Box 2.1

Budget credibility and fiscal discipline as an example of using PEFA for prioritizing and sequencing PFM reform

Budget credibility and fiscal discipline are often the first and foremost concern in many developing countries. In the following example, we take the case of a country that exhibits poor budget credibility and poor fiscal discipline. The government has decided that addressing poor performance in these areas is the first priority of the country’s PFM reform strategy.

The PEFA report confirms the government’s concerns. The PEFA performance indicators (PIs) most relevant for measuring budget credibility in a country might be PI–1, Aggregate expenditure outturn; PI–2, Expenditure composition outturn; PI–16, Medium-term perspective in expenditure budgeting; and PI–17, Budget preparation process. For fiscal discipline, the relevant performance indicators are PI–14, Macroeconomic and fiscal forecasting, and PI–15, Fiscal strategy.

The next step is to define the causes that lead to poor scores on these indicators and to analyze each of these factors, drawing on PEFA assessments and other diagnostic reports. These causes could be legal, administrative, technical, or institutional (for example, political economy). In some cases, there might be insufficient information to draw any firm conclusions about the causes of inferior performance. Further analysis by the relevant government agencies may be needed, or additional diagnostic work might be commissioned.

Common causes of poor budget credibility include unreliable or unrealistic macroeconomic forecasts that underpin fiscal forecasts. Such forecasts may be the result of institutional factors (for example, underlying national accounts data are untimely and inaccurate); technical weaknesses (for example, internal capacity and expertise to prepare macroeconomic forecasts are lacking); or political economy factors (for example, government manipulates the projections to provide a more positive bias).

The question is then whether these data can be improved and whether these institutional, political, and technical impediments can be overturned. For example, can the national statistics office improve the timeliness of the production of its national accounts data; can the ministry of finance strengthen the skills of the macroeconomic unit and improve the robustness of its macroeconomic modeling and fiscal forecasts; can political interference in economic forecasting be addressed through greater independence and greater transparency of macroeconomic and fiscal forecasting?

The next step is to assess how possible it would be in the short run and in the longer run to make improvements in the regulations identified. Political, technical, and institutional causes should be addressed in turn. The government (with the support of its development partners) would assign a low, medium, or high probability of success to each of these factors. This process may result in the identification of some dead ends from which no prospect of success can be gleaned.

Dialogue among stakeholders at the political level is therefore critical for the approach to work well. Political input is required at two levels: (a) how to prioritize the various reform measures that emerge from the analysis and (b) how to analyze the severity of the institutional constraints that might have an impact on the implementation of each potential reform option.