Semlit 4 – Public sector accrual accounting institutionalising – Fenny

Accounting, Auditing & Accountability Journal

Public sect or accrual account ing: inst it ut ionalising neo-liberal principles? Sheila Ellwood Susan Newberry

Article information:

To cite this document: Sheila Ellwood Susan Newberry, (2007),"Public sector accrual accounting: institutionalising neo-liberal principles?", Accounting, Auditing & Accountability Journal, Vol. 20 Iss 4 pp. 549 - 573 Permanent link t o t his document : http://dx.doi.org/10.1108/09513570710762584

Downloaded on: 08 March 2015, At : 11: 13 (PT) Ref erences: t his document cont ains ref erences t o 83 ot her document s. To copy t his document : permissions@emeraldinsight . com The f ullt ext of t his document has been downloaded 4543 t imes since 2007*

Users who downloaded this article also downloaded:

Ciaran Connolly, Noel Hyndman, (2006),"The actual implementation of accruals accounting: Caveats from

a case within the UK public sector", Accounting, Auditing & Accountability Journal, Vol. 19 Iss 2 pp. 272-290 http://dx.doi.org/10.1108/09513570610656123

Harun Harun, Karen Van Peursem, Ian Eggleton, (2012),"Institutionalization of accrual accounting in the Indonesian public sector", Journal of Accounting & Organizational Change, Vol. 8 Iss 3 pp. 257-285 http://dx.doi.org/10.1108/18325911211258308

Jane Broadbent, James Guthrie, (1992),"Changes in the Public Sector: A Review of Recent “Alternative” Accounting Research", Accounting, Auditing & Accountability Journal, Vol. 5 Iss 2 pp. - http:// dx.doi.org/10.1108/09513579210011835

Access t o t his document was grant ed t hrough an Emerald subscript ion provided by 375916 [ ]

For Authors

If you would like t o writ e f or t his, or any ot her Emerald publicat ion, t hen please use our Emerald f or Aut hors service inf ormat ion about how t o choose which publicat ion t o writ e f or and submission guidelines are available f or all. Please visit www. emeraldinsight . com/ aut hors f or more inf ormat ion.

About Emerald www.emeraldinsight.com

Download At 11:13 08 March 2015 (PT) Emerald is a global publisher linking research and pract ice t o t he benef it of societ y. The company

manages a port f olio of more t han 290 j ournals and over 2, 350 books and book series volumes, as well as providing an ext ensive range of online product s and addit ional cust omer resources and services.

Emerald is both COUNTER 4 and TRANSFER compliant. The organization is a partner of the Committee on Publication Ethics (COPE) and also works with Portico and the LOCKSS initiative for digital archive preservation.

*Relat ed cont ent and download inf ormat ion correct at t ime of download.

The current issue and full text archive of this journal is available at

www.emeraldinsight.com/0951-3574.htm

Public sector accrual accounting: Public sector

accrual

institutionalising neo-liberal

accounting

principles?

Sheila Ellwood

University of Bristol, Bristol, UK, and

Received 4 October 2004

Susan Newberry

Revised 8 March 2006 Accepted 26 July 2006

University of Sydney, Sydney, New South Wales, Australia

Abstract Purpose – The purpose of this paper is to examine the role of public sector accounting in

implementing neoliberal reforms. Design/methodology/approach – The proposition that the adoption and development of accrual

accounting in the public sector is a technical development intended to improve transparency and accountability is investigated. The paper compares the development and use of accrual accounting in public sector financial management reforms in the UK and New Zealand.

Findings – The findings in this paper suggest that in both countries, accrual accounting, as developed, also provides a means to reduce the government’s role to that of procurer of services and enforcer of rules set by others, thus advancing a controversial privatisation and trade liberalisation agenda which is consistent with neo-liberal principles.

Research limitations/implications – The paper shows that in contrast to more usual claims about the need for accrual accounting to provide a “read across between the sectors” or that public interest motives assure the neutrality of accounting, seemingly technical accrual accounting developments seem to function as a political tool to aid a controversial political agenda. There is a need to look at the overall effect of public sector financial management reforms and the role of, and implications for, accounting standard-setters.

Originality/value – The information in the paper applies to accounting the new political economics literature on agenda control and information based structures where control is achieved through information asymmetries.

Keywords Public sector accounting, New Zealand, United Kingdom Paper type Research paper

In a newspaper article, Stiglitz (2003) argued that the reforms advocated by experts, often backed by the International Monetary Fund (IMF), are “more often based on ideology

Download At 11:13 08 March 2015 (PT) than economic science”. Stiglitz warned that although proposed reforms may seem technical, economic policies require choices which favour some groups over others and, therefore, involve political choices which should not be left to technocrats. The economic policy underlying the structural adjustment and reform programmes advocated by such key supra-national agencies as the OECD, the International Monetary Fund (IMF), the World Bank and its allied agencies, and credit rating agencies is distinctively neo-liberal

Accounting, Auditing & Accountability Journal Vol. 20 No. 4, 2007

The authors thank the anonymous reviewers for their thorough and helpful comments, which

pp. 549-573

greatly improve the article, and acknowledge with thanks the support of the Pacioli Society at the q Emerald Group Publishing Limited University of Sydney for facilitating this joint research. 0951-3574

DOI 10.1108/09513570710762584

AAAJ

(Kelsey, 1995, p. 17). Economic policies are relatively powerless in the absence of detailed

intermediating processes, such as rules and regulations, to bring them into effect (Deakin and Wilkinson, 1998). Arguably, accounting and requirements to observe accounting rules provide another form of intermediating process, and this article considers the role of accounting in such reforms.

The three key features of neo-liberal reforms consist of independently-administered

anti-inflationary monetary policy; macro-level fiscal disciplines imposed on governments to achieve balanced budgets; and micro-economic reforms to liberalise trade and to expand the business sector (McKinnon, 2003, p. 316). This neo-liberal “iron tripod” is intended to constrain and reduce the size and power of governments, while at the same time supporting and encouraging the expansion of business activity. These changes in relative size of government and business sectors are brought about in part through privatisation, defined broadly as a process of “reducing the role of government or increasing the role of the other institutions of society in producing goods and services and in owning property” (Savas, 2000, p. 3). To the extent that tax-funded services remain, the government’s role is re-cast as merely a procurer, rather than a provider of services, purchasing in a competitive, or at least, contestable, market. The commercialisation of government activities and introduction of competition is, therefore an integral part of such reforms.

Differing views about the appropriate size and role of governments are a feature of political debate in many countries, and government-provided services may include education, health, welfare, energy and water. Decisions about such services might seem to be matters for political debate and decision in each country, but recent world trade developments show the potential effect of intermediating processes through the establishment of trade rules which now provide scope to challenge as barriers to competition any state controls imposed on services for social purposes. All of these services are targeted for trade liberalisation (Drake and Nicolaidis, 1992). The privatisation and trade liberalisation of energy and water is well advanced, while education and health are a particular focus of current efforts through the Doha trade round.

This article focuses on the introduction and development of accrual accounting in the public sectors of the UK and New Zealand, and considers the role of accounting. A feature of the accounting development in both countries is that the form of accounting introduced is that known as generally accepted accounting practices (GAAP) as developed for the business sector, albeit with some modifications for the public sector. Accounting standard-setters in the business sector have tended to represent accounting

Download At 11:13 08 March 2015 (PT) as a neutral technology intended to provide “even-handed financial and other

information that, together with information from other sources . . . assists in promoting efficient allocation of scarce resources in the economy” (Leisenring, 1987, p. ii). If such a description of accounting’s nature and role has ever been appropriate for the business sector, it is certainly not appropriate for governmental accounting. According to Jones (1992, pp. 155-156), governmental accounting “has always been used primarily to control people’s behaviour: to encourage them to do what they otherwise would not do or to prevent them from doing what they otherwise would”. Arguably, the development of governmental accounting should pursue the fundamental purpose of governmental accounting, constitutional control by the parliament over the executive government

(Pallot, 1992). Hopwood (1984, p. 171) has summed up the misgivings of many about this development in the public sector, commenting that “in a whole series of ways the practices of accounting are increasingly being used to infiltrate and change, rather than merely record, the activities of the State”.

The controversy surrounding the implementation of accrual accounting in the public sector is not about the use of accrual accounting per se, but about the implementation of accrual accounting as originally devised for business purposes, accompanied by claims that this provides a “read across” between sectors. Even at the conceptual level, marked differences are apparent (Ellwood, 2003; Newberry, 2001). Further detailed requirements have been added, many also similarly derived from the business sector but these too are applied differently (for example, full cost accounting). Numerous concerns have been raised about this development. Some have observed that many of the techniques adopted had already been discredited in the business sector, and that the developments do not really remove differences between the public and private sector as claimed (see, for example, Barton, 1999a, b; Carnegie and Wolnizer, 1995, 1997, 1999; Ellwood, 2003; Gray and Jenkins, 1993; Guthrie, 1998; Guthrie and Carlin, 1999; Mayston, 1993; Micallef and Peirson, 1997). Of special concern has been that the fundamental purpose of governmental accounting is protection of public money, and that business sector accounting practices were not devised for that purpose (Pallot, 1992, pp. 39-40; Chan, 2003). Gradually, some pattern is emerging, as experience over time reveals the running down of public sector activities through financial resource constraints and biases which load public sector costs (Carlin, 2003, 2005; Newberry 2002a, 2003; Newberry and Pallot, 2004).

This article proposes that the form of accrual accounting under development in the public sector supports and advances the neo-liberal agenda of shrinking the government through privatisation and trade liberalisation by providing misleading data. It begins by reviewing the new political economics literature associated with public sector reforms, noting some potential roles and uses of accounting before comparing key features of the accounting aspects of public sector reforms in the UK and New Zealand. The UK is seen as the initiator of public service reform whereas New Zealand began as a late-starter but became the renowned leader, especially in the adoption and development of accrual accounting. The discussion and conclusion reconsiders the nature of accounting in light of new political economics and the cross-country comparisons.

Public sector reforms, new political economics, and the potential role of accounting Internationally, efforts to reform the public sector have waxed and waned in popularity. During the 1970s and 1980s, and after a long post-war period of government expansion, the relatively large size of the public sector in member countries of the Organization for Economic Co-operation and Development (OECD) was viewed as one cause of the reduced economic growth experienced by those countries. Public attitudes increasingly reflected antipathy to government involvement in essentially business activities; market resource allocation mechanisms were preferred over government intervention, and individual and corporate freedom were regarded as crucial to economic and social progress (Mascarenhas, 1991). Privatisation

Public sector accrual accounting

Download At 11:13 08 March 2015 (PT)

AAAJ

was pursued openly as public policy for a while, but soon became controversial,

attracting increasing opposition (Savas, 2000).

New political economics (NPE), a body of relatively recently developed, and still developing, theories became popular, those associated academically with the Chicago School in the USA being most relevant to the analysis in this article. These theories apply economics to politics, and include public choice theory, constitutional economics,

transaction cost economics, and agency theory, which, in combination, focus on government and the management of government (Jones, 1992, p. 149; Buchanan, 1997). The ideas underlying these theories range from ideas about people’s voting behaviour, about how a government operates and ideal constitutional rules, to ideal structures for organising and coordinating activities, and arrangements for controlling relationships within those structures. Much of the analysis focuses on “bureaucracy, . . . regulation, . . . corruption, rent-seeking by interest groups, and constitutional provisions . . . ” (Rubin, 1992, pp. 131-132). All of these NPE theories rely on the same underlying assumptions, that individuals are self-interested, opportunistic and boundedly rational, and that they will seek “to maximize their individual utility by whatever means available” including, according to Rubin (1992, p. 131), “the possible use of governmental accounting”. These individualistic assumptions reject, or at least ignore the possibility of, any concept of public interest or altruistic behaviour.

These NPE adherents believe that institutions (rules) are crucially important (Meckling, 1978, p. 106). An early wave of NPE theories developed from the late 1940s in opposition to Keynesian economics then dominant in Western countries (Jones, 1992). Keynesian economics proposes that governments should try to counterbalance economic cycles and allocate resources to maximise welfare. The NPE theorists, however, argued that Keynesian economics and, in particular, the rules of functional finance theory associated with Lerner, contained an inbuilt bias towards government expansion and caused increased public sector debt and inflation (Buchanan and Wagner, 1978). They proposed a set of rules (meaningful constitutional norms) intended to reverse the rules of functional finance theory and, therefore, the effects of Keynesian economics by tightly constraining a government’s access to resources. Those norms included the iron tripod previously mentioned, viz, independently administered anti-inflationary monetary policy; macro-level fiscal disciplines imposed on governments to achieve balanced budgets without incurring debt; and micro-economic reforms to provide incentives for private sector investment (see, for example, Buchanan and Wagner, 1978, p. 176; Buchanan, 1989, p. 56; Jones, 1992, p. 153).

Niskanen (1975, p. 617) focused on the micro-level reforms required seeking the Download At 11:13 08 March 2015 (PT)

pursuit of efficiency through market processes. He believed that government provision of services would always be inefficient when it is the “only game in town” and that the cause of this inefficiency was self-interested, budget-maximising bureaucrats. NPE theorists subsequently opposed the “bureaucratic supply of services” . . . and favoured “two fundamental dimensions of reform: privatization and competition” (Miller and Moe, 1983, p. 297).

Extensions of Niskanen’s work focussed on agenda-control, using either authority-based structures where responsibility lies with individuals or groups, or information-based structures where control is achieved through information asymmetries (Rubin, 1992). From the early 1990s, interest developed in the use of Extensions of Niskanen’s work focussed on agenda-control, using either authority-based structures where responsibility lies with individuals or groups, or information-based structures where control is achieved through information asymmetries (Rubin, 1992). From the early 1990s, interest developed in the use of

Public sector

information generated by bureaucrats and made available to policy-makers influences

accrual

perceptions of the efficiency and effectiveness of a policy proposal, and this, in turn, influences the decisions about the policy. The self interest assumptions suggest

accounting

ministers and parliamentarians should beware of delegating the power to set rules that determine the information they will receive. The information asymmetry between bureaucrats and politicians can give the bureaucrats enormous power, and the use of

information-based control structures carries with it the potential for ministers and parliamentarians to lose control (Bendor et al., 1985).

NPE is founded on views that economics and politics are two sides of the same coin (Jones, 1992). Several NPE theorists acknowledge their philosophical stance as key to their economic policy proposals (see, for example, Buchanan, 1989; Breit, 1978; Parkin, 1987, p. 331), but admit those views encounter public resistance (see, for example, Buchanan, 1997). They acknowledge that proposals for reform require symbolic rhetoric (such as economy and efficiency) intended to appeal in the particular government circumstances and political climate (March and Olsen, 1989, p. 76; see also Henisz, 1999). Whereas the policies are intended to increase the likelihood of privatisation and reduce the size of the public sector (see, for example, Buchanan, 1997, p. 42; Buchanan, 1993, p. 57) the objectives are stated using such symbolic terms as economic efficiency and fiscal responsibility. Occasionally, these symbolic terms are acknowledged as minor issues (see, for example, Buchanan et al., 1987, p. 69). Arguably, the rhetorical claims accompanying complicated and seemingly technical reforms represent a form of information asymmetry.

In summary, through NPE, the policy directions sought are privatisation and reductions in public sector size and power largely through the use of seemingly technical economic policies. Evidently, monitoring of policy requires the use of accounting both as a means of ensuring compliance with balanced budget constraints and for restoring efficiency through the use of market processes. There is, therefore, as Jones (1992) suggests a potentially normative aspect to governmental accounting developments. Accounting standard-setters claim that accounting provides information specifically not intended to influence decisions one way or another (Leisenring, 1987; IASB (International Accounting Standards Board), 2006, p. 52). However, the information asymmetry assumptions applied in the context of information-based agenda control raise the potential for the construction and use of accounting data to influence policy processes and outcomes in a particular direction.

Download At 11:13 08 March 2015 (PT) Comparison of accrual accounting developments in the UK and New Zealand This section examines and compares the implementation and use of accrual accounting in the UK and New Zealand. Both the UK and New Zealand have implemented neoliberal reforms that include macro-level fiscal controls and micro-level reforms intended to encourage private sector investment and liberalise trade. The adoption of accrual accounting has been a feature of both countries’ reforms, and a variety of potential benefits from the use of accrual accounting has been claimed. Evans (1995) identifies a representative set of benefits which include: better measurement of costs and revenues including comparisons between years; greater focus on outputs rather

AAAJ

than inputs; more efficient and effective use of resources, for example through charges

for fixed assets; full cost of providing a service can be compared with outside suppliers;

a better indication of the sustainability of government policy; improved accountability; better financial management; and greater comparability of management performance results. While not denying those benefits, this section identifies inconsistencies that raise questions about further motives. It begins with macro-level fiscal controls before

moving on to the micro-level to examine the implementation of business-style accounting in the public sector, the flow-through to competition policies and efforts to use accounting for comparison of public sector full costs with private sector prices, and efforts to link the macro-level controls with those at the micro-level.

The UK From the early nineteenth to the mid twentieth century there was considerable growth in the extent of UK state enterprise. By 1951, many infrastructure services, including water and drainage, roads, gas, electricity, telephone services, rail transport, and international air services, as well as the BBC, coal mines, the steel industry and the road haulage industry were in state hands. Between 1892 and 1950 central and local government expenditure grew from 11 to 39 percent of GNP, most of the growth arising between 1910 and 1950 (Greenleaf, 1983). Public expenditure as a percentage of GNP continued to rise until the Conservative Party returned to power in 1979 and Prime Minister Mrs Thatcher commenced her world-leading efforts to privatise government activities and reduce public expenditure.

Efforts to privatise government activities involved an attempt to differentiate across government between activities that are at the core of the public sector and must remain so, and the remaining functions that can be undertaken either within or outside the public sector. The privatisation of nationalised monopoly utilities, such as British Telecom, British Gas, the UK electricity industry and the English water industry, took place as part of a general transfer of ownership from the public to the private sector (Marsh, 1991).

Macro-level fiscal controls were adopted to achieve absolute reductions in public expenditure; reductions in real terms, and reductions as a proportion of GDP. The adoption of fiscal controls seemed to prompt a competition among countries to reduce public expenditure below that of others (Buchanan and Musgrave, 1999). In 1996, for example, William Waldegrave, Chief Secretary to the Treasury, stated that, “The countries that are going to make it . . . have brought their spend well under 40 per cent. We have to join the leading group or we will be in trouble”. Prime Minister of the time,

Download At 11:13 08 March 2015 (PT) John Major, reinforced that view stating that he wanted to reduce expenditure to 35 per

cent of GDP.

The early fiscal controls were subsequently modified after New Labour was elected to government in 1997 and pressed ahead with its version of reforms. As Chancellor of the Exchequer, Gordon Brown (2002, pp. x-xi), subsequently explained:

The reforms are built on three pillars: first, a monetary policy framework with an independent Monetary Policy Committee responsible for setting interest rates to meet the Government’s inflation target; second, a fiscal policy framework which is delivering sound public finances through a Code for Fiscal Stability, firm fiscal rules and better planned public spending which focuses on the quality of public service provision; and third, new institutions The reforms are built on three pillars: first, a monetary policy framework with an independent Monetary Policy Committee responsible for setting interest rates to meet the Government’s inflation target; second, a fiscal policy framework which is delivering sound public finances through a Code for Fiscal Stability, firm fiscal rules and better planned public spending which focuses on the quality of public service provision; and third, new institutions

Public sector

responsibility and clear lines of accountability.

accrual

In 1998, the New Labour government had introduced a public expenditure

accounting

management system, which imposed controls ranging from the macro-level to the micro-level. The details of this system are set out in HM Treasury (1998). At the macro level, the EFSR specifies two criteria for judging governmental expenditure. For current spending, the Golden Rule applies. This rule states that over the economic

cycle, current spending (including depreciation) will be met from revenue, and the Government will borrow only to invest. For capital expenditure (EFSR 4.2.2.) the macro-economic criterion is the sustainable investment rule directed at a prudent debt-to-GDP ratio. The Government continues to monitor spending across the public sector but there is no longer a target for public spending as a share of national income (EFSR 4.2.1).

New Zealand New Zealand has been independent from Britain since 1906 but, as a member of the British Commonwealth, it retains the British Monarch who is represented as titular Head of State by the Governor-General. New Zealand’s unitary central government was modelled on the British system but the Upper House was abolished in 1951, leaving a unicameral legislature. Throughout the second half of the twentieth century until 1996, the first-past-the-post electoral system was dominated by two main political parties, National and Labour, with the result that the party in power could function almost as an elected dictatorship. However, in 1996, following the outcome of a binding referendum conducted in conjunction with the 1993 general election, the country’s first-past-the-post electoral system was replaced by a mixed-member proportional (MMP) representation system. The outcome of the four general elections conducted under the MMP system (1996, 1999, 2002 and 2005) suggests that coalition governments are now the norm, although the dominant coalition party’s powers seem scarcely diminished. In comparison to the relatively strong central government, local government has tended to be weak (Scott, 1979; Bush, 1980). A set of reforms similar to those described below for central government has been imposed on local government where much of the country’s infrastructure is located[1].

From 1935, New Zealand developed a comprehensive social welfare system, which lasted until the public sector reforms of the 1980s and 1990s. Between 1975 and 1984, under the leadership of the Prime Minister and Minister of Finance, Robert Muldoon, the National government resisted the neo-liberal economic reforms being implemented

Download At 11:13 08 March 2015 (PT) in other OECD countries and advocated by the Treasury. However, increasing pressure

on the Prime Minister from within his party meant that some changes were made. In May 1984, just two months before the snap election which ended the National party’s nine year term in government, the Prime Minister approved the establishment within the Treasury of a financial management support unit to develop a reformed accruals-based financial management and accounting system (McKinnon, 2003).

New Zealand’s reforms are recognised as Treasury-led (see for example, Boston et al., 1991). In the midst of the constitutional and foreign exchange crisis that immediately followed the snap election, The Treasury (1984) convinced the incoming Labour government of the need for urgent economic reform. Within days of the

AAAJ

election, the newly-elected Labour government began the rapid implementation of

radical neo-liberal economic policies which became known as Rogernomics after the Minister of Finance, Roger Douglas. Once embarked on this reforming path, continuation of the reforms seemed unstoppable, and New Zealand soon became known as an extreme and rapid mover (Ferlie et al., 1996, p. 16; James, 1992).

In New Zealand, as in the UK, the reforms involved efforts to reduce government

size and expenditure through macro-level fiscal controls and privatisation, which was unpopular with the wider voting public and within the Labour party. The efforts to privatise were preceded by reforms, the stated intention of which was to improve efficiency by identifying the more commercial activities of government and then establishing them as State Owned Enterprises (SOEs). Shortly after this step, a massive programme of privatisation was announced in late 1987. The need to privatise was defended by presenting the level of government debt as a particular worry and the sale of assets, including SOEs, as essential for its reduction. The assets subsequently sold included electricity generation and supply, forests, telecommunications services, the national airline, the rail system, and a bank. The privatisation programme soon became controversial and the subject of considerable public opposition. Roger Douglas, Minister of Finance at the time of this initiative, subsequently admitted the weakness of the argument that SOEs needed to be sold to reduce debt but acknowledged its political convenience (Birchfield and Grant, 1994, p. 163).

From the beginning of New Zealand’s reforms, when the public sector accounting systems were still cash-based, The Treasury (1984) advocated the adoption of published macro-level fiscal targets, including a general rule of fiscal balance. Such targets were adopted unofficially as part of the budgeting process, and these targets involved efforts first to reduce government deficits, then to reduce government expenditure as a percentage of GDP; and to reduce government debt as a percentage of GDP. The publication of fiscal targets became official under S4A of the Fiscal Responsibility Act 1994 (FRA) which in late 2004 was absorbed into the Public Finance Act 1989. The legislation specifies principles of fiscal responsibility and requires demonstration of consistency between the principles and the actual fiscal policies adopted.

The principles of fiscal responsibility specify the application of any operating surplus to repay debt until debt is reduced to an unspecified “prudent” level; and the need for balanced budgets after that. Had they been legislated in a cash-based accounting environment, these principles might seem reasonable. However, the Fiscal Responsibility Act 1994 came five years after accrual accounting had been adopted throughout the

Download At 11:13 08 March 2015 (PT) public sector in compliance with the requirements of the Public Finance Act 1989. In an

accrual accounting environment a reported operating surplus is not necessarily cash and cannot, therefore, be expected to automatically reduce debt. Two brief examples may help to illustrate this point. Unrealised gains from the revaluation of commercial forests are reported in the operating statement and therefore included in the reported operating surplus (available at: www.treasury.govt.nz/financialstatements/year/jun06/27.asp). More worryingly, the modified equity method of consolidation used to prepare whole of government financial reports from 1992 to 2002, meant that some increases in debt were reported as revenue and included in the reported operating surplus, and reported as operating cash inflows in the statement of cash flow[2]. It follows that a budget balanced accrual accounting environment a reported operating surplus is not necessarily cash and cannot, therefore, be expected to automatically reduce debt. Two brief examples may help to illustrate this point. Unrealised gains from the revaluation of commercial forests are reported in the operating statement and therefore included in the reported operating surplus (available at: www.treasury.govt.nz/financialstatements/year/jun06/27.asp). More worryingly, the modified equity method of consolidation used to prepare whole of government financial reports from 1992 to 2002, meant that some increases in debt were reported as revenue and included in the reported operating surplus, and reported as operating cash inflows in the statement of cash flow[2]. It follows that a budget balanced

Public sector

with the level of debt.

accrual

The fiscal targets actually adopted, which are consistent with, but not the same as, those specified in the FRA, are net debt as a percentage of GDP and expenses as a

accounting

percentage of GDP. Those targets have been lowered over time, the net debt target being 35 percent at the time of its introduction when net debt was 43 percent, then gradually reduced to 15 percent, while the current coalition Labour government has

claimed an intention to reduce it to zero by 2010[3]. The expense target began at 40 percent, then reduced to 30 percent but currently is 35 percent of GDP under the Labour coalition government.

Comparison In both the UK and New Zealand, the privatisation of some activities occurred quite quickly, although it was not universally accepted by the wider electorate.

In both countries the macro-level rules seem intended to control total public sector expenditure by limiting current year expenses to current year revenue, and imposing limitations on capital expenditure, while suggesting that the controls imposed will facilitate maintenance of a prudent debt level. In both countries, closer scrutiny of those rules reveals misconceptions. One misconception, which is more applicable to New Zealand than to the UK, is that there is an essential and controllable link between the result reported in an accruals-based operating statement and the level of reported debt such that a result balanced for revenues and expenses will automatically mean no increase in debt. Accountants typically provide a statement of cash flow in addition to an operating statement and balance sheet to show the adjustments necessary to explain the links between the operating result and debt but, as shown in the modified equity accounting example above, that too can be misleading[4]. The other misconception overlooks valid reasons for borrowing money besides investment. In the UK, where investment is over the economic cycle rather than the annual cycle, this second misconception is less rigid and it has since been eased in New Zealand.

Micro-level accrual accounting Much of the international discussion of accrual accounting in the reformed public sector gives the impression that New Zealand led the world in all aspects. This is not strictly true because an earlier accrual accounting development in both countries achieved greater acceptance in the UK than it did in New Zealand. Nationalised industries in the UK retained accrual accounting when nationalised and then took up and retained current cost accounting (CCA) from the late 1970s even though the private

Download At 11:13 08 March 2015 (PT) sector abandoned it. However, the adoption of accrual accounting more extensively in the UK public sector following the public sector reforms was selective and might be characterised as the non-application of UK GAAP rather than its claimed application (Ellwood, 2003). Superficially at least, New Zealand’s accrual accounting developments might be characterised as the application of NZ GAAP.

As noted above, the later move to adopt accrual accounting was accompanied by efforts to commercialise the public sector. Although accrual accounting was advocated as a means of improving management in the public sector, there was also an intention to compare the full cost of services with outside suppliers as part of an effort to achieve efficiencies. Other discussion at the time referred to the creation of a level playing field

AAAJ

and the ability to achieve a “read across” between sectors. Possibly, these objectives

helped to motivate the introduction of private sector-style accrual accounting rather than the development of accrual accounting practices specifically designed for use in the public sector.

UK: the non application of GAAP The UK has six professional accounting bodies, including one involved largely in the public sector, the Chartered Institute of Public Finance and Accountancy (CIPFA, 1999). This has meant some professional separation between public sector and private sector accounting and accountants. It has also meant that new accounting ideas developed and disseminated might be accepted in one sector and rejected in another. This was the case with CCA, which was accepted in parts of the public sector despite rejection in the private sector. The private sector accounting standard-setter, today the Accounting Standards Board (ASB) has, at least until recently, tended to confine its attention largely to the private sector. During the late 1990s, the ASB adopted a Statement of Principles for Financial Reporting (SOP), a derivation of the conceptual frameworks adopted in other countries, all of which are based on the Financial Accounting Standards Board’s conceptual framework. A feature of these conceptual frameworks is rejection of the matching approach to accounting, which is fundamental to CCA. The ASB’s adoption of that conceptual framework, therefore, reinforced the differences in accrual accounting ideas between the public and private sectors in the UK.

A marked feature of accrual developments in the UK public sector is variety in approach, as discussed in Ellwood (2003). The Local Government Planning and Land Act 1982 which applied to local authority Direct Service Organisations (DSOs) required the use of accrual accounting, largely on a current cost basis, with current cost depreciation and a return on assets required. A number of DSOs were set up as separate reporting entities within local authorities so that competitive tendering could

be applied. These included, for example, highway maintenance, and refuse disposal. CIPFA, together with the Local Authority Accounts (Scotland) Advisory Committee (LASAAC) determines a code of practice for local authority accounting, and this is formally received by the ASB as a Statement of Recommended Practice (SORP).

Some of the service areas remaining in the public sector after the early public sector reforms were subject to New Public Management (NPM). This required movement to a more commercial basis under purchaser-provider splits adopted in the National Health Service (NHS) or compulsory competitive tendering/ best value arrangements adopted

Download At 11:13 08 March 2015 (PT) at local government level. These commercialising NPM reforms were accompanied by

the selective introduction of accruals accounting. Those areas of the core public sector that were not commercialised were not required to adopt accruals accounting either.

The use of accrual accounting on a current cost basis was extended to National Health Service (NHS) Trusts in 1991, local authorities as a whole in 1995, and departments of the central government from the 1999/2000 financial year. Departments of the central government were required first to produce accruals-based shadow accounts, and then to shift solely to the accruals regime from the 2002/2003 financial years. Exceptions to current cost valuation requirements have been allowed for some assets, local authorities retaining historic cost for reporting infrastructure assets, and a The use of accrual accounting on a current cost basis was extended to National Health Service (NHS) Trusts in 1991, local authorities as a whole in 1995, and departments of the central government from the 1999/2000 financial year. Departments of the central government were required first to produce accruals-based shadow accounts, and then to shift solely to the accruals regime from the 2002/2003 financial years. Exceptions to current cost valuation requirements have been allowed for some assets, local authorities retaining historic cost for reporting infrastructure assets, and a

Public sector

government are largely current replacement cost.

accrual

The Government Resources and Accounts Act 2000 now requires accrual accounting (known as resource accounting) throughout the public sector. Resource

accounting

accounts are required to present a true and fair view, and to conform to GAAP “subject to such adaptations as are necessary in the context of the departmental accounts”. HM Treasury has the responsibility to determine those adaptations for central government

accounting requirements. Evidently, the move to apply GAAP was regarded as practical, a key advantage being that, rather than having to devise a new framework, public sector financial reports based on business sector GAAP would provide a “read-across” to the financial reports of other organisations outside the public sector, assist the understanding of those outside government who are already familiar with business-style accrual-based financial reports, and require merely adapting an already established framework, rather than creating a new one (Likierman, 1998, p. 19). However, whereas the public sector has retained current cost accounting ideas, which rely on matching, the conceptual framework, which is now supposed to guide standard setting, rejects matching.

There are other differences besides those brought about by inconsistencies arising from the continuation with current cost ideas. The application of private sector GAAP has been selective, and involves deferrals of application of standards, modifications to standards and generally accepted accounting practices, and efforts to influence or reinterpret private sector accounting standards. After suggestions the international financial reporting standards (IFRS) would be adopted in the public sector from 2005, that move was deferred by a year. Ellwood (2002) provides examples of how the Treasury in 1998 deferred the application of several standards in the NHS “to allow patient care, financial discipline, funding and practical implications to be properly considered within the context of these Financial Reporting Standards.” Modifications to the application of standards mean that some standards are only partially applied or modified. For example, the Resource Accounting Manual (RAM) lists several accounting standards that are stated to apply only “partially” (for example, FRS2: Accounting for Subsidiary Undertakings, and FRS3: Reporting Financial Performance), or “as adapted” (for example, FRS5: Reporting the Substance of Transactions, FRS10: Goodwill and Intangible Assets, FRS11 Impairment of Fixed Assets and Goodwill, and SSAP 9). To take one example, FRS10 Goodwill and Intangible Assets does not permit the revaluation of development expenditure but the

Download At 11:13 08 March 2015 (PT) RAM states that development expenditure is subject to annual revaluation using indexation.

The most well-known instance of the Treasury becoming involved in accounting standard-setting issues is in relation to FRS5: Reporting the Substance of Transactions. The Treasury and the ASB clearly disagreed over accounting for the Private Finance Initiative (PFI), and the Treasury seemed determined to ensure such financing initiatives were off-balance sheet. Amidst considerable controversy (Hodges and Mellett, 1999), the difference in stance between the Treasury and the ASB was resolved following the development of a Technical Note (TN99) which allowed public sector

AAAJ

continuation of off-balance sheet arrangements under some circumstances, hence the

public sector application of FRS5 “as adapted”.

Although modifications such as these are claimed to be necessary for the specific public sector context, the effect is to modify the business-style accounting practices beyond recognition (Jones, 2000) while also projecting an appearance that public sector and private sector reports may validly be compared.

Until recently, the ASB’s announced position has been that “the setting of accounting standards for the public sector in the UK is a matter for the legislation governing the bodies concerned, and the Accounting Standards Board has no direct locus” (Accounting Standards Board, 2003a, p. 7). However, the ASB has issued discussion documents and an exposure draft reinterpreting the Statement of Principles for public benefit entities, arguing that, with these reinterpretations, the principles are equally applicable to public and private sector entities (Accounting Standards Board, 2003b, 2005). Those reinterpretations are similar to those applied in New Zealand and Australia, the effect being significant but disguised differences between sectors (see next section). This change in stance evidently reflects changed relationships, the chair of the ASB having become head of the Government Accountancy Services, and diminishing differences between the ASB and the Treasury over the application of standards.

Application of NZ GAAP New Zealand has only one professional accountancy body which, at least until the early 1980s confined its attention to the private sector. Until 1996, this body was known as the New Zealand Society of Accountants (NZSA), when its name changed to the Institute of Chartered Accountants of New Zealand (ICANZ) and subsequently the New Zealand Institute of Chartered Accountants (NZICA). Accountants in the public sector tended not to hold NZSA membership, and the NZSA’s effort to introduce CCA in the late 1970s related to the private sector which rejected it. In the early 1980s, the NZSA established a public sector interest group, which developed a conceptual framework especially for the public sector (see Pallot, 1992, 1997 for a description). This framework was subsequently rejected following a consultant’s advice to the Treasury that a business-like (and therefore commercial) approach should be applied to all government activities. The consultant observed that future public sector performance assessments would rely on financial reports, and that financial reports are a function of the accounting policies adopted. He advised the Treasury to restrict allowable accounting policies (The Treasury, 1987, pp. 184, 188, 199-202)[5].

Download At 11:13 08 March 2015 (PT) The corporatisation of SOEs as limited liability companies meant they were

required to adopt business sector-derived accounting standards. The Public Finance Act 1989 applies to the remainder of government activities, and requires financial reporting practices in accordance with generally accepted accounting practices (GAAP) recognised in New Zealand as appropriate for the public sector. Although this suggests the public sector might apply practices quite different from private sector GAAP, events following friction over the appropriate accounting treatment for infrastructure and heritage assets give the impression that GAAP is now the same in both sectors. Treasury staff became closely involved in accounting standard-setting by the NZSA which then adopted a purportedly “sector-neutral” approach to accounting.

The Treasury withdrew its earlier opposition to proposed legislation (the Financial

Public sector

Reporting Act 1993) requiring companies to comply with accounting standards, and

accrual

shortly before enactment a requirement was added that the public sector be required to comply with them as well (Treasury, July 1993; see Pallot, 1997 for comment about the

accounting

differing views over renewal accounting). The Financial Reporting Act 1993 created a regulatory body, the Accounting Standards Review Board. This board holds the delegated power to approve and thus

make legally enforceable accounting standards applicable to the private and the public sectors. By this time, the NZSA had adopted a much abbreviated form of the conceptual framework derived from that originally devised by the Financial Accounting Standards Board, and subsequently modified and taken up in Australia. Although claimed sector neutral, the conceptual framework uses one set of terms to refer to the various elements of financial reports, but two sets of interpretations are applied. The result is that the same terms have significantly different meanings depending on whether they are interpreted for application to the public sector or the business sector (Newberry, 2001; Barton, 2002; Carnegie and Wolnizer, 2002; Newberry, 2002b). The effect is deceptive because the claim is made that accounting standards are neutral between sectors and, therefore, facilitate cross-sector comparability of financial reports (Newberry, 2001, 2002b). In addition, some financial reporting standards contain modifying paragraphs that either add requirements for the public sector or release the public sector from some requirements. More recently, with the move to IFRS, New Zealand’s accounting standard-setters are claiming their application to both the public and private sectors but the standards are modified for application to the public sector. The standards are not sector-neutral.