1. 1 DECENTRALIZATION AND ITS IMPACT ON FINANCIAL MANAGEMENT PERSPECTIVES FROM SELECTED COUNTRIES IN LATIN AMERICA LUIS SCHWARZ SENIOR FINANCIAL MANAGEMENT SPECIALIST PRMPS MARCH 29, 2005

2. 2 DECENTRALIZATION EFFECTS ON FINANCIAL MANAGEMENT COMPARATIVE ANALYSIS CASE STUDIES BOLIVIA, COLOMBIA AND MEXICO

3. 3 DECENTRALIZATION EFFECTS ON FINANCIAL MANAGEMENT COMPARATIVE ANALYSIS WHY BOLIVIA, COLOMBIA AND MEXICO ? THESE COUNTRIES REPRESENT DIFFERENT : ECONOMIC DEVELOPMENT LEVELS, SOCIOCULTURAL BACKGROUND, RECENT POLITICAL HISTORY, GROWTH NEEDS, INSTITUTIONAL AND FINANCIAL CAPACITY DONOR COMMUNITY SUPPORT

4. 4 DECENTRALIZATION EFFECTS ON FINANCIAL MANAGEMENT COMPARATIVE ANALYSIS WHY BOLIVIA, COLOMBIA AND MEXICO ? THEY HAVE IN COMMON: POLITICAL MOTIVATION, SOCIOECONOMIC PRESSURE FOR MORE TRANSPARENCY AND ACCOUNTABILITY, CIVIL SOCIETY INVOLVEMENT IN PLANNING AND EXECUTING SOCIAL SERVICES AND INFRAESTRUCTURE,

5. 5 DECENTRALIZATION EFFECTS ON FINANCIAL MANAGEMENT COMPARATIVE ANALYSIS HOW WAS THE PROCESS INITIATED? WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? WHAT ARE THE EXPECTATIONS FOR THE FUTURE?

6. 6 DECENTRALIZATION EFFECTS ON FINANCIAL MANAGEMENT COMPARATIVE ANALYSIS BOLIVIA HOW WAS THE PROCESS INITIATED? WITH THE APPROVAL OF TWO LAWS: ALMOST SIMULTANEOUSLY IN THE EARLY 90s POPULAR PARTICIPATION LAW (PPL) REPRESENTS THE COUNTRY ’ S MUNICIPALIZATION (MUNICIPAL LEVEL - 311 MUNICIPALITIES, ONLY 26 URBAN MUNICIPALITIES EXISTED BEFORE) ADMINISTRATIVE DECENTRALIZATION LAW (DEPARTMENT LEVEL – 9 DEPARTMENTS)

7. 7 BOLIVIA THE PPL REGULATES THE AUTOMATIC AND PERMANENT TRANSFER OF 20 PERCENT OF PUBLIC RESOURCES STEMMING FROM NATIONAL TAXES TO THE MUNICIPAL GOVERNMENTS THE TRANSFER TAKES PLACE DIRECTLY IN PROPORTION TO THE POPULATION OF EACH MUNICIPALITY MANAGEMENT AND TAX COLLECTIONS ON REAL ESTATE, VEHICLES AND WITHHOLDING TAXES AND TRADE LICENCE FEES ARE TRANSFERRED TO THE MUNICIPALITIES THE PPL ESTABLISHED A DEPARTMENTAL COMPENSATION FUND IN FAVOR OF THE DEPARTMENTS BASED ON EXPLOITED NATURAL RESOURCES (MAINLY OIL AND GAS)

8. 8 BOLIVIA YEAR 1994 FINANCIAL MANAGEMENT ARRANGEMENTS WERE ALMOST INEXISTENT A CIVIL VIGILANCE SYSTEM WAS INTRODUCED NO FINANCIAL INFORMATION SYSTEMS NO ACCOUNTING SYSTEMS NO INTERNAL CONTROL AND VERY POOR EXTERNAL AUDIT SYSTEMS IN PLACE NO QUALIFIED HUMAN RESOURCES NO CULTURE OF ACCOUNTABILITY NOR TRANSPARENCY

9. 9 BOLIVIA WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? YEAR 1994 THE CIVILIAN AUTHORITY HAVE THE FOLLOWING RESPONSIBILITIES: CONTROL COMMISSIONS (CC), REPRESENTING CIVIL SOCIETY TO CONSULT AND FORMULATE PROPOSALS FOR THE MUNICIPAL BUDGET TO CONTROL THE USE OF MUNICIPAL FINANCIAL RESOURCES, ESPECIALLY TO ENSURE A FAIR ALLOCATION BETWEEN RURAL AND URBAN ZONES (INTERNAL MUNICIPAL JURISDICTION) AND OF MUNICIPAL ADMINISTRATION COSTS TO NOTIFY NATIONAL AND/OR DEPARTMENTAL AUTHORITIES OF ANY EMBEZZLEMENT CASES OR BAD MANAGEMENT OF MUNICIPAL FINANCIAL RESOURCES ON THE PART OF THE MUNICIPAL GOVERNMENT

10. 10 BOLIVIA WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? YEAR 1994 - 1997 COMPARED TO USD 52 MILLION IN 1993, THE TRANSFERS DESTINED FOR THE COUNTRY ’ S MUNICIPALITIES THUS AMOUNTED TO USD 137 MILLION IN 1995 (+160 PERCENT), WHICH WAS THE FIRST YEAR OF THE PPL ’ S FULL APPLICATION AND USD 184 MILLION IN 1997 (+254 PERCENT) THE PROPORTIONAL REDISTRIBUTION OF PUBLIC RESOURCES TO THE LOCAL POPULATION WAS A REAL REDISTRIBUTION OF PUBLIC RESOURCES TO COUNTRY ’ S RURAL REGIONS USD 4 MILLION IN 1993 INCREASED TO USD 83 MILLION IN 1995 (+ 2,000 PERCENT)

11. 11 BOLIVIA WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? THE FIRST AND MOST IMPORTANT RESULT OBTAINED IS LINKED TO THE FACT THAT ALL DECENTRALIZED AUTHORITIES CREATED BY THE REFORM DEPEND ON NATIONAL RESOURCES STEMMING FROM CURRENT NATIONAL TAX REVENUES THEIR WORK, INCLUDING A PORTION OF THE PROJECT COSTS DETERMINED BY THE NEW AUTHORITIES, IS FINANCED BY RESOURCES FROM THE BOLIVIAN STATE

12. 12 BOLIVIA a) year of LPP promulgation b) first year of LPP ’ s complete application c) the country ‘ s 13 most populated municipalities d) amount budgeted

13. 13 BOLIVIA WHAT ARE THE EXPECTATIONS FOR THE FUTURE? IMPROVE THE CAPACITY OF MUNICIPAL MANAGEMENT SINCE THEIR OWN ADMINISTRATIVE CAPACITY REVEALS A DEFICIT IN ORGANIZATIONAL AND ADMINISTRATIVE SYSTEMS MUNICIPAL GOVERNMENTS SHOULD ASSUME A SIGNIFICANT PART OF THE RESPONSIBILITY RELATING TO THEIR MANAGEMENT DEFICIENCIES IN PARALLEL PROMOTE THEIR FINANCIAL SUSTAINBILITY IN THE FUTURE GENERATING MORE FISCAL RESOURCES, DEPENDING LESS ON NATIONAL TRANSFERS

14. 14 BOLIVIA WHAT ARE THE EXPECTATIONS FOR THE FUTURE? STRENGTHEN LOCAL AUTONOMY, ESPECIALLY THAT OF THE MOST DISADVANTAGED MUNICIPALITIES ESTABLISH EFFECTIVE AND HARMONIOUS RELATIONS OF COORDINATION AND COOPERATION BETWEEN THE THREE ADMINISTRATIVE LEVELS IN THE FRAMEWORK OF NATIONAL PUBLIC POLITICS LOCAL PARTICIPANTS NEEDS THE CAPACITY AND SUFFICIENT POLITICAL DETERMINATION TO MANAGE THEIR RESPONSIBILITIES PLUS THE FINANCIAL RESOURCES AND INSTITUTIONS PUT AT THEIR DISPOSAL

15. 15 COLOMBIA HOW WAS THE PROCESS INITIATED? COLOMBIA INITIATED THE DECENTRALIZATION PROCESS FOR THE FOLLOWING REASONS: TO STRENGTHEN THE LEGITIMACY OF FORMAL GOVERNMENT BECAUSE OF THE FRAGILE LEGITIMACY OR LACK OF THE SUBNATIONAL GOVERNMENTS TO FACE GUERRILLA THREATS TO INCREASE SOCIAL EXPENDITURES TO ENHANCE EFFICIENCY IN EDUCATION AND HEALTH TO COMPENSATE TERRITORIES WITH WEAK FISCAL CAPACITY BY PROVIDING ADDITIONAL RESOURCES AND STRENGTHENING THEIR FINANCIAL CAPACITY TO FIGHT POVERTY MORE EFFECTIVELY BY CREATING SAFETY NETWORKS

16. 16 COLOMBIA HOW WAS THE PROCESS INITIATED? SINCE 1986, COLOMBIA HAS BEEN DECENTRALIZING ITS DEMOCRACY AND PUBLIC FINANCES, JOINING ARGENTINA AND BRAZIL IN THE RANKS OF LATIN AMERICAN COUNTRIES WITH HIGHLY DECENTRALIZED PUBLIC SECTORS COLOMBIA ADOPTED AN INTEGRAL DECENTRALIZATION REFORM APPROACH INCLUDING FISCAL, SOCIAL, POLITICAL AND ADMINISTRATIVE AREAS POLITICAL DECENTRALIZATION IN THE SENSE OF ELECTED MAYORS IN 1986 AND THEN GOVERNORS IN 1991, CAME AFTER SPENDING HAD BEEN SUBSTANTIALLY DELEGATED TO THE LOCAL LEVELS

17. 17 COLOMBIA HOW WAS THE PROCESS INITIATED? COLOMBIA HAS ENJOYED A TRADITION AND REPUTATION FOR SOUND MACROECONOMIC MANAGEMENT BASED ON CENTRAL FISCAL CONTROL IN THE EARLY 1980s IN THE 1990s, ON THE OTHER HAND, THE EXPANSION OF POLITICAL AND FISCAL DECENTRALIZATION COINCIDED WITH THE EXPANSION OF FISCAL DEFICITS LOTS OF RESOURCES TRANSFERRED TO DEPARTMENTS AND MUNICIPALITIES SOMETIMES REPRESENTED LARGER RESPONSIBILITIES THAN THE AVAILABLE RESOURCES TO FOUND THEM

18. 18 COLOMBIA WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? THE FISCAL DECENTRALIZATION PACKAGE COVERED FISCAL TRANSFERS THAT COMBINED GENERAL-PURPOSE TRANSFERS FOR GENERAL PURPOSES AND EARMARKED TRANSFERS FOR EDUCATION AND HEALTH THERE WAS A DRASTIC JUMP IN TOTAL SUBNATIONAL EXPENDITURES FROM 3% IN THE 60s TO A 14% IN 1999 BY 2002 SUBNATIONAL GOVERNMENTS AND OTHER REGIONAL ENTITIES WERE ORGANIZED AND WELL ESTABLISHED

19. 19 COLOMBIA WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? IN SPITE OF THE EFFORTS MADE THE DECENTRALIZATION PROCESS IS FAR FROM COMPLETE THE DECENTRALIZATION HAS LED TO PROBLEMS, BOTH IN MAINTAINING FISCAL BALANCE AT THE NATIONAL LEVEL, AND IN PREVENTING UNSUSTAINABLE DEFICITS BY THE SUBNATIONAL GOVERNMENTS THE PROBLEMS HAVE ARISEN BECAUSE NATIONAL GOVERNMENT INTERFERENCE PREVENTS DEPARTMENTS FROM CONTROLLING THEIR COSTS AND BECAUSE SUBNATIONAL GOVERNMENTS HAVE COME TO EXPECT DEBT BAILOUTS

20. 20 COLOMBIA WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? WEAK INSTITUTIONALITY LACK OF TRANSPARENCY AND ACCOUNTABILITY FOR DECENTRALIZED RESOURCES LACK OF COORDINATION AND CLEAR DEFINITION OF ROLES BETWEEN DIFFERENT GOVERNMENT LEVELS EXCESIVE LEGAL FRAMEWORK WHICH IS IN CONSTANT CHANGE LEAVING GAPS AND MISINTERPRETATIONS THAT ARE DIFFICULT TO MANAGE WEAK GOVERNANCE INABILITY TO NEGOCIATE WITH PUBLIC SECTOR LABOR FORCE LACK OF GOVERNMENT PRESENCE IN SOME CONFLICTIVE REGIONS

21. 21 COLOMBIA WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? WEAK PUBLIC FINANCIAL MANAGEMENT BUDGET CONSTRAINS AND RIGIDITIES AFFECTING ALLOCATIONS AND COMMITMENTS WEAK PUBLIC FINANCIAL MANAGEMENT INFORMATION SYSTEMS LIMITED REVENUES RESOURCES AT THE SUBNATIONAL LEVEL AND GREATER DEPENDENCE ON TRANSFERS FROM THE CENTRAL GOVERNMENT LACK OF PERFORMANCE AND RESULTS-BASED INCENTIVES

22. 22 COLOMBIA WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? RECENT LEGAL FRAMEWORK TO SUPPORT DECENTRALIZATION LAW 617 OF 2000 - REGULATES SUBNATIONAL GOVERNMENT DEBT MANAGEMENT CREATING LIMITS TO PUBLIC EXPENDITURES LAW 715 0F 2001 – REGULATES TRANSFER SYSTEM REFORM THE EXISTING NATIONAL PARTICIPATION SYSTEM

23. 23 COLOMBIA WHAT ARE THE EXPECTATIONS FOR THE FUTURE? REDEFINE THE ROLE AND RESPONSIBILITIES OF SUBNATIONAL GOVERNMENTS ON REVENUE COLLECTION AND PUBLIC EXPENDITURE MANAGEMENT CLEAR DIVISION OF RESPONSIBILITIES BETWEEN NATIONAL AND SUBNATIONAL GOVERNMENT ON PUBLIC SERVICES DELIVERY

24. 24 COLOMBIA WHAT ARE THE EXPECTATIONS FOR THE FUTURE? STRENTHEN SUBNATIONAL GOVERNMENTS FINANCIAL MANAGEMENT CAPACITY INCREASE PUBLIC SECTOR TRANSPARENCY AND ACCOUNTABILITY

25. 25 MEXICO HOW WAS THE PROCESS INITIATED? FISCAL FEDERALISM WAS STABLISHED IN 1980 CREATING FEDERAL TRANSFERS OF NON-EARMARKED REVENUE SHARING, OR “ PARTICIPACIONES ” DURING THE 1990s MEXICO EMBARKED ON A PROCESS OF DECENTRALIZATION, MOTIVATED BY HEIGHTENED POLITICAL COMPETITION AND A DESIRE TO BROADEN POLITICAL PARTICIPATION DECENTRALIZATION WAS EXPECTED TO YIELD SIGNIFICANT BENEFITS INCLUDING IMPROVED MACROECONOMIC STABILITY, MORE EFFICIENT PROVISION OF SOCIAL SERVICES, AND IMPROVED QUALITY OF GOVERNANCE

26. 26 MEXICO HOW WAS THE PROCESS INITIATED? RAPID PROCESS OF SPENDING DECENTRALIZATION INITIATED IN THE 2000s THROUGH THE USE OF EARMARKED TRANSFERS DRIVEN BY POLITICAL DEMOCRATIZATION LACK OF COHERENT PLAN FOR DECENTRALIZATION LOTS OF RESOURCES TRANSFERRED TO STATES AND MUNICIPALITIES SOMETIMES WITH LARGE RESPONSIBILITIES

27. 27 MEXICO WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? COMPONENTS OF THE FEDERAL TRANSFER SYSTEM REVENUE SHARING = “ PARTICIPACIONES ” NON-EARMARKED (1980) 38% OF TOTAL TRANSFERS TO THE STATES GRANT SYSTEM = “ APORTACIONES ” EARMARKED 58.2 % OF TOTAL TRANSFERS TO THE STATES

28. 28 MEXICO CONCEPT19981999200020012002 STATES169.9235.4292.8369.8405.2 STATE REVENUES19.019.923.030.128.2 FEDERAL REVENUES150.9211.0266.9336.0373.1 OTHER REVENUESN.D.4.52.93.63.9 REVENUES AUTONOMY%11.28.57.98.27.0 MUNICIPALITIES46.570.981.085.4106.2 MUNICIPAL REVENUES20.921.723.024.329.8 NON-EARMARKED TRANSFERS PARTICIPACIONES 25.626.428.129.636.4 EARMARKED TRANSFERS APORTACIONES -22.829.931.540.0 REVENUES AUTONOMY%30.628.4 28.1 INCOME STRUCTURE OF SUBNATIONAL GOVERNMENTS (IN MILLIONS OF MEXICAN CURRENT PESOS)

29. 29 MEXICO WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? STATES (31) AND THE FEDERAL DISTRICT REPRESENTED IN 2004 34% OF PUBLIC EXPENDITURE MUCH MORE RAPID GROWTH ON REVENUES AND EXPENDITURES RESPONSIBILITIES MUNICIPALITIES (2400 APROX.) REPRESENT 7% OF PUBLIC EXPENDITURE HIGH DEPENDENCY ON TRANSFERS FROM STATES AND FEDERAL GOVERNMENT

30. 30 MEXICO WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? WEAK INSTITUTIONS CHARACTERIZED BY PROBLEMS OF: COORDINATION AT FEDERAL LEVEL MANAGEMENT AT SUBNATIONAL LEVELS MUNICIPAL GOVERNMENTS ARE STILL SUBJECT TO A CONSIDERABLE AMOUNT OF STATE AND FEDERAL LEVEL INVOLVEMENT AND THEREFORE DO NOT ENJOY THE SAME LEVEL OF AUTONOMY FOR EXAMPLE: FEDERAL MINISTRIES ARE RESPONSIBLE FOR FUNDING THE COSTS OF PUBLIC EDUCATION AND HEALTH CARE

31. 31 MEXICO WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? NATIONAL AND STATE-LEVEL TAXATION AND REVENUE SHARING WITH STATES AND MUNICIPALITIES IS COORDINATED BY THE MINISTRY OF FINANCE - SECRETAR Í A DE HACIENDA Y CR É DITO P Ú BLICO (SHCP) WITH IMPORTANT ECONOMIES OF SCALE IN TAX BUT AFFECTING FISCAL AUTONOMY, COLLECTION BUT AFFECTING FISCAL AUTONOMY, TRANSPARENCY AND NEUTRALITY OF RESOURCES TRANSFERS

32. 32 MEXICO WHAT ARE THE MAIN CHARACTERISTICS? What worked and what didn't work? ACCORDING TO WORLD BANK FIGURES : ONLY 5% OF TOTAL REVENUES ARE FROM STATE ’ S OWN TAXES AND “ PARTICIPACIONES ” ACCOUNT FOR APPROXIMATELY 63 % OF MUNICIPAL REVENUE, WHILE TAXES (MOSTLY PROPERTY) AND FEES/SURCHARGES MAKE UP ONLY 11% AND 10% RESPECTIVELY

33. 33 MEXICO WHAT ARE THE EXPECTATIONS FOR THE FUTURE? INCREASE SUBNATIONAL REVENUE RAISING REDUCE DEPENDENCE ON TRANSFERS ESPECIALLY FOR MARGINAL RESOURCES INCREASE STATE AUTHORITY TO MANAGE PROGRAMS IMPROVE FINANCIAL MANAGEMENT INFORMATION SYSTEMS

34. 34 MEXICO WHAT ARE THE EXPECTATIONS FOR THE FUTURE? IMPLEMENT REFORMS WHICH WILL CONVEY POSITIVE INCENTIVES TO SUBNATIONAL GOVERNMENTS AND STRENGTHEN THEIR RELATIVE ADMINISTRATIVE AND FISCAL AUTONOMY ENSURE COHESIVENESS AND LONG-TERM SUSTAINABILITY OF DECENTRALIZATION IN MEXICO PENDING REFORM OF FEDERAL FISCAL PACT

35. 35 EXISTING DECENTRALIZATION CONDITIONS AT THE SUBNATIONAL LEVEL COMPARATIVE ANALYSIS CONDITIONSBOLIVIACOLOMBIAMEXICO GENERAL 1. FINANCIAL MANAGEMENT COORDINATION BETWEEN DIFFERENT GOVERNMENT LEVELS WEAKGOODGOOD AT THE STATE LEVEL AND WEAK AT MUNICIPAL RURAL AREAS 2. LEVEL OF EXPENDING AUTONOMY AT THE SUBNATIONAL LEVEL WEAK GOOD AT STATE LEVEL MODERATE AT MUNICIPAL LEVEL 3. FINANCIAL MANAGEMENT ARRANGEMENTS WEAK EXCEPT IN SOME URBAN AREAS GOOD IN GENERAL EXCEPT IN RURAL AREAS GOOD AT THE STATE LEVEL AND WEAK AT MUNICIPAL RURAL AREAS 4. FINANCIAL MANAGEMENT INFORMATION SYSTEMS WEAK EXCEPT IN SOME URBAN AREAS GOOD IN GENERAL EXCEPT IN RURAL AREAS GOOD AT THE STATE LEVEL AND WEAK AT MUNICIPAL RURAL AREAS 5. INSTITUTIONAL PUBLIC FINANCIAL MANAGEMENT CAPACITY WEAK WITH EXCEPT IN URBAN AREAS GOOD IN GENERAL EXCEPT IN RURAL AREAS GOOD AT THE STATE LEVEL AND WEAK AT MUNICIPAL RURAL AREAS 6. ACCOUNTABILITY AND TRANSPARENCY WEAK EXCEPT WHERE CIVIL SOCIETY ORGANIZATIONS ARE INVOLVED IN PS OVERSIGHT