State Budget Act set for further amendment

2023 state budget  explanatory memorandum.
2023 state budget explanatory memorandum. Source: ERR

The Ministry of Finance has submitted another draft amendment to the State Budget Act for approval. The amendments suggested in the draft could enter into force in 2025. The State Budget Act has already been amended three times over the last decade.

The State Budget Act has been amended several times over the past decade, however, it appears that the result has mostly been the creation of additional confusion.

In 2017, the state budget became accrual-based, with further amendments subsequently made later the same year. The budget was amended again in 2020 to become activity-based.

A further amendment was made to the State Budget Act in 2021 to make the budget more informative and more detailed, as well as to increase the role of the Riigikogu in setting long-term objectives. In addition, the timing of the budget negotiation process was changed from spring to fall.

However, according to the Ministry of Finance, the state budget, and the process of drafting it, are still not sufficiently clear. This means, that, in practice, not all of the objectives envisaged in the 2014 and 2017 amendments to the State Budget Act have been implemented.

In the draft proposal, the ministry highlights several more specific issues, which it aims to resolve.

First, when it comes to the budget process, long-term objectives currently play second fiddle to immediate concerns. The state budget is also not considered to be transparent enough, with accounting principles fragmented and the division of roles between stakeholders unclear. The ministry also believes updates are needed to the approach taken to the stabilization reserve, along with improvements in budgetary discipline and financial risk management.

Among other things, the draft proposal draws attention to an issue already highlighted by the Chancellor of Justice, namely that in preparing an activity-based budget, there is an imbalance between the roles of the Riigikogu and the government.  In a nutshell, the Riigikogu has too little understanding of, and therefore too little say in, how voters' money is ultimately spent.

Aivar Sõerd (Reform), a member of the Riigikogu's finance committee, remains critical of the use of an activity-based budget.

"The issue is that the state budget is presented in such a way that makes it impossible to understand what the money is actually going to be spent on. This has been a problem throughout. When the activity-based budget was fully implemented in 2020, it was even harder to understand what the money was being spent on," Sõerd told ERR.

The activity-based budget was previously presented as programs, which comprise of sets of activities needed to achieve certain goals. These activities are evaluated and allocated money in the budget accordingly.

"A program has a financial volume - these services can be evaluated, however, it doesn't specify what the money is actually going to be spent on. To give an example, next year's budget is being produced at a time of inflation, when all areas are generally increasing, including salaries and social benefits. However, you can see that there are some programs where there is a reduction of 30-40 percent (in funding). As the explanatory memorandum to the budget often does not explain what is in the program, we have to ask the minister (for details). Today, I asked the Minister for the Interior about one program, which has been reduced by 40 percent, an important issue, a topical issue. As a rule, the answer (provided) is, that there are some one-off reasons (for this), which were not relevant during the previous period. However, they are not shown in the activity-based budget," Sõerd said.

Sõerd cited the example of the Ministry of the Interior's cohesive society program, which is funded from the state budget, where the issue being assessed is the proportion of people who have a strong or moderate sense of Estonian national identity.

"The reference level, taken from 2020, is 85 percent, with the target for 2023 at 86 percent. One indicator will increase by a percentile, and the name of this indicator is the people with a strong or moderate (sense of) national identity. But what are we going to do with this information? After all, we don't think about that when we look at the budget for the Ministry of Interior. What is actually being asked is about the need (for) higher salaries (for) rescue workers, police and emergency services. Investment is needed, equipment is needed, the (cost of) fuel consumption for police vehicles is increasing," Sõerd said.

The example given by Sõerd illustrates the problem, which is also pointed out in the draft proposal, that the objective of activity-based budgeting, has significantly diverged from actual practice. In other words, when drawing up the state budget, practical needs outweigh interest in producing long-term operational programs.

"In the process of preparing the national budget, the main emphasis is on the allocation of available funds, for additional needs," the draft proposal states.

"This is one of the problems with activity-based budgeting, that the actual process and the actual approach is based on a resource and cost-based logic. The ministries themselves also plan, make decisions and monitor budget execution according to a cost-based logic, not an activity-based logic. Therefore, one has to agree with the Auditor General, who wrote in a recent report, that the activity-based budget has no consumers," Sõerd said.

"After all, we are not allocating money in order to increase the proportion of people who have a moderate or strong (sense of) national identity. We are not thinking about that. We are thinking about the fact that the police and rescue workers (need to) have more money. Look at what is being asked in the Riigikogu. The whole debate is built on the logic of resource and cost-based budgeting," he added.

Sõerd also said that it is very difficult to monitor the extent to which the objectives of the action programs are being met, as this happens over a long period of time.

"This whole concept of activity-based budgeting - it's abstract, and so the draft proposal also raises the issue of evaluating the objectives of activity-based budgeting. These metrics will take on a life of their own," he said.

The draft proposal also states, that the Riigikogu's role in the activity-based budget process is insufficient, while the content of the budget itself is not understandable to the general public.

Sõerd: Structural balance has had its day

Sõerd was also critical of the draft proposal as it pays minimal attention to the nominal balance, which means that the preparation of the state budget will continue to be based more on the notion of structural, or long-term, balance.

"We have an entire basic budget law that revolves around the concept of strategic balance. Nominal balance is not even regulated (in the law). But all the thinking today, if we look at the budget reviews published by the European Commission, still revolves more around nominal balance. They talk about expenditure growth rates, the pace of debt reduction and nominal balance. Structural balance came to the fore in 2014 when the euro zone was (in the process of) resolving the debt crisis, however, my understanding is that this indicator (structural balance - editor) is problematic. Structural analysis helps to highlight the impact of the economic cycle, but to base the entire budget assessment on that, I would say, is questionable," Sõerd said.

Sõerd also believes, that there are many shortcomings when it comes to structural balance planning.

"There is not much talk about it nowadays, they are still discussing the three percent nominal deficit criterion. The Ministry of Finance is very keen to stick to the term structural balance, even though this indicator has a lot of shortcomings – above all, it is an estimate and different methodologies are used to calculate it. The biggest drawback is that these estimates change over time," he said.

The draft also highlights the need to review budgetary rules to deal with times of crisis.

The Ministry of Finance also believes, that the principles for planning and allocating government reserves should be regulated.

The draft proposal does not contain any specific details regarding amendments, so it is not clear at this stage to what extent the State Budget Law will need to be adapted. However, a new comprehensive law is unlikely to be needed, according to the ministry.

The draft proposal has now been sent to the ministries for coordination, as well as to the Fiscal Council (Eelarvenõukogu), the Association of Cities and Municipalities (AECM), the Chancellor of Justice and the Riigikogu for additional comments. Working groups, which include representatives of the ministries along with experts on the state budget and strategic management, will then be established to amend the law.


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Editor: Michael Cole

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