Sunday, August 6, 2017

Why does the government under-execute capital budget?

Towards the last quarter of fiscal year, pretty much everyone talks about slow capital spending. Parliamentary committees issue notices/instructions to government agencies to accelerate spending. Ministry of Finance summons line ministries’ representatives to review progress on stated milestones every quarter. The media also gives ample space to spending level and pattern, raising questions over hasty spending on shoddy works before the end of fiscal year. The same reasons are debated and recycled during each quarterly review meeting. The cycle of issuing notices, review of quarterly portfolios and pondering over the same reasons for slow capital spending keeps on rotating each year. Unfortunately, nothing substantial comes out of it (with respect to achieved outputs).

The government and MOF said FY2017 (mid-July 2016 to mid-July 2017) would be different because budget was announced one-and-a-half months prior to the start of the fiscal year. They said it will give ministries adequate time to get approval for spending and initiate preparatory project planning (especially procurement documents), all of which were expected to accelerate capital spending. Specifically, the idea was to finish all preparatory work and start issuing tender notices and in some cases finalize contractors before the start of festival season (September-November). 

So, was the result? Pretty much the same or even worse: 
  • First, the spending pattern (i.e. quality of spending) hardly changed despite the early approval of budget. Almost 60% of the actual capital spending happened in the last quarter and 41.2% in the last month. It raises doubt over the quality of spending. Often, spending (and approval of payments for completed as well as some pending works) is accelerated in the last month by doing shoddy work. The haste in spending without any quality control by the ministries (what is the monitoring and evaluation unit doing?) leads to cheapjack construction. This in turn increases operation and maintenance budget (which is a part of recurrent spending) for the next few years. 
  • Second, capital spending absorption capacity has receded. Just 65.5% of planned capital budget was spent in FY2017 (NRs204.3 billion spent vs NRs311.9 billion planned). Although it is slight higher than 58.6% in FY2016 (when the economy was crippled by trade and supplies disruptions), it is still lower than 76% in FY2015 (when earthquakes struck around the last quarter of fiscal year). As a share of GDP, capital spending increased to 7.9% of GDP, up from 5.4% of GDP. The planned capital spending in FY2017 was 12% of GDP.
Now, the MOF sometimes points to the National Reconstruction Authority (NRA) for slow capital spending as reconstruction work did not pick up steam as expected. However, NRA itself was burdened with approval from Cabinet, lack of cooperation from line ministries, and the hooks kept by the MOF on NRA’s discretion in spending the allocated budget (including to cover procedural administrative costs). These exerted an inertia on NRA’s speed and efficiency. Nevertheless, preliminary data from the MOF’s ‘Red Book’ itself show that NRA did quite well in FY2017. It was asked to spend around NRs140 billion in housing grants, reconstruction, and administrative expenses. It seems to have kept the promise for now as per preliminary data. We will have to look at the full year data to see how close NRA was to the spending target. The pick up in reconstruction activities boosted growth of construction, real estate and housing, and mining & quarrying activities in FY2017. In FY2018, NRA is asked to spend NRs146.2 billion on reconstruction of infrastructure and housing grants. 

So, it seems the same factors have been constraining capital spending and approving budget early is not going to change that unwanted steady equilibrium drastically. Budget execution is affected by: (i) structural weaknesses in project preparation and implementation (i.e. lack of initial planning); (ii) low project readiness (no feasibility studies, land acquisition, environment clearance, detail design and procurement milestones); (iii) bureaucratic hassle in project approvals and sanctioning of spending; (iv) weak project and contract management (high staff turnover and inability to rein in errant contractors); and (v) political interference at planning, management and operational stages. FY2017 budget spending was also affected by local elections as government staff were deputed to conducting and monitoring elections instead of managing projects. 

These key issues that slow down spending have more to do with the capacity of government staff and the strength of their offices (institutional memory, motivation, etc) than early release of budget. Of course, early approval of budget provides certainty of spending but it does not directly address the above mentioned issues. 

For project readiness, the NPC should be assisting line ministries and local bodies to conduct pre-feasibility studies. Importantly, it should be appraising the project proposals prepared by line ministries and local bodies keeping in mind factors such as land acquisition, rate of return, cost-benefit analysis, implementation modality, etc. These then should be aligned with medium term expenditure/revenue framework. The NPC should be playing a pro-active role in assisting line ministries and local bodies in project planning and appraising (a sort of localized ‘project bank’). 

Meanwhile, the MOF should be keeping tab on expenditure allocation, especially restraining the temptation to allocate budget for projects that are not ready or are not sanctioned by the NPC. This usually happens because of political pressure. Furthermore, MOF should closely collaborate with NPC and OPMCM (especially their M&E units) to monitor progress and unwind constraints faced during the implementation phase (including speedy resolution of constraints by taking the issues up the political chain and if necessary the cabinet). The obsession with meeting revenue targets has meant that these crucial tasks are delegated as ceremonial undertakings. The MOF and NPC need to be more agile, responsive and cooperative.

Then comes the line ministries. These are primarily responsible for project conception, design and execution. The onus of faster and quality spending lies in project directors (mostly those at joint secretary level). If the government staff at project offices are lethargic, then no project will see accelerated spending. 

The role of multilateral and bilateral donors, who implement projects through the government mechanism, is also crucial as sometimes approvals or endorsements or disbursements are stuck at their offices. Again, being proactive in smart project and contract management is the key to accelerating capital spending. The hassle created by Acts and policies are not going to be solved overnight. Low hanging fruits should be harvested first.

Same applies to the various parliamentary committees that are increasingly infringing on project management (by ordering halt to procurement process, summoning multiple times for hearing but without any tangible outcome, etc) and issuing orders after orders for faster capital spending. How about these committees also give some attention to the need for project readiness, the resources needed for it, and monitoring and evaluation (in collaboration with NPC, MOF, OPMCM and local experts)? Negligence by politically-affiliated local contractors (who bid for projects that are beyond their financial and management capacity) is costing the taxpayers dearly. A strong M&E system is needed in addition to enhancing capacity of project offices to design, appraise and implement projects. 

Overall, the government met the revenue target (more on this in later blog posts), but failed to accelerate capital spending as expected. What will be the fate of FY2018 budget? Note that accelerated capital spending is one of the pillars for rapid structural transformation given Nepal's stage of development right now.