States’ Expenditure Forecasts - Evidence submitted by the C&AG to the Finance Sub-Panel of the Corporate Services Scruti

STATES' EXPENDITURE FORECASTS

EVIDENCE SUBMITTED

BY THE COMPTROLLER & AUDITOR GENERAL

TO THE FINANCE SUB-PANEL OF THE CORPORATE SERVICES SCRUTINY PANEL

APRIL 2009

TABLE OF CONTENTS

SECTION ONE ~ INTRODUCTION...5 SECTION TWO ~ WHAT IS STATES' EXPENDITURE?...........................................6 SECTION THREE ~ PAST FORECASTS.......................................................................9 SECTION FOUR ~ COMPOSITION OF NRE .............................................................11 SECTION FIVE ~ OBSERVATIONS.............................................................................12

APPENDIX ONE ~ ISSUES COVERED BY THE TERMS OF REFERENCE BY

THE ENQUIRY BY THE FINANCE SUB-PANEL OF THE CORPORATE SERVICES SCRUTINY PANEL.........................................................................15

APPENDIX TWO ~ COMPARISON OF EXPENDITURE FORECASTS

PUBLISHED IN ANNUAL BUDGET STATEMENTS 2001-2009..................16

APPENDIX THREE ~ ACTUAL AND FORECAST NRE ~ RATE OF INCREASE

(%)...........................................................................................................................17

APPENDIX FOUR ~ ANNUAL RATES OF INCREASE OF NRE WITHIN

BUDGET FORECASTS (%)................................................................................18

APPENDIX FIVE ~ COMPARISON OF ACTUAL NRE WITH FORECASTS.......19 APPENDIX SIX ~ DEPARTMENTAL COMPOSITION OF NRE FORECASTS ...20

APPENDIX SEVEN ~ ANALYSIS OF NRE BY CATEGORY OF EXPENDITURE

.................................................................................................................................21

SECTION ONE ~ INTRODUCTION

1. I have been invited by the Finance Sub-Panel of the Corporate Services Scrutiny Panel to submit evidence to the Sub-Panel in connection with an enquiry that it is undertaking into the effectiveness of the States' forecasting of expenditure. The issues which I understand are covered by the terms of reference of the enquiry are set out in Appendix One to this paper.
2. To a large extent, the evidence that was requested from me involved refreshing and confirming information that I have set out in a number of reports published during the past two years and concerned:

1. What is States' expenditure and, importantly, how does the total amount of actual expenditure relate to the States' forecasts of expenditure which are published

Annually?

2. On what basis are the States' annual expenditure forecasts prepared?
3. What are the principal components of the annual forecasts of expenditure?

3. In the following sections of this paper I will deal with each of these subjects in turn.

SECTION TWO ~ WHAT IS STATES' EXPENDITURE?

Net Expenditure

4. Each year, the States publish forecasts of Net Expenditure in the annual Budget Statement[1].
5. Net Expenditure comprises two elements:

1. Net Revenue Expenditure of ministerial and non-ministerial departments; and
2. Net Capital Expenditure Allocation.

Net Revenue Expenditure

6. Net Revenue Expenditure includes the annual running costs of States' departments. It takes account of income received directly by departments which consist largely of charges made by departments for their services. The effect is that Net Revenue Expenditure is not the total amount of expenditure expected to be incurred by individual departments or by the States overall.
7. In addition, Net Revenue Expenditure does not take account of expenditure incurred by the States but charged against special funds such as the Criminal Offences Confiscation Fund and the Drug Trafficking Confiscation Fund.
8. Thus, to examine the total running cost of the States, one must:

1. look at Net Revenue Expenditure;
2. add the amount of departmental income; and
3. add the amount of expenditure charged to special funds.

Net Capital Expenditure

9. Net Capital Expenditure includes the cost of acquiring capital assets which will be used by the States for a number of years. It takes account of capital receipts such as the sale of properties by the States including the sale of housing assets.

Disclosure

10. This information is not readily available in all statements published by the Treasury and Resources Department.
11. The annual Budget Statement includes forecasts of Net Revenue Expenditure which are analysed by department. It does not however include forecasts of departmental income or of expenditure to be charged to special funds. As a result, the annual Budget Statement does not disclose forecasts of the total running costs to be incurred by the States.
12. The annual Budget Statement includes forecasts of Net Capital Expenditure and of the capital receipts that have been taken into account. As a result, the annual Budget Statement does disclose forecasts of the total capital expenditure to be incurred by the States.
13. The annual accounts published by the States report Net Revenue Expenditure in detail, departmental income in total and also the principal elements of expenditure charged to special funds. Thus information concerning both net and gross expenditure is disclosed albeit in different places.

Most recent forecasts

14. The forecasts published in the Budget Statement 2009[2] are as follows:

15. The analysis of Net Capital Expenditure Allocation3 published in the Budget Statement 2009 is as follows:

3 Shown on page 34 of the Budget Statement 2009.

SECTION THREE ~ PAST FORECASTS

Past forecasts of Net Revenue Expenditure

16. In previous reports, I have compared forecasts of NRE published by the States. To respond to the Sub-Panel's invitation, I have refreshed those comparisons. The result is shown in the table set out in Appendix Two.
17. The rate of growth in NRE (both actual and forecast) shown in that able is shown in the table set out in Appendix Three and in the graph below:

CHART ONE ~ STATES OF JERSEY

ACTUAL AND FORECAST RATE OF INCREASE IN NRE (%)

12 10 8 6 4 2 0

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

18. As can be seen, the annual percentage increase of NRE shown in the 2009 Budget's forecasts for the years 2009-2013 appear to have assumed a common rate of annual increase with relatively little variation. That appears to have been the States' normal practice as shown by the Table set out in Appendix Four.
19. I have also compared the actual NRE of the States with the forecasts and the result is set out in Appendix Five.
20. The result of a comparison between actual NRE and the last forecast for each year (i.e the forecast published immediately before the commencement of the year in question is shown in the graph below:

CHART TWO ~ STATES OF JERSEY

EXCESS OF ACTUAL NRE OVER FINAL FORECAST FOR THE YEAR (%)

6 5 4 3 2 1 0

2001 2002 2003 2004 2005 2006 2007 2008

21. The result of a comparison between actual NRE and the forecast published two years before the year in question is shown in the graph below:

CHART THREE ~ STATES OF JERSEY EXCESS OF ACTUAL NRE OVER YEAR -2 FORECAST (%)

16 14 12

10 8 6 4 2 0

2003 2004 2005 2006 2007 2008

SECTION FOUR ~ COMPOSITION OF NRE

Departmental forecasts

22. The States' forecasts of NRE comprise s series of more detailed forecasts for individual States' departments. These detailed forecasts (as published in the 2009 Budget Statement) are summarised in Appendix Six which also shows the proportion of the total forecast for NRE which is represented by each department.
23. It is evident from the Table set out in Appendix Six that during the period covered by the most recently published forecast, the proportion of the total forecast NRE represented by each individual department remains largely unchanged.

Forecasts of categories of expenditure

24. The States' NRE forecasts do not show the composition of forecast NRE analysed by reference to the type or category of expenditure which the States incur. This can however be shown by reference to information published in the States' accounts for past years.
25. An analysis of NRE by reference to category of expenditure is set out in Appendix Seven based on information published with the States' accounts for 2006.
26. This shows that the three largest components of NRE are:

1. Manpower costs: 46.2% of total NRE.
2. Administrative costs: 12.6% of total NRE.
3. Grants to Social Security and Health Insurance Funds: 10.3% of total NRE.

27. These three categories of expenditure 69.1% of total NRE.

SECTION FIVE ~ OBSERVATIONS

28. A number of observations seem appropriate in the light of the information set out in this paper and in the Appendices to this paper:

1. Annual rate of increase in NRE

The annual rate if increase in NRE appears to have increased markedly in 2008 (see Chart One And Appendix Three).

2. Extent of the unreliability of forecasts

The reliability of forecasts as a guide to actual NRE appears to have been increasing. As one would expect this is most marked for earlier forecasts (see Chart Three which shows the excess of actual NRE over the forecast published two years before the year in question).

3. Assumed percentage increases in expenditure

The States' normal practice appears to be to prepare forecasts on the basis of assumed annual increases in NRE (see Appendix Four and Chart One).

4. Departmental allocations of forecast expenditure

The effect of this practice is that each department's NRE as a proportion of total states' NRE remains stable (see Appendix Seven).

5. Manageable and unmanageable expenditure

States' expenditure includes costs that respond directly to external economic drivers. Such costs (e.g. the States' contributions to social security funds[3]) can only be managed by way of variation of the policy by which they are determined and not be day to day management control exercised by the Chief Officers. Thus departmental budgets which include expenditure which is affected by facts outside the control of the States may enjoy a particular advantage if that expenditure happens to fall or particular disadvantage if that expenditure happens to increase at a faster rate than the percentage increase in expenditure assumed in the States' expenditure forecasts.. Examples of this include the States' contributions to the Social security and Health Insurance Funds (which are determined by reference to general economic variables such as average earnings and unemployment levels), school pupil numbers (determined by demographic factors not controlled by the States), court and case costs (determined by prosecution decisions) and the Jersey Field Squadron (determined by the Ministry of Defence in London).

6. Effect of unmanageable expenditure on departmental forecasts

Departments faced with significant elements of expenditure determined by economic factors not within the Chief Officers' control but with budgets determined by general percentage increases will face particular difficulty. Departments which do not have such elements of expenditure will have a correspondingly easier challenge in controlling expenditure.

7. Locus of control of certain categories of expenditure

Certain major categories of expenditure are not within the control of individual Chief Officers. For example, as shown in Appendix Seven, manpower costs represent 46.2% of total NRE. Rates of pay are determined centrally by the States so that an individual Chief Officer has no control over the amount of pay to any employee. The published forecasts of expenditure appear to assume that increases in rates of pay can be restrained within the overall assumed increases in expenditure.

8. Chief Officers' difficulty in controlling expenditure

The effect is that individual Chief Officers may face considerable difficulty in ensuring that departmental expenditure is lower than forecast: a difficulty that is magnified by the States' current policy with regard to reducing the number of employees through redundancy.

9. Resulting pressure on costs controllable by Chief Officers

The consequence is that to restrain their departments' expenditure within forecast levels, Chief Officers must seek savings in the costs which they are able to control. Since these categories of costs may represent Small proportions of a department's total NRE, the effect is that drastic reductions may be necessary to achieve necessary reductions in overall NRE. For example, expenditure may be reduced by deferring maintenance expenditure (although this may increase the long term cost of maintenance)[4], or delaying recruitment to replace staff who have left the States' employment (although this may affect the quality of promised services)[5].

10. Effect of other funds'

A further consequence is that the pressure on controlling costs can be relieved if a Chief Officer has access to other funds' which can be used to meet certain expenditure. For example, the Criminal Offences and Drug Trafficking Confiscation Funds have been used regularly to meet the court and case costs of the Law Officers' Department, and costs which would otherwise form part of the budget of the Home Affairs Department such as the costs of the drug education initiatives managed through the Building a Safer Society programme. Departments which do not have access to such funds do not enjoy similar relief from funding pressures.

APPENDIX ONE ~ ISSUES COVERED BY THE TERMS OF REFERENCE FOR THE ENQUIRY BY THE FINANCE SUB-PANEL OF THE CORPORATE SERVICES SCRUTINY PANEL

1. To review the policies, directions and practices driving the States of Jersey financial forecasting.
2. To review the areas of responsibility for the control of the forecasting process.
3. To review the accuracy and timetable of the forecasting process.

APPENDIX TWO ~ COMPARISON OF EXPENDITURE FORECASTS PUBLISHED IN ANNUAL BUDGET STATEMENTS 2001-2009

£ million

Year of Budgets account 2001 2002 2003 2004 2005 2006 2007 2008 2009

2001 343

2002 363 375

2003 381 394 394

2004 398 414 414 408

2005 435 424 423

2006 438 433 441

2007 450 444 454 474

2008 462 455 457 492 505

2009 466 480 507 525 546 2010 478 490 518 546 563 2011 532 565 581 2012 583 598 2013 616

APPENDIX THREE ~ ACTUAL AND FORECAST NRE ~ RATE OF INCREASE (%)

Actual Annual NRE Forecasts increase £m £m %

2001 356

2002 377 5.90

2003 397 5.31

2004 417 5.04

2005 441 5.76

2006 465 5.44

2007 480 3.23

2008 526 9.58

2009 546 3.80 Forecast 2010 563 3.11 Forecast 2011 581 3.20 Forecast 2012 598 2.93 Forecast 2013 616 3.01 Forecast

APPENDIX FOUR ~ ANNUAL RATES OF INCREASE OF NRE WITHIN BUDGET FORECASTS (%)

%

Year on year % increase Yr 2 on Yr 1 Yr 3 on Yr2 Yr 4 on Yr 3 Yr 5 on Yr 4 Yr 6 on Yr 5

Budget 2001 5.8 5.0 4.5

Budget 2002 5.1 5.1

Budget 2003 5.1 5.1

Budget 2004 3.9 3.3 2.7 2.7

Budget 2005 2.4 2.5 2.5 2.4 2.6 Budget 2006 2.9 0.7 5.0 2.1

Budget 2007 3.8 3.0 3.3 2.7

Budget 2008 4.0 4.0 3.5 3.2

Budget 2009 3.1 3.2 2.9 2.0

APPENDIX FIVE ~ COMPARISON OF ACTUAL NRE WITH FORECASTS

Excess of Year of Actual Forecasts actual over forecast account NRE Final Year -2 Final Year -2 £m £m £m % %

2001 356 343 3.79

2002 377 375 0.53

2003 397 394 381 0.76 4.20 2004 417 408 414 2.21 0.72 2005 441 423 435 4.26 1.38 2006 465 441 438 5.44 6.16 2007 480 474 444 1.27 8.11 2008 526 505 457 4.16 15.10

APPENDIX SIX ~ DEPARTMENTAL COMPOSITION OF NRE FORECASTS

2009 2010 2011

% % %

£M of NRE £M of NRE £M of NRE

MINISTERIAL DEPARTMENTS

Chief Minister's Department 15.8 2.7 16.4 2.7 16.9 2.7 Overseas Aid Commission 7.7 1.3 8.1 1.3 8.5 1.4 Economic Development 16.4 2.8 16.8 2.8 17.2 2.8 Education Sport and Culture 98.5 16.8 101.7 16.9 104.2 16.8 Health and Social services 153.6 26.2 160.2 26.6 167.5 27.0 Home Affairs 45.5 7.8 46.6 7.7 47.7 7.7 Housing -22.3 -3.8 -22.9 -3.8 -23.5 -3.8 Planning and Environment 7.1 1.2 8.3 1.4 8.9 1.4 Social Security 157.1 26.8 159.2 26.4 164.1 26.4 Transport and Technical Services 23.7 4.0 24.9 4.1 26.6 4.3 Treasury and Resources 61.1 10.4 62.4 10.4 63.3 10.2 564.2 96.3 581.7 96.5 601.4 96.8

NON MINISTERIAL BODIES

Law Officers 5.9 1.0 6.3 1.0 6.4 1.0 Judicial Greffe 4 0.7 4.1 0.7 4.1 0.7 States Assembly 5.2 0.9 5.3 0.9 5.4 0.9 Other 6.6 1.1 5.3 0.9 3.9 0.6 NET REVENUE EXPENDITURE 585.9 100.0 602.7 100.0 621.2 100.0

APPENDIX SEVEN ~ ANALYSIS OF NRE BY CATEGORY OF EXPENDITURE

2006

Manpower costs

Voluntary redundancy and early retirement Supplies and services

Administrative costs

Premises and maintenance

Grants and subsidies

Social Security and Health Insurance Funds 57.8 Community benefits 35.0 General (other grants) 24.0 Housing rent abatements 15.2 Student grants 9.9 Housing rent rebates 8.5 Overseas aid 5.7 Agricultural subsidies 2.0

Incidental expenses and charges PECRS pre-1987 debt

States members' remuneration