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2  Explaining Key Concepts

Key ideas behind the design of the financial management system and explanations of some of the terms used

Introduction

The financial management system focuses on performance and value-for-money to help the Government translate its strategy into action, promote informed decision-making and accountability, encourage a responsive and efficient state sector, and deliver benefits to the public.

Aspects of performance the state sector must focus on include:

  • coordinating what the Government does and ensuring it achieves its policy goals (which may or may not require collective action)
  • improving outcomes and value for money
  • cost-effective delivery against performance expectations
  • ethical behaviour, including the fair treatment of all New Zealanders
  • improving efficiency (and avoidance of waste)
  • compliance with legal obligations, rules and budgets
  • proper supervision, maintenance and use of the State’s assets
  • awareness of the operating environment, what is working, what is not working and the need to shift priorities, spending and practices.

All these perspectives are embedded in the financial management system.

This chapter introduces the terms necessary for an understanding of the system as it operates in New Zealand and explains some key concepts.

State Sector Accountability Framework

As illustrated in the following diagram, the financial management system pursues performance by assigning roles and responsibilities for the use of public sector resources to different parties, setting clear performance expectations, and then assessing performance against those expectations.

Key to the effective operation of the system are the delegation of authority to parties, with the information and skills needed to make good decisions, and ensuring that reporting, monitoring and accountability arrangements, and rewards and sanctions incentivise appropriate behaviours.

Chapter Five discusses some ways to reinforce incentives in the system.

Figure 2: State Sector Accountability Framework
Figure 2: State Sector Accountability Framework.

Performance management requires performance measurement, reporting and review, both by the agencies themselves and by monitoring supporting the Minister. Effective measurement systems help ensure that relevant and reliable performance information is reported and advise on how performance can be improved. Appropriate incentives must be in place to ensure Ministers are informed about both performance risks and opportunities for improvement.

Key concepts used to measure and control expenditure and asset values, and to manage the production of goods and services, are discussed below.

Accrual and Cash Accounting

New Zealand uses accrual accounting. Accrual accounting records and reports on financial results more accurately than cash accounting alone.

Accrual accounting measures expenses when incurred and revenue when earned. As accrual accounting captures the full cost of resources used to produce outputs, it provides better information to support costing, purchase and ownership decisions than cash accounting provides.

Cash-flow information remains important and available. The Government publishes cash-flow information along with accrual reports on operations and its overall financial position.

Accrual accounting helps government agencies, and the Government as a whole, to present their financial positions in a balance sheet that sets out assets and liabilities of each reporting entity. The result is a clear picture of financial capacity at the reporting date.

Generally Accepted Accounting Practice (GAAP)

'Generally accepted accounting practice' refers to the rules and assumptions used to prepare and present financial statements. GAAP is an independent and objective set of rules that governs the recognition and measurement of financial elements, such as assets, liabilities, revenues and expenses.

In New Zealand, the Financial Reporting Act 1993 requires most reporting entities in both the private and state sectors to comply with GAAP. The Public Finance and Crown Entities Acts reinforce this requirement.

The Public Finance Act defines GAAP as:

  • approved financial reporting standards (within the meaning of section 2 of the Financial Reporting Act 1993) so far as they apply to the Crown, department, Office of Parliament or Crown entity, and
  • where no provision is made in the above standards; accounting policies that:
    • are appropriate to the Crown, department, Office of Parliament or Crown entity, and
    • have authoritative support within the accounting profession in New Zealand.

The Financial Reporting Act 1993 establishes an independent Crown entity to set financial reporting standards as regulations that the Government, departments, offices of Parliament, Crown entities and SOEs must comply with. The accounting rules for the Government's reporting are therefore established at arm's length from the Government itself and are based on internationally accepted standards.

The approval of New Zealand equivalents to International Financial Reporting Standards (IFRS) has led to even greater harmonisation of New Zealand's financial reporting standards with best international practice.

Appropriations

Appropriations are legal authorities granted by Parliament to the Crown or an Office of Parliament to use public resources. Most appropriations are set out in Appropriation Acts presented as part of the Government's budget package. They satisfy a requirement in the Constitution Act that the Crown cannot spend public money except by or under an Act of Parliament.

Appropriations are limited to a maximum level of spending, to a particular period, and to uses set by the scope statement (see Chapter Four). Appropriations are required for all expenses and capital expenditure.

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