Labour markets, human capital and inequality

Economic Survey of Brazil 2009: Making government operations more cost-effective

 

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The following OECD assessment and recommendations summarise chapter 4 of the Economic Survey of Brazil published on 14 July 2009.

 

Contents

 

There is considerable scope for making government operations more cost-effective

The level of public spending is particularly high in relation to GDP for a country of Brazil’s income level and in comparison with its emerging-market peers. Government outlays on education and health care alone account for nearly 9% of GDP, the second largest item of spending following social protection. But outcome indicators are not always commensurate with the country’s high level of government-financed spending, suggesting that service delivery is inefficient, rather than under-funded. Much has been done in education to raise enrolment rates, especially for secondary education, to equalise spending capacity among the sub-national jurisdictions, which account for the bulk of spending on education, and to introduce systematic performance assessments for students and institutions. These initiatives have been highly successful, particularly in terms of delivering near-full enrolment at the primary and lower-secondary levels. But the performance of Brazilian students remains comparatively low when judged on the basis of standardised international tests, such as PISA. Of course, it takes time for innovative policy initiatives to deliver sustained improvements in performance, and follow-through is essential. Policy action should therefore focus on improving the quality of services for those levels of education where full – or nearly full – coverage has already been assured. As argued in previous Surveys, the largest payoff from growth-enhancing reforms is likely to come from further improvements in human capital, with special emphasis on basic skills.


Brazil is a big spender in relation to other emerging market economies

In per cent of GDP

1. Excludes outlays on debt service.
Source: IMF (GFS database), OECD (National Accounts database) and STN (for Brazil).

 

In health care, a number of conventional output indicators are not out of step with OECD averages. Following the decentralisation of service delivery in the early 1990s, increasing emphasis has appropriately been placed on enhancing preventive care. But, in a decentralised setting, cost-effectiveness depends a great deal on the ability of service deliverers to exploit economies of scale and scope. Experience with inter-municipal initiatives for procurement, as well as flexible arrangements for hospital administration and human-resource management, is by and large positive. These initiatives could be disseminated more broadly among the sub-national levels of governments. The identification of successful initiatives would be an important step towards setting best practices to be followed by policymakers.

 

Inter-governmental transfers can be used to encourage cost-effectiveness at the sub-national level of government

As in other federal countries, mechanisms for financing decentralised provision often rely on inter-governmental transfers. The bulk of federal transfers to the states and municipalities are in the form of block grants related to the sharing of revenue collected by the federal government. Sub-national governments have full autonomy to use these resources, a prerogative that is awarded to them by the Constitution. Voluntary grants, which may be conditional, account for a small share of inter-governmental transfers. On the face of it, there appears to be limited scope for building incentives for cost-effectiveness into the transfer system. But a number of initiatives stand out in this area. The case of education is particularly instructive, in that the introduction of conditional and equalisation transfers for service delivery (under FUNDEF and subsequently FUNDEB) has been essential for financing the expansion of the municipal school network, especially in remote parts of the country. The success of these initiatives suggests that the federal government could strengthen incentives for efficiency enhancement by making more extensive use of conditionality in voluntary transfers and by introducing rewards for performance. Initiatives to this effect would go in the direction of using the intergovernmental transfer system as a vehicle for efficiency enhancement without infringing on sub-national autonomy in policymaking and the use of sharable funds.

 

Budget-making needs to be more forward-looking and performance-oriented

Brazil’s budget institutions have been strengthened since the mid-1990s as an integral part of structural reforms in the macroeconomic area. Years of chronic inflation until then had favoured short term financial management to the detriment of long term planning and performance orientation in budgeting. A number of budget instruments are now available, including a four-year budget envelope (PPA), which lays out the government’s longer term policy priorities, and a three-year budget guidelines law (LDO), which sets fiscal targets for the annual budget laws. This institutional setting is appropriate for Brazil’s policymaking needs, and experience to date is by and large positive, although there is room for further improvement. An important policy consideration is that, while the policy objectives stated in the annual budget laws should be consistent with, and in support of, longer-term goals set out in the PPA and the medium-term fiscal targets enshrined in the LDO, this nesting order is often reversed. As a result, especially in periods of fiscal stress, short-term policy considerations have often taken precedence over longer-term policy directives. To remedy this situation, more effort is needed to improve the integration and consistency of the policy priorities set in the PPA and the targets included in the LDO and in the annual budget law. Progress in this area is an important pre-condition for the regular evaluation of policy outcomes and for using the existing budget’s institutional setting as a vehicle for cost-effective fiscal management.


Budget rigidities should be removed, especially those related to revenue earmarking

Effort to enhance the efficiency of government operations will not come to fruition unless budgetary appropriations can be re-allocated towards the most cost-effective programmes. Nevertheless, as noted in previous Surveys, the flexibility required for performance-oriented budgeting is constrained by a number of institutional rigidities. For example, considerable revenue is earmarked, including that of the federal levies (contribuições) introduced over time to finance a variety of social programmes (discussed above). Including the compulsory sharing of federal revenue with the sub-national governments, almost 90% of federal revenue is estimated to be earmarked. Mandated aggregate spending floors, including for health care and education, have also been introduced over the years to ensure financing for a variety of programmes, regardless of their cost-effectiveness. Policy action to make budgeting more flexible should focus on a gradual elimination of revenue earmarking and aggregate spending floors. This would allow budget-making and planning to be guided more by efficiency considerations and the government’s policy priorities, rather than historical costing and short-term revenue trends. Greater budgetary flexibility could also underscore efforts to contain the rise in current spending by making it easier to discontinue programmes that are not deemed cost-effective but whose financing is assured by spending covenants.

 

A regular sequestration of budgetary appropriations complicates expenditure management and budget planning

According to Brazilian legislation, budgetary appropriations can be discretionary, such as those for capital outlays, or non-discretionary, which includes pensions and payroll. In addition, the appropriations for discretionary programmes are authoritative, in the sense that the executive branch of government has the prerogative to establish ceilings for their execution that may be lower than those approved by Congress. This prerogative is often exercised, because the legislature has the right to alter the budgetary envelope submitted by the government in the draft budget law; revenue is adjusted upwards on the basis of optimistic assumptions to accommodate higher discretionary spending. Nevertheless, this sequestration of appropriations for discretionary programmes complicates expenditure management and budget planning, especially for capital outlays. It also creates incentives for expenditure rigidities through the introduction of mechanisms to protect priority programmes from sequestration. The option of making budgetary appropriations for discretionary programmes mandatory could therefore be considered in the longer term, but not until existing rigidities, such as mandated aggregate spending floors and revenue earmarking provisions, have been eliminated. A more cooperative arrangement would also need to be put in place between the executive branch and the legislature to ensure realism in revenue and expenditure projections, both in the draft budget law and in the budget approved by Congress.


Brazil needs to prepare for the rise in oil and gas revenue that will result from the development of new offshore fields

The discovery of large oil and gas fields in deep waters off Brazil’s south-eastern coast may well double the country’s proven reserves of about 14 billion barrels, although official estimates are not yet available. According to the International Energy Agency, Brazil accounts for about 40% of known undeveloped offshore reserves outside the OPEC area. Options are being considered for developing these fields. The current exploratory regime is based on concessions and the transfer of property rights over the hydrocarbon reserves to the concessionaires. The authorities are considering the introduction of production-sharing arrangements to develop the new fields, because their production costs are high and exploration risk relatively low, while maintaining the concessionary regime for the blocks that have already been auctioned. Definition of the regulatory framework for the new fields is important to ensure that their development is not delayed by regulatory uncertainty. Of particular importance is the need to set a clear role for the sector regulator in the new legal framework.


The sharing of future oil and gas revenue will pose policy challenges

An arrangement will need to be made for sharing the revenue arising from the exploitation of the new offshore reserves of oil and gas among the different levels of government. Currently, the bulk of revenue from royalties and other levies accrues to the coastal municipalities and states that have proprietary rights over the offshore fields. Only a limited portion of revenue is shared with non-producing jurisdictions. Maintenance of the current regime would likely exacerbate this concentration of revenue in a handful of municipalities. In addition, the recipient localities tend to use the hydrocarbon revenue predominantly to finance operating expenditure with little long-run return. It would therefore be advisable to introduce a new mechanism for sharing the revenue associated with the new oil fields among the different layers of government to ensure that it is saved and/or spent on programmes that could generate returns for future generations. The recently created Sovereign Wealth Fund could be used to save the revenue that accrues to the federal government and/or to smooth transitory fluctuations in the budget associated with business and oil price cycles.

 

How to obtain this publication

 

The complete edition of the Economic Survey of Brazil is available from:

The Policy Brief (pdf format) can be downloaded in English. It contains the OECD assessment and recommendations.

 

Additional information

For further information please contact the Brazil Desk at the OECD Economics Department at eco.survey@oecd.org

The OECD Secretariat's report was prepared by Luiz de Mello and Mauro Pisu under the supervision of Peter Jarrett. Research assistance was provided by Anne Legendre.

 

 

 

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