
          Set medium term           On the basis of relevant        To communicate to
          sectoral allocations      data, decision makers           ministries a sectoral
                                    allocate the aggregate          expenditure policy
                                    resources to sectors.           constrained by aggregate
          Announce sectoral         Formulation of annual           To ensure that the budgets
          expenditure limits for    budget.                         prepared by ministries
          year one of the MTEF                                      reflect agreed sectoral
                                                                    expenditure programs.
          Ensure that budget        Accounting, reporting and       To prevent excessive
          execution is in line      expenditure controls are        deviation from the annual
          with budget intentions    used during the execution of    budget and MTEF
                                    the annual budget.
          Ensure that desired       Incentives for civil servants   To align civil servant's
          results are achieved      to perform. Ex-post audit       and politician's incentives
                                    and evaluation;                 with public goals.

7. Much of the necessary changes do not require high-tech solutions, but rather common sense
and perseverance. However, the PER identifies three prerequisites for successfully implementing
a MTEF in Viet Nam:

•   Political Support. One reason for the lack of political support is that budgeting is still seen as
    a technical exercise mainly driven by the Ministry of Finance (MOF). Another reason is that
    politicians seem unaware of the benefits of the new process, and still rely to a large extent on
    the old, incremental methods to obtain funding. Finally, the incentive for good budget
    preparation remains limited, because much is lost implementation, which is still driven by
    cash rationing.

What is a MTEF?                                                                                     5
•   Fiscal Sustainability. This is undermined by ad-hoc decisions late in the budget process, and
    by continued overoptimistic revenue projections. As a consequence, spending continues to be
    led by the cash budgeting in implementation. This results in ad-hoc decisions on spending,
    and budget outcomes that have little to do with the budget approved by the National

•   Budget Allocations. Allocation of budgetary resources is still undermined by ad-hoc
    decisions in budget preparation and supplementary estimates, and the cash budget in
    implementation. Allocation could be improved by (a) setting sector ceilings earlier in the
    budget process and then breaking down sector ceilings to ministries, (b) requiring output and
    outcome indicators for ongoing and new policies, (c) leaving sub-sector allocation decisions
    to line ministries or departments, (d) requiring ministries to identify cost savings, and (e)
    providing incentives for the gathering and the reporting of policy relevant information.

What is a MTEF?                                                                                6

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