Somalia - Crisis in public expenditure management (Vol. 2 of 3) : Main report

Report No. 8727-SO Somalia Crisis in Public Expenditure Managetnent (In Th'ee Volumes} Volume II: Main Report March 8, 1991 Country Operations [)ivkion Eastern Africa Department Africa Region FOR OFFICIAL USE ONLY Document of the World Bank This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  Fscal Year January I - December 31 Abbreviations and Acronyms ADC - Agricultural Development Corporation ADP - Annual Development Plan CSBS - Commercial and Savings Bank of Somalia CBPP - Contagious Bovine Pleuropneumonia AG - Department of Accountant General DDB - Domestic Development Budget DDD - Domestic Development Department, Ministry of Finance EPI - Expanded Programme of Immunization FYDP - Five-Year Development Plan GSP - Generating Shilling Process LMs - Line Ministries LMH - Livestock Marketing and Health MCH - Maternal and Child Care MOL - Ministry of Labor, Sports and Social Affairs MOA - Ministry of Agriculture MOF - Ministry of Finance and Revenue MiFMR - Ministry of Fisheries and Marine Resources MLFR - Ministry of Livestock, Forestry and Range MFA - Ministry of Foreign Affairs MOHEC - Ministry of Higher Education and Culture MOH - Ministry of Health NRA - National Rangeland Agency NAHA - Nomadic Animal Health Assistant NGO's - Non-Governmental Organizations ODB - Ordinary Budget Department, Ministry of Finance PD - Planning Department, Ministry of National PlannIng MPU - Planning Unit, line ministries PER - Public Expenditure Review PIP - Public Investment Program PHC - Primary Health Care MPU - Planning Unit, line ministries SPA - Special Program of Assistance for Sub-Saharan Africa SHIFCO - Somali High Seas Fishing Company TA - Technical Assistance WFP - World Food Program WHO - World Health Organization  FOR OFFICIAL USE ONLY Foreword This repo t is based on the findings of two public expenditure missions which visited Somalia in May/Junt and in November 1989, led by Baran Tuncer, Principal Economist. Baran Tuncer was the Task Manager up to yellow cover and the Principal Author, with the assistance of Gianni Zanini (subsequent Task Manager), and Fayez Omar. The areas of responsibility were: Institutional Aspects Baran Tuncer, Ercis Kurtulus (Consultant) Government Finances Fayez Omar, Gianni Zanin Macroeconomic Framework Gianni Zanini, Fayez Omar Public Investment Program and Planning Young Kimaro Agricultural Sector Mohamed Usman Health and Education Nicholas Burnett, Swadesh Bose Statistical Appendix Aeran Lee, Gianni Zanini Important contributions were received from Bruce Jones (Governmen; Finances) and Peter Gregory (Consultant, Pay and Employment Issues in the Civil Service). Jack van Holst Pellekaan and Harry Walters have provided useful comments on the agricultural sector. Yaw Ansu contributed to the writing of the report at the yellow cover stage. Caroline Milad was responsible for the typing and layout of the report, with assistance from Afsar Nokhostin. Since the time that the green cover draft of this report was completed in August 1990, there has been a serious deterioration in the security and economic situation in Somalia. As a result, the macroeconomic projections presented in Chapters 3 and 4 are unlikely to be realized in the time frame envisaged (1990-93). Therefore, they should be considered only indicative of a possible medium-term scenario after political reconciliation and stability have been achieved. The analysis and data on historical patterns and institutional issues presented in chapters 2, 5, 6, and 7 remain fully relevant. This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  TABLE OF CONTENTS CRISIS IN PUBLIC EXPENDITURE MANAGEMENT Volume 11 AN OVERVIEW OF THE ECONOMY AND GOVERNMENT FINANCES ....1.... A. Introduction .1 B. Recent Economic Policies and Performance ................... 2 C. Government Finances ................................. 4 D. Fiscal Policy and Performance, 1981-89 ..................... 8 E. Coverage of the Report ............................... 11 GOVERNMENT EXPENDITURE .................................. 13 A. Expenditure Aggregates ............................... 14 B. Economic Composition of Expenditures ..................... 16 C. Sectoral Composition of Expenditures ....................... 19 D. Emerging Issues ............ ........................ 23 MACROECONOMIC FRAMEWORK, RESOURCES AND EXPENDITURES, 1990-93 ................................... 25 A. Introduction ....................................... 25 B. Macroecc.iomic Framework Under the Adjustment Scenario .... .... 26 C. Available Resources and Budgetary Expenditures ............... 32 D. Macroeconomic Implications of Nonadjustment ................. 38 E. Conclusions ....................................... 39 RESTRUCTURING OF BUDGETARY EXPENDITURES ................... 41 A. Recurrent Expenditures ............................... 41 B. Operational and Maintenance Expenditures ................... 44 C. Public Sector Employment and Remuneration .................. 45 D. Restructuring the Sectoral Distribution of Recurrent Expenditures ............................... 49 E. Conclusions ....................................... 51 THE PUBLIC INVESTMENT PROGRAM ............................. 55 A. Past Performance . .................................. 55 B. Public Investment Program, 1990-92 ....................... 58  2 SECTORAL ISSUES ........................................... 67 A. Introduction .............................. 67 B. Education ......... ..................... 67 C. Health ............ , .......... 74 D. Agriculture....... .... 82 INSTITUTIONAL ASPECTS OF PUBLIC EXPENDITURE PLANNING .95 A. Introduction .95 B. Organizational Issues and Budgetary Process. 95 C. Budgetary Formats and Classification .98 D. Use of Counterpart Funds .99 E. Institutional Issues in Planning .100 F. Institutional Issues in Civil Service Management .102 G. Toward Improved Expenditure Planning .103 FIGURES Figure I.1: Central Government Revenue Figure 1.2: The Exchange Rate Gap Figure 1.3: Revenue and Expenditure Figure 1.4: The Fiscal Deficit and its Financing Figure 2.1: Expenditure Aggregates Figure 2.2: Sectoral Distribution of Expenditure Figure 2.3: Comparative Sectoral Distribution - FY87 TEXT TABLES Table 1.1: Distribution of Counterpart Funds Table 1.2: Sources of Financing the Deficit Table 1.3: Monetary Financing of the Public Sector Table 2.1: Summary of Central Government Finances Table 2.2: Ordinary Expenditures, 1981-89 (Percent of GDP) Table 2.3: Ordinary Expenditures, 1981-89 (Percent Distribution) Table 2.4: Economic Classification of Government-Controlled Expenditure (Percent of GDP) Table 2.5: Distribution of Government-Controlled Expenditures (Percent of Total) Table 2.6: Reclassification of Government Expenditures Table 2.7: Sectoral Classifications of Expenditures Table 3.1: Key Indicators Table 3.2: National Accounts Table 3.3: Revenue Indicators Table 3.4: Summary of Fiscal Balance Table 3.5: Other Key Fiscal Indicators Table 3.6: Monetary Aggregates Table 3.7: Ordinary Budget Allocations  3 Table 4. !: Actual and Required Growth in Recurrent Expenditure: 1983-88 Table 4.2: Adjusted Actual and Required Growth in Recurrent Expenditure: 1983-89 Table 4.3: Projected Growth of Recurrent Expenditure: 1990-93 Table 4.4: Operations and Maintenance Expenditure Table 4.5: Project O&M Expenditure Table 4.6: Wage and Employment Projection Table 4.7: Sectoral Distribution of Wage and O&M Expenditure Table 4.8: Projected Social and Economic Expenditures Table 5.1: Size of the PIP 1972-89 Table 5.2: Sectoral Shares of PIP (1975-89) - Actual Table 5.3: Sectoral Shares of PIP and Technical Assistance (1983-89) Table 5.4: Performance of 1987-89 Public Investment Program with Baardhere Damn Table 5.5: PIP 1987-89 Actual and PIP 1990-92 Plamed Table 5.6: Share of 1990-92 PIP To-Be-Funded Table 5.7: Profile of the 1990-92 PIP Table 5.8: Sectoral Shares PIP 1987-89 Actual and PIP 1990-92 Planned Without Baardhere Dam Table 5.9: Core PIP and Technical Assistance 1990-92 Table 6.1: Public Education Trends by Level, 1981-88 Table 6.2: Government-Controlled Real Expenditure on Education, 1975-89 Table 6.3: Minimum Recurrent Budgetary Requirements for Education, 1990-95 Table 6.4: Government-Controlled Real Expenditure on Health, 1975-89 Table 6.5: Total Real Expenditure on Health, 1985-89 Table 6.6: Government Expenditures in 1987 Table 6.7: The Agricultural Sector's Share in the GOS Core PIP ANNEXES Annex to Chapter 2: Data Sources Annex to Chapter 4: The 1990 Budget Annex to Chapter 6: Public Employment and Remuneration in the Agricultural Sector Annex I to Chapter 7: Format for the Ordinary Budget Annex II to Chapter 7: Format for the Domestic Development Budget  1 An Overview of the Economy and Government Fin7ances A. Introduction 1.01 The main purpose of this review is to help the authorities in Somalia improve the allocation of public sector resources through better expenditure planning. After an encouraging start following independence, the decade of the 1980s has witnessed a continuous deterioration in resource allocation and in the system leading to expenditure decisions. Over the years, as the domestic revenue has shrunk, the government has become increasingly dependent on external sources; recurrent expenditures from the ordinary budget have been reduced to dangerously low levels; operational and maintenance expenditures have become a small fraction of what they were in the mid-1970s; and remuneration in the public sector has fallen to well below minimum living requirements, while employment has grown out of proportion. As a result, the quality and the quantity of services provided by the government have declined dramatically. Also, while the institutions involved in expenditure planning have remained weak, budgetary processes and procedures have proven to be inadequate. The Somali public expenditure system is now in urgent need of a major restructuring. 1.02 Somalia is among the poorest countries in the world with a per capita GDP of US$170 in 1989. The country is physically large and sparsely populated by about 6 million people (9.4 million according to the Government, based on preliminary analysis of census returns). Its economy is heavily affected by the country's arid to semi-arid climate. The mainstay of the economy has long been nomadic pastoralism; about 50 percent of the population are nomads. The agricultural sector's contribution to GDP in an average year is about 62 percent, while the contribution of manufacturing is only about 5 percent. Somalia's low level of economic and social development is further manifested by high infant mortality, low average life expectancy, and a very low literacy level. 1.03 After assuming power in 1969, the present regime adopted a program of "scientific socialism" that adhered to a development strategy based on the leadership of the public sector and cooperatives. Indeed, in the early 1970s public sector ownership and management expanded through nationalization and the creation of new public enterprises. Modest growth was achieved in the first half of the 1970s despite severe drought in 1974/75. During the second half of the 1970s, large imbalances in the economy appeared due to increased military expenditures related to the armed conflict with Ethiopia as well as inappropriate economic policies. Over the decade average annual GDP growth was about 3 percent, indicating no growth in real per capita income. 1.04 In the 1980s Somalia again experienced stagnant per capita output, accompanied by the deterioration of physical infrastructure, a decline in the quality of government services, and severe  2 Chapter 1: An Oveiview of the Economy and Government Finances macroeconon;c imbalances. The decade also witnessed the weakening of the political system and of government institutions. In a deteriorating political and security environment, opposing factions have been challenging the government's authority in all regions outside a small area around Mogadishu. A full scale civil war finally broke out in Mogadishu at the end of 1990. On the ecoiiomic front the government made some progress in moving from a centralized regime to a more liberalized economic system. However, the effectiveness of these reforms has been undermined by frequent policy reversals, weaknesses in fiscal management, and security problems. The uncertainties arising from the government's wavering economic policies and the deterioration in the political and security situation discouraged the private sector from investing in long-term production-oriented activities. B. Recent Economic Policies and Performance 1.05 The government made repeated efforts in the 1980s to address the country's economic and financial difficulties. Two stabilization programs were successfully implemented in 1981-83 with strong bilateral donor support. The aim of these programs was to rationalize the exchange rate management, to exercise fiscal and monetary restraint, and to liberalize the agricultural pricing and marketing systems. The positive effect of these policies, however, was undermined by a ban on Somali cattle exports by Saudi Arabia in 1983 and by a major drought. After a period of uncertainty, the government resumed its adjustment effort in 1985. There was a major devaluation of the exchange rate, and an export retention scheme was introduced. The thrust toward liberalization by removing price controls and market restrictions was resumed. Despite positive developments in 1985 on the price stability and production fronts, problems emerged once again in the external sector when external payment arrears grew. After a brief interruption, however, the program was back on track in April 1986. 1.06 In June 1987 the government deepened the policy reforms by unifying the exchange rate and enhancing the foreign exchange auction to embrace most transactions. But within a few months the government halted implementation of the program. In September 1987 the auction system was terminated, and the Somali shilling was revalued at a significantly appreciated level compared with the rate that was established at the final auction. At the same time, the government declared its intention to reintroduce price controls on a large number of items; these controls were eventually imposed in February 1988. The economic and financial situation deteriorated rapidly in the latter part of 1987 and the first half of 1988, despite the government's effort to tighten fiscal policy. The flow of quick-disbursing assistane,e diminished significantly with the disruption in program implementation. 1.07 In July 1988 the government adopted a new policy package. The Somali shilling was devalued significantly, a nondiscriminatory foreign exchange allocation system was introduced, price controls were lifted, and new tax measures were adopted. Deposit and lending interest rates and the Central Bank discount rate were raised. The initial results from the program implementation were positive. In early 1989 the government took a number of significant measures including the liberalization of the export trade in hides and skins, and frankincense and myrrh; the removal of restrictions on the importation and distribution of veterinary drugs and veterinary practices; and the removal of monopolies in banking, insurance, and maritime transportation. The Bank supported this  Chapter 1: An Overview of the Economy and Government Finances 3 program with a US$70 million quick-disbursing IDA credit (ASAP II), approved in June 1989, but no Fund program could be put in place on account of Somalia's outstanding arrears.' 1.08 The implementation record under the most recent program has been mixed. The government has followed through on most of the measures to further liberalize the markets. The private sector has become actively engaged in the domestic and external trade of hides and skins, even though the results are not fully reflected in the official exports. The foreign exchange retention scheme for exporters and the nondiscriminatory foreign exchange allocation system for private sector imports have been maintained. The government has devalued the Somali shilling periodically, and it has kept the fiscal deficit in check despite further deterioration in revenues. 1.09 Nonetheless, the overall macroeconomic performance has been poor, mainly because of a major slippage on the monetary side. The publicly owned Commercial and Savings Bank of Somalia (CSBS), which is the only commercial bank in the country, extended large amounts of credit to the parastatal and private sectors, in total disregard for established banking principles and agreed credit ceilings. Despite declared intentions, the monetary authorities were unable to establish control over the operations of CSBS. Under increasingly uncertain political conditions, uncontrolled credit from CSBS fueled inflation (which accelerated to 150 percent in 1989) and contributed to the pressure on the exchange rate in the parallel market. Despite frequent adjustments based on relative price increases in Somalia, the gap between the official and parallel market rates widened in recent months. The revenue performance also worsened. The revenue to GDP ratio fell to about 5 percent mostly due to weaknesses in tax administration. 1.10 Under these stop-go policies, Somalia's economic performance was uneven during the 1980s. With the exception of the drought years, the annual GDP growth rates were above the rate of growth of population during the first three quarters of the 1980s, but they slowed down considerably toward the end of the decade. The relaxation of controls over farmgate prices and marketing of the main agricultural crops and other liberalization measures were positive factors. However, the increasingly uncertain politicai and economic environment, as well as faulty economic policies, undermined the country's growth potential. 1.11 Domestic savings ratios were negative throughout the 1980s, ranging from -7 percent to -27 percent of GDP. This was mainly due to significant dissavings in the public sector. Nonetheless, the inflow of workers' remittances from abroad, particularly during the first half of the decade, and the availability of donor assistance throughout the period allowed a relatively high level of investment to be realized. The ratio of total investment to GDP was above 24 percent for most of the period, reflecting the ambitious public investment effort financed by external resources. Private fixed investment showed a marked decline, mostly due to the increasingly uncertain climate for investment. The returns on public investment were low since these donor-driven projects were not always subjected to proper selection criteria and, once implemented, were not properly maintained. 1.12 Fiscal and, in particular, monetary discipline was frequently and seriously compromised during the 1980s. On the fiscal side, expenditures varied between 18 and 35 percent of GDP, while the domestic revenue effort declined substantially, mainly due to growing non-compliance by Because of poor mnacroeconomic performance, the second tranche of the ASAP n credit has been frozen thfroughout 1990 and was canceled by the Bank in January 1991.  4 Chapter 1: An Overview of tho Economny and Government Finances taxpayers (see below paragraphs 1.20 and 1.21). The resulting large deficits were covered either through the proceeds of external aid or through domestic bank financing. While there were large variations in expenditures on the investment side, ordinary expenditures were more or less stable. On the monetary side, deposit and lending interest rates remained substantially negative in real terms, and efforts to implement positive interest rates were short lived. More importantly, the authorities' control on monetary expansion was weak and often impeded by political interferenct The management of the Commercial and Savings Bank deteriorated after 1987, and by the end of the decade the bank, for all practical purposes, had become bankrupt. 1.13 As a result of lax fiscal and monetary policies, prices soared. The annual rate of inflation averaged more than 60 percent and accelerated toward the end of the 1980s. Also, despite periodic devaluations, the gap between the official and market exchange rates remained large. As a result, exports flowing through the official channels stagnated throughout the 1980s, reaching a record low of US$58 million in 1988. Meanwhile, imports remained four to five times larger than exports. Even though a significant portion of the ensuing current account deficits was covered by external grants, Somalia's external indebtedness worsened. The stock of debt climbed to US$1.8 billion by 1989 (equivalent to about 143 percent of GDP or 19 times export earnings). Since some 75 percent of this debt is to multilateral creditors, most notably to the IMF, Somalia has a serious arrears problem. C. Government Finances 1.14 Structure Somalia's fiscal accounts have three components. The ordinary budget reports the budgeted and the actual expenditures on mostly recurrent-type activities. This account, in principle, is financed by domestic tax and nontax revenues, with the exception of interest payments which have been partly financed through the counterpart funds, generated by the sale of foreign exchange or imported commodities provided under various donor programs In reality, however, a sizable amount of recurrent spending is financed by counterpart funds and goes unrecorded. The second component, the domestic development budget (DDB), lists the projects that require some government contributions, but is financed entirely by counterpart funds. The third component of government expenditures is the public investment program (PIP). Most of the finar -ng for the PIP comes directly from donors. The domestic contributions for the projects in the PIP is also reported in the domestic development budget. Both the DDB, and the PIP include some additional recurrent expenditures. Since the govermnent, to a great extent, determines the allocation of the counterpart funds, the ordinary and the domestic development budgets are largely government-controlled (in this report sometimes referred to as "domestic expenditures"), while the PIP is for all purposes externally controlled. 1.15 Government finances in Somalia are not consolidated in a single document. Domestic revenues, some counterpart funds, the ordinary budget, and the (local currency) development budget are presented in the Budget document, but the toreign-financed expenditures on development projects are separately recorded in the Annual Development Plan and the Public Investment Program documents, published by the Ministry of Planning. Some expenditures financed through counterpart funds or through direct contributions from donors or nongovernmental organizations are not captured in any official document. Other transactions, such as those financed through suppliers' credits, are also absent from the government accounts. Furthermore, these accounts are largely opaque in terms  Chapter 1: An Overview of the Economy and Government Finances 5 of identifying the destination or the nature of sizable expenditures. This makes a thorough analysis of government finances somewhat labori'us. 1.16 Expenditure Trends Gc ernment accounts show that total expenditures in relation to GDP declined in the first half of the 1980s, but resumed growth in 1985 and reached a high of 35 percent of GDP in 1987. The composition of expenditures also changed in a major way. Ordinary expenditures on a cash basis, which amounted to about 14 percent of GDP in 1981, fell to about 10 percent in 1988. The burden of scaling down the ordinary expenditures was put on economic and social sectors, while spending on defense and general services remained virtually unaffected. Even when additional resources were available and expenditures were increased, spending in the economic and social sectors remained depressed. As a result, the share of expenditures for economic and social sectors from the ordinary budget in 1989 fell to an extremely low level of 6 percent of ordinary expenditures. Also, the operational and rnaintenance expenditures suffered dramatically from the decline in the funds earmarked for the economic and social ministries. 1.17 Development expenditures, which include the foreign-financed public investment program and the domestic development budget, more than tripled as a percent of GDP, from 5 percent in 1981 to 20 percent in 1987. This rise was mainly due to the increase in the Somali shiilling value of the foreign in :estment component (as a result of both increased real dollar levels and the real depreciation of the Somali shilling). The source of development expenditures from the budget has exclusively been the counterpart funds generated by external balance-of-payment support. However, counterpart funds were also used to augment the ordinary budget expenditures, mainly in the area of defense and general services, thus reducing the funds available for the government's contribution to development expenditures. Table 1.1: Distribution of Counterpsrt Funds (percent) 1987 J2 Development expenditurem 39.7 59.4 Ordinary expenditures 60.3 40.6 debt service 11.9 6.5 other 48.4 34.1 Memorandum items: CP funds in billion So.Sh. 11.8 8.9 CP funds in million USS 111.8 52.4 Source.+ Ministry of Finance, Department of Treasury 1.18 The government fiscal accounts, however, do not reveal a full description of the central government's expenditures and revenues. Sizable suppliers' credits and other unrecorded activities underestimate government expenditures. On the revenue side, sizable counterpart funds generated through the various commodity assistance programs also are not fully reflected in the government's  6 Ctlaptef 1: An Overview of the Economy and Government Finances accounts. Therefore, under the present review, unrecorded activities have been incorporated into the government's fiscal accounts in assessing the spending patterns and the size and the sustainahility of the fiscal deficit. Figure 1.1: Central Co"ernment Revenue fOther Ties o~~~~~~~~~~~~~~~~o 1.981, t983 1985 1987 0989 Source: MOF closed accounts 1.19 Resource Availability While the domestic revenue performance worsened during the 1980s, thie total resource available to the government were for the most part adequate. The poor revenue performance, however, had a negative impact on the budgetary process and expenditure patterns. At the time of budget preparation, ordinary expenditutes were limited to the projected domestic revenues. Therefore, the decline in domestic revenues, in recent years caused sharp reductions !n budgeted allocations for the line ministries. Actual expenditures did not vary significantly from the budgeted ones, with the exception of the expenditures by the Ministry of Finance and Revenue (MOF), which averaged 150 percent of the budgeted levels. The needed extra financing carne mainly from counterpart funds. In years where the govertunent realized higher revenues than initially projected, the additional revenues also went to finance MOF expenditures. 1.20 Domestic Revenue Figure 1.1I shows that the deterioration in domestic revenues can largely be attributed to the decline in collection of border taxes. Other revenue categories also went down in real terms, but their impact on revenue performance has not been as dramatic. Import duties declined over the period 1980-89, despite a generally increasing level of nonproject imports and large real devaluations in the exchange rate. This trend is a combination of the government's applying an exchange rate to the valuation of imports below the official exchange rate, largely applying specific  Chapter 1: An Overview of the Economy and Government Finances 7 rather than ad valorem taxes to imports, or an increasing degree of noncompliance.2 1.21 Weaknesses in tax administration are not limited to import duties. The poor performance of income and business taxes is mainly due to the failure to incorporate inflation into the assessment f such aggregates. The system currently does not call for a reassessment of the levels of annual ,.arnings, declared and agreed years before, for those individuals and businesses that have remained up to date in payment of their tax liabilities. Thus, the relatively low business profit levels declared five or ten years ago have remained to a large extent unchanged in nominal terms despite high intlation throughout the 1980s. The tax assessors pursue only those who have been delinquent in tax payments. Even then, the assessment is arbitrary due to the absence of clear guidelines and the appeal of corruption given the extremely low pay of tax assessors. Figure 1.2: The Exchange Rate Gap (Ratio of offiei.1 to mtlet rate) 85X - eao - 755 - 555 - v6_- A 3SlX rI III n It II I n I I I 1985 1986 1987 1988 1989 Source: CBS, IMF and World Bank estimates 1.22 Inadequate economic policies also have affected the collection of revenues. The sizable gap between the market and the official exchange rates, combined with some prohibitively high tariff rates, have resulted in an apparently large unofficial market for trade that evades all forms of taxation (see Figure 1.2). The deteriorating security conditions have had an adverse impact on the revenue effort by limiting the governrnent's ability to collect taxes in regions where its control has weakened. 1 Assuming that the effective average import tax rate remained constant duting the period 1981-89 (actual import tax rates did not indeed change), the implied exchange rate applied to the valuation of imports was about 50 percent of the average official exchange rate. nTis would indicate that the time between official exchange rate devaluation and the application of the new devalued rate to imports was too long. Taking the goveniment's claim that the official exchange rate was timely applied to the valuation of import, the implied effective tax rate on impots varied from a high of 73 percent in 1981 to a low of 16 percent in 1989, which would suggest widespread application of specific taxes.  8 Chapter 1: An Overview of the Economy and Governmenlt Finances This impaet, however, seems to be relatively small, since the decline in domestic revenue is explained in very large part by the decliine in the revenue coilected from the Mogadishu area. 1.23 Counterpant Funds Counterpart funds generated by the balance of payments support to Somalia have played and will continue to play an important role in supporting public expenditures. As indicated, counterpart fun. -re the sole source of finance for development expenditures. The government in the past also - i . estimated 50 percent of counterpart funds to augment its ordinary expenditures (on a cash bas: .e main problem has been that the bulk of it went to finance general services, including defense. t' pter VIl of this report makes some suggestions with respect to the use of counterpart funds. Figure 1.3: Revenue and Expenditure 35 - 30-Expenditure 0. ts | ~~~Revenue| (5 0 1981 1983 1985 1987 ?989 Source: MOF closed accounts and estimates D. Fiscal Policy and Performance, 198149 1.24 Fiscal Performance Fiscal performance in the 1980s in Somalia was mixed. The deficit, excluding grants, fell from 15 percent of GDP in 1981 to 12 percent by 1984. Then it rose to a high of 30 percent in 1987 (see Figure 1.3). The macroeconomic imbalances associated with large deficits did not surface in the early part of the 1980s, thanks to external assistance and to fairly buoyant revenues that kept recourse to domestic financing in check. Excluding 1984, when fiscal and monetary discipline broke down, domestic borrowing by the central government averaged a low of  Chapter 1: An Overview of the Economy and Government Finances 9 0.2 percent of GDP between 1981 and 1986. Alsoi during the same period, domestic revenues grewv at an average annual rate of 2 percent in real terms, while ordinary expenditure as reported in the government accounts did not change in real terms. Between 1981 and 1986, domestic revenues covered about 80 percent of ordinary expenditures. The external sector showed steady impro% ement. The real effective exchange rate was kept at a depreciated level through 1983 as a result of supply side measures (including nominal exchange rate devaluations), liberalization measures, and the reintroduction of franco valuta. Table 1.2: Sources of FanAcinc the Defcit (percent distributioa) Average Average 1981-8 1985-88 Domestic borrowing 7.8 5.3 Foreign borrowing 57.4 22.5 Grants 29.8 62.1 Arrears 5.0 10.1 Sources: Central Bank sacounts and World Bank and IMF staff estimates 1.25 In 1984 there was a marked shift in fiscal policy. Ordinary nonwage expenditures and domestic development expenditures rose by over 70 percent in nominal terms, while revenues increased by a mere 3 percent over the 1983 level. The deterioration in the budgetary position was reflected in the consequent monetary expansion: domestic credit increased by about 80 percent. Between 1985 and 1987 fiscal imbalances persisted. Revenues stayed depressed, while domestic expenditures reached a peak of over 18 percent of GDP by 1987. Government recourse to domestic borrowing also reached its highest level in 1987 (5.4 percent of GDP), when the governrent abandoned the adjustment program supported by the World Bank and the IMF. 1.26 In 1988 the government resumed contractionary fiscal policy as part of the revived economic adjustment efforts, but macroeconomic stabilization has not resulted. In the public sector as a whole, there has been no significant retrenchment. When retrenchment did occur, it was in the wrong areas. While the government fiscal accounts in recent years show a general compliance with the program targets, the underlying expenditure levels and trends suggest a different outcome. Expenditures financed by suppliers' credits, Central Bank transfers to parastatals (including the Commercial and Savings Bank and the Somali Petroleum Agency), and foreign suppliers' arrears are all examples of transactions that underestimate the fiscal imbalances and that have grown in importance in the latter part of the ;980s. 1.27 Some of the policies pursued in the 1980s were contradictory. For example, the public sector wage bill contracted, while government employment grew, resulting in significantly lower real wages. Moreover, development expenditures rose rapidly at a time when recurrent expenditures from the ordinary budget actually decreased in real terms. Expenditure on foreign representation also appeared to have been reduced in recent years in the government accounts, but the number of embassies had remained unchanged and the embassies were simply incurring debt with their suppliers. In most cases the government did not actually reduce expenditures, but rather postponed them with financing from nonbank sources, primarily suppliers' credit. Expenditure commitments were diverted to some public enterprises, thus putting them off budget. The ratio of domestic revenues to ordinary expenditures declined from 80 percent for the period 1981-86 to 60 percent for the period 1987-89.  10 Chapter 1: An Overview of the Economy and Government Finances 1.28 In recent years the sources of financing the deficit have shifted dramatically. Foreign grants replaced foreign borrowing as the main source of deficit financing. The other positive development in this regard is a reduction in domestic bank borrowing as a source of central government deficit financing, which was negative in 1989. Arrears toward both external creditors and domestic suppliers, on the other hand, doubled their share as a source of financing the deficit. 1.29 In the case of Somalia, determining the actual fiscal deficit is not straightforward. A number of transactions simply do not appear in the official calculations of the deficit, but are nonetheless an integral part of government spending. Nonpayment of bills by the Somali embassies in some countries is just one example. No firm estimates of the size of such nonpayments are readily available. More importantly, as the government's share of domestic bank borrowing is being curtailed, credit by the banking system to the private and parastatal sectors is growing rapidly. In 1989 domestic credit expanded at a rate of 57 percent. By the end of the year, the share of outstanding credit to the government was a mere 4.8 percent of total banking system credit, with the private sector claiming 66.3 percent and the parastatals the remaining 28.8 percent. Under ordinary circumstances, such a distribution would be considered normal. However, a large part of private and parastatals borrowing is actually a liability of the central government, given the fact that a sizable portion of such loans are nonperforming due to the very questionable circumstances under which they were advanced by the government-owned Commercial and Savings Bank of Somalia. Figure 1.4: The Fucal Deficit and its Fuiancing 40 35 30 pi425 0 420- Is 10 198s 1982 1933 1984 1935 1986 ISfr 1988 4989 M Arrears M Foreign M Gruts N Doaestic Source: CBS, IMF and World Bank estimates  Chapter 1: An Overview of the Economy and Government Finances 1 1 1.30 Additional fiscal burdens will eventually emerge as the responsibility ot the central government. Central Bank loans to nonperforming public enterprises and some commercial bank loans to the private sector are two examples. As the government closed accounts suggest, the financing of Somalia's public enterprises has not been a direct burden on the government budget. The transfers to the enterprises has been carried through easy credit by the central and commercial banks (see Table 1.3). The macroeconomic consequence of such financing is a higher budget deficit when the enterprises are unable to repay their debt to the banking system. The long-term solution lies in restructuring financially viable public enterprises and liquidating the rest. 1.31 Finally, control of the economy by the Somali government has greatly declined. This is most visible when one looks at the large dependency on foreign sources to finance government spending. By 1986, 72 percent of total government spending (including loans, grants, and external interest arrears) was being financed by foreign sources. This ratio dropped in 1988, but remained at a very high 64 percent. The government must lessen this dependence through improved domestic resource mobilization, regardless of the size of the available external resources. Table 13: Monetary Fmancing of the Publkc Sector (changes in stocks as present of GDP) 1294 i5 I982 1 1989 Domestic Credk 7.0 2.2 2.0 12.3 5.7 5.3 Cental ovemnmn 4.1 1.2 0.5 4.9 2.0 -2.0 Public Enterprises 2.4 0.6 1.4 1.6 1.9 1.8 Privat Sector 6.0 0.3 0.1 5.9 1.8 5.5 Source. Ceuntal Bank accounts and IMF estimates. E. Coverage of the Report 1.32 This report focuses on fiscal management, public sector resource allocation, and institutional issues. Even though the agriculture, health, and education sectors are examined closely, the report does not cover all sectors and sector-specific issues. Public sector enterprises and local administrations are not specifically addressed in this review so staff resources could be concentrated on the difficult issues of a global nature. This is the first comprehensive review of public expenditures in Somalia. Succeeding reviews can more appropriately focus on sector-specific issues and public enterprise issues. 1.33 In Chapter II public expenditure aggregates and their economic and sf 'toral composition are analyzed. This provides the necessary background for the restructuring of expenditures. In Chapter III a resource envelope for public expenditures has been projected in a medium-term macroeconomic framework, that the political and security situation will improve, the authorities will implement an effective stabilization and adjustment program, and donor support will resume. Without these assumptions, it is difficult to conceive of a meaningful expenditure restructuring exercise in Somalia. 1.34 A major objective of the review is to help the government identify the required policies and expenditure patterns for the restructuring of public expenditures. Chapter IV develops approaches for estimating the requirements for level of recurrent expenditures, operational and maintenance  12 Chapter 1: An Overview of the Economy and Government Finances expenditures, and the civil service wage bill. Recommendations are also made with respect to the sectoral distribution of public expenditures. Chapter V discusses the pattern of public investment programs in the past and their implementation. It then reviews the most recent three-year public investment program (1990-92). 1.35 Chapter VI reviews public expenditure issues in the agricultural, health, and education sectors. It assesses the performance of these sectors, describes the organizational framework relevant to expenditure planning, discusses policies, reviews the pattern of expenditures and makes suggestions for improvement. 1.36 Finally, in Chapter VII the institutional aspects of public expenditure planning, budgeting and monitoring are examined. Improvements that can immediately be implemented are distinguished from medium to long-term approaches. Recommendations also are made with respect to civil service management. 1.37 Four background papers, which analyze in more depth specific issues, have been made available to government officials and can be shared with interested donors upon request. They cover the agricultural sector, the budget process, civil service management, and civil service pay and employment.  2 Government Expenditures 2.01 Any effort at restructuring public expenditures requires reliable data and a careful analysis of past trends. Establishing such a data base in Somalia has proven to be a tedious exercise that required numerous checks for consistency of the scanty available data and the reconstruction of basic time series under sometimes heroic assumptions. Given these limitations, this chapter examines the trends in public sector spending with a focus on economic and sectoral distribution of expenditures. Figure 2.1: Expenditure Aggregates (a real ters) 34- 32 30 28 26 24 22- 0 20 I0 H 18 UnDeventifielip 16 o- 14 I II 981 1983 1985 2987 Inees Other aaisGos&Sn Source: MOF closed accounts and World Bank estimates  14 Chapter 2: Government Expenditures 2.02 Several problems were encountered in trying to reconstruct a consistent and transparent series on government spending between 1981 and 1988. Serious problems included: (i) constant changes in economic expenditure classifications from year to year, (ii) large unclassified expenditure categories, (iii) the exclusion of most of the counterpart funds from the budget accounts, (iv) the lack of a clear-cut distinction between capital and recurrent expenditures, (v) the absence of comprehensive data at the Ministry of Finance regarding the foreign component of the domestic development budget, and (vi) high risk of data inconsistency due to a variety of data sources with different accounting and valuation procedures. A. Expenditure Aggregates 2.03 When the budget was consolidated, it became evident that the pool of resources obtained by adding domestic revenues, foreign grants, and the deficit financing items exceeded the identifiable expenditure levels. The difference averaged about 4 percent of GDP between 1981 and 1988. This was expected because expenditures financed by counterpart funds do not appear in their entirety in the budget accounts. Also, the use of different sources to construct the consolidated budget could give rise to such discrepancy. Thus, to ensure consistency between the expenditures and the resources identified, the reconstructed accounts include a residual category of unidentified expenditures in addition to ordinary and development expenditures. 2.04 A relatively significant portion of counterpart funds are disbursed to various ministries upon the approval of the Minister of Finance; these funds bypass the normal and regular budgetary procedures. A very large portion of these transfers has been used in augmenting the defense budget. Unfortunately, a detailed breakdown on the disbursement of these funds is not available except for the first three quarters of 1989, and no sectoral breakdown was accessible for any year. 2.05 Within the identifiable expenditures, ordinary expenditures averaged 45 percent of the total and 1 1.4 percent of GDP between 1981 and 1988. After having reached a high of 21 percent of GDP in 1982, ordinary expenditures declined, leveling off at about 9 percent of GDP in the past four years. Development expenditures from both the domestic development budget and the public investment program (PIP), averaged 39 percent of total spending and 10 percent of GDP between 1981 and 1988. In relation to GDP development expenditures increased dramatically during the same period from 5 percent to 16 percent. This was due to the large real depreciation in the official exchange rate, which affected the foreign-financed component of development expenditures, and to the increase in the foreign-financed component of development spending in real dollar terms, which rose by about 85 percent between 1981 and 1988. The domestic development budget component rose by only 18 percent during the same period.  Chapter 2: Government Expenditures 15 Table 2.1: Summary of Central Government F;aaaces (c"sh basis, peent GDP) 1981 1982 1983 198 1985 li87i 989 Total revenues and grants 12.5 12.7 16.9 9.1 14.4 23.0 23.5 17.9 31.9 Revenues 10.5 9.0 10.7 5.7 6.0 7.8 6.0 5.7 5.3 Tax revenues 9.7 8.5 9.9 4.8 5.2 6.9 S.1 4.4 4.7 Non tax revenue 0.8 0.5 0.7 1.0 0.7 0.9 0.8 1.2 0.7 Foreign Grants 2.0 3.6 6.2 3.4 8.4 15.2 17.5 12.3 26.5 PIP 1.3 1.8 3.6 2.4 5.6 10.8 15.2 11.4 21.7 CIP and other 0.7 1.8 2.6 1.0 2.9 4.4 2.3 0.9 4.0 Cash 0.8 Total expenditures 26.4 18.5 22.7 17.3 20.8 28.4 31.5 25.5 37.7 Ordinary expenditures 12.4 14.2 13.7 8.1 8.7 9.7 8.2 8.7 8.5 Civilian wages & salaries 2.0 1.6 1.7 1.0 0.8 0.6 0.5 0.5 0.4 Goods &services 9.4 11.8 11.3 6.0 5.9 8.2 6.8 7.4 6.4 of which: defense 3.7 2.8 3.7 2.9 2.0 2.1 1.8 2.8 2.3 of which: unspecifted 4.1 7.4 5.8 2.0 2.8 4.9 3.5 3.3 0.9 Constmrcion/Heavy mach 0.0 0.1 0.0 0.0 0.1 0.1 0.1 0.0 0.3 Transfers 0.9 0.7 0.7 0.6 0.4 0.3 0.2 0.4 0.4 lnterest paid 0.0 0.0 0.1 0.5 1.5 0.S 0.6 0.4 1.0 Domestic 0.6 External 0.4 Development expenditures 5.0 4.7 8.6 5.6 10.2 16.2 19.1 14.0 26.1 Domestic devel. budget 1.3 1.2 1.4 1.1 1.0 1.8 2.1 1.3 1.6 Foreign devel. exp. 3.7 3.6 7.3 4.6 9.2 14.4 17.0 12.7 24.5 Unidentified expenditures 9.1 -0.4 0.4 3.7 1.8 2.5 4.2 2.8 3.0 Deficit (cash basis) -13.9 -5.9 -5.8 -8.2 -6.4 -5.5 -8.1 -7.6 -5.8 Financing 13.9 5.9 5.8 8.2 6.4 5.5 8.1 7.6 5.8 Domestic (net) 1.5 -0.6 -0.8 4.1 1.2 -0.1 5.4 2.1 -0.9 Central Bank 1.6 -0.5 -0.8 4.1 1.0 0.5 4.9 2.0 -1.0 Other -0.0 -0.1 0.0 -0.0 0.2 -0.7 0.5 0.0 0.1 Foreign (net) 12.4 6.5 6.7 4.1 4.9 5.6 2.7 2.7 5.3 Gross Foreign 12.7 6.9 7.5 4.7 5.1 6.4 6.1 3.0 5.5 PIP Loans 2.4 1.8 3.6 2.2 3.6 3.6 1.8 1.3 2.8 CIP Loans 0.0 0.0 0.0 0.0 1.4 2.5 4.2 1.6 2.8 Other Loans 10.3 5.1 3.9 2.5 0.1 0.3 0.0 0.0 0.0 Amortization 0.3 0.5 0.8 0.6 0.2 0.8 3.4 0.2 0.2 Arrears to domestic suppl. 0.3 2.8 1.4 Sources: Table 6, Statistical Appendix. No:e: This table is based on MOF closed accounts, including interest and amortiza'ion payments. Bank/Fund estimates apply only to PIP figures, foreign borrowing and arrears to domestic suppliers.  16 Chapter 2: Government Expenditures B. Economic Composition or Expenditures ' 2706 Ordinarv Expenditures The deep cuts in ordinary expenditures between 1981 and 1988 &et e uneven. Most notably, the wage bill was cut from 2 percent of GDP in 1980 to 0.5 percent in 1988. Expenditures on goods and services were also cut from 9.3 percent of GDP in 1981 to 7.2 percent in 1988, but the largest component of this category, ("other works," which is mostly tinancing detense spending) was virtually left unchanged at 4 percent of GDP. In real terms this category actually rose by 8 percent during this period. Maintenance expenditures, which were only 0.2 percent of GDP in 1981, further declined to 0.1 percent in recent years. Table 2.2: Ordinary Fxpenditures, 198149 (Percent of GDP) 1981 1982 1983 1984 1985 i28 J. Am Wages and salaries 2.0 2.4 1.6 1.0 0.7 0.6 0.5 0.S Goods and scrvices 9.4 17.1 11.2 6.0 5.9 8.3 6.7 73 olw mnatcrials 4.7 5.2 4.6 3.4 2.5 2.6 2.3 3.1 maintenance 0.2 0.3 0.2 0.1 0.1 0.1 0.1 0.1 travel and transport 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 gcneral works 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 other works 4.3 11.3 6.3 2.3 3.2 5.4 4.2 3.9 Transfers 0.9 1.0 0.7 0.6 0.4 0.3 0.2 0.2 Intcrest payments 0.0 0.0 0.1 0.5 1.5 0.5 0.6 0.4 Other 0.0 0.1 0.0 0.0 0.1 0.2 1.3 0.0 Total 12.3 20.6 13.6 8.1 8.6 9.9 9.3 8.4 Source. MOF closed accounts of ordinary cxpenditurc according to Government classification. 2.07 Interest payments on a cash basis averaged 0.5 percent of GDP between 1981 and 1988. However, interest payments reported in the government closed accounts do not fully reflect the actual interest paid in a given year. This is because additional payments financed from the counterpart funds do not appear in the closed accounts. The other two main categories in the identifiable government accounts are transfers (which have declined from about 1 percent of GDP in the early 1980s to 0.2 percent of GDP in recent years) and "other" expenditures (investment- type expenditures within the ordinary budget that averaged about 0.2 percent of GDP in the period 98l-88). 2.08 The closed accounts do not fully describe expenditures. In addition to the unidentified expenditures discussed above, an average of 45 percent of the recorded ordinary expenditures included in the closed accounts is unspecified. These expenditures correspond to those under the Clearly, it is not a straightforw-"Jexerciseto analyzethe ovetali economiccompositionofexpenditutesin Somalia. This8is mainly because, as already indicatld,a large part of ordinary expenditurcsin recent yearsis not specified, and significantexpenditurtitems are altogether excluded from the closed accounts. Moreover, for the domestic development budget accounts, the economtic classifications series arc incomplete. No economic breakdown is available for the years 1984 to 1986. As for the foreign-financed development cypendttures from PIP, allocations for most projects can be broken down into economic categories only by looking at each projc-t document separatcly - A ith over 20t1 projccts, no easy task. Some recurrent expenditures ate also included in the dc clopmcnt budget. This further .ompliated the picture.  Chapter 2: Governtent Expenditures 17 "other works" category of various ministries' budgets, but the bulk of the funds is under the Ministry of Finance budget. 2.09 Table 2.3, which shows the percentage distribution of ordinarv expenditures. is constructed on the basis of the government's closed accounts, but is moditied t) exclude investment-type expenditures. The table reveals a dramatically declining share ft wages and salaries from 16 percent of total ordinary expenditures in 1981 to 8.2 percent in 1985 and 6 percent in 1988. Throughout this period public employment grew at a rate of about 5 percent annually. The sil-are of expenditure on maintenance of buildings and equipment also declined to about 1.2 percent, at a time when public investment was growing rapidly. TabI: '.3: Ordinary Expenditures, 1981-89 (Percent distribution) 1981 1982 1983 1984 1985 1986 1987 1988 Wages and salaries 16.3 11.7 11.8 12.3 8.2 6.2 6.3 6.0 Goods and services 76.4 83.4 82.4 74.1 69.4 85.6 83.8 86.9 o/w numtrials 38.2 25.4 33.8 42.0 29.4 26.8 28.8 36.9 maintenance 1.6 1.5 1.5 1.2 1.2 1.0 1.3 1.2 travel and transport 0.8 0.5 0.7 1.2 1.2 1.0 1.3 1.2 general works 0.8 0.5 0.7 1.2 1.2 1.0 1.3 1.2 othor works 35.0 55.5 45.7 28.4 36.4 55.8 51.1 46.4 Transfers 7.3 4.9 5.1 7.4 4.7 3.1 2.5 2.4 Interest payments 0.0 0.0 0.7 6.2 17.6 5.2 7,5 4.8 Total 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 $ource. MOF closed accounts. 2.10 Government-controlled Expenditures Tables 2.4 and 2.5, which are based on identifiable government-controlled expenditures, show the share of each category of expenditure from the ordinary and domestic development budgets in GDP and its percentage distribution. When comparisons are made with the earlier years and all identifiable government-controlled expenditures are included, the deteri3ration in government finances becomes even more apparent. Information in these two tables show dramatic changes in the levels and the distribution of government-controlled expenditures over the years. Particularly striking is the decline in the share of wages and salaries in the ordinary budget from 26 percent in 1974 to 5 percent in 1988. In terms of GDP the wage bill declined from 4.6 percent to less than 0.5 percent. Expenditure on goods and services, while declining as a share of GDP, increased significantly as a share of total expenditures. This increase, however, is fully attributed to the rise in the unspecified component of goods and services. It reflects the loss of transparency in the expenditure process. 2.11 There was more than a 50 percent reduction in the overall domestic spending as a share of GDP between 1974 and 1988. This should not be interpreted, however, as a reduction in the size of government operations. As foreign assistance to Somalia became available more readily, a number of expenditure functions, including transfers and wages, were being financed by the counterpart funds generated by this assistance, a sizable chunk of which is extrabudgetary.  18 Chapter 2: Governfnent Expenditures Table 2.4: Economk Classification of Government-Controfled Expenditure (Percent of GDP) 1974 1981 1988 ORDp I)D TOT ORI:) IQI Q5 O DDB IQT Wages and salanes 4.6 0.1 4.8 2.0 0.1 2.1 0.5 0.2 0.6 Goods and services 10.2 1.3 11.5 9.4 0.2 9.6 7.3 0.6 7.9 o/w materials 6.5 0.8 7.3 4.7 0.1 4.8 3.1 0.2 3.3 maintenance 0.4 0.0 0.4 0.2 0.0 0.2 0.1 0.0 0.2 other works 2.7 1.7 4.1 0.9 0.1 1.1 0.3 0.0 0.3 Transfers 2.4 1.7 4.1 0.9 0.1 1.1 0.3 0.0 0.3 Interest payment 0.0 0.0 0.0 0.0 0.0 0.0 0.4 0.0 0.4 Other 0.5 1.1 1.6 0.0 0.8 0.8 0.0 0.5 0.5 Total 17.7 4.2 21.9 12.4 1.3 13.6 8.45 1.3 9.8 Source. MOF closed accounts and estimates. 2.12 Reconstrcding the Government's Budget Another major difficulty faced in analyzing the budgetary expenditures in Somalia is the lack of distinction between recurrent and development expenditures. Typically, the ordinary budget should reflect the country's spending on recurrent items. In the case of the Somali budget, a few small items included in the ordinary budget, such as construction and heavy machinery purchases, are related to capital expenditures. Other recurrent expenditures, financed through the counterpart funds account, such as some interest payments and some transfers, are excluded altogether from the ordinary budget. Other items that belong to the ordinary budget, such as supplementary salaries to government employees not directly connected to development projects, are instead embedded into the projects' financing outlays. Table 2.5. Distribution of GoverameatControedxpditures (Peract of Total1 ORD DDD I B P DDB MI 2BQ DDB W2 Wage and salarie 26 3 22 16 8 IS 5 11 6 Goods and servie 57 31 52 76 19 71 86 49 82 olw materils 18 18 33 38 1 1 35 36 18 34 nmlintewace 2 1 2 2 2 1 2 3 2 otber works IS 6 13 35 3 32 46 25 44 Transfers 14 40 19 8 I I 8 4 0 3 Interoa payments 0 0 0 0 0 0 5 0 4 Other 3 26 7 0 62 6 0 40 S Total 100 100 100 100 100 100 100 t00 100 Source: MOP cloed accounts a eatimate, sub-compones may not add to total due to roundin.  Chapter 2: Government Expenditures 19 2.13 Clearly, the government-provided classifications of the budget figures do not reflect a true picture of the budget's composition. Given the paucity of data. it has not been possible to reconstruct the budgetary expenditures according to whether they were recurrent or not prior to 1987. This was because there was no breakd(own for the counterpart tunds used for the ordinary budget, and the recurrent expenditure content of the domestic development budget was not available. However, for 1987 it was possible to reconstruct the ordinary and development expenditures, following the principle that all identifiable recurrent expenditures were put under ordinary expenditures and all development expenditures, including capital formati:i, were put in the domestic development budget. Table 2.6 includes all public expenditures: ordinary budget, domestic development budget, counterpart funds, and foreign-financed expenditures. Expenditures not included in the government closed accounts were incorporated in order to cover all known resources available to the economy. 2.14 Table 2.6 reveals that the classifications based on the government's formal documents grossly underestimate recurrent expenditures and overestimate development .xpenditures. For 1987, staff estimates indicate that recurrent-type expenditures were about 16 percent of GDP, twice the level under the formal classification. They also show that the actual wage bill is more than twice its reported level in the ordinary budget. Incorporating the disbursements from the counterpart fund accounts into the budget yields more transparency by explaining more than 85 percent of expenditures previously unaccounted for. Once the expenditures that were formally unspecified are properly classified, defense spending goes up to nearly 10 percent of GDP, in contrast to the 1.8 percent indicated by the Ministry of Finance ordinary budget accounts. C. Sectoral Composition of Expenditures 2.15 The exclusion of some expenditures from the government's closed accounts also hampers the analysis of the sectoral allocations of expenditures. On the basis of govermnent accounts, there has been a drastic shift over the years away from economic and social services to general services (primarily defense and security expenditures). Table 2.7 shows that spending on economic services declined from 24 percent of the government-controlled expenditures in 1974, to 15 percent in 1981, to 11 percent in 1988. Similarly, social sectors declined from :6 percent, to 12 percent to 4 percent over the same years. The change in the sectoral distribution of expenditures from the ordinary budgct is even more dramatic. The share of economic and social sectors from the ordinary budget decreased to less than 6 percent of the total in 1988. Figure 2.2: Setoral Distribution of Expenditure flaM Source: MOF closed accounts and estimates 2.16 In comparison to the 1970s, allocations to social and economic sectors dropped from about 36 percent of ordinary expenditures (excluding debt service) to 14 percent in the 1980s, as shown in Figure 2.2. Comparisons are also presented with three countries in Eastern Africa  20 Chapter 2 Government Expenditures (namely Kenya, Tanzania, and Malawi). Allocations for the economic and social sectors from the ordinary budget are much lower in Somalia than in these three countries (see Figure 2.3). For all practical purposes, Somali ordinary budgets in recent years have been financing only defense and general services. Table 2.6: Reclassifation of Government Expenditures (Percent of GDP) 1987 Goven mmnt a Ordinary expenditures 9.3 16,9 wages and salaries 0.5 1.2 non-salary expenditure 0,7 4.8 olw O&M 0.7