ECONOMISTS FORUM

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THE CASH RATIONING SYSTEM IN ZAMBIA
Hinh T. DinhAFTM1 May 23, 2001
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THE CASH BUDGET IN ZAMBIA

• I. Origin of the Cash Budget
• II. Theoretical Basis
• III. Cash Budget Set-up and Management
• IV. Effects of the Cash Budget
• V. Capacity and Institutional Constraints
• V. Proposed Solutions

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World Bank User While its theoretical foundation
is well-known in the literature, this approach
has not been adapted for assessing fiscal
performance either over time or across countries,
and the paper discusses practical issues arising
from this adaptation.
I. ORIGIN OF THE CASH BUDGET

• Adopted as an emergency measure to stop the
  runaway inflation of the late 1980s and early
  1990s.
• Designed as a temporary, short-term measure to
  reintroduce financial discipline by linking
  monthly expenditures closely to actual revenues
  received during the month, excluding any new
  borrowing from the Central Bank.

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World Bank User While its theoretical foundation
is well-known in the literature, this approach
has not been adapted for assessing fiscal
performance either over time or across countries,
and the paper discusses practical issues arising
from this adaptation.
I. ORIGIN OF THE CASH BUDGET

• Some Common Features of the Cash Budgets
• Introduction of cash budgeting usually
  coincides with achievement of some macro-economic
  stabilization.
• Implementation of the cash budget has the same
  damaging side-effects on the efficient use and
  allocation of government resources i.e.,
  creating large, unpredictable monthly
  fluctuations in expenditures and a shift in
  expenditures from socially and economically
  important ministries to relatively un-productive
  activities.
• The large monthly fluctuations in cash
  releases, particularly for OM (RDC in Zambia),
  encourage over-commitments and arrears.
• The extent to which damages caused by the cash
  budget can be minimized or maximized depends on
  personal powers of officials in charge of the
  budget.
• For different reasons, once the cash budget is
  adopted, it is likely to stay.

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World Bank User While its theoretical foundation
is well-known in the literature, this approach
has not been adapted for assessing fiscal
performance either over time or across countries,
and the paper discusses practical issues arising
from this adaptation.
II. THEORETICAL BASIS OF THE CASH BUDGET

• In theory, the cash budget is a strict
  application of the rule for fiscal solvency and
  sustainability. By keeping the net borrowing of
  the central government zero, the cash budget
  forces the domestic debt/GDP to approach zero as
  the economy grows. Notice that when the economy
  grows faster than the real interest rate (r-g lt0)
  this is a stricter condition than the normal
  fiscal solvency and sustainability conditions.
• In an earlier paper, we derived these conditions
  reproduced below, where s is primary deficit.

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World Bank User While its theoretical foundation
is well-known in the literature, this approach
has not been adapted for assessing fiscal
performance either over time or across countries,
and the paper discusses practical issues arising
from this adaptation.
Conditions for Fiscal Solvency and Sustainability
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III. CASH BUDGET SET- UP AND MANAGEMENT

• Under the cash budget system, the budget as
  approved by the Parliament no longer forms the
  basis for actual funding of Government
  operations.
• The actual decision of how much each ministry and
  other budget head can spend each month in each
  expenditure category is taken ad hoc by a small
  committee within MoFED. This committee decides
  upon and issues monthly (or sometimes by-weekly)
  cash releases. Under the cash budget system,
  these releases have become the key determinant of
  government expenditures. What really counts,
  then, for a ministry is not the amount allocated
  to it in the budget but the amount of cash
  released to it each month.

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III. CASH BUDGET SET- UP AND MANAGEMENT

• The cash budget process goes through ten steps
  from the moment the budget (Yellow Book) is
  approved by Parliament and signed by the
  President and payments are actually made to, say,
  a government supplier, not taking into account
  procurement and commitment
• 1. After the budget has been signed at the
  beginning of the year it is divided into four
  quarters and the latter broken down into months
  on a straight-line basis. This represents the
  formal monthly program budget
• 2. Early in every month, the Zambia Revenue
  Authority (ZRA) provides a revenue projection
  (called revenue profile)
• 3. The monthly surplus necessary to meet the
  quarterly ESAF benchmark, is determined
• 4. Total resources available for expenditures
  during the month are calculated by deducting the
  monthly surplus from the revenue profile

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III. CASH BUDGET SET- UP AND MANAGEMENT

• 5. The MoFED Committee then allocates total
  available resources to the budget heads.
• 6. As the Committee progresses in deciding cash
  releases for the month, cash is gradually
  released and ministries and other budget heads
  are finally informed of their monthly resource
  envelopes
• 7. Domestic debt service is strictly paid at the
  dates due, and cash releases are structured
  accordingly. Personnel emoluments are supposed to
  be paid by the middle of the month.
• Cash releases for other expenditure categories
  are usually decided and executed late in the
  month to which they refer, when revenues are at
  their peak and the risk of an unexpected revenue
  shortfall is at a minimum.

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III. CASH BUDGET SET- UP AND MANAGEMENT

• 9. After the monthly cash release has been
  decided, the Budget Office authorizes BoZ to
  transfer money from the government general
  revenue account to the respective control
  account. Most budget heads have three main
  control accounts covering personnel emoluments,
  RDCs and grants, and capital expenditures. A
  budget head cannot transfer money from one
  account to another but can do so within the same
  account.
• 10. Since the central bank is not involved in
  retail banking, for each control account at BoZ
  there is a mirror account at a commercial bank.
  Budget heads use these mirror accounts to effect
  their payments.

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IV. EFFECTS OF THE CASH BUDGET

• SOME MYTHS ABOUT THE CASH BUDGET
• That the cash budget system establishes a close
  and rigid link between monthly revenues and
  monthly expenditures. This is not true in one
  third of cases, the gaps exceed 20.
• That there is an even stronger assumption that
  under the cash budget system no deficits can
  occur and that during any given month
  expenditures are lower or at most equal to
  revenues. This also is not supported by data.
• That there are no arrears or over-commitment.

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IV. EFFECTS OF THE CASH BUDGET

• POSITIVE EFFECTS
• There can be no doubt that the central
  governments fiscal performance has improved
  markedly since 1991. This had a positive effect
  on inflation, albeit somewhat diluted by
  continuous, high deficits of other public
  administrations and entities.
• Whether introduction of the cash budget system in
  1993 actually helped reduce the fiscal deficit is
  not clear. Introduction of the ESAF with its
  stringent quarterly targets on government
  borrowing and budget balances was an equally
  important element.
• Given the Governments limited capacity to
  control expenditures and coordinate fiscal and
  monetary management the cash budget was the
  easiest and most feasible way to establish
  overall fiscal discipline. However, as discussed
  below, the system had major negative side effects
  on social and economic development that became
  increasingly apparent over time.

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VI. EFFECTS OF THE CASH BUDGET
Zambia Domestic budget and inflation
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IV. EFFECTS OF THE CASH BUDGET

• POSITIVE EFFECTS
• Between 1991 and 1998 the Government managed to
  cut discretionary recurrent expenditures in real
  terms. Part of this reduction was achieved before
  the cash budget was introduced at the beginning
  of 1993 and much of it resulted automatically
  from the massive inflation during these years
  that sharply reduced civil servants salaries in
  real terms.
• But note that while Government was very
  successful in bringing its budget deficit under
  control and limiting its recourse to central bank
  financing to a minimum, inflation did not decline
  as rapidly and as strongly as expected. Three
  years after inception of the cash budget,
  inflation still exceeded 43 percent and was still
  above 30 percent in 2000. While this is a
  substantial improvement over the 100 percent
  experienced in 1991 and the 200 percent in
  mid-1993, inflation remains a significant threat
  to the countrys financial and monetary
  stability.

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IV. EFFECTS OF THE CASH BUDGET

• NEGATIVE EFFECTS OF THE CASH BUDGET
• The existing cash budget system affects the
  quality of government operations in three major
  ways
• It hampers the efficient use of budgetary
  resources by creating large fluctuations and
  great unpredictability in the monthly cash
  releases to budget heads, making it virtually
  impossible for them to plan their activities more
  than a few weeks ahead and to undertake major
  tasks, programs and campaigns at the most
  appropriate time of the year
• It results in a sub-optimal allocation of
  resources by encouraging and facilitating the
  systematic shift in resources from economically
  and socially relevant ministries to general
  public administration and from RDCs to wages
• It leads to higher prices charged by government
  suppliers as a result of growing
  over-commitments, arrears, and payment delays.

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IV. EFFECTS OF THE CASH BUDGET
Zambia Monthly Fluctuations in Cash Releases
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IV. EFFECTS OF THE CASH BUDGET
Zambia Monthly Fluctuations in Cash Releases
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IV. EFFECTS OF THE CASH BUDGET

• VARIATIONS IN CASH RELEASES AND UNPREDICTABILITY
  IN BUDGETING
• Econometric analysis shows that while there is a
  strict relationship between revenue and
  expenditure by quarters, such relationship no
  longer holds in the case of monthly data. Three
  key factors explain this phenomenon
• The need for the budget to reach the quarterly
  targets on net bank claims on government and on
  the domestic budget balance of the government, as
  agreed with the IMF under ESAFs.
• Increases in monthly cash releases to certain
  budget heads, submitted to and accepted ad hoc by
  the cash release committee, often in complete
  disregard of original budget estimates. Its root
  cause is the virtual collapse of budget
  discipline and transparency following
  introduction of the cash budget system.
• The differences in priority assigned to different
  expenditure categories.

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IV. EFFECTS OF THE CASH BUDGET

• NEGATIVE EFFECTS OF THE CASH BUDGET
• Ad hoc decisions of a small committee in MoFED
  replace well thought-out, long-term plans,
  formally approved by Parliament. This not only
  led to a loss of transparency it also triggered
  substantial reallocations of government
  expenditures during the course of budget
  implementation.
• As development issues, by their very nature, are
  always long-term and rarely of immediate urgency,
  they mostly lose-out in the daily battle for
  funds once budget priorities are no longer
  respected. It is indeed difficult to argue
  convincingly that rehabilitation of a certain
  rural access road can not possibly be postponed
  for another month so that the funds can be used
  to cover the costs of an important diplomatic
  delegation abroad.

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IV. EFFECTS OF THE CASH BUDGET

• NEGATIVE EFFECTS OF THE CASH BUDGET
• The collapse of budget discipline after
  introduction of the cash budget not only led to
  large, disruptive monthly fluctuations in cash
  releases to individual ministries it also
  stimulated and facilitated a substantial
  reallocation of government expenditures during
  the course of budget implementation. A detailed
  comparison of actual expenditures with original
  budget appropriations for the year 1997 reveals
  massive and systematic changes in expenditure
  priorities during the course of the budget year
  away from economically and socially relevant
  ministries towards general public services (such
  as Defense, Police, Home Affairs) and from the
  purchase of materials and supplies to wages and
  salaries. As a result, actual public expenditures
  turned out to be considerably less development
  oriented than the budget as enacted at the
  beginning of the year.

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V. CAPACITY AND INSTITUTION CONSTRAINTS

• While it is easy to see the weaknesses of the
  cash budget, it is harder to design alternatives
  given the existing weak capacity and
  institutional constraints in Zambia
• Despite recent improvements in reporting, the
  accounting system remains weak. An Auditor
  Generals report identified numerous
  deficiencies, including weaknesses in the control
  system, unvouched and inadequately vouched
  expenditures, irregular accounting, duplicate
  payments, questionable payments, and non-delivery
  of paid goods. Weak accounting results in
  considerable loss of funds and reduces the
  effectiveness of spending.
• Human resources remain a major constraint for
  accounting. There are only a few qualified
  accountants in the Ministry of Finance. Few of
  the 875 government accounting personnel are fully
  qualified, and job performance is poor. Since
  adoption of the Public Sector Reform Program,
  productivity has declined, and internal audit has
  observed an increase in fraud by people expecting
  to lose their jobs.

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V. CAPACITY AND INSTITUTION CONSTRAINTS

• A further constraint on accurate accounting and
  reporting is the lack of a government financial
  management information system. Although a
  variety of individual systems (for budget
  preparation, procurement, accounting,
  expenditure, commitment, and arrears reporting)
  are in place in the ministries, the systems are
  not integrated. As a result, expenditures and
  commitments are inadequately controlled, and
  overspending and over commitment cannot be
  automatically prevented.
• It takes two years for an audit report of
  expenditures to come out. Consequently, policy
  makers have no basis to take decisions in a
  timely manner.
• The public sectors large size and poor pay is a
  major bottleneck to attract qualified personnel
  in finance and accounting.

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VI. PROPOSED SOLUTIONS

• In the longer run, to fully achieve its
  development objectives, Zambia would have no
  choice but to phase-out the cash budget system
  completely and revert to a more regular budget
  implementation system. This process should take
  place in the context of a Medium-Term Expenditure
  Framework (MTEF).
• It could be argued that there is no much point of
  introducing sophisticated new budget techniques
  at a time when the budget remains largely a
  theoretical document with little relevance in the
  real world. However, the design and introduction
  of a comprehensive MTEF is a lengthy process and
  needs to be started as soon as possible.

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VI. PROPOSED SOLUTIONS

• In the short term, there are a number of
  possibilities of linking monthly cash releases
  closer to the annual budget so as to replace the
  monthly haggling and ad hoc decision making by a
  largely automatic, transparent and rule-based
  cash allocation system reflecting the long-term
  priorities as established by the budget.
  Ideally, under such a system monthly cash release
  meetings would no longer be necessary detailed
  cash releases for all government budget heads
  could be easily calculated from a simple rule
  based on monthly revenue projection.
• In the context of FSC1, to improve
  predictability, the cash release system has been
  modified by introducing the concept of a
  quarterly cash allocation plan. MOFED would
  inform every spending agency of their projected
  cash allocation by issuing the cash allocation
  plan in the Treasury Circulars. Actual cash
  releases continue to be made on a monthly basis.
  A set of rules has been issued indicating how
  reductions in cash allocations are to be
  implemented if such reductions are deemed
  necessary. A mid-year budget review has been
  undertaken.

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VI. PROPOSED SOLUTIONS

• To improve accountability in public spending,
  measures have been implemented to strengthen
  commitment control and sanctions. To improve
  budget transparency and governance, and to
  facilitate monitoring, MOFED would publish a
  quarterly report on Government expenditures.
  Among other things, these reports would show from
  which ministries funds have been taken away to
  finance new expenditure requests by other
  ministries. Information about the major
  state-owned enterprises, including their income
  statements, has been published in the annual
  Economic Report issued by MOFED. The Office of
  the Auditor-General (OAG) has been strengthened.
• A number of initiatives are under way in this
  respect to provide the longer term solution to
  the budget execution problem in Zambia and to
  complement the short-term improvement program
  outlined in this paper. The Bank-financed Public
  Service Capacity Building Program project
  (PSCAP), will support introduction of the MTEF,
  including implementation of an Integrated
  Financial Management Information System (IFMIS)
  that would become an integral part of MTEF. The
  cash budgeting system is expected to be phased
  out over the next 3-4 years in the context of
  this project.