Despite its reputation for fiscal prudence, Germany appears determined to stick with a cash-based rather than an accruals system. Why is this?
Despite its reputation for fiscal prudence, Germany appears determined to stick with a cash-based rather than an accruals system. Why is this?
Something strange was recently flagged up in Germany’s government accounts.
The finances looked good, dazzling even; finance minister Wolfgang Schäuble had just booked in millions of euros in revenue from the sale of federal bonds.
But things weren’t really as they seemed, explained German newspaper Die Welt, citing analysis by firm Barkow Consulting.
Like any other country, Germany issues sovereign bonds to raise money. It can also issue additional bonds under the terms of a previous offering. In an era of low interest rates, the latter offers a higher rate of return than issues that are new. Investors pay for this privilege with a premium on the price of the bond, which works to bring its overall yield in line with the market rate.
In the case of one increase on a 2014, 30-year treasury offering, this premium was as high as 50%. On €1bn (£0.87bn) worth of borrowing, this meant €502m (£436m) in revenue for the public coffers. By 2020, Barkow Consulting estimates, these bonds could earn €30bn (£26bn) in such premiums, provided interest rates remain at a similar level.
Amid a global shift to an accrual basis in government accounting, Germany is one of only a handful of advanced economies that seems determined to stick with a cash-based system. This means it can book such handsome windfalls into its accounts in one fell swoop.
But these revenues are soon set to start leaving the accounts again. They represent the higher interest rates the government is going to have to pay out over time, which is how the premiums are amortised to investors. Die Welt pointed out that, in the private sector, where governments require accruals-based accounting, they would be spread out over the remaining term of the bond in the books to reflect this reality.
Given the country is renowned for its fiscal prudence, it seems odd that Germany continues to rely on an accounting method that international standard setters deem so flawed. Could the country’s reputation be based more on appearances than reality?
Germany’s finance ministry, the Bundesfinanzministerium, told PF that, simply, there is no political support for the comprehensive accounting reform a move to accruals would require: “The potential benefits of such a reform on a federal level are perceived to not outweigh the considerable cost associated with a move to accruals.”
Politically, there are plenty of reasons a government might want to resist this shift. A major downside for some, explains Ian Ball, chair of CIPFA International and former chief executive of the International Federation of Accountants, is often billed as accruals’ biggest benefit: “It makes governments more accountable, especially when they have to report against standards that they do not themselves determine [like the accruals-based International Public Sector Accounting Standards].”
Without that transparency, governments can delay payments from late in the budget year to create the illusion of savings on a deficit, obscure the long-term cost implications of arrangements like public-private partnerships or keep a looming fiscal crisis under wraps.
In Germany’s case, avoiding an accruals-based system means, for instance, it doesn’t have to report a loss associated with its holdings of Greek government debt – surely a welcome advantage as support for the country’s bailout agreement falters among German voters.
And it’s not just the German government that is opposed to accruals. While local and state authorities have adopted it to varying extents, Germany’s parliament has rejected far less dramatic reforms as recently as 2010. Elsewhere in Europe, both Norway and the Netherlands state they have no plans to shift to an accruals-based system.
A key factor is cost. Moving a public accounting system to accruals and installing all the additional capacity that requires is neither quick nor cheap. Some estimates have put the potential price tag at anywhere up to €290m (£252m).
Another common “excuse” governments offer for resisting accruals, says Ball, is the desire for sovereignty over their own affairs; he argues, though, that a government exercises this by choosing to adopt accruals then being able to drop it if it so wishes.
In the case of Germany, that argument – or at least the idea that countries are inevitably going to have their own logic and ways of doing things – might be more pertinent. German accounting is rooted in a tradition known as cameralism, which dates back hundreds of years and is built around ideas of prudence and the importance of balanced books.
That heritage, explains Alexandre Makaronidis, head of Eurostat’s task force on the European Public Sector Accounting Standards – the EU’s IPSAS – is “deep rooted”, shaping German methods for centuries, and “not very easy to change”.
When the Netherlands piloted accruals accounting in its agriculture ministry in 2005-07, similar issues arose. Peter Vandeven, head of national accounts at the OECD’s statistics division, hails from the Netherlands. He points out that shaking up bookkeeping systems that have been operating in a similar way for hundreds of years, right across government, is a significant task.
Plus, he continues, accruals was met with resistance because it “complicates things”, although, he adds, for him this is not a “truly convincing” reason to decide against adoption.
In Norway, it is believed accounts should remain cash based to mirror budgets, provide a precise and unambiguous basis for parliamentary budget decisions and to facilitate expenditure control, among other reasons. These same arguments have led to some countries operating a dual system, with cash-based budgeting and accruals-based financial reports.
Norvald Monsen, a professor at the Norwegian School of Economics and a staunch critic of the use of accruals in government accounting, argues that a developed cameralistic system, which is better suited to democratic control and oversight of public money, should be employed instead.
He stresses that, in the public sector, it is critical to be able to compare democratically adopted budgets with accounts, but accruals-based systems do not deliver the right kind of information, at the right quality, to allow this to be done well. The German finance ministry agrees, noting that this is the “main purpose” of its current system.
Other arguments against accruals exist. Vandeven concedes that adjustment and estimation are involved, which, in a sense, make cash “more precise”.
Kristina van Deuverden, public finance expert at the German Institute for Economic Research (DIW), argues that for this reason, a cash-based system is always better when it comes to budgeting.
She points to a series of decisions made by the European Court of Justice on German tax issues in 2014, worth an estimated loss of €6bn (£5.2bn) to the German accounts. Germany’s national statistics – which do use an accrual method – booked these as leaving the accounts in 2014 but, in reality, the money is yet to have been lost.
This is especially “questionable”, she says, because not only do you not know when the losses will come but also you don’t know how much they will be – the €6bn figure is basically guesswork. It could be billions of euros, more or less. “We don’t know,” she says
In the example of Germany’s federal bond sale, she says the same principle applies. Future interest rates are unknown and, if you book the revenue at once, at least you are not expecting savings from something that happened a year or more ago. You also bear in mind that the situation could change and, consequently, plan your spending better.
“A cash-based system is better as long as you have to balance your budget accounts [every fiscal year] – of course it is,” she concludes.
As CIPFA’s Ball points out, however, using accruals information does not mean cash information is no longer available. Rather, “other useful information” is added. “And, in fact,” he continues, “the accrual numbers, not all of which involve assumptions, can help in understanding cash flows.
“For example, creditor information might tell you your cash position looks good only because you have a large build-up of unpaid creditors.”
He points out that there is a reason governments everywhere insist that the private sector reports on an accrual basis – to provide the information investors need to evaluate a firm’s position and narrow the scope for companies to misrepresent their performance – and why New Zealand’s public finances have been so strong over the past few decades.
New Zealand is the only country in the world to use accruals for appropriations, budgeting and reporting. It’s “no coincidence”, Ball says, that it ran a budget deficit only for four years since adopting accruals in 1994 and that its budget transparency is rated the best in the world.
“Accrual accounting ... is analytically and evidentially the only basis on which it is possible to get a complete and reliable picture of a government’s fiscal performance and position, and therefore to manage it properly and to be fully transparent,” he stresses.
Back in Germany, the ministry of finance tells PF that the “primary users” of the government’s financial statements – auditors and parliament – have never objected to this apparent lack of transparency, which indicates they do not perceive there is one.
The current modified cash-based system is “enhanced by certain accruals elements”, it continues.
“The year-end budget execution report is accompanied by a supplementary financial statement containing a balance sheet, albeit an incomplete one. This document comprises, for example, certain receivables and provisions for pensions as well as for environmental obligations,” the ministry tells PF.
It does concede, however, a key issue with its accounting system also flagged by Eurostat’s Makaronidis – this financial statement is not integrated with the IT system for revenue and expenditure.
“There is no integrated system measuring performance and financial position in a consistent way,” Makaronidis says. “They have this kind of a balance sheet but there is no direct link to full accounting data and the profit or loss account.”
Despite all that, a key issue for some in Germany in resisting EPSAS is that, to them, it lacks prudence – an idea plays a “very, very important role” in German accounting, Makaronidis explains.
“IPSAS [on which EPSAS is based] has a different logic from German accounting standards. They think it is potentially too Anglo-Saxon, that it is not prudent enough and from this point of view that their own public sector accounting standards are better,” he says.
“[Germany is] following the EPSAS project in a constructive but at the same time critical way, making sure that well-established German approaches and principles are taken into account.”
That does not mean Germany will resist accruals forever. Makaronidis says: “I believe the question is not ‘cash vs accruals’ any more. In Germany, I believe the discussion has been moving towards what sort of accruals EPSAS should be.”
Emma Rumney
Emma is a reporter at Public Finance International. She also writes for Public Finance in the UK.
Read her tweets: @emma_pfi
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