Background

1. Osečina is a small rural municipality in Western Serbia, with a population of about 12,500. Its main industries are agriculture (including fruit growing) and food processing. It is very heavily dependent on funding from central government: more than 60 per cent of municipal revenues take the form of budget transfers from central government, with a further 25 per cent coming from the municipality’s share of nationally collected taxes. This repeat PEFA assessment reflects the situation as in 2018; it is based as appropriate on fiscal data for the period 2015-17. The assessment is based on the revised PEFA criteria issued in 2016, and thus provides a baseline against which future changes in public financial management performance can be measured. It also provides an indication of changes since the previous 2014 assessment which was based on fiscal statistics for the period 2011-13: comparisons are based on the previous 2011 PEFA criteria in force at the time of the previous assessment.

The assessment has been commissioned by the State Secretariat for Economic Affairs (SECO) which has supported efforts to improve public financial management (PFM) in sub-national governments (SNGs) through the “Implementation of the SECO Local Government Finance Reform Programme in Serbia” (RELOF). The management of the assessment has been undertaken by RELOF. The assessment has been coordinated by RELOF and was overseen by a team co-chaired by SECO and RELOF. The other members of the Oversight Team were representatives of the Ministry of Finance, the State Audit Institution, the six Subnational Governments, the Standing Conference of Towns and Municipalities and UNDP. The assessment is conducted in six Serbian sub-national governments – Knjaževac, Osečina, Paraćin, Sremska Mitrovica, Vranje and Užice. All Performance Indicators as set out in the 2016 PEFA criteria have been evaluated apart from PI-7, which is Not Applicable because there are no government units subordinate to the Osečina municipality.

A. Integrated analysis of PFM performance

2. The findings from the assessment of each Indicator are summarised in terms of each of the seven Pillars of the PFM performance measurement framework.

1. Reliability of the Budget

3. About a quarter of central government funding for Osečina comes through the municipality’s share of income and other CG taxes, with the remainder accruing mainly through general transfers (targeted transfers were less than 7 per cent of total transfers from CG). Total receipts from CG transfers were close to budget in 2015 and 2016 (-1.2 per cent and -1.5 per cent respectively), and 11 per cent above budget in 2017 when general transfers increased significantly. But own revenue fell short of budget, leading to actual expenditure falling 6.6 per cent below budget in 2015, 13.9 per cent below in 2016, and 6.3 per cent below in 2017 (Score B for PI-1). The functional breakdown of expenditure showed relatively low variance (as measured by the PEFA criteria) in all three years 2015-17 (8.5 per cent, 7.0 per cent and 4.0 per cent respectively), indicating that expenditure on most functions fell below budget by similar percentages (Score B for PI-2.1). The somewhat larger measured variance by economic classification (8.4 per cent, 16.1 per cent and 9.7 per cent for the three years 2015-17 respectively) results mainly from the differences between budget and out-turn for capital investment, while actual staff costs were close to budget despite the overall expenditure shortfalls (Score B for PI-2.2). No expenditure was charged to contingency during 2015-17.

2. Transparency of public finances

4. The Treasury system through which all municipal revenue and expenditure pass contains enough information to enable comparisons between budget and out-turn by reference to administrative, functional and economic classifications (PI-4). (However, the Government does not produce such 

comparisons for Local government spending as a whole.) Information given to the Assembly as part of budget proposals needs supplementing in order to meet PEFA standards (Score D for PI-5). Reporting of performance against targets established for each of the programmes into which SNG expenditure has to be fitted has been initiated, but the formulation of the objectives requires improvement. There have been no independent evaluations of public service performance, although it should be acknowledged that the limited nature of SNG responsibilities makes performance difficult to measure and evaluate (PI-8). Information for the general public needs improvement (Score D for PI-9).

3. Management of assets and liabilities

5. Full financial reports are received for the municipality’s utility company, but neither these reports nor any analyses of the fiscal risks faced by the municipality have been published (PI-10). Investment is planned within the framework of the municipal strategic plan, and progress is regularly monitored (PI-11). MOEs are effectively monitored, as are the municipality’s holdings of financial assets, but the asset register is incomplete, and valuations are lacking (PI-12). Osečina has only very small outstanding borrowing (PI-13).

4. Policy-based fiscal strategy and budgeting

6. Osečina has been unable to allocate the staff resources necessary to undertake medium-term fiscal and expenditure planning (PI-15 and PI-16). Budget preparation is orderly, although central government guidance on economic assumptions is only provided months after the statutory deadline; as a result, time is very limited for the administration to finalise its proposals and the Assembly to consider them in time for enactment before year-end (PI-17 and PI-18).

5. Predictability and control in budget execution

7. Osečina has lacked the resources needed to expand its property tax base and improve the enforcement of collection. Tax arrears remain a problem, much of it inherited in 2009 when responsibility was transferred from central to local government, with write-offs discouraged by the need to maintain the municipality’s claims in bankruptcy proceedings (PI-19). Aggregate revenues are reported and reconciled monthly, and individual taxpayer accounts updated as revenue is received (PI-20). New IT software ensures that commitments cannot be undertaken without the assurance of available funds (PI-25.3), while the municipality’s financial reserves enable budget users to make commitments within their budget allocations at any time during the year (PI-21). There are no expenditure arrears (PI-22). Payroll controls are effective, and there is an annual external inspection to ensure that all staff positions are authorised, and all employees correctly paid according to their qualifications, responsibilities and length of service (PI-23). The operation of procurement was criticised by the SAI on the ground that a large part of expenditure on goods and services was not subject to any form of competition, and it is doubtful whether information on procurement is complete (PI-24). Internal control arrangements are satisfactory despite the fall in staff numbers, while the internal audit is not yet operational (PI-26).

6. Accounting and reporting

8. Bank reconciliations arising from budgetary operations are undertaken daily. No use is made of suspense accounts, and advances are cleared promptly and reconciled at year-end. Arrangements are in place to ensure the integrity of financial records (PI-27). In-year and end-year financial reporting are satisfactory, but annual financial statements do not contain all the information required to comply with cash-based International Public Sector Accounting Standards (IPSAS) (PIs 28 and 29).

7. External scrutiny and audit

9. Serbian SNGs are subject to a thorough audit to international standards by the State Audit Institution (SAI) every three or four years. In other years, a limited financial audit is undertaken by a 

commercial audit firm, which does not result in significant audit findings. MOEs are also within the ambit of the SAI, but coverage of them is more limited. Osečina has been audited by the SAI for 2017, with a strong focus on the performance of systems. The resources available to the SAI are controlled and restricted by the Government (PI-30). There has been little substantial involvement of the Assembly in audit follow-up (PI-31).

B. Effectiveness of the internal control framework

10. The internal control system should contribute towards four objectives: (1) the execution of operations in an orderly, ethical, economical, efficient and effective manner; (2) fulfilment of accountability obligations; (3) compliance with applicable Laws and regulations; and (4) safeguarding of resources against loss, misuse and damage. The analysis of the performance of the internal control system looks at the five control components: (1) the control environment; (2) risk assessment; (3) control activities; (4) information and communication; and (5) monitoring.

11. The control environment depends on the legal and regulatory framework and the way it is applied in practice. The Budget Systems Law (2009) sets out how internal audit and internal financial control (including inspection) should operate (Articles 80-89). Other relevant legislation is the Law on local self-government (2007), the Public Debt Law (2005), the Public Procurement Law (2013) the Law on Determining the Maximum Number of Employees in the Public Sector (2015), and the State Audit Institution Law (2005). In the local government context, the performance of the municipality will depend on the integrity of management and staff, the management styles of the organisation, the organisational structure (including appropriate segregation of duties and reporting arrangements), the management of human resources, and the professional skills of the staff. It is the responsibility of the Mayor to set the tone of the municipal organisation, and to adopt a strategy to minimise the risks of damage to the provision of good services.

12. Osečina depends on central government for 85 per cent of its annual revenue, over which it has no control. The main risks over which it has some control are that revenue from its own taxes will not be collected, that revenue producing developments will not take place, and that procurements will not secure best value. A continued focus on maximising local revenues will be important in sustaining the services which are the responsibility of the municipality.

13. Internal controls in the municipal administration appear to work satisfactorily, but internal audit is not yet operational. There has been a full audit by the SAI for 2017. Monitoring the performance of service delivery is still in process of development, with the first (unpublished) reports of performance against targets having been submitted to central government in September 2018.

C. PFM strengths and weaknesses

Aggregate financial discipline

14. The restraints on borrowing, and the sanctions against local authorities failing to pay invoices within 45 days, mean that the risks of uncontrolled overspending are low. But budget estimates have been poor predictors of own revenue during 2015-17, with capital investment falling well below amounts originally envisaged.

Strategic allocation of resources

15. Osečina has yet to introduce medium-term fiscal and expenditure planning, while public investment planning is adversely impacted by central government control and the absence of any medium-term planning of targeted transfers on which much SNG investment depends. New arrangements at central government level to improve the planning of public investment have yet to be finalised, but will have little impact at SNG level because most SNG projects will fall below the threshold costs above which the new arrangements are to apply. 

Efficient use of resources for service delivery

16. The presentation of all SNG (and central government) expenditure in terms of 17 programmes represents the first step towards results-oriented budgeting. However, it appears that the definition of the programmes may need to be reconsidered, so that they fit more readily into the responsibilities and circumstances of SNGs. It should be recognised, moreover, that the services for which SNGs are responsible – local infrastructure, urban planning, recreational and cultural facilities - do not very readily lend themselves to measurement of the standard of services delivered. Analysis of the costs of standard operations (e.g. road maintenance, public lighting) may over time provide indications where greater efficiency could be achieved, although differences in local circumstances are likely to mean that comparisons of cost need to treated cautiously.

Performance changes since 2015

17. Osečina is a small municipality with a relatively simple administrative structure. It does not have the capacity to undertake radical reform of PFM, but such changes are not needed given the limited responsibilities of small Serbian SNGs. It appears that MoF has improved the stability and predictability of its general transfers to SNGs, on which Osečina is particularly heavily reliant, while the municipality’s performance in expenditure planning and management has improved as evidenced by the reduced divergence between the original budget and out-turn and the lower variance in the functional allocation of expenditure (PIs 1 and 2). Commitment control has improved through the provision of new software by central government (PI-25.2), and Osečina’s budget users have greater flexibility in the timing of their commitments (PI-21.2). Collection of property taxes has encountered recent problems which should be addressed by the country-wide adoption of common software from the beginning of 2019.

Approach to PFM reform

18. Serbia is engaged in an ambitious and wide-ranging Public Administration Reform (PAR) programme with the objective of meeting the standards required for admission to the European Union. Different elements cover the functioning of the economy and the working of the judicial system, as well as government operations and the provision of public services. Within this framework, the Government is implementing a PFM Reform programme, with technical assistance from OECD/SIGMA, IMF, SECO and others. The specific objectives are (1) to improve the quality of economic and fiscal projections; (2) to improve medium-term fiscal planning and budgeting; (3) improvements in public procurement legislation and practice; (4) the embedding of Public Internal Financial Control (PIFC) arrangements on the EU model (through a development strategy and action plan for the period 2017-20); the further development of TSA business practices and reporting: and (5) enhancement of the work of the SAI. The SECO-supported RELOF initiative is contributing to these efforts, which are led by the Ministries of Finance, Economy, and Public Administration and Local Government.

5.2 Institutional considerations

19. RELOF is supporting the corresponding PFM improvements also at local government level, focusing on (1) improvement of Financial Management and Control (FMC); (2) the introduction and development of Internal Audit; (3) improvements in budget planning, execution and reporting, including the medium-term dimension and (4) improving tax administration and tax yields. RELOF is also supporting the improvement of financial management in utility and other companies owned by local authorities on which much of the delivery of public services depends. Osečina did not qualify for RELOF assistance to the functioning of its tax administration, while staff limitations have prevented progress in some areas targeted by RELOF. There remains much scope for improvements in fiscal and expenditure planning and the further development of programme budgeting. These processes could be substantially enhanced if the central government facilitated public investment planning through the provision of targeted transfers on a rolling three-year basis (as has operated for general transfers) instead of demanding fresh bids every year from all SNGs. At the same time, SNGs need greater flexibility in recruiting the staff they need to implement these PFM improvements than they have had during 2015-17.