Report No. 11420-ZA Republic of Zambia Public Expenditure Review (In Two Volumes) Volume II: Main Report December 1, 1992 Country Operations Division Southern Africa Department Africa Region FOR OFFICIAL USE ONLY 'r,~ocuwIek .w . 1 . W his deUmet ha*4areitrtcd dstibutiton -adma be sed by recipients- '',,'l u n t ' ' ' ot a ' 'ot - henwlse, fsclosed%wAovt World Bank authoization ,:'d-,5.-4 -, ,. ,;, -. . ./ ~ .g-6.,< ., , ...... , . , , , . ,'''..' -"''', a,'.4 '.,-. ';'-' - . , . ' Hg|gXg,Ogxaazg H I l rr T I a4ee4Xt*e| ILL 8iTIt{jsl!lllT?fe [||it|ff-TlilgliTTxT'' | i FOR OmCIck 4 d= ONLY PREFACE lbis report s based on fidings of a mission which assisted the Govermnent of Zambia in formulating its FY92 budget between September 15 and October 15, 1991. The mission consisted of the following members and consultnuts: amg-po Yang (mission leader), Ladiapo Adamolelmn (public secor manement), Steen Jorgensen (health and education), Robin Broadfleld (energy), Ernst Bolte (mining), Jan HendrIck Van Lesuwen (manufacturi), and Vargha Azad (r rnt expenditures). Analysis of issues in the transport and agriculture sectors were respectively provided by Ian Heggie and Barnabs Zege. The report beneitted from comments provided by Ataman Aksoy, John Todd (AF6CO) and Kathie Krumm (ECAVP). Ihe draft of this report was discussed with the Government In April 1992, and in September,October, 1992. IC EXPMDrNURE B OFZAMBI TABL DE COfNMm ha~ I~~~~~~. .NRD ON .. .. . . . . . . . . . . . . . . . .... .. . . . . I I. MACROBCONOWCPRAWM FOR EXPEND17UREST= .4 A. Badgound- Enomic GrowthandPublicFlnnce ................. 4 B. Ewonoic Stablity and Spxdig Composiion ... .................. 7 C. Medihumem acreoomicFramework (19924) ........ ...... . .11 m. MANAGEMENT OFPUBLC EXENDIURE . .... .-.-.-....... 16 A. BougetigandPlnming . .. . . ..... ..... .-........... 16 Thi Insttutions Involved ................................. 16 Seuential Steps in the Budget Process ................. .... 18 Sumnmary dR nnn hXw . . . ... . . .. . . . . . . .......... 21 D. ExpenditureComnto .. ...... 22 Sysenad Respowbflity . ...... ...........*.. ....... .. 22 Expedi CoutmloInReality. . . . -.. 4 ... ...... 22 S___igExpedlitureContro .4...... ..*. . .. . . ..... ...-.. 24 C. Copingwidi Uucerty . ...4, .... .............. 25 TV. FUNC1ONAL EXPENDrISUES ... . . .... . 27 A. P ns ad Trends in Functional Expenditurs ... ..... ...... .4...4.. 28 B. Publ;c Sevce Refombr 4 ................................ 30 y SrserbmRecord ......................................... 30 Sco p Re rkw hne . ... . ... ...... .. .. . 30 Retrencen Betwe Dismissa andRedunlancy 4 ..-... .... . 32 Implementing etrenen he Twoprong Approach ........44.. ... 33 InaplemnentIwgim Meas .. ... ... ..... 33 Implementing Rencbnet Pacages and coss . ................ . 34 R~~~~on^Meg HSGran. .. 4. -44. 4...................... 36 Rer en nAlternative Employmen . .............. 37 Beyond Rencmnt Personnel Mangemn ............ ....... 37 C. Intgvernmeta FinanceinDecentraliation ................... . 38 PeNspecis n ngovnmeot Fm e ...... ............. 38 Loa GoVnment Fmnace ..................... ...... . 40 Rvnu Shing and Intergoen talT .....e............. 42 CetrdGovernmeWs sFimn ig ofDCe'W B .............ag... 42 Fina l contros and Acowntabiity ............... . ......... 42 Business Veture..s ...4 .... ........... 43 MmeRole ofProvin Ad isrn . ... ........lstrfllon........ 44 sumr ndRounbs ..E.I......................... .* ........ 4S4 -2- TABLQE O C Cont'd D. Balance Between Capltl& Reuret Expenditue ................. 46 Undefitudngof DCs ............. ... . .............. 46 The Cost and Iendiet of Funding RCs . ..................... . 47 Emating tie Recurrent Cost I.mip6catons . ................... . 48 E. MMyityExpendlture ............................. ..... 51 Scope of RevIew ad Data Availbiity .......................... . S1 Thes MUay EVxendlsTd and Its Oppow ty Costs ............ 52 V. SECTOR E ENDrNUREISSUES ............................... 54 A. Sectoa Public Expendiu Trends and Medium-Term Targe .......... 54 B. Education ................................ . 56 GovemmentStrategy ................................... 56 ExpemdlitUmTrends .................... 56 Extmal DonorFinancingofEducaton ..... 63 Privae ad Communit Financing ..... ............ 64 Summary and Recommendations ........ ................... 65 C. Health .. ........................................... 67 GovammentStrategy ................................... 67 Expenditure Trends .............. 68 Intra-sctoral Alocations .. ............ 69 Functiona Ditributionof Expenditues ..................... 71 Non-fiscal Fiancing of Heath ............................. 74 Condusions and Reconnd................... . ..... 76 eath.Outcoms * . . ... ....... . . 76 Reonunenclatlons .. ............ .. . .................. ... 77 D. Agricute. ....... .. . .....80 Analysi ofK yessues .................................. 80 Major Cum of Recurret Under-Funding inAgricult .... ........ 86 Public ExpDed Restrucg Options ......... ............ . 87 E. lMe Roads Sector ....... ............................... 89 Expenditurs on Road ad Road Mainnace .... ................. . 90 Revenue Mobilization ..... .............................. 92 Mana.aement gemet ... 4. ..... . ... ...... .. 93 Maintenance of DC Roads . . ..... ......................... 94 Road MantenancCapaciy . ... .. ....... 95 Road Reabilitation .. ...................... 96 F. EnergySector .. . .....100 Gbovenent Rmcrent and Cipka Expenitue ................. . 100 Planning for Energy Secor Deveopme. . ..... . . . . . . . . . ... 101 -3- *I&ILEO.QE.wnS s co'd VI. MUM= MAN= AND NVESTMENTISSUES ............. 102 A. INDECO'sFiscal Llkagwith theGovernmet ..... ............ 102 Backgrounl 4.........4... . .. ...... 102 INDECO's Financial Performance .... . .12.................... 1 Recent Development of Govement Policy .................... 105 Implications for Pa Ref and Pvizadotln .............. 107 B. Mining Prospec and Investment St . ...................... 108 Bkground d .......***....... 109 ZCC vestment Stateg . ............................ 110 FInang of Minig Invetment ........................... 113 Maamba Collieries' Investment and Finace Issues ..... ........... 115 C. Transport .......................................... 116 Finance and lnvestment at the Major Transport Parasls ... ....... 116 D. Energy Sector Deldopment Strategy and lIvestment Priority ... ...... 120 NDEX OFTABLE Chaptr BI azcoIndeFlumwork fo Public EIndihn Sbmu ....... 4 2.1 GDP GrowthbySector1970-1991 ................ . 5 2.2 Agricultre'sBartrandl lomeTermsofTrade/l ............ S 2.3 Shae of inera Reven .... . . 6 2.4 MaA o-wconomicIncatrsl974-1990 ............... . 7 2.5 RegressionAndayssofbflation-1970to19901 ... 9 2.6 Annual GrowthofWgeand RecurredtExpenditures. ......... 10 2.7 MaoewonomicIndicators,1991-1994 .............. ... 11 2.8 Sources of Investment, 1985 - 1994 . .................... 13 chapter in h kiuiL k of. Pubf SOWN ........................ 16 3.1 Budget Process and Schde .......................... 18 3.2 UncontonlExpenditure,1989 ......... ............ 23 cIap IV Fwidgza I.ndIbr e .......................... 27 4.1 Public Expendie by Economic Fimction ....... ......... 28 4.2 Public Expenditme by Eonomic Function . ............... 29 4.3 Target Number of Employees to be Retrenched, 1989 ......... 31 4.4 Scope for Civil Service R ment by Board Grades .. ...... 32 4.5 Proposed Altnave Rechmet Packages ............... 34 4.6 Altenative mentPacke Benefits as Multiples of Annual RemuneratcInbyMajorJobGroups(Division) ............. 35 4.7 Summary Esmates of Cots and Saing of Proposed Alenatve Fero I I Pabkes ........................... 36 4.8 Matri ofGrantObjectivesandGrnDeslpn ................ 40 -4' nznSEX TAMA Cont'd. 4.9 Budgeted Agrigate od DCs Reveues and ExpendItums, 1M- 1990 40 4.10 Cenra Govment Fiacing of Dict Councils, 1985 - 991 . . 41 4.11 EstlmatedRecurrenExpendltueCo-efficlet (%) ........... 48 4.12 Hstrical Analysis of RDC ......................... 49 4.13 Government Capil Expendue in Milions of 1991 Kwacia .... SO 4.14 1991Pric& Kwacha(in M ions) ...................... SO 4.15 TheDefemeBudget-Size and CompostionforFY9Ml2 ....... 52 4.16 Other CnituionaExpeditr as a Percent ofTotal GovenmentExpenditue . . 53 ChIapbrV SoX f".i LaneksE .. ........................... 54 5.1 Zambia Public Expenditue by Economic Activities (1984 = 100) ........ ......................... 54 5.2 Zambil: Pubic Expendie by Exonomic Activities (By PacMge Distribution) .............. . 55 5.3 Expenditre for Student at Higbher Levels as a Ratio of Psr Prlma School Pupil Ependiture (ratlos) ........... .. 59 5.4 Percentage Distibu of Education xpe..itures.... .. 60 5.5 Heath Sector Shas of Tot GRZ Budget ... ............. 68 5.6 bIternational Comparsons of Health Expenditures ............ 68 5.7 Health Expendilres by Pogram overTrme ..... .......... 70 5.8 Revised Accounting Tables - Comparison btween Primay, Tertay, and AdministratvelOther ..................... 71 5.9 Primary/PreventivelieulthServces ..................... 72 5.10 Rfee Ecoomic Types ............................. 73 5.11 AgricultueShbaminPublicExpendit, 1970-91 ......... 81 5.12 Agricutre ExpendturbySubsour,1985-88 .......2....... 8 5.13 EsimatedreCo-efficit in Agrctul e,1980-90 .......... 83 5.14 RecuffentE byDlures 19m.,19859 ............- 85 5.15 Trend in RDCIPE Raio, 1970-91 ..................... 86 5.16 Length ad Costs of Maintahin Trunk, Min and DistrictRoads ..... ................................ 89 5.17 Cetr and Provinci Roads Departments: Revenues and Expenditures.......... . go 5.18 Revenues and Selected E ndltures: Kabwe Urban DC ....... 91 5.19 Overal Developmet Budget Ongoig and New Proje, 1991-1994 ............. .............. 97 Chaptr VI PEaaaW H ami and I nvumn hum .................. 102 6.1 INDECs Financi Performance .................... 103 6.2 INDECO's FxedAss ..........................Aset. 104 6.3 INDECO/MMCO Profit Figue..................... 10 6.4 Esm of "Manatory Dividend' ...... O-* ........... 106 6.5 ZCCM4: Four-YoerCap ExpnditueProgram . .......... 110 6.6 ZCCM AlternatIve Capia Expendr Scenrios FY92/3-PY94M ......... .................... .. 112 6.7 ZCCM: Financing of Alternadve Capi Expendiure Scenari-m . . 114 REPUDUC OF ZAMBIA DN -- I. Ll 1.1 Ths report summaizes the min issues addressed in a review of Zamb's publc expendiur programs conducted dudng the seoond half of 1991, when the formuation and review of the PY92 budget took pla. 1.2 We believe this public expediture rvew PR) is impa because: i 'shifks in the paters of public ere resent one of the most effective tehiques a government possesses to improve the conditions of the poor'; I u) efficient use of limited pubUc resoes i i for improvmig public servlces and inrstctur to promote economic reoovery and sutained gowth; ad iii) imprwving the procedures of budgeting, planning and expendre implemention is essental to ensure goverment accountability ad to address the broader goveance issues in development V. This review has atempted to addess the following Issues: i) the macro-economic framework in which public are to be resructured and financed; ii) the sector polices which determine the allocations of public expenditures to pmmote growth and poverty reduction; and iii) the processes in which allocation decisions are made ad expendiures a managed to ensure resource efficiency and progam effectvens. 1.3 lbis public expendiu review has benefted from several new demens in the proce of frulat the FY92 budget and of building up consensus over the expendiu priorities: i) eadier initiation of the budget discussion process; ii) active integration of forward budgeting in the current budget disussion; and iil) active donor involvement thoughout the process. - budge preparation started in May 1991, which was coniderably eadier than in previm years. The budget cirul and policy guiddines were prepared in advanc, Allowing sector ministries sufficient time to integrate them into their budget proposals. With the ascetano f*om the HIM Advisory Group, the concept of forward (or program) budgetiog wa intoduced in sdected key ecoomic ministries. While it was not techically possible to adopt the forward budgetig techique wih the FY92 budget, this on-going exercise has seied senior line _mgas and acconting officials to the need and practice of inegrain curren expenditure with the multi-year program objectives and budget performance criteda. The donor community was actively involved in the FY92 budget prepation. Ihe government held meeting with es from each concerned donor agency in an effot to bring donor project assisance intO the framework of the FY92 budget. The Bank PER I/ Robert MoNamea: 'Anual Addme, in Anna Medtap of the Boars of Goveno, Summary *Poeedns, Wodd Bank, 1972 V/ -By oeaeis bmea the eorcs of polil power to _ne a nton's eAi R o 1 No angI_t stg& 1989, World B -2 - mission also held a meeig to brief donors on the mion's objectdves In isting the expendite nview and to solicit donors' views on various policy Issues relating to the fomlion of the budget and to the longer-term expend reform issue. For the first time, at the govement invitation, many donor agencies sent reprse ves to attend the budget discussion meedngs between MOF and sector mistries. 'Me dono involvement In the budget process has improved the integation of donor financing Into the budget frameworP, and faclitated a more active exchange of views regarding priorities In the public expendiure program. 1.4 Notwithstanding these positive aspects, the review was made more difficult because it was undertaken in the midst of an on-going fisca crisis. The govenment decision in 1991 to increas the producer ptice of maize and to hold the cosumer price conta caused subsidies on maize to amount to approximately three percent of GDP above the budgeted level for 1991. Furthermore, the political pressures during the run-up to the election led the goveinment to accept the demand for a 100 percent wage increasm for the military personnel, which was followed by an increase of the same magnitude for all government employees. As a result, the fiscal stabilization target established at the beginning of the year was impossible to achieve. In addition, the iack of policy decisions concerning the next year's maize pricing and subsidies, and the uncertainty surTounding the wage settlement In June, 1992 for public employees made it impossible, at the time of the main mission for the expenditure review, to clearly define the size and composition of the FY92 budget. 1.5 Against this backdrop, this PER exercise focused on the macroeconmic fraework for the medium-term restructuring of public expenditure, including isses in unctional expenditure allocations and formulation of priority expenditure programs within the key economic sectors. The report is organized into six chapters. Cbapter I provides an introduction. Chapter I analyzes the macro-economic conditions in which expenditure stegies are considered. Chapter I examines issues involving the management of public expenditure. Chapter IV reviews the allocations of public expendiures in terms of their functional distributions. Chapter V reviews public expenditre issues within the key economic sectors. Chapter VI reviews investment and expenditure issues in the major 1.6 A summary of the main findings is provided below along with the recommendations of the last Bank PER Report (1986). Except for the major shift in government policy toward the parastal sector (.e. the stronger and more explicit emphasis on paastal reforms and prvivation) in the cmrent report, broad issues in expendi adjustme, sector policy and priorlites have changed litde since 1986. 4  Ii5ij 4 j11lriji A as III 'III I  hIllif --'4. listS 4 a...'. , & ii  #4.r I' -ii;.t A4 j,54 -  . -s  -.4e *'c II. MACRO-ECONOMIC FRAMEWORK FOR PUBUC EPENDITURE STRATEGY 2.1 Public spending is a major component of aggra demad and therefore, should be viewed from the macroeconomic prpctive. The level or composition of public expditure may or may not be a major deermin of diffeces in growth ratestp countries and over time Y. Nonetheless, differences il rats of economic grot over tim will affet a country's ability to support public expenditures. Pistet economic stgnatio implies a stagnatig revenue base for public finee. Deficit finaing of public expendir to mainain aggregate demand would tten macroeconomic imbalances through its influence on money supply and the balance of paymus. Money creation and public borrowing to fiace tie deficit exert accumulative pressures on intrest rates, exchage rates and general, as we!l as relative, prices. Such pressures are stronger for stnati economies, such as Zambia, which are undergoing secular structural change. High inliation combined with persistent economic stagnation has affected both the level and composion of public expenditure. A. gigE4od - EconoIc Growth and PubIk Fice 2.2 Zambia's rich mineral resources were well developed at its independence in 1964. During the 1960s, world market conditions genally fuvored Zambia. Relatively high and steady export earniws from copper during these years ,apey led to the illusion of consta wealth, which was reflected in the patter of govement exenditures during the 1970s. During this period, govemment funds were used to subsidize Imported agricultural products and hold down domestic food prices, principC y to the benefit of the urban population, thereby dicuaging domestic agricultural production. Ihe latrx was fuiher afected by the decisions to hold down producer prices of agricultural output. A/ 2.3 Th major downturn in the copper prices in 1974 brought Zambia into proacud economic decline, from which It has yet to recover. Between 1974 and 1988, copper production declined by 41 percent, export eanigs of metal prduc dedcined by 23 percent, and the mining sector's output in terms of value added dedcine by 33 perceni TIbis decline of the mining sector was compounded by the erosion of the genea terms of trade resulting in a toal loss of national income Ly 25 percent. 2.4 The Government attempted to develop the agriculture sector to off-set the decline in the mining industry. It placed high priority in its Development Plans on the sector. However, the growth potentW was not realized becuse the price incentive structur was frther distorted, and government intervention in the economy deepened. Y' E SbWion amn S4 ctlAdu slRA IMP, Riohard Hanmlug, 1991. &f Zam:hg A Ceunbv Study Mm Am_en Unv*sky, 1979. -5- As Table 2.2 shows, the reative prices beween agriculture outp and oicul output bave tuned against the agrcultn str. In general, the sector's terms of trade were depresed by the goverment policles, A/ and became even worse aftr 1986. The worsenig of the tru of trade for the agriculture sector lends sor to th evidence hat despito goverment prioriy on the non-traditional sectors, reource allocaions between the agriculte secr and the rest of thO economy was suboptmal, and the secors conbution to the (DP was below Its potential. Tabb 2.1: GDP growthBy Sect 1M7- 191 ~SON= Co c ss,4s Off i. Noe: a/ Pofio befoe the fan of copper prices in 1974. bl Poriodn which Zalh uWadeo the Bm* and Pud suppord adjurom prp _mfdby do PonpE" Autn . 2.5 Since 1974, Zambia's econormic sioon bas contiued. Between 1974 and i990, GDP growth was at an avaerg of 1.0 percent per anmutm, well below the rate of popwadlon growdh. As part of the gveramlent strtag to promoto oconomic diversification, public inlvese in bok tho agricultur and ser48ctors novase and mods gmt occured mn these sectors. However, such growth was mainy due to iaeae input inl use of land, labor, and import supplies. Dooamed evidenc for dieoSagdaltur sector suggests that labor and capita productivity suffered an crop yield per Imi of land dedlined. If lh poliit ho bwbc: * singe dnAd uotig qstem unlil May IM8; ooUebd conhdwde for mauz and kdM fo dam &Wg scuon; contmod tod abv I_s; mangf and oo_m m6iie o ;aMa on cas mp expo^t; oW IS pxo no agduu wn h if Sooar ombiLAfkeSfeS O Memonzum WOd Boo M 19. -6 - Table 2.2: AgiouW's Dadwr and nbuome Tarms of Tiall 1/ Bat Tam of Tade In of Agrioult Prducer Pres diided by Overall Index of C_umr Prics; Incom Tm of Trade - BTT Imes index of m_edation. Soumes: CSO Monthly Digest of Statistis and Minisby of Agrioulr. Word Bank 'Zambia - Agriculu Ser Memorandum', 1991. 2.6 The secular decline of the mining sector accompanied by lack of significant growth of the non-mining sectrs implies a shrinking revenue base. In fact, Government revenue dropped sharply from over 28 percent of GDP in 1975 to less than 18 percent in 1989. Mineral revenues as a share of GDP dedined from 3.8 percent in 1975 to less an 2.0 pecent during the period of 1975-1985. Despite the upur in mineral revenue peRibLaLi during the period of 1986-1990, it did not reach its 1975 level. In 1991, mineral revenues were at an all time low since 1986. Nonetheless, the Government's expenditures were not sufficiendy adjusted to cope with this drop In revenues. Instead, the Government continued to gear its expendures twad sustaining the public consmption and maining its inteientio in the economy. Table 2.3: Share of Mineral Revenue .. ........ s0ro:m Zambia - CewaSl sni Offie and Staff Ba;_4. Nole d/ Tolal Rom=e hnwes Sm. -7 - 2.7 Despite the decline in revenue, Government expenditures rose fom 27 percent of GDP in 1974 to over 30 percent for most of the fiscal years during 1980s (See Table 2.4). Exter borrowing was used to finance the fiscal and current account deficits, which were both about 10 percent of GDP. 'Me excessive public consumption squeezed domestic savings, which was further burdened by debt service obligations. As a result, domestic investment was reduced to below 20 percent of GDP from a high of over 30 percent in the 1970s. Table 2.4: Mactoconomlc Indhaz 1974 - 90 Scumo: CSO,Bn RandFund safffmt. 2.8 Zambias persistent economic stagoaton lies at the heart of its cutrrn eooonmic crisis. As a rich mineralbaed enomy, Z-ambias overwhelming concern for several years afte independence was tD use the governmelt expeodtme program as a policy usment to redistbute the wealth created by the copper Mnustry in order to swai ura consun4on instead of developing a viable altenative inustry to copper. The economic deteroraton accompanied by the'decline of the copper industry did not bring about a fusnda_e shift widi respct to the role of the Govamment in the economy, a chage in te incentive stmctur, and an adjustment between investment and consumption. Inlead, te bx=etive strucwre were fiurther distorte as the Govrermnent resorted to more extm finacing to susW public consuniption, more amnistave mewlures to regulate econmic advthies, and greater parastatal sector dominace in die economy. As a result, economic difilcation did not take place; the economic decline brought about by the copper sectoers misforom coinued; and the revenue base eroded. Thnese strchl impeients consMained gaowth and & efr the revenue bass, which in tur res-an the Govsmenes ability tD mobilizs resouces to financ expenditur programs ssella to economic growth and rewovery. -8- B. bmIc. SabilIt and SJadng 3 moWsdton 2.9 Tle long-tem structural issues underlie Zambia current fiscal crisis. However, to overcome the structural impediments and to brkg Zambia back onto the path of sustained growth, It is neceary to fist bring the persistent fiscal crisis under control. 2.10 lbere were a nmmber of economic reform efforts supported by the Bank and Fund to achieve fiscal balance during the 1980s. During the course of implementation, however, the Government's commitment turned out to be more divided than It initially appeared. Copper prices were weaker than expected, and donor aid flows were handicapped by weak policy implementon. In the absence of a fundamena shift in the Goverment's policy, there was no concerted effort to fidly implement the difficult fiscal retrenucbment measures, nor was there any commitment to reduce the role of government and to promote the development of the private sector. Tle most recent Bank and Fund supported adjustment program, which began In 1985, was formally abandoned by the government in May 1987. 2.11 In September 1989, agreement was reached on a Policy Framework Paper (PFP) setting out the medium-erm adjustment sag for the period of 1989 to 1993. Wtithin the broad fiamework of the PFP, an annual Fund-monitored fiscal program with specific maoeconomic and strucural adjustment objecives for 1990 was adopted. The Bank and Fund's supported fiscal adjustment program placed its emphasis on revenue mobilizati and expendi restructung. Two objectives were central to the fiscal adjustment strategy in 1990: ) reduction of the fiscal deficit; and ii) restrucring of the spending composition to protect and restore eenti public services and i cure. 2.12 The Implemetation of the fiscal program was in general disappointing. Overall spending exceeded the budget by a large margin. Some degree of restructng seding composition was adopted in the FY90 budget, but it was not sufficient. In mid- 1990, the Zambian authorities granted 100 to 300 percent increases in housing allowances to government employees not living in government housing, resulting in substantial extra- budgetauy expenditures. In addition, the taxation of fringe benefits was modified so as to effectively exempt fing beefits fom taxation. Becwause of these epasionary fiscl meas , the budget deficit reduction objective was not met, and a wave of labor unrest, demanding larger pay settlements, was prompted throughout the country. 2.13 With respect to the spending composition, the share for non-wage reaurent expenditures contiued to be inadequate, and spending on subsidies was reduced, but only moderately, in 1990. Spendmg on constitional items (such as military expenditure and expenditure by the poitical o continued to account for a large proportion of the total budget, though less than the height of the earlter 1980s. Within economic sectors, priority program conied to be neglected in the budget allocation. Difficulties were also encountered in enforcing goverment expenditure contol, and spending limits on other low priority budget km were also exceeded. 2.14 Achievement of fiscal stabilization thus continued to be the central objective of the adjustment efforts of 1991. The fiscal program called for a reduction in the primary deficit (on an acual bais, excluding grants and interest) from 4.3 percent of GDP in 1990 to less than I percent in 1991. Fiscal performance was good in the frst quarter, but went out -9- of control in the scond half of 1991, prImariy becaus, of continued low mineral tax payments, lak of repayment for crop finmcing from the cooperatives, and escalain maize susdy cost. Jn addion, the Governmt Introduced, stang with the miary pesomnne a 100 peren extraudgetary incs In basic wages and sadaies for all govement employees. As a result,. the final prmary deficit In 1991 (excluding grs) is estimated to be over 7 percent of GDP, instead of the targeted deficit of less than I percent. 2.15 Prolonged inflaion affects differet expendiwe items in different ways, but in broad terms, it distots the composition of public expenditures. Politically sensitive items such as wages in the public sector tend to be fully, or at least partially, mailntained by inreases In the general wage level, while the less politically sensitive items such as the non- wage reurrt budget and the development budget tend to be eroded by inflation, or are reduced to contain the deficit. Data shown in Table 2.5 below indicate at over the longer period between 1976 and 1991, the growth rates for both wage and non-wage recurrent nonage expenditures lagged behind the geeral price Increases by almost an identical 7 percentage points per annum. lbis seems to suggest that over the long-run, inflationled erosion of the recuent budget applies equally to wages and non-wages. However, over the shorter period of 1989-1991, government spending on the wage bill has been fully adjusted with the general price increases, while growth of the nonwage recurat budget has lagged behind both the rates of inflation and wage bill Increases. The evidence shows that the short- term trend in public expenditures has not been in favor of the nonwage recurrent budget, with the Government yielding to political pressures to compensate for the impact of inflation on wages, and the balance between wage expendures and Recumrent Departmental Charges (RDCs) Is being biased against the latter. In a highly inflationary enviroment, inaeases in wag epend might again take priority over non-wage recrnt expendiu. 21 Tbe 2.5: Annal GrOmto Wage and Recurret Expiditure M.- Source Cem"u Sitical Offic 7/ IheAdwr fiml_in is tt iadt whe used as a do fcto Instmnt to tax ft publi, is zcsgroive in asuro, ImpoIg heavi tax burdes on Xt nts of the public srvic than on the recpets of public wag. Thi, th ned to pdo paolicll voca urbn poorr wi make It dfc to rsucome govnmn spendg in a way th at& might dw the shod &un adeely affect the urban poor. - 10- 2.16 Fiscal stabilization trough enhancing revenue and contining expenditure would help create a more credible envIronment in which restructuring of public expenditures can take place In order to improve resource efficiency, whereas faiklure to achieve the fiscal stabilization wold result in a higher rate of inflation and perpetuate the current spiral of aion and wage increases. In this case, restructuring of public expenditure is not likely to improve the efficiency and effectiveness of the budget performance, since any additional resources being channelled ftom non-priority sectors to the priority sectors may not result in fiacing the priority funcdons witbin the priority sectors. For instance, there have been rers at Increased allocations for grants and payments aimed at funding supplies of n drugs through district councils are being diverted to fund wage spedings;. Therefore, deficit reductions and economic stabilization are critical conditions for the effective restructg of public expenditures. 2.17 In summary, bohi the economic decline and the high inflation of recent years have distorted the composition of public expenditure. Achievement of fiscal stability requires that the budget deficit be reduced and the level of public spending be contained. Restoration of growth and investment requires that the composition of public expenditure be restructured so that the limited resources wIll be used more efficiently and productively. But, this will have to be predicated on a stable macro-economic environment and a so'.nd policy framework. A sound macro-economic framework is therefore essential to address the growth nd fiscal stabilization issues. In this regard, public spending should be viewed not only as a coMponent of aggregate demand but also as a policy instrument in facilitate a supply response. Management of public expenditure should, therefore, be addressed in the macro-economic contex. C. n Macroexnomic Fhnrk (i94) 2.18 The level and composition of public expenditure are major deaminants of the viabilbt of the m m-trm macroeconomic objectives. Ihis section will develop a macroeconomic frmework In which the extent of expenditure adjustment over the next few y can be quantified. The radonae for creatng such a framework is to define the level and composWon of public expenditure conitent with the targeted growth of outut, and a viae balance of payments position.e sequen steps to be taken in defining the frAeok are: i) desred balane of payment position; U) level of savings and investment requird for targeted GDP growth; Ill budget deficits (or surplus) implied by the difference between the et accunt balance and private savings; and iv) government expenditure level implied by the trgeted revenue mobilization and given the budget deficit already defned. - 11 - Table 2.6: Maoconom Indicatos, 1991 - 1994 mpp ............~~~..S.\ i/ Non-gvnmen sllvi" haw bece a 4wusd to inlbude dakw private uunsS. Smo -Booncad Pkne Pm*vd lg2 194,- GRZ, BP and Wodd Bau 2.19 Balance of Pyeon= 'MetoL h on-going declin In coper export revene and lage exw debt ser-vice burden ar8 to8 CeDtrd radites of Zams baC8 of payment positon. Mm copper exortvohn has alteady fllen from 430,00 umtric tmin 1990 to 37S,000 metric tons in 1991; and it i8 epected to stabilize at duia levd until the 1sts 1990's. CompoIunditg thi, copr prices have dropped from US$1.20 a pound in 1990 tD about USS0.97 a pound at present, and may fa11 even fiurher during te medium term in response to grown world output and sundgdemand. Zambias externd debt service payments fiallin due (exdluding payments of affars) in 1991 wemrequvaent to about 60 percent of its exot of goods and services; its eaxeS debt of USS6.5 billiou was equal to 560 percen of its expo of goods and services. 2.20 In view of th poor outlook for copper apo8, thie Govemments objective of 10-15 percent dma growth for nontraditioral export volumes over the am decade is th minimrn nwssyl C8 the fi balalc of pamet viablity i8 to be m .mid Even with the apid groa in service receipts,, toW exprs of goods and seMvces (including copper) are projected tDogrw at only about 2 percent a year during the medium term. 'Me scope for - 12- rapid import growth is limited. Reflectng tie expected decline in copper export revenue and some recovery in imports, the current account deficit (uding official tansfers) is expected to increase from US$65 million in 1991 to US$374 million or 1.3 percent of GDP in 1992, and to grow only slightly from 1993 to 1994. 2.21 Invement and Growth. e ultimate goal of the urrent adjustment program is to reverse Zambias long economic decline and restore the momentum of growth. Ihis requires efforts to foster savings, investment, and economic diversification. Toward this end, it is essential to scale down government involvement in the economy, reduce government command over resources, stabilize financial and fiscal conditions, and create an evironment in which the private sector can prosper. The growth target as set out in the PFP (1992-94) stipulates GDP expansion of 2 percent, 3 percent and 4 percent, respec y. is growt target implies a modest increase in per capita iacome in 1994, but could set the stage for more accelerated growth during the second half of the 1990s. 2.22 In view of prowective declines in the mining sector, hitting the target growth rates will require the non-mining sector's GDP to grow at 2.0 percent in 1992, 3.0 percent in 1993 and 4.0 percent in 1994. To achieve this growth, Government policy will facilitate: i) a substantil increase in domestic investment from 13 percent of GDP in 1991 to 21 percent in 1994 accompanied by a shif in investment composition in favor of undertakings by the private sector; ii) an increase in the uization of existing productive capacity; and iii) improvement in invesant efficiency. Table 2.7: Soures of nvestent, 1985-1994 (K Mi;ion in cre pies) -.:; -N-k.. .*... X 111 I..l.... .... . ,- Nas: a/ons, "nanoW Smo1e, t78s 89 4RZ sta 4ff 5.ates U 'Amud Rept 199O. and 19W * 2aMCO. Q/ PA*kt R .GIa .''i die po . - 13 - 2.23 lhese three aspects of government policy have relevance for the public expenditure programs. To support a susined rise in domestic Investment and to increase fincial resources to the riva sector fbr investment activities, the Govenment needs to asure adequate financial resources to the private sector by shifting its own financial position fom substantial net domesdc borrowing in 1991 to moderat net repayment starting in 1992. Furthenmore, the Goverment needs to implement a strong fiscal program to creft stable financial conditions for investment by the private sector. Tbis will have to be enhanced by effective restrctg of public expenditures to ensure that the public infrastrucre is being expanded and mainined to support and complement the private sector investment activities. Thus in the context of the overall increase in gross domestic investment and the accelerated efors to privatize and divert financ resources from the public to the private sector, non- goverment sector investment is projected to rise from 6.2 percent of GDP in 1991 to 15.8 percent of GDP in 1994. 2.24 In addition, Government policy needs to be aimed at mobilizing domestic savings. A nmber of policy instruments will be applied to achieve this objective including inAerest rate policy, tax reform measures (as discussed in the following section), and adjustment of the public expenditures. With these policy measures, gross domestic savings is epected to rise from 12 percent of GDP in 1991 to about 15 percent in 1994. Private savins (including tasfes) would decline from about 15 percent of GDP in 1991 to 12 percent in 1994 as the current account deficit steadily grows during the same period. 2.25 Fiscal and Monetuv Obieci. The principal objective of fiscal and monetary policy is to create stable financial conditions in which growth and investment can be restored. As discussed in the previous section, Zambia's inflation in the past has turned out to be more persistent mainly becase of the failure to implement effective fiscal and monetary reaints. There is a need to end completely the habitual use of inflationary domestic borowing to finance government spending if a stable economic condition is to be restored. The specific fiscal objective is to achieve a primary deficit in 1992 that can be financed enirly by net foreign assistance. The primary budget balance will show a deficit of no mor than 2 percent of GDP in 1992, and will be contained at about that level in 1993 and in 1994. The primary budget balance for 1992 will be consistent with the objective of maintning a curent account deficit at 1.3 percent of GDP and maintaining a private savings rate at 15.3 percent of GDP in 1992, 15 percent in 1993 and 12 percent 1994 (see table 2.6). Net bank finacing of the deficit in 1992 will be zero, and the Government will make repayments of about 1 percent of GDP in 1993 and 1994. Of course, this fiscal objective will be supported by measures to improve revenue as well as to contain spending. 2.26 Negtive net borrowing on the part of the Government during the period of 1992-94 will enable the Bank of Zambia to control money supply growth by m _an g the expansion of credit to the private sector, the accumulation of foreign exchange reservs, and the volume of debt swaps. Growth of the money supply will be limited to 25 percent in 1992 (December to December), and wil decelerate further in 1993 and 1994 in line with inflation targels. Effective implementation of the above outlined fiscal and monetary aits is consistent with the objectve of brn down domestic inflation to 45 percent in 1992 Mecember to December), 15 percent in 1993, and 5 percent in 1994. -14- 2.27 evu nd ifir Ebz ditue. Comprehensive tax reform wi help to resore Zambia's financW stabiity. he objective of the tax reform efo. is to establish a more effeive rven onertng mechanism that ib also more buoyant, fair and efficiet The revenue objective is to raise the totl domestic revenue from under 17 percent of GDP in 1991 to between 18 and 20 percat of GDP in 1994. Achievement of reenue mobilizaton wil enta ms of both tax and other revenue insdtions. 2.28 An independent Reveeue Board will be established In 992 anad the Tax Datmen wil be computerized, dong with IWwed comption evs for the tax officials. These mures aimed at improving revenue collection capacity and stff Inentives will also faciitate tightened enforcement of tax leslatio. le stru of the idivdual Income tax will be overaled with lower tax rates, wider tax bands, a higher ffctive exemptio level. Broadening the tax base will also entai a major restruct of the compay tax to be undertaken in 1993 through reducing the tax burden on companes while diminaDg most tax preferences. Ile sales tax will be unified at a rate of 20 percent in 1992, as a prelude to intoducing a much broader based value added tax in 1993. Exercise duties wl be harmonized in 1992 to apply equWly to impors as wel as domesic products; this structural reform will set the stage for levying excise taxes on selected luxuries start in 1993 in place of high import duties. Attention will also be focused on non-tax revenues. Fe and levies will be increased in 1992 to yield increased revenue. Thereafter, they wil be monitored systematically to prevent a recurrence of the recent losses due to inflation. 2.29 Given the projected revenue levels from 1992 to 1994, Govement xpenditure levels will have to be contained at 27.7 percent of GDP in 1992, 23.4 percent in 1993, and 21.9 pecet in 1994 to be consisten with the fiscal and current account objectves describd above. In 1992 Government expenditures will be reduced by two percenge poutsfrom its level in 1991. m. MANAGEMEWr OF PUBLC EXPENDtIURE A. hd"giiagndljamnlu 3.1 A process can be defined as a sequence of actions, information flows and decisions leading to a resut. In order to Improve financial performance, fiacial manags in business companies and governments alike have leamed to focus their attentio not on a specific result or problem but to study and make continual improvements to the underlying proses that produce the results. 3.2 Similarly, in order to improve budgetig and planing In public fiance, managers must reognize that budgeting and planning are processes. 'Mey Involve several groups of people, the fow of information, decisions, and often se iterations of Information flows and decisions. If managers and analysts focus their atetion on a single component of the process, they are usually met by defensive reactions and finger pointig. Decisions made under such cirnces sre often isolated from the whole procs. This reaction can be antcipated because the root source of a problem seldom resides in an hidhidual or an individual department, but more commonly in the process or system itsef. 3.3 Establishing tasparent procedures, dear accountabiities, and contnuous Iter-tions of informadon flow and decision making is the main function of financial management. Since root problems are most often found at the intersections of sub-processes, successful improvement efforts require a broad overview of the process and joint discussion by aU stakeholders. Processes need tD be examined in detail. Stadards and mes of pe*formance are necessary for all parts of the process. 3.4 In Zambia, the task of putting together a ministry's budget involves Information flow and decision-making, Iteraing among several disprate instutions. Each of these actors must play some role in the process. However, as discussed below, those roles are not always dearly defined. Because of the confusion that ensues, budget decisions do not emerge from well iteraed processes, nor spring from careful policy directives from seior financial mnager, but rather dribble out of muddled discussions between lowdevel 1. Th0tnJufim m inrokd 3.5 The institutions involved in the budget pro can be analyzed from two perspetive: Intctions between different ministries and among different units wilhin the same ministry. 3.6 The center of activity duing budget preparation is naturally the Offic in the Msay of Fince. The Budget Office prepares budget ceilings" which are distrud to each of the ministries. As a next step, budget analysts in the Budget Office take re sibility for receiving and reviewing budget submissions from the sectora mIist and povinces. Analysts must work out final agreements on the specific, line-item by lineItem budgets which appear in the final government budgeL -16 - 3.7 The National Commission for Development Planning (NCDP) is responsible for charting the long-term policy course of the GRZ. It puts together Nationa Developmeat Pls which Include specific proposals for the deveopmet of each of the secos in the eownomy. Its role In the budgeting process can be mmaized as: i) prepai capital expenditure through coordination with the sector mWistry's planning unit; ii) participating in drafing the budget guideline; and iii) articuating the long-term development strategy to guide the budget formulation. 3.8 NCDP has not been as effective as it would like to be in intacftg with MOF, l/ with the rest of the sector ministries economy, and with pstatals. For understndable reasons, Its Five-year Development Plans have seldom served as an usetfi guidance over kormulation of sector budget and development programs. Its recent involvement in preparing the Public Investment Program has not gone beyond coordinating the production of a document. In some cases, NCDP has not even been updated on policy and priority shifts concerning sector development issues. In recent years, with the movement away from centrlized planning and the joining together of NCDP and the Ministry of Finance, NCDPs role has become more ambiguous, and its relevance to the rest of the economy in planning and budgeting less obvious. Nonetheless, the Sectori Planming Department of NCDP still has a role to play in the budget process. The Sector&l Planning staff reviews the capital budget submissions from the ministries for which they are responsible, e.g. the member of the Sectoral Planning department with responsibility for education will comment on the line-item by line-item education budget. The Loms and nvestment Department of NCDP reviews -loans and investment in the budget document for both sector minies and the major parastatals. 2/ 3.9 The budgeting process within each line ministry starts with the expenditure eings sent from the Budget Office to the "controlling officers" of each minstry 1W who decide how to allocate those resources. Formally, those decisions are based on policy drections decided upon by high-level managers. These directions are supposed to reslt from aysis of the most presing difficulties facing the sector, an analysis most logicaily carried out by the planning units in the sectoral ministries. Unfortunately, the sector ministries' planning units are often not particularly effective in analyzing their sectors IX. They do not have the staff or mandate to collect information about trends, analyze that information, and make informed recommendations to the high-level managers in their ministries I/. f Though tchnicaly NCDP was part of the Minity of Pnace until eoely. 21 To kep these pas from woring at row puwpo, fth Budget Office esabhed ecoal teams onsing of staff from the BudgR Ofce, the Loans and vestm Paning De mt Scor Planning Demen to deal wbh t major economic ector minities. I Controig Offsir are those with managmet nsibliie for ach budget heading. For exl, th Permanent Scretay of Ministry of Health is to ceotroing offie for the Miny of Heakh budget. l Tbes diffic in sectoral planing ane dcrbd in. geater dta in daft 'Zmbia PW Sector Managem_t Review Rqpt datd Aprl 10, 1991. W For example, as the autor was olbecting inormat for dti repott, he oletd gen_ral, nadlculary- dsaggegat hinfmation about urab in health expens. He brught a daft of table saumng that inforato to te Heat Planin Unit in hopes of havig them vify tho acoury of tho data Ratr tha lkng ciicaly at to dat tho plaig unit was immensely grateM for th informtion, fo it bad act ocepled simiar inm on it own. Tough t info on was quit geal and was basod an published GRZ - 17 - Thus, though the Planning Units are designed to play a strategic role In shaping budgets to reflect the stated policy objectives, in some sectors, such as health and educadon, they are immensely Ineffectual. 3.10 By default, major decisions in budgeting and planning have been left to the Acountant Unit within each ministry, these budgetng decisions are not based on sufficient inomation no sufficient tetion of an Information flow among the key stakeholders. In the absence of such budgeting processes, these decisions do not reflect and support government policy and progm objectives. The Accountant Unis are made up of accountants seconded to the sectoral miity from MOFINCDP. lbey do not have the fomal terms of reference in the budgeting exercise. It is the depament heads who are supposed to frmuate departmental budgets that reflect their policy objectives, and the Accountant Unit simply sums those separate sub-budgets. But in reality i, it appears that in the absence of efectve management of budgeting and planning, the Acountant Units put together the mindteri budget submissions. Tbe Chief of Accounts has no option but to assemble a mstrial budget that makes no sweeping changes from year to year. TIhus, although de jure the Accountant Unit does not have a particularly significant role to play, de facto this unit is responsible for many features of each year's budget. The most notable consequence is the lack Of iteration of information flow and decision making between the functions of budgeting (by the acountants) and departmental and ministerial planning. Therefore, causing a strong policy imprint on ministerial budgets. H. in l Steps in the Budget Prooe 3.11 The interactions of institutions during the budget process will take place in sequence and over a given period of time. For example, the schedule for the insttutions involved to prepae the 1992 budget was to proceed as shown in Table 3.1. Tabl. 3.1: Bud8 Pn,e an Schidle ~~~ ~~~,~~~cxp$4:44:.:*::: ...'..~~~~~~~~~~~~~~~~~...... 3oww- MiniWy of Fmnce. ~ ~ ~ ~ ~ ~ ~ ~ ~ '- ~ 1?mnmniu Repoita, it proidd toom for healt polrcy anyalyi whic the MOH Hisalt Plaunnn Unit ha not don on its own. 13/ According to die PBt misson' kfterviw. -18 - 3.12 ewng. the Budget Ceings. The Budget Office in MOF ltlathe budget process by preparing preliinay budget "ceilings'. They prope levels of discretlonary expenditures' or that part of totl public expendiur ootg of 'recurrent deparmenal charges* (RDCs), "grants and other payments", and 'capital expenditurs. The budget 'ceilings' do not indude 'personal emolumen' which, as a budget category beyond the control of depatmental and ministerial managers, are excluded ftom the budgeting proces until the very end. 3.13 Allocations to the tree economic types of spending are based on normative judgement on whether the previous allocations for each of the broad sectors were sufficient and whether allocations by the three economic types for each of the broad sector should increase or decrease. For each of the three economic tvpes, the Budget Office first determines how much should be allocated to each of the broad seuors of public expenditure: the Eonomic Sector, the Social Sectr, and Government Adminison. Once the Budget Office has established ceUings for the broad sector, it uses a similar process to establish ceiRings for each of the s ectors. The process cascades in a similar manner to a point where allocations for each sub-head in the budget has an est_ied alocation for the three economic types of expenditures (RDCs, capital expenditure and grants and payments) which make up disrtonary expeditures. In any case, the incremena adjustments based on normative judgements dominate the formulation of budget "ceilings'. 3.14 b ainof Donor CLun1erDarL Fund. The budget will not be complete and plementation of the budget will not be effective unless the counterpart funds generated by extrnal financing are integrated into a common budgetary framework. This is why the secnd step of the budget process involves consultation with the donor agencies regarding their aid projects and programs in the new fiscal year. 3.15 While the Government needs to bring the counterpart funds into Its common budget framework, some donor countries have policies which insist on the use of countepart funds to the specific expenditure progms. It is not yet possible to fuSy integrate the donor coutespart fund into a common budgetary framework. This is in part due to the unertainty over the size and composion of most donor programs for the next fiscal year and to the emarking of the counepart funds required by many donors. The eamaking reflects the priority the donors place on their progrm and as a response to the weak expenditure control over budget implementation. 3.16 lhe other issue is coordination of donor efforts at the sect level. Lack of donor coordinadon has resulted in donor funding of capital and import intensive projects without taking into account the recurrent cost implications. In other cases, doors may come diectly to the sector minstries with Investment projects outside the Public Investment Program and outside the fiscal budget Undertaking these projects would require supplementary budget allocations. Unless such donor efforts at the sector level are Inegrated within the budget process, the government budget will condtue to remain incomplete. .19 - 3.17 ID srag Budget o Celinga. Onco the controlling offcer have received their budget ceilings for discredoary expenditues, their responsibilies a to prepar their preliminary mnisteal budget submissions. The process to dtheb *e budget ceilipgs should involve the planning units and accoung units in the mhstries. lhe planing unit is suosed to provide ysis a ns fbr the controUing offier (I.e. the Permanent Secrety (PS)) to make strategic policy decisions about the direction that the ministerial budget is to take. 'he controlling officer is then responsible for assembHlng a disaggregated ministerial budget that reflects government-wide priorities and policies. Yet, at this stage of the budget process, controlling officers have not received restrictions from MOF/NCDP on the amount they can spend on personal emolumen"t. The accountancy unit detemines the total mmber of staff on the mlnisterial payroll, determines the salary and benefits entitled to that staff, and then calculates the amount of money that the ministry should request for persona emoluments. 'he budget submission that they discuss with MOF/NCDP is the discretionary expenditure ceiling plus the total persona emoluments. 3.18 In fie the controlling officer brings together the department heads responsible for different elements of the budget and sets down paramer for the coming budget exercise. Based on these parameters, depatment heads put together budget submissions that are then assembled by the accountancy unit. In a series of inter-departmental meetn, the cotolling officer, department heads, and accountancy staff combine the departmental budgets so that they fit within the overall budget ceiling for discretionary expenditues. The process seems to take iterations of instuctions fom top to botom, and feedback from bomm to top. In prc3 e however, it seems that this iteration does not exist, or to say the least it does not take sufficient loops. Department heads do not take an active role in putting together departmental budgets so that they reflect new ministei priorities. In addtion, there is lack of techni al capacity for the planning units to analyze spending trends and to formulate spending priorities to support development objectives. By default, the accoutat unit, made up of accuntants seconded from MOF/NCDP, assembles each year's budget. Unaware or uninterested in the necessity for new budget direction, these ,unctionaries will assemble minister budgets based largely on the previous year's allocation. Inerta, not policy. carries the budget forward. 3.19 Joint Revie,w of Budil Submissi . Once the budget submisions bave been sent to the Ministry of Finance to be consolidated, a joint review by the Miistry of Finance and NCDP should take place, by the former with respect to compliance with budget guidelines and the overall efficiency of expenditure, and by the latter with respe ". to the compositon and priority of expenditures. Thi practice was introduced in 1983 and contiues to date. However, the effectiveness of this practice is questionable. Once the inkge between the budget ceilings and expenditure priorities at the sector level has been weakened by the lack of integration between planning and budgeting, and by the lack of iteration between finaca managers (I.e. department heads and controlling officers) and _ i would be unrealistic to expect this joint review to fully redress this shorl at the nationa level. -20 - 3.20 Iter-inisterial Discussions. At this stage, the secorI t from MOF/NCDP will negotiate with representadves from a minstry I order to aive at ministial budgets that are to be then compiled into a dft, gonmet-wide budget, or a drat "Yellow Book". Adjustments of mistry-based allocations a expected in an attempt to adhere to development priorites. Hcwever, in some cass, taking and giving thou negotiaton also determines the outcome. 3.21 Par i =Ianta n Ohffice mgd o The Budget Office presen the draft "Yellow Book" to the Cabinet Office. After Cabinet appoval, the Minisr of Finace presen the approved budget to the Parliament The Parliament members review the budget, and afte altering any elements as they see fit, appro it as a fcial guiddine for the coming fiscal year. ii. SWUm= and RLahumMmdations 3.22 In short, the budgetng and planning process has sufeed from drawbacks in several ara. First of all, the functions of budgetig and plannirg are not well integrated. This is manifested not only in the lack of integration of planning into the budgeting process at the macro-level, but also within each ministry. There is not enough communication between NCDP and the key economic ministries during the budget proces. Contrlling officers at each ministry do not adequately involve themselves in budget preparation and thus do not make major changes in allocations which would focus resources on the priorities established in the key policy documents. In the absence of input firom high-level managers, lower-level funiionaries assemble most of the Items in the budget. UFderstadbly, they are unlikely to stmp those budgets with evidence of bold new directo. Thus, despite fact that the Government has set up a sound budgetig procedure aimed at integratng the budget allocations with the policy objectives, In practice such integraton has not boen caried though. Furthermore, the ambiguity surrounding the role of the main plar (.e. NCDP) and the general lack of planning capacity have also undemined the budget process. 3.23 What has complicated the matter further is the lack of integration of the donor counerpart fnd into the budget. Despite efbrts from both the donors and the Government, i is still not yet possible to accurately estimate the size and composition of the donor countep fund for incorporation into each of new fisa budget. Tbus, during the course of the fiscal year, requiement for an additional counterpart fund arise outside the budget fiamework, can exert pressures for supplemeny budget allocations. There is also a technical problem with the budget process. The discretionary budget ceRiigs which constrain minisial budgets exclude personal emoluments. Contrlng officers are free to detenine personal emolument totals with no prior restrictions placed on them by MOF/NCDP. Ministries and provics determine their total personal emolument needs based me ally on how many staff they had to provide for in the previous year. By leaving these types of expenditures out of the early rounds of budget discussions, the GRZ forgoes a significant, if difficult, opportunity to change the composition of its expenditre. 3.24 Because of the above factors, the budget process proceeds in an rmenta approach. An incremental approach is sufficient for finetming a budget on the mari. But it does not suffice for ruturig a budget to deal with a cis situation. Zambia is in the midst of a budget crisis, needs to undergo some structra cages, and would be better -21 - served by a budget process that rationally roallocates resources within Its public expenditures. lbough they are likely to take hold only over time, the recent initiatives to implement Forward Budgeting are the first steps In the right direction. 3.25 We recommend that the Forward Budgeting Initiative be continued with a view to strengthen the integrion of budgeting and planning W4A. The Forward Budget oxercise (also known as "program-d budgeting, or *zero-based budgeting") can be an effective vehicle to focus the attenon of the hIglev mangers on a limited nber of priorit programs. Starting from these priority progam, the managers build their budget requests around ways of fulfilling these proga objectives over time. The budgedtg exercise becomes less focused on the demands of adminitatve units and more focused on the needs of priority programs. Furth, we consider it imative for the Goverment to clearly define the role of NCDP in long-erm development plannig and in relation to the Miistry of Finace. The currt ambiguity needs to end. NCDP's planning function should be shifed from that of the ambitious five-year plan to strategic planning which focuses on efficient use of resources in the public investment program, to long-term policy planning in areas such as land and manpower development, and to the analysis and review of maco-enomic policy ssues. Finally, it is importut for the Goverment to further pursue the integration of donor nrpart fimd in the budget. lhis may include initiating a study on the practices and procedures regarding the use of counterpart fund, and to formulate a Zambian proposal for ceang more flexibility over the use of counterpart fund. Such proposal could be presented to the donor community for consideration with a view to harmonizing donor policy and procedures with those of the Government of Zambia. D. Em Ct 3.26 Expenditure control is a critical instrument to ensure that restructured budget llocatons result in channeling resources to the intended priority fimctions and sub-sectors wihin the priority economic seCtor. 1. m and Reonsbit 3.27 It is the responsibility of the controling officer to ensure the adherence of a particuar department or ministry expenditure to its voted allocation. Ultimately, the controlling officer is responsible to the people of Zambia trough their repre ves in the Parliament and is accountable to the Public Accounts Commission. Obviously, the controhi4 officer alone can not properly manage public expendiu. The effective contol and e of public expenditure require: a set of well defined policy objectives to guide priorities; capable staff to whom an appropriate degree of responsibilities can be delegated; some flexibility to react to changing cIr tces; and a reliable expenditure information system which provides the basis for making accurate decisions. If As recommdd in the Word Bak PSM pogt, the fitst pdott is for dt Oomout to sengthe _zndiue control ard t Forwa Budgct shoUld t oonday piort. Hover, sineo this exeise wM tko , it cul be underaken in parlwith t expdtn coL -22 - H. Uzd.i1U C Iontl in Raft 3.28 Thero is, however, plenty of evidence suggesting that, due to a number of factors, expenditure control has not been properly implemented and Increased budget allocations have not resulted In incased funding for intended programs. 3.29 DurIg 1989 and 1990, every budget head (except one) had supplemenay prvisions. The supplementay provisions represented 30 percent and 25 percent respectively of the original budgets. In 1989, out of 45 heads, 22 (or 40 percent) incured uMncnttonal expenditure. Of the remaining 23 heads, 10 (or 22 percent) spent less than 90 perceat of their allocations (mcluding suppleme allocations) and only 13 (or 29 percet) fuly and properly utilized their allocations. he unconsttional expenditures are summarized in the Table beow. Table 3.2: UnconsWlionu Ependitum - 1989 a~~~~~~~~f MM| Souf: A Dsolion Paoor at Work on BudearS Corl, Jun 1. 3.30 lhere areL further instances of deliberate bypass of the financial regWations. A large amount of goverta fid (allocated for provision of puiblic services) is tied up in below thie line accunts such as imprests, loans and advances, many of which have not been redred or repaid. Ihe Auditor Geneal stated in his report on the 1989 accunts; ' ... During the year under review, spsial imprests were trste as staff advances and a sourc of ready cash recoverable on instament. Staff advances were granted beyond limits and recoveries were not affected on tims. There wvas a static balance of specia imprests and advnmce as ws11 as balancss not deeified to indivldual offlcets. Glenerally, there was no control over the below-the-lino triumactions.' Since then, the situation has grown worse. As of the end of 1991, oumtanding imprests have grown tD a total of K720 mfilon from 250 mlllion by te end of 1990, loans and advances outstanding have grown tD a total of K101 million to a total of K330 million. -23- 3.31 The lack of expenditure control can be attributed to three principal factos: accounbility, staff capacity, and the information management system. As the prvmous World Bank PSM report indicates, the problem is not so much with the design of the budget Implementation procedures, but with enforcement of the existng procedures. One indication of lax enforcement is that during the past five years, the large amounts of unconstitutional expenditre have not resulted in a single controlling officer being subjected to a penalty of any kind. This in itself explains the recurrence of the unconsitutiona expenditures. 3.32 Tbe controlling officers alone can not dfectively manage the expenditure system. Ibey need competent staff to delegate some of the responsibilities and a reliable information system s0 that the expenditures are accurately reported, and deviations from the voted alocations are detected in a timely fashion. 3.33 There is, however, a general shortage of well trained staff at every level of the GovernmenL Responsibilities are often delegated to those who are ill equipped, and chains of command are ambiguous. Senior and middle-level managers delegate duties to junior staff with little or no training, and then do not adequtely supevise. Thus in eence, responibilities are abdicated. 3.34 The Governent Accounting System is procesed by the computer facility (The Data Processing Unit) at the MOF. However, it has been reported that information provided from the facility is hardly used by the line ministries because such information Is not upto-date and grossly inaccurate. 3.35 There are problems at both the source of infrmation and at the Data Poessing Unit (DPU). To begin with, the Accoundng Units at the line ministries do not provide data to DPU regularly and when provided, it is ofte in the wrong month. A test conducted by the donor-funded consultants shows that 38 percent of the September 1990 xpenditure items were submitted to DPU for processing as the October transactions. On the other hand, DPU is not capable of providing rdiable services, as the time taken for them to proess data Is too long. A sample (gathered by the same group of consultants) shows tht about one tird of the transactions were not punched until more than 14 days after they were received by DPU. A furth 51 percent took beee 8 to 14 days. Consequently, the computer-generated abstacts from DPU do not reach users at the line miistries until about two months after the end of the month to which they rfer. 3.36 The lack of credibility with the computerbased accuti system has led to reliance on the manual system. This has eroded the capacity of the Government to effectively manage Its expenditure accounts. lbe manuad ystem, even when it is efectively prepared, does not match the computer system in accuracy and speed. 3.37 The controlling offlcers have not been able to exercise effive managemt partdy becamse they do not have the neessary Informaion to monitor and control the ex_uem. When the unconstiuional expenditure is repoted, It is often too late to Impose anly meig b peaty. - 24- 3.38 The inability for the accountin units to provide timely expenditure reports and for DPU to prompdy procs those reports reflect the oveall wealmess in technical and management capacity. It is not merely a 'ack of accoutability on the part of the controiling officers, nor a shortage of well trained staff to whom responsibilities can be delegated, nor a lack of computing equipment and skldls at DPU. It is the weakness at all the crucial parts of the system that attributes to the overl faiur of the system. in. St i * tn - SK 3.39 Improvement over expediture contwl would require an itegrat approach to addressing the weak links in these areas and would require efforts to overcome short-term constraints as well as to build up the technical and administrative capacity over the longer term. Achievement of these goals would have to build upon undeastanding and developing a consensus among the key budget management officials that the lack of expenditure control is not simply a matter of lacking efficient computing equipment, nor simply a matter of lax discipline over expenditure over-runs. Over-emphasis on one single aspect of the problem syndrome without addressing the other aspects would result in finger-poing only. In our review of the expenditure control issues, we consider I i important for government to address the problem in sequence of steps with a view to differenating between short-term and longer-term constraints. 3.40 The Government has announced its intention to enforce compliance with the fincial rules and regulations as an immeiate pxasu to strengthen accountability in the management of public expenditures. In pardcular, the Minister of Finance has both issued inructions to the controlling officers and made public announcements warning that future deviations from the voted budget would be subjected to disciplinary actions. Such strong expressions of intent would certainly heighten the attention of both the senior and the working level budget officials. But this alone may not be enough. The fact of the matter is that despite the nmnerous accounts of expenditure anomalies contained in the audit reports of the past few years, none of the responsible controlling officers have ever been subjected to disciplinary actions. The recent election of the new goverment has given Zambia the best chance to eliminate political Intervention in the budget process. Nonetheless, the accuntability of expenditure control has to start at the very senior level. Within each spending ministry, the ultimate responsibility of the Zambian government to the public in use of tax payer's funds to provide for public services lies in the hands of the controlling officers. This report recommends that follow-up actions be undertaken to enforce expenditure control. Specifically, the coltrolling officers should be encouraged to reject any requests for expenditures outside the voted budget items; and beginning with the next report from the audit general, the controlling officers fund responsible for the deviations from the voted budget should be publicly penalized. 3.41 In paralel to the "stick to be applied to the senior budget officials, carrots are also needed to support the sgthened maia resoibilities. In particuar, a sytem-Wwide review of thoe inrmation equipment in the vaious parts of the Government is required to ident the core constaint in pcn, and reportg budget information. Two areas that seem to warrat particular attention in the short-tem are: equipment needs in the Accunti Unit of each economic minity and eqwlpme needs in the Data Processing Unit at the Miisbtry of Finance. -25 - 3.42 Ihe othera wh wich needs to be applied at the same time is manpower development for budget throughout the govenment officials. Admtedy, manpower development would take a tm period longer than both the strengthening of accountablity and the installment of Inormation equpment, but the bendefts are essential for the susinabiity of any initiatives to improve the etuemanagement. In this case, the manpower development priorit houd begin with budget officials at the Data Procssing Unit of the MOP, and In boh plann acounting units of the major economic ministries. Further prirt should be given to the accounting and planning units of the provincial adminirton, and of the major district councils. C. CQpong with Unem1ainLt 3.43 Effective management of Zambia's public expenditure program has to cope with unceanty in four area. First, Government revenue from the mining sector has proven to be eatic in the past. Production levels have often been afected by unxpected brekdowns of major mining and proessing facilities, and repair and maintenance work has been delayed by lack of ssent equpment and spare apart. Shipment of copper products to the overseas marker and thereoe copper receipts have been suhjected to the conditions of roads and railways as well as the labor-management relations, which have brought movement of minal products to a trickle or complete halt in the past. Furtier factors affectng copper revenue ncdlude flucation of copper prices, as well as unexpected increases in ZCCM's expenditure on pesonnel on and automobile fleet and non-essental mining equipment. 3.44 Second, some Goverment expendits ar outside the budgetary ceilings and con proedures. spedig on peronal emolumens and subsidies haracterized the breakdown of tho budget process. In the last hree years, none of the major wage and benefit hierases for govement employees were in the budget Extra-budgetary editues were made through reduction of budget in other areas, or through supplementary alocations, which uzndminedat expenditure programs and threw the budget into imbalance. In addion, sending on maize and fertilizer subsidies was open-ended, and dominated by the politis of appeasing ura consumers and the need to bail out financially banupt cooperatives. No fOective and lasdng budgetary ceilings have been applied to curb spendig on these two kems. 3.45 lhird, the flow of donor funds to finance investment projects and programs as well as the related requement for counepart financing by the Government is unpredictable. The wide rnge of dhierces in proedures and policies amoUg the donor community is itself a source of unceranty in the budgeting exercise. In addition, there have been cases where expcted donor disburement was delayed as a result of the policy slippage or the donor's own procedural bottlenecs, and cases where unexpected donor financing became available, but It came with a requiement for the Zambians to make extrabudgetary allocations. In both cases, It cas revenue and expenditue uncetnty in budgeting and planning. -26 - 3.46 Fourth, macro-economic variables also affect the management of public expenditures. Prolonged economic downurn imposed constaints on the growth of revenue, and compounded the need for more government spending on social services. On the other hand, rising inflation has eroded real spending on the essential programs and resulted in proprtional increases in personal emoluments to hedge against the expected cost of living iase (see Table 2.6). Ibe experience of the past few years suggests that as Zambia's omy detrio, the revenue base ontinue to shrinlk. While nomia revenue has moved up In line with Inflaton (particularly in caues of corporative and pso Income tax paymets), reue in real terms has not grown. Yet the agae speding on politically senitive items such as pessonal emolument has increased and spending on subsidies has been incased to copes for loss of income by the urban redents. 3.47 Faced with these unceraies, government management of public expendiue has boen in a crisi mode. Expendiu allocations are beiln made by simple etrapolation from the past level of spending and without linking to the medium-term budget perfman objectives. Budgetary ceilings are not observed and supplementary allocations are routindy pWovidd. In the cases of large revenue short-fail or expendihte over-run, the Government rorted to across-the-board cuts in spending on recurrent and development programs. Tne results are that while fiscal objectives have not been filly achieved, critical expendtu programs In support of the country's longer-term recovery and growth are irreparable dmaed. 3.48 Coping with uncranty should be an essential part of the Government's segy to effectively manage the public expendiure program. The central piece in this is to define a set of core expenditure progms that would be protectd from all but the most exrme reveue shortfa or expenditure over-run IThe criteria for definiig the compostion of such cmrprograms will be the subject of the folowing chapters. 3.49 Fwermo the Government may consider setig aside a contingency fmd witin each budget against unexpected events (such as natural disaster) in which additional fnds are ired. By definition, such cotney funds cannot be large and canot be used to meet the rquiement of fundig larg Increases in personal emoluments such as Zambia has experiecd In the r pL The size of the contngey fund should be specified In each budget and subject to the same public scrutiny as other line items. The use of the contingecy fund cd be dbomined by a major Cabinet consent during the cuOrse of the budget implementaIon as has been done In some of the industrialized countries. IV. FUNLCIOLNAL 1KE M LS$E 4.1 Zambia's goverment discretionay budget is grouped along six economic functions: personal emoluments, grants and payments (for local government and other public services), recurmt depamentl charges (RDCs). capital expenditure, subsidies and defe. Wilh the exception of subsidies, allocational issues, and policy objectives umderlying these functional expenditures are subjects in thbis chapter. Ite principal allocation decisions to be considered are: i) containment of total spending on personal emoluments to the growth of GDP; ii) reductions of military expenditure; iii) improvement of the efficient use of grants and payments; and iv) reversal of underfiuding for RDCs. The size of government capital ependiture has been discussed in Chapter 11 and the composition will be the subjects in Chapter V where the sector expenditure priorities are discussed. 4.2 hl emolument bave both fl and incentive dimenis. The fiscal dimension concerns the size of personal emoluments in the budget. The Incentive dimension concerns the level and structure of wage and benefit as they are one of the major dHin of staff motivation and perfmance. The two dimensions of personal emoluments have been discussed in detail in the recent Bank report on Zambia Public Sector Management Review'. 15! The focus here is on the implementation aspects of reforming Zambian government pay and employment so as to contain the growth of personal emoluments to that of the GDP and to improve the wage incentive structure within that constraint. 4.3 Grants and Daym (G&P) are intended to support the sub-national governmet through financing their recurent and development operations. Allocations and design of G&P are essential parts of intgovernmental finance. The way the central government designs grants and assigns revenue and expenditure responsibilities has an importat impact on tax efforts and spending efficiency by sub-national governmens. They affect the ability of the central govenment to manage its own finances as well. 4.4 Insufficient non-wgerecurent pendit (i.e. recumet deparmental charges RDC) to operate and maintain capital stock and to provide public services is a serious problem in Zambia. The cmses of the problem are varied and the solutions are difficult Attempts wil be made in this chtr to analyze the main facto attributing to the problem, to assess the magnitude of underfding RDCs, and to evaluate the rewrenat cost implication of Zambia's medium-term Public s Pogram 4.5 Milita Eiture. This review will assess the size of Zambia's militay expendire in comparison with other developing countries, and in comparison with Zambia's own spending on the basic soci services in health and education. In doing so, this review attempts to highlight the pority cost of the militay expenditue to the Zambia economy and the need for quick reduction in militauy spending. Ml World Da, Zmu Publwo S mewr MieJuly 19. (D19. Rqt No. 9827-ZA). Thi PSMR rpwt foused onhe X o _vm effots to ahieve both fiSwal s_a bzan &o 4poved public secwr petfruanoe; i should be road as a oonmanioa to dhis secton of the PER RepoiL -28 - A. d s onal Epdiue 4.6 The most prominent featr about the fimctional classification of expenditure as shown in the Table below is that there has besn a growing diversion of government resources away from personal emoluments, and recurrent expenditures towards subsidies and national defense. The former are mnster expenditumes more closely related to the production and provision of public goods and setvices needed for economic development. Non-ministerial expenditure items such as subsidies and national defense are less conncted with development activities. In aggregate tems, ministerial epnditure in real value declined by one-third while non-minhsteri declined by only 16 percent. As a share of tota spending, non-ministerial expendiure grew from 36 percent of the total in 1984 to 41 percent in 1991. Two expenditure items accounted for the bulk of this expansion. First, subsidy costs in 1984 prices rose from K90.6 million in 1984 to K123.8 million, and second debt service in 1984 prices remalned at about the same level of K204.9 million In 1984 to K196 million in 1991. Despite the Goveanment's emphasis on development priorities, the pattern of public expenditures constut a dear trend during the period of 1984 - 1991, moving away from general development purposes to spending on subsidies, national defense, and other non-ecouGmic activities. 4.7 The second feature of the functional classification is that government salaries dedined shaply from 30 percent of the total ependlture in 1984 to 18.2 percent in 1991. In real terms, this diture item was reduced by nearly 60 pecent from 1984 to 1991. Given the steady inre in the size of civil service employment, this erosion of total personal emoluments means that wage and benefits payments have been spread thinner on a per capita basis. This has made it increasingly difficult to motivate and retain technical and managerial skills within the public sector. Loss of such skils has attri to the weakning of implemention capacity within the Zambian govenment Tbl 4.1: Publi ExpedubyBEonomicFuwto = !C_ I $OQ 1L4 -29 - Table4.2: PubL;oExwdureby lommioPtaton (B acd _ D b*utio ) 10E~~~~~~~~~~~-m --- ..... ~~isky: of Fmto NtoW- 11 _& 3& acoun for tb most of tbis atey. 4.8 The picture of spending on recuffent departmenta charges (D)is mixed. Althug die level of RDC speding improved somewhat during 1987 - 1989 from its level in 1984, the trend was reversed in thie 199 and 1991 budget allocations. Caution needs tD be aecised in thie choice of rAfrence point. Even in 1985, thie level of RDC spendin was cosdn inadeue (see the 1986 Banlc report, Zambia: Public Enendite Review3. * -30- B. S Sa3ft Refrn 4.9 lTis seciion, as well as the section that follows, deal with issues relating to government expenditures on penona emolun he issues that have been examined in detail in the recent Public Sector Magement Review (PSRMR) are not to be repee here. I Instead, ihe focus will be on reuctung of govemnt organizaon in order to support the policy goals of the lbird Republic and on the imaementation of theionchmu [Dm Zambia's military expenditure has been hidden in the 0Other* category of the budgat and away from the public scmtiny unil recendy. 4.10 Because of the growing problem of fiscal deficits in the late 1970s, the Government made a drastic decision in committing itself to a 50 percn reduction of the civil service staff stenh in 1979. Ihe 1979 Presidentia Guideline No. 5 issued on the subject stated that, in addition to the objective of responding to budgetary consuaint, the reduction was also aimed at making the civil service more manageable and effective. i. on Reord 4.11 Although specific staff reduction targets were adopted between 1979 nd 1988, very little was achieved. (See, Republic of Zambia, July 1987). The only docmented stff removal was in 1986, in connection with the reduction in the reiremnt age for civil servants from 60 to 5S, for men; and 55 to 50 for women. (Rerement age for women has since been raised to 55). This resulted in the immediate deparure of 1,151 ci sern (about 1 percent of the total). However, actual reduction was much more limited as some of the posts vacated had to be flled. In May 1988, the Cabinet Office Task Force on "Restucauing the Public Service* (established in 1987) submitted a report on "Strategies for Implementing Manpower Reductions." The Task Forc set out an action plan that would help achieve the 25 percent reduction of civil service staff stength as earlier dircted by the President. The proposals of the Task Force included cost esdmates of n pacbge for people whom would be declared redundat and detailed suggestons on alternative mployment and other support programs. However, due to lack of political commiment to carry it through, as well as the high costs of the retrenhment packge, the Task Foces Acdon Plan was abandoned. Nonetheless, the Cabinet Office re-initad the efforts in August 1990 by enusting the retenchmeat exercise to a local management consulting firm, Vision Consult. The Terms of Reference of Vision Conut included: (i) 'propose crieria for redundancy of excess labor" and (i) "design an economic and realisdc Redunday Pkae (is) for employees deemed excess to the required labor complement." H. Soope for R_tm e 4.12 The work of Vision Consult was facitated to some extent by the anaysis of the scope for retreichment In the public serice (meaing the civi service and the local governmt service) provided in the Fourth National Development Plan (FNDP). The FNDP W World Duan, PhR Sr. Mahcm_t e it July 1991. (Daft Rot No. 9827-ZA). M& 15PAR rpot fooused on e dovernmets offous to a.bIvX both fisl nabio and ipowwd pubb sewr peormnceit shoud be red as a compnion to ths sction of d PER repoat -31 - stressed the need to reduce the size of the public service and improve its quality and eetiveness. To this end, the plan specified a target of 36,230 employees to be retrenched fiom the public service Cable 4.3). This target was established on the assumption that the public service had a total of 135,800 employees, comprising 104500 in the central govemen and 31,300 employees in the district councils. It is now established that central govnment employees alone exceed 142,000 and the mumber In the district ouncils is also likely to ee tat indicated In the FNDP. Iherefore, It would be resonable to suggest that the mim targets in the curent plans for retrenchment should be 11,930 cil servants, 13,000 CDEs and 11,300 district cuncil employees. (The retrenchmeat of employees in district councls is discued later on). Applying the same criteia for establishng the target number of retenches as adopted in the FNDP to the current size of the cvil service (.e. including CDEs but excluding district councfl employees), the scope for retrenchment is estimated at 36,096, exactly equal to 25 percent of the total civil service (Table 4.4). Table 4.3: Taget Number of Employees to be Reb=hed, 1989 ~~~ .. . Swome: Goaom_ of Ih pub of Z=jamb, wtlhNal Dev_p Pbn (lIbxx,M.X). -32- Table 4A: Scope for Civ Service Retdihmat by Boud OrAIde va.W9M178~~~~~~~~~~~a "O swutoo: 01 MOP. Ibytoll Satioo (payrol Summay: Jul 1991). (ii) Goawmof tho Rqpublic of Umhla, Fort Nationd aelotf 1 Pbn. Ui. R BwUn - lDet Dismssal and Rtedunft=c 4.13 Witkin six monfth of launching its work on thie *redundanlcy of excess* labor, Vision Consult had identifled 10, 105 employees of thie central goverment and district ecucs for dismissa on the grounds of undiscipline and delinquee bebavior. .llJ AElthougb thle PSRSG apprved the dmissa of the majority of these 10,105 employees in Augst 1991 (the 3,000odd prmanent civil servants and pennaent council employees were exluded becss of the need for a different removal procedure), line managers were unwable tD) implemnt the relevant directive. It later emerged that because of poor personnel nmionile practices inboth the centalgoverment minstries andthfiocounc!Ls,there i vImy no fonnaloa o of the undiscipline and poor performace of th vast O y*f Of offim Otn the Vision ConsWt lists Since st a tdismissd based o dOcu ente nc does not seem to be a viable option, the Govaemme migbt ha"o to comply with the lega proviion of the Lalbor Code in order to avoid u_may lIWgatoD ;:od labor unresl. Ihe prms report On the abordve omptet to dismiss some of the staff ooued in the Coppettet Province in SWembeer 1991 highlights the pote omvay in this matr la/ 4.14 'Me alteraive to dismissal without benefits is redunacy. In order tD effectively remove the maJority of the 10, 105 undisciplined employees as e;xpeitoudy as Possible, the Gove ment migbt have to trata their retrencment as came of etundancy. In Ihe abseDco of collectho agmem_t between the Government and labor umionh stipang cpM pakq for redundancy, the lSbo laws require that the employer (Govenmf): (a) Siva thro monthsnotice for tamination of employmene; Ob provides pay for any .acuuae teame and (c) pays redundancy costs at the rate of 2 weeks of basic salary for each completed year of service. In addition, penionable employees would be eniod tD siknule benefits. On a generous estimae ffia each of the 10, 105 employees to be laid off has, on the average, 20 years of service in Govermnent, and that their averag basic pay is IF lb vas tho m of a jint uairohundetksby hoeonsutagfinn, govemnwmisthsa nd d_,~w do X& d w. S W= Como Fii Sw Ramawn dOD Pulbh Swvf R_dM ,d lWN-M PmiaL Pa 1. }iauASS h 13, l, S40 "Co|flaEn hov ovawd=&_,^ mmw xpost in Zmubig DaYl M-, Sq*abmb 21, 199. -33 - K4,000 per month (see Amnex Table I for current sala ses). the avge cost of the redundancy pakge is K52,000 per employee. The total cost would amount to K525.46 milion, compared to annual cost savinpg of K757.875 million. IV 4.15 If the target number of retenchees is maintained at 36,097 (see Table 4.4), then after retrenching the 10,105 undisciplined employees, there would be a further 25,992 employees to be retenched. IT estimated costs for the retrenchmet of the latter group is significantly dierent from the former group because of regard for (1) pensions to which the majority wvll bo entiled; and (Ii) the quest for ex-gratia payments to the retrenchees. The apprriat retrenchment packages and associated costs are discussed in a separte section below. lv. Implng Retreninent: l o Approach 4.16 Apart from cost considerations, the major challenge in Implemeation over the medium term wil be to achieve the retrenchmen of the additional 25,992 positions. Identification of 25,992 retrenchees could be a tme-consuming exercise, and miromnagement of the proess has to be selctive. 4.17 The ste as articuated in the World Bank PSM report could be used to guide this process. lThis strateg calls for quick reduction of employment size in the low Oiority functo and sub-sctors of the Govemuent, and a relatively more gradual and meticulous approach to the retenchment in the higb priority functions and sub-sectors of the Government. Based on this sategy, the PSRSG may continue to provide insitutional leadership supported by the tehnical assistance channelled through the Personnel Division. The PSRSG's main focus should theree be on identfication of high priority functions and sub-secto of the government. The task of the Persone Division is to conduct meticulous review and identification of individuals and overlapping postons to be eliminated within the high priority sub-sectors of the Government - whereas the rtrenchment in the low priority areas could be undertaken without such micro-management. Tbis task would involve specific steps such as disemnatin guidelines and conductig neceary seminas and workshops. Furthermore, involvement of the top officials in the individual ministries would be ncessay for the timely and successful conclusion of identifying individual retrenchees and ovedapping positions. Such involvement pf senior minisWeral officials may take both a top-down process thwugh the on-going initiative led by Vision Consult to review the organizational strueture and staffi and a bottom-up process in tem of establishing the norms of perfo and productivity to be applied in sffing essential fiuctions in the priority sectors. This exercise would bo time osming. As such, it should be undertaken only when it i being purwed in paralel wth the more crude reduction of more obvious redundans in the low priority funcdons and sub-sectors of the Gov. ient. IV Toal eooS savp are base on iang avea saly pls hoig aowance pe amployw (4,000 + X2,2SO pet mo) aad muliplying by the total number of eu*loys to be retfhed undw d pakage ( 10,105). t has boee eaiay assumed that a mjoity of thes empyees woud not be p_ashmab - 34 - v. lnpum_u0 RegrmdcunhtIntIerlm Muea 4.18 It will be very difficult for ministries to effectively carry out the tk oudined above If no mes are taken to regulate, and perhaps temporarly halt, recruitment of new personnel until the retrenchment exercise is complete. Also, changes in the remuneration struct, especially salary ncreases, mid-way through the process of implementing the retrenchment measures, are likely to be very dispdve. Withn reatively short spans of time, retrenchees entitled to the same packages could end up receiving sigificandtly different teminal benefit. Iherefre, it is recommended that the PSRSG adopts a short-to-medium term remuneration policy during the period of implementing retrenchment. In this context, tht need to complete the retrenchment acdvities as expeditiously as possible cannot be over-empBasized. Vi. Im_ting Rnent Es and Cos 4.19 Normally, retchme packages wil only apply to those civil seants on perman employment and whose careers have to be teminated prematurely becmse of the need to enance productity In the civil service. Those employees already identified as due for teminaton on account of undiscipline and delinquency will not be eligible for the retrenchment package. The basic objective of a retrechment package is to compensate those personnel declared redundant for the traumatic- exerience associated with abrupt terminaton of a career. In this perspective, retrenchment pacages have to be significantly more attive than the statutory redundancy benefits. There is, however, a real difficulty in balancing between (a) making the package sufficiently attractive to the rtrenchees; (b) ensuring that the package does not give rise to the departure of the most qualified and competent officers from the service; and (c) ensuring that the retrenchment program is a financialy sound undering by the employer (the Government). Specifically, the retrenent program should yield a strongly posidve financial return to the Government in the medium to long-erm and should enhance the prospects for ieased efficiency. With regard to the severity of the budgetary -contraints that undeday the mission of the entire public service reform program, the best indicator of fiaci return to the retenchment program may be (i) the pay-back period for the total program cos; and (i) adequate cash savings that may be applied in Improving the compensation and incenves of tho retained in service with a view to raising morale and performace. It is agahist such criteria that the current proposals for retrenchment packaes need to be appraised. Table 4.5: Proposed AhmuarnavRehrechmedtPacages *~TbbJ .Z" * Sl.E ...g llX 'If1 |~~~~. I ~A g seayyo mg So8mm Omi t of db. Rubic of ZmbiL bfrtdm prid by lbe Cabiau Offle -35 - 4.20 It is also heptizl to compare chm ent packbges in the cidv sevice refom with those in the parastatal sector. For this pupose, recen r"ehmen packages for tree parastatals, i.e. Zambia Awir Corporaon (ZAC), Bank of Zambi (BOZ) and Zambia State Insuran Corpton (ZSIC), are summaized In A= TIablg.e So far, two specific retrehment packges hav been proposed sepaely by Vison Consult and the PSRSG, as ummaized In Table 4.5. t appeas pria to add to the packges a 3-month pay in lieu of nodee of tennination of employmet. 4.21 The ret _nchnt packag proposed by the PSRSG Is dinitely much more attractive ta the one mened by Viso Consult (VC). While the VC packge yields for the retrenchees, on aeg estimate, 2.9 dtme ua s earnings, tha of the PSRSG provides the retence about 5.3 times the anmal gross remuneration (able 4.6). Under the cimsaces, while the payback period to the Govenment is about 3 years with the first package, it is about 5 years with the second. Accoodingly, while the PSRSG packag is quite attractive to the retrenchees, it stretches the payback period for the Govenment over five years, thereby constining the prospects for yielding vgs that can be applied tO improve the remnetion packges of the retained civ sevants. The total estimates of these retrent packge are shown in detail in Annex Table 3. A sumary of the costs and the associated annual cos savngs, and the eimad pay-back period is pided in Table 4.6. TAb 4.6: Akmative RPAIraln_At Padmp Bmseft as Muiple of Aianl Rmueation by Mijor Job Goups (idon) Somm uthoe:Doabkt baseot oTabl ,ll,ow indeul Anoex Tabb 3. A masy of Ibeees, asd Ihe ass*&W anmial cost sviiap, and II sdmt pay-but pod is owkd in Table S. -36- Table 4.7: Summary hdam of Coo e Savinp of Propod Abomat tIIWMWMI M SOUND. Staff cebmats basd on the two peding Table. vi. RIMRldMMIm U8UGIrnt 4.22 he main difference betw the above retrchment pacage is the house development grant that the PSRSG has recommended for officers. Consideaing the need to ence afrdability and emure a reatively short pay-back period for the Govemnt, there is need to modify the package proposed by the PSRSG. Rathet tan totly abandon the mert of faciltating house ownership by the retrenched officers, it is recommded at the Government adopts a policy of seling the houses occupied by the retrec at market value. Such a scheme should be beneficW toD e trenchees as wl as to theo ov=men A policy dii this subject d inorporate the following demel (a) the Governmt wi commision independent market valuation of the boues ocied by the rereches; ) reenchs will be rued to surnder at lest 30 perceat of their totl retrnchme and commuted pension paym In partal paymen for th house; and (c) the Government will request one or several irc and building society ituon to map the mog sceme on Its behaf. Mm princia * mortage amount will be the derence between maet value of the house and the amount of reenchment and pension beneft surredered to the Govemment. This moa may attac an itrest rat tht is a few percentage points below the prevailing mortpgo rate as would be detemined by the MOF from time to time. 4.23 In the PSRSG's retrenchment packag (Cable 4.S) it has been es d a 55 percent (IC7,309.65) of the total costs would arise from the house development grnt (see also Annex Table 3). Tbe suggesdon that the Government should sell its houses to the occupying reoes wil to )stantialy reduce the cash outays of the Govenment under -37 - the rerecment program; (i) reduce the pay-back period to less than 3 years; (iii) offer the rechees fis invesment opportunity for their retrenchme and pension lump sum payments; and (lv) enable the retrenchees to acquire their own residence, thereby dmig a maJor cause of worry. With these modifications, then, tie other elements of the PSRSG's rtenchmt package Crable 4.5) could be adopted. V. n_iL ehhmielt:, Athmde Empbnt 4.24 Tbe Cabinet Task Force that first examined this subject in its 1988 report mendoned two agencies that could provide usefil advice for retrenched staff: the Small Industr Deveopment Organiztion (SIDO) and the Small Scale Enterprises Promotion Ltd. It also mentioned two possible opportunites: land setement programs and village industry services. Comparative exprience frm other Sub-Saharan African countries show that out-placement or support programs can also include counsell nglnormation, vocational trainig and apprenticeship, assistance for agricultural settlement and credit schemes. 2Q/ It will be neesary to commission consultants to examine some of these support programs, including the preparation of project profiles to illustrate self-employment pportunites in both the formal and informal sectors. In all cases, cost estmates should be provided. Ix. hy,nd.RegmncIunent: aeoelnlLaau 4.25 To prevent recurrence of the problems a huave made retrenchment a major concern of the Goverment for over a decade, it is important to establish an effective personmel management infomation system his should involve the adoption of a personnel policy fiamework witb explicit crterion on rument, career development, and training. But the first step would be the ovehauing of the existing Establishment Register which by common consent has become obsolete. A preequit for maintainin an effective personnel management system i the avaiability of a reliable persnUel database. Although Vision Consult has been commisd to "conduct a head count with the active involvement of those running ministries to determine the actua number of staff in the Public Serce and their location,3 the record of its performace between Ocober 1990 and October 1991 suggests that the exercise is not likely to provide the required database. For example, the consultant admitted that about 50 percent of CDEs did not complete the qesti r they had distrbud for the exercise. More Importantiy, the consultants were unable to involve the payroi unitff of the central government in processing the head count data ADI this raises the question of the desirability of a full-scale civil service census. In the meantime, it would be necesay to use the data already generated by Vision CODSUlt to begin Installing a personnel management ifmaton system. 4.26 Simultaneously with the building of an effective personnel management information system, it would also be esential to establish criterion for recruitment, career development and trang, and to restore the necessary adherence to the Establishment Regise and the General Order. Tbes measures, as specified in detais in the World Bank PSM report, would go a long way to motvaing the retained staff and improving their professional skills. In thbis regard, the new civil service training project sponsored by UN/MDP is focused on senior managers at the levels of Permanent Secry, Deputy Permanent Secretary and Head of Departent. Vision Consult is also 2W See Louls de MW a*, aho D.aCa. PayvA Teohoa BRd ;nm in Aepul f tio: sdank, 1991. E Waoo D.C. Afioz Tloohea D _otft o(o Wadd Ba, Juno 1991. - 38- conductn efficiny enhancement workshops for select *high flyers" in central govemen ministes and departments. che first workshop wa hed in Aprl 1991). In October 1991, the Goverment amnounced the esablishment of a National Mpower Council to serve as an advisory body on manpower development and utilization. The Councils fir task would be to advis Govenment on the rationalization of the tuidons that ar responsible for manpower deveopment C. bnluclm m F1name In Deandifludo 4.27 Four major critical reviews of the Zamban experience In decentralization were undertaken between 1987 and 1991: two by UKIODA (1987 and 1991), one by a local anaement coultig fim, Vision Consult (1990), and the fourth by the World Bank (1991). IV Here, we pulled together the aspect of these reviews that relate directy to managing intergovemental financ, updating them as appropriate with additional information obtained dung the PER mission. We wil start with perpedves on Igovemental finance, and then examine centr-local govermnt finance in Zambia. 4.28 A concetal perspective is necessay to evaluate the design of Intergovenmental finance and It incsive effect on lower level government (or local overnment) fimace. The magnitude of the incentive effect on the local government finance can be econometrically testd. However for this report, a broad framework in which to judge the direction of inceive response (by lower level governments) to the finance mechanism will suffice. 4.29 The design of intergovernmental finance must start by dealing with two issues: should the grants require matching by the grant recipient and sbould the use of the grant proceeds be left to the discretion of the recipients or whether it should be pribed by the grantor. 4.30 Non-matching grants may be either conditional or unconditional. Conditional non- mtch grats offer a given amount of funds without any local maching required provided it is spent for the pcrbed purpose. The effect of this transfer on the lower-evel government is that the budget coaint would be expanded in one direction only. In other words, the budget consaint for al other goods and services provided would be unchanged, but the constraint for the prescribed publi:c sevice would be relaxed by the amount of gnt made available. 4.31 C:onditional non ing grats will be viewed as free goods by the recpient, ad Th first UVODA.poUsOoxd mviow uled in a rpt entitled, "Pr*v of _mted Pt and Govemrno Admlntro. T sMoond, undeok by tde City of Bimingam Pom IntitIe in nuocon with Unirsy of BImham's Dwopmt Adminta Group ad DMC LAd, nled in a ropost in two pasts: C_ A_ in P -nit tb D_ Pmos in PM 1: Exeoo S9tmun and P j 2 u F ujuiB and R _. Jum 1991. ViWion Conk's output, is a pow an 11e Conmm Wogksho... to Analyz di OoeW o_t n ad CW O&dk Minm of D2ishict Counag in L 1990. Play,b fado SWAP NW.. of th World Dae Study ae in: Wodd BaRilc, Zambil Pubi Sootor SM _ In" iX July 1991 (Draft Rqpt No. 9827-ZA). -39 - are best suited as a men of subsidizing activities to which the central government assign a bigh piorit but are given lower priort by the local goverment It creates incentives troh relative price changes for the recipient to provide a given tp of service. 4.32 A general non-matcbinggrant cares no prescriptlon on how it is spent, hus the recipient's budget constraint will be expanded in all directions. Generl non-matching grans can be used by the recipient for any purpose and In any oombination. For this reason, It Is the least stimulative of local expenditures, and it may result in lower-level government under-uilzng their own tax bases. It has also been noted that general non-matching grants tend to stick with budgetary use and thus result in a higher level of service than would be the case if they were made direcdy to individuals. fV 4.33 Selective matching grants re those which require that the funds be spent for a specific -r^pose and the recipient matches the fmds to some degree (e.g. 50:50). It can stimulate provision of the prescribed goods and services through both the income effect and price effct. The cetr governent sudizes the selected tpe of service (say public trnsport), and then reduces the cost of the service to the public (the price effect), and part of the savings out of the lower costs of the traport snmvice wil go to acquire more tsport and other serves (i.e. the Income effect, assumig _that relative price changes induced are insignificant). 4.34 Selective matching grants can be open-ended or dosed-endd, though close-ended matching gants are usually prefxrred by grators s they are better able to control their budget. Both types of grants are well suited for correcting positive externality in local provision of public goods whose benefits spill over the local boundary. Positive tenmality occurs when services provided by local goverment also benefit residents from other Jurisdictions. As the costs are localized while the benefit are trans-regional in scope, the services are likely to be under-provided. Ite central govrment may correct the inefficiency by providing matching grants to compesae for the spill- over effects. 4.35 In line with the preceding discussions on the incentive effects various types of grants may have on local government expenditures, a summary of grat design in relation to grant objectives are provided in the matrix of Table 4.8. 4.36 The fiSt objective is simply to enable local goverment to draw on revenue sources which are better aimlaie at the central level. Thus in many countries, centally collected income tax ren is retured In part to lower-level goveranents to dose the fiscal gaps. Under this arrangement,th retrned rvev e carries both an element of sharing between the central and the lower-level goveme and an element of entitlement on the latter's part. ft is less so with the second objective wh grants (condional or not) are deged to achieve some meas of equality in provioD of esnal social services. t is therefo prered that gts be prscibed by the nationally deied priorities. In this case, maching does not serve the equity objective well since locaidtes with a weaker revenue base wDI be dearly disadvantaged, and locaities wih a strong reveue bse will be favored. The third objective deady dictates at grants be presaibd for a specific purpose - be it correcting inefficiencies arising from spillover effects, implementing nation priortes, or meeting the minimum standard in provision of social services. The fourth objective is intOedOd to maintain uivml costs of certain public services. Conditiona grants are better suited for that purpes. WV M&i is Araord to as th *lypapr& -ti is Samat umouy lad to stick whome it fiat baod. -40- Tablo 4.8: Mat& of Grant Objeioe and Gamt Desip E~~__ _ _ M at cin|EXg ______ E i ! a L i | I ::. . W W~~~~~~~" A5 * Souc: Based on Publio Fina in Theory and Prftioe. Fifty Editon, Musagave and Muagsave, 1983. I. L4ClM Govemummt} 4.37 In Zambia, sub-national govenments consist of a provincial nion, municipal councils, city councils, and distrct councils. Central government funding for sub-national govermnts are largely focused on the tree categories of councils, which are the main subjects of thi report In the following sections, all three types of councils will be referred to as *distrct councils%, and local govenlments are in ngeably used with district councs. 4.38 'he fisa capacity of DCs was severely eroded in the 1980s. Between 1985 and 1990, budgeted levels of revenu and ependiture declined in real terms by an annual average rate of neariy 18 percent. At constat (1985) prices, the aggrege level of budgeted revenue for all district councils declined from K269.3 million in 1985 to K90.7 million in 1990 (Table 4.9). Thus, the ability of councils to perform Its assigned local government functions and to deliver public services was signlficanty weakened. Table 4.9: Budgeted Aggreate of DCs Rwenus and Expenditur, 1985 - 1990 (at ooaatat primcs in milliom of Kwaoba) SOI: GRZ, Doi Couni Ramu ad Capa Esdat, various mcs. 4.39 lbree maor factors underlie the eroson of dle fisal position of district councils. Fv, stmty dhages in the eady 1980s resuted in narrowing the revemle base of the disbict cowUicil. Specificaly, the Govemm_ wiNdrew the atorty of the distct councfls to oollect taxes on inomes anld sales but failed tD adequatey raise grant to cpadet for the 108Ss of revemi. -41 - Second, tho DCs were unable to incrae rates and other revenue charges untl recenty in order to protect their evenue base fom erosion by persisteny high rates of inflation. The cenr Government, hrog the Deetrizatin Division, had controlled the levd of local propty taxes, servic harges, and fees. Any itdve by a counci to raise revenue, such as the Introducdon of a new user cha for eample, or the Icas In rat, licems fees, te and other user charges, must be aroved by the Decentralization D on. Thrd, the councls have not bee sccessful In their o and In1tra venrs though which they sought to broaden their revenue base and co for loss of eve om om and dict taxes. In most cases, hese commercis and industri enteprises ted In the diersion of the limited resources of the councils from the fnding of soci sevces to the fincing of losses Incurred by the business ventures. Tbis point i eamined In some detail in the other secion below. 4.40 Wi the general eoomic deriorato toughout the economy and without the disctionary power to raise local taxes, fees and chae at least In line with domestic inflation, local govement revenues have dwindled and local govm bave become increasingly dependent on th enal govement finance. Centrl govment funding of local govement exp_es rose fom 28.1 perce ofthe otal n 1985to 81.2 percentin 1990 (see Table 4.10). Yet in real terms, central govnmet funding dropped by more than 50 percent between 1985 and 1986, from K77.5 million to K37-5 million then the level of fimding remained relatively low for four years, until 1990 when it rose to a level nea Ihat of 1985. Tabb 4.10: Ceatal Gowa Fing of Dirict CounoiJ, 1985-191 contant pie. in million of kwaea) NM Alfthugh do pupa. of Caitra Govauuit f indig Iooiuhd, DCO hane not necessawl adhered to Soww RZ. l awo u a8nd edumu. vares 1a. -42- m. =s ng ad ln XL= 4.41 DMs receve two types of generl (unconditional) grants: 35 percent of the total sale taxes collected oy DC on behaf of the natonal govrament and 100 prce of the revenue fom boer surcharges collected throughout the country. The 35 pecet of the slles taxes are transfemd from MOF to the Division of Decenaizaon for allocations to each distict council. TIe citeria by which the gr are allocated to each distrct council Is the size of each DCs' employment or cosw of wage bill; it has nothing to do with the more relevant factors such as DCs' respectve level of per capita income, demad for public services, renu potentia, or tax effort. 'Me beer surcharges are largely revenue tansfers from the city and municipal councils to the rural distict councils based on the costs of the latter's wage bills. Most recenty, the Government has decided to effectively end beinn on the first of July, 192) the sales tax revenue shared with the urban DCs. Thus the city and municipal councils would have to surrender all the saes taxes to the central govenmt without being compensated even for the costs In collecting the sales taxes on behalf of the central government. It remains to be clariffed whether the ural DCs wUI receive 35 peracnt of the sales tax revenue they collect, or 35 percent of the tot sales tax. 4.42 The incentive mechanism implied by the current grant design and revenue sharing appears to be ditorted. To begin with, there is litde incentive for rural or urban DCs tO enforce tax compliance, since the level of grants they receive is not linked to their tax efforts. Why should a wban concil enforce the beer surcharges, or fully report its beer surcharge revemne when it knows ta 100 percent of it will go to some other rual councils? Similarly, with the eadig of revenue sharing between the central government and the urban COcils, why shoud a urban ouncil filly colect and report its sales taxes If all of it will go to support the central government spending? Furthemore, ther are pervers inetves for the councis to expd and maitain an excessively largeemployment, becus the grants it reives are linked to the size and costs of its employment. Iv. Cml:traJ Gov umfft's TBandng of DCs' We Bil 4.43 The impact of the central government's financing of the recent salaries and housing allowance adjsments for all the district council D) employees is reflected in Figure 4. While these adjustmen were Initily innded for cenrl government employees, trade union presures and pOa calculations resulted in the exension of the same benefits to all DC employees. Ihus, when the civil servants' housing allowances were raised by up to 300 percent in July 1990, the DCs could not aflbrd to finance. Thus, the cer goverment had to raise its grants to DCs from K2.0 million in 1989, to KS6 mlion in 1990 n costant prices) in order to cover their shortfals. AIMou this high depndenc of DCs on cetal government funding is more true of the rurd and small councils ta of the udrn DCs, it is neither sustainable nor consisteti the essence of the Goverment's decntaizalon strag. t iessmated by goverment officals that about 70 to 80 percent of the grns to DCs has been used to fund the wage bill. The consequence is tt main ing the local govern_m employmen with declining revene and declining grants has to come at the epese of other _eei public services. v. auindal A.nAmbhIDn 4.44 The ability of councis to perform public service has also been affected by the lck of proper fncial managme lhero sems to be an almost complte absec of finacial controls and intheoperations of the DCs. Not one council has prerd an audied set of -43 - accounts since 1988. One of the few that had 1988 accounts audited in 1990 covered only three years, 1986 - 1988. Lusaka Urba District Council, the largest city authority, has not prepared a complete set of accounats since 1983. The few audited sets of accounts of DCs that the mission perused wer peasively qualified by the auditors. Among the common deficiencies in accontng and financial controls cited by the auditors are incomplete accounting for revenues Cm one case including loss of hundreds of receipt books), lack of documeion to support supplies and payments, stocks not accounted for, and all round poor book keeping. Financial accountability is yet to be restored. Under such circtces, even the current practice of the Decenrization Divisions approva of DCs' budgets is of lite relevace. 'he general break-down in the systems of accunting and financial management in the DCs is likely to have result in significant loss of funds. lhus, the fisca deficits in many of the DCs, resuitng in increased reliance on the central Govrment finning of the DCs' wage bills, may in Iarge part reflect the extent to which mismemen, fraudulent and corrpt pracdices have drained public resourc at that level. vi. Bushnss Venh 4.45 District Councils are currenty engaged in a wide range of business ventures. The list includes taverns eer halls), public transport, catering services, public housing etc. Every DC has a commercial department responsible for managing its business ventures. Recenty, the new Local Government Act was passed by the Parliament providing a legal framework for a wide range of productive activities local governments are allowed to undertake. Although no systematic study of these ventures has been undertaken to date, the available evidence suggests that the vast majority are poorly managed and unprofitable. 4.46 In general, both the personnel and finance of the venures are maged as extension of the DC. For example, the bartender in a council-owned tavern works a 404our week lice other councfl staff while bartenders In privately-owned taverms work for 70 to 80 hours per week. Ihe rasut is that a DC could employ five or sbx persons to rnm a tavern while the private r can employ only two persons. Many other amples of this pattern of overstaffing in the business venres run by DCs were brought to the at on of the mission. 4.47 With regard to finance, the separate profit and loss acowunt maintained for each venture does not prevent council treasurers frm tasferrn funds between the ventures on the one hand and the councils' funds on the other. This loose financial management conceas and pe losse and inefficiencies and makes effective moniorin of the utilization of central governmentes fiscal transfers very difficult, If not Impossible. 4.48 Considering the widespread absence of effective systems of acuntig and financial contols in the DCs, the mission has a firm Impression that these commercial venatures are generlly a drain on the resources of the DQ. However, there are a few exceptions to the oveall negative asessment of the councils' commercial and industra enterprises. One example of this is the retailing in beer by the Serenje Rural District Council (see Box 2). Two other examples are the Lusaka Clothing Factory and the bus service operation of the Luaka Urban District Council (LUDC). Although the council has not prepared acunts since 1983, the 1990 annual financial repots of the clothing ctory and the bus service operations have already been audited. The audi finaci repors suggest the two entei have been quite profhble, with fiancial rates of return on capita mployed esmated at 45 percent and 16 perce respectively in 1990. Howeer, conideing the prevaiing hg rat of inflion and the objective reality that there may be a misalcation of A .921  M- 9L it or or -4S- Vi. _qU mndu 4.50 Local grment have been pmvted from aliging Its revenue mobilizatin with is expendtre need. On the him sie, both locl rvwen (from fes, chages and etc.) and central pgavnm grants have been declining In a terms. On the epnditwr side, local governmets bhe been bankupted by their own loss-making commcil and industrial venes, and ovedruened by th need to sustain the growing wag bill cos. lhe other faor contributing to the mismatch between thdir revene and expendiu Is the icentive strucr Inherent in the curmt designs of revenue aing and grant allocatin: there is no intve for tax effots, no Incentive for local goverament spending on the natonal priorities and purvne incive for employment expamsion. Under uch both gal grants and decetried lin budgets that local gove_ reeive from the cental govement have been increasingly dierted to fund employment ad to bail out their mmercal d idustri ventutww. Antectode eion shows that provision of primary educat and heath s ces is lcWkg nd of poor quality, roads and other public iucturs are left wiout repair and maienan. In the past few years, the ceta gov has atempted to mainin or increae fic transfs to the local govemment, bowever, the ptovision of public services contiues to derore. 4.51 lbe refms of central-local goverment fis relatons should be aimed at inthe role of the central govserment in macroeoomic b at and in distibution of national income, while giving greater revenme autonomy and creatg cnive for local govern t to raiso local ren ad to align the fiscal trsfes wih the expeire repoilities. It has been long proposed in the context of decotrizaton tha the central govenmen should delegate more fiscal power to the local goverm. Given the cuntiy highly centrlized control over charges and fees, Ihis is certainly a s adjuste of the centrallocal governat relations. However, having er ishcrtiony powr in raiing ches and fees alone wll hxave only limited effect in revenue mobilization Indeed, managin local goverment finac would require a more comprehensive appch which should taclde assignment of responsibilies on both revenue ad e diture sides. Specificasly, it would require creating incentives for local govrment tax efo, setting explicit crra for v ne tranfrs, and reorming the desig of central goement grant. 4.52 Fist, there is the need to adopt an explicit ad objective cflton in allocadon of gr tO deiminat the curmrt purvey incentive for higr wge spenig, lower tax detr, and gret demad for th fiscal rnsfr. Ie criteria shoud be based on the fiscal capacity or reveu poteal of each locaity. A number of actor could be considered in frmulating such crtera for ample the size of the local ecnomy, the degree of the cash economy, and the lvel of ubanizon, ad the levd of the per capita income. A formula that combines all the fa iS included in the append. 4.S3 Second, the desin of ir t trasfe shoiud be consit with the eeditur restrucur at the natiol lovel to suppor doevopment prioies. The cumrt fiscal tafs to finance the ddicit sedig of local gvments must be paced -46 - with selective and conditional grants to curb the expansion of wage spending and to stimuate spending on development priorWes. Ihe grant purpose should predetmi the design of grant. For example, a mathing grant may be created to stimulate local govearmet spending on national priorities such as road repair and maieance whose economic beneft dearly spill over the local boundary. Further, minimum standards in basic socia services such as primary school education and chUd immunzation should be defined by the central government WI to guide the design of non-matching conditional gras. 4.54 Third, the current revenue sharing in sales taces and beer surcharges should be restucured to ensure that the urban councils are also rewarded for their tax efbfrts. In this respect, the Govemment may consider allowing the urban councils tD retain a smalier percenag of the sales tax revenue istead of the 36 percent curenty applied and a cetain share of the beer surcharges - taking away all the reve would disurage their tax effots. D. Bahe bewoen A ReXu"o 1. Underftingin of R s 4.55 Development effbrts have all too often been measured, both by the country and exten aid donors, in terms of the propordon of capital investment to total public exp endiu. Capital Investment has been encouraged and in some cases subsiized by the g ly increasig concessionality of ext assistance, which is usualy tied to specific development projects and restricted from financing reurrent expenditure. The atcve of concessional exten aid makc it difficult for the Government to decide aginst undertakng the proposed development projects even when their economic justiications are dubious and their recurrent cost re eirm are not sustainable for the recipient. n fct, the tendency is to consider the recurrent cost requirements of a proposed project as a problem to be dealt with in the future, since in many cases it will not place demands on revenue unti many years from now. 4.56 The prevaent atitude that capital investment is good per se also places priority on the generation of recurrt ependiu surpluses, which are required to provide domestic counterpart fonds for investment, but which may acessively reduce the amount of domestic resources available for present recurrent expenditure needs. The resut of underflmding the recurret budget for existig capital stock is often '- under-tizatio of caacity for the sake of undakin new _vemnt. 'Me Imprnce given to caing current expendie in favor of i"_ expdue refloc a failure to reognize tat the rate of return to some tpes of re et exiture could be considerably hier than that on new investment 2/ Th is sothr pe of edwl in aocato of ts. On fianoe, th ew Ant provides fot typ of ocal ovcme gmatsm to locad ooi: ga!grans or lon of mony wfor the pupose of tdo disharge by e ounoif of ay of it lhndos' and speoifo gmat for '(a) -ater and sandto ) huat s evic; (o) rE service; (d) mad seovies; (e) polie sevic; (1) primay educaion; (g) agiu n.r alA pevison on ooncil' powvs to impose vies, hand chage is steghnd by th provisin in the nw Conution at woud alow them to alter loal eO (Atic 100 (4) of the C o). -47 - 4.S7 The over-emphasis on invement may also aise from instutional aragMements. The physical separation of the Minstry of Finan from NCDP and the separaion of recurt and capital bodges tend to facus the attno of these di entities on individual budget items. Planning agencies are primarily conceed with geneatig and evaluating projects. While they should analyze the tre expenditur implications of these projects, h is not their madate to evaluate whether the Goverment will have sumcient revenue to prowve for the reurrent costs of their projects. Furthermore, planning agencies may be reluctant to emphasis the recrnt cost of their projects which, if know may lead to the veto of project by the MNistry of Finance. 458 Plamnig officials may not give sufficit attention to the recumrt expenditure reqirements of t projects which have been completed, as such, eternal finane ceaes and operatng costs are transfered from the capital budget to the recurent budget. Projects once completed suffer a decline in visibility and often receive a lower priority compared with new and on- going projects in the allocaton of recre budget 'Me interests of plamers can thws be in direct cofict with the inerests of the Ministry of Finance, which is prmily concerned with raising revenu and controlling recurent expenditure, in order to achieve budgetary balance as well as to pmvde budget surpluses for the fincing of capit expenditure. H. Mme Cost and Bendit of Funding RDCs 4.59 The results of inadequate recurrent expenditures appear over time, but their cumulative effect may be severe and compounding. Ancedent evidence In Zambia indicates that roads deteriorate to the point where routine miatenance s no longer sufficient and new investments ae required to rabitat agriculturd etension agents which lack sufficient petrol to cover their erritory lose touch with their clients and agriultr production suffers; schools deteriorate to tie poin where they are no longer conducive to lang; text books and teaching materials deteriorate, and students learn less than otherwise. 4.60 Given the rndown of the physical infrastucture in Zambia, the payoff to increase recurrt is likely to generat favorable effects on growth, employment, and bance of paymens. Increasingly, it i being realized in Zambia that economic recovery depends as much on the impovement in use of the existig capital stock as on the creation of new capacity. This is becas poorly nained and unreliable ifatuctur and service delivery systems hamper both public and private sector activity. Also, as the maintece of infrastructure tends to be relatively lor Intensive, incBresing maitnan exditure can have positive consequences for the level of employment in the economy. Furthermore, proper maintenance of efficient opeations could provide additional autput from etg facities anm therefire limit or eliminat the need for new facilities which typically cost vast amount of foreign exchange. 4.61 The present cost of recurrent spending must be compared with the benefits derived now and in the fure. Specifically, the physical relationship betwen the inputs and current output with a given capital stock effcively defines a significant part of the cost and benefit coefficent in increasin or decreing the funding for recurent operations. However, since decision makers often hav very lIited imtion,