Modernisation of budget system of local authorities in Europe Theory & Practice Grzegorz Orawiec Microscale Macroscale

2 The polish economy ↔ public finance sector

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4 The Polish public sector & strategic planning Over 40 % share of the GDP generated by the new European Union MSs Over 40 % share of the GDP generated by the new European Union MSs The final stage of economic & systemic transformation The final stage of economic & systemic transformation Huge financial support from EU budget (Pl – 82 bil. €) Huge financial support from EU budget (Pl – 82 bil. €) Looking for optimal medium & long-term strategic framework (key planning documents) Looking for optimal medium & long-term strategic framework (key planning documents)  Revision of strategic planning documents (before EU membership: 406 documents → 2 + 9)

5 Public finance sector Legal basis in Poland Long-term Development Strategy Poland 2030 Long-term Development Strategy Poland 2030 Medium-term Development Strategy Poland 2020 Medium-term Development Strategy Poland 2020 The Regional Development Act The Regional Development Act Territorial Contract Territorial Contract Act on Public Finance – 2009 Act on Public Finance – 2009 The Public Finance Discipline Act – 2004 The Public Finance Discipline Act – 2004 The Public Procurement Act – 2009 The Public Procurement Act – 2009 The Self-Government Act – 1990 The Self-Government Act – 1990 Polish Accounting Act – 1994 Polish Accounting Act – 1994 Polish Tax Act (VAT) – 2009 Polish Tax Act (VAT) – 2009 Act on Promotion of Employment and Labour Market Institutions – 2004 Act on Promotion of Employment and Labour Market Institutions – 2004  Specific rules in strategic fields (e.g. Regional Development Policy)

6 The polish local municipalities – success story three-gradual system of administration (16 regions, 379 counties, 2478 local municipalities) three-gradual system of administration (16 regions, 379 counties, 2478 local municipalities) Dynamic economic development (GDP) & EU Member Dynamic economic development (GDP) & EU Member Increasing status of regions (decentralization) & EU funds Increasing status of regions (decentralization) & EU funds More responsibility for local level More responsibility for local level Huge financial needs Huge financial needs Risk of A, B, C division (East Wall) Risk of A, B, C division (East Wall)

7 The polish local municipalities – building the budget 2004 – Poland became the member of EU 2004 – Poland became the member of EU 2009 – New Public Finance Act 2009 – New Public Finance Act Projects supported from EU budget (ERDF / ESF) – but ”refund rule” Projects supported from EU budget (ERDF / ESF) – but ”refund rule” Polish goverment programmes (e.g. sport infrastructure, rural development) Polish goverment programmes (e.g. sport infrastructure, rural development) EURO 2012 projects EURO 2012 projects ”Daily life” investments ”Daily life” investments Sharp debt limits for local municipalities (60% ^ 15%) Sharp debt limits for local municipalities (60% ^ 15%)

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9 Poland – Fiscal policy The Public Finance Act – public debt / GDP limits The Public Finance Act – public debt / GDP limits - < 50% - no limits & sanctions - < 50% - no limits & sanctions - ≥ 50% - relation: public deficit / public revenue can not be higher than in the previous state budget (level of state budget) - ≥ 50% - relation: public deficit / public revenue can not be higher than in the previous state budget (level of state budget) - ≥ 55% - relation: public debt / GDP has to be lower in comparison the previous state budget - ≥ 55% - relation: public debt / GDP has to be lower in comparison the previous state budget -≥ 60% - introduce a ban for new guarantees for loans ^ special governmental sanative programme to come back below 60% (detailed analysis ^ recovery actions ^ economic forecast – min. 3 years) ^ public spendings ≤ public revenue for next budget (national ^ self-government levels)

10 Poland – Fiscal policy  Local self-government - The Public Finance Act – the limited aims of loans & municipality bonds, - debt limits – 15% (total amount of credit installments may not exceed 15% of the planned revenues in the particular budgetary year) e.g. 50 million € local budget → 8 million € of installments - 60%(total debt may not exceed 60% of revenues in the particular budgetary year) -public debt/GDP ≥ 55% → local budget’s deficit only for EU projects ^ only 12% limit for annual installments - public debt/GDP ≥ 60% → no deficit at the local level  List of task for medium term

11 Debt / Revenue relation Local self-government in Poland – new rules (1): Annual budget – since 2014 (art. 242) (1): Annual budget – since 2014 (art. 242) - Current expenditures ↔ Current revenue Current expenditures (Wb) ≤ Current revenue (Db) + budgetary surplus from previous years (Nb) + free sources based on bonds, credits & loans from previous years (Wś)  Exception: ≥ only for amount of current expenditures with external funds if these external funds (art. 5) were not transferred in current year

12 Debt / Revenue relation (old rule – max 15%) Local self-government in Poland – new rules Information since 2011 → obligation since 2014 Information since 2011 → obligation since 2014 Based on budgetary data from 3 previous years: Based on budgetary data from 3 previous years: - Planned repayment of debt (credits, loans, bonds) → R - Planned repayment of interest → O - Total annual revenue → D - Current revenue → Db (e.g. property lease, services, advertisement) - Revenue from transfer (sale) of property → Sm (land, buildings) - Current expenditures → Wb (e.g. utility, salaries, events, interest) - Arithmetic mean for last three budgetary years

13 Debt / Revenue relation Local self-government in Poland Increasing debt possible only if: Increasing debt possible only if: - surplus in current section of the budget (revenue ↔ expenditures) v revenue from sale of public (council) property - no matter for free sources and surplus in property section for last three budgetary years

14 Local Self-Government access to the capital Own financial resources (e.g. taxation, governmental subsidy – BUT: ↑ tasks, ↓ budgetary revenue) Own financial resources (e.g. taxation, governmental subsidy – BUT: ↑ tasks, ↓ budgetary revenue) Private bank sector (credits) – BUT: ↑ cost of loans (interest rates), ↓ access to capital (world financial crisis & ”hot investments” time → increasing liabilities of local municipalities) Private bank sector (credits) – BUT: ↑ cost of loans (interest rates), ↓ access to capital (world financial crisis & ”hot investments” time → increasing liabilities of local municipalities) Special governmental loans (e.g. EU projects) – BUT: limited access Special governmental loans (e.g. EU projects) – BUT: limited access National capital market → the municipality bonds market – … National capital market → the municipality bonds market – …

15 Municipal bonds – main characteristics A municipality bond - A debt security issued by a region, municipality, or county, in order to finance its operations or special projects such as construction of public facilities (roads, sewerage systems, water-supply systems, sport infrastructure etc). A municipality bond - A debt security issued by a region, municipality, or county, in order to finance its operations or special projects such as construction of public facilities (roads, sewerage systems, water-supply systems, sport infrastructure etc). Bonds bear interest at basic rate of interest + margin. - general obligation bonds (supported by the taxing power of the issuer → guaranteed by assets of the local municipality) general obligation bondsgeneral obligation bonds - revenue bonds (supported by the income generated by those projects) revenue bondsrevenue bonds

16 Municipal bond issued: 1929 by town Cracow (Poland) – 10 PL 1928 by town Hagen (Germany) – 2000 RM Poland

17 Local Self-Government – the Polish Story 1989 – the change of the political system 1989 – the change of the political system 1991 – Warsaw Stock Exchange 1991 – Warsaw Stock Exchange 1993 – the first issue of municipality bonds 1993 – the first issue of municipality bonds 1998 – 2003 – the negotiations with European Union 1998 – 2003 – the negotiations with European Union 1999 – the polish administrative reform 1999 – the polish administrative reform 2004 – Poland became the member of EU 2004 – Poland became the member of EU 2009 – Local Self-Government full access to the polish capital market 2009 – Local Self-Government full access to the polish capital market

18 Municipal bonds – legal framework The combination of important different aspects: The combination of important different aspects: - Capital market aspect - Self – government aspect - Public finance aspect The legal levels: The legal levels: - Council of Europe level - EU level - National level - Local level - Special market regulations

19 Municipal bonds – legal framework National level: National level: - The Self-Government Act – 1990 (responsibilities = financing) - The Bonds Act – 1995 (the definicion and characteristics of bonds, bond market regulations) - The Public Issue Act – 2005 (information obligations, the rules of public issue) - The Public Finance Act – 2009 (the limited aims of loans & municipality bonds, the supervision of RFO, debt limits – 15% % ^ 60%) Local level: Local level: - Local municipality resolution (the aim, type, value and schedule of the issue, maturity, interest rate) Special market regulations: Special market regulations: - Resolution of the WSE Management Board - WSE „municipal bonds market” rules

20 Municipality bonds – the access track Financial analysis (+ ratings ?) Resolution of Local Council Opinion of Regional Financial Council Agent of the issue (documents – the prospectus) Polish Financial Supervion Authority Capital market – public offer / private offer

21 Municipal Bonds - Ratings Moody’s Standard & Poors FitchInterpretaction AaaAAAAAA Top quality bonds AaAAAA High quality bonds AAA Bonds with a high credibility of payment; may be downgraded in future. BaaBBBBBB Medium quality bonds. Payment of the principal and interest is not fully secured but is not without guarantee. BaBBBB Bonds of somewhat speculative character. BCCCCCC Speculative bonds, highly uncertain. CDDDDDD Significant risk of default

22 CATALYST – WSE Bond Market The organised debt securities market CATALYST dedicated to corporate and municipal bonds opened on the Warsaw Stock Exchange in September 2009 The organised debt securities market CATALYST dedicated to corporate and municipal bonds opened on the Warsaw Stock Exchange in September 2009 Trading in debt instruments is conducted on transactions platforms of the WSE and BondSpot Trading in debt instruments is conducted on transactions platforms of the WSE and BondSpot Issuers and investors can use the platforms which operate as (exchange) regulated markets together with a mechanism of issue placement and authorisation (registration) in the WSE IT system. Issuers and investors can use the platforms which operate as (exchange) regulated markets together with a mechanism of issue placement and authorisation (registration) in the WSE IT system. The Catalyst architecture ensures that the market can accommodate issues of different sizes and parameters and serve the needs of different investor groups: wholesale and retail investors, institutions and individuals. The Catalyst architecture ensures that the market can accommodate issues of different sizes and parameters and serve the needs of different investor groups: wholesale and retail investors, institutions and individuals.

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24 CATALYST – market participants: 1) investment firms; 2) foreign investment firms; 3) credit institutions; 4) other entities which fullfil the requirements of relevant regulations and give the assurance of proper performance of obligations related to operation on Catalyst.  Execution of transactions on all Catalyst markets is guaranteed by the National Depository for Securities

25 CATALYST – market structure

26 Municipal Bonds – main advantages Alternative forms of financing (flexibility ≠ bank loans) Alternative forms of financing (flexibility ≠ bank loans) Inexpensive capital for necessary investments Inexpensive capital for necessary investments The broad variety of forms (e.g. revenue bonds) The broad variety of forms (e.g. revenue bonds) Friendly procedure Friendly procedure Long maturity-period Long maturity-period The great marketing tool The great marketing tool Lack of the risk of losing control over the public company Lack of the risk of losing control over the public company

27 CATALYST– main advantages Better access to capital and investors (e.g. pension funds) Better access to capital and investors (e.g. pension funds) Issuers become more reliable to investors and contractors Issuers become more reliable to investors and contractors Extra promotion campaign Extra promotion campaign Better access to capital in the future Better access to capital in the future WSE IT System - the dematerialization of municipal bonds WSE IT System - the dematerialization of municipal bonds

28 Municipal Bonds – main disadvantages The question of associated costs: The question of associated costs: - fixed costs - variable costs (ratings, preparation costs, advisory costs, market fees etc.) Information obligations (real, reliable and complete reports = the execution of the annual budget & investment plan + positive opinion of RFO) Information obligations (real, reliable and complete reports = the execution of the annual budget & investment plan + positive opinion of RFO)

29 Municipal Bonds mean … Credibility Credibility Trust Trust Income Income Development Development ”My name is Bond … Municipality Bond”

30 Summing up Strategic planning → revision & reduction of key documents Strategic planning → revision & reduction of key documents New precise financial rules for local authorities – Polish case New precise financial rules for local authorities – Polish case Alternative tools e.g. municipal bonds, PPP Alternative tools e.g. municipal bonds, PPP Measureable effects: tasks & investments Measureable effects: tasks & investments

31 ”Men build too many walls and not enough bridges” Isaac Newton Isaac Newton Thank you for your attention Grzegorz Orawiec