KLRI : KOREA LEGISLATION RESEARCH INSTITUTE

Ⅰ. Backgrounds and Purposes

▶ Concept and function of Local government financial management system 

○ A local government financial management system means a system prescribed in the Local Autonomy Act and the Local Finance Act for the purpose of improving efficiency, accountability and soundness of local governments in operating their finance. 

○ The Local Autonomy Act and the Local Finance Act recognized the efficiency, accountability and soundness of local government finance as a basic principle of local government finance. In this regard, the local government financial management system is one of the systems that can realize such principle. 

▶ Significance of proactive local government financial management systems

○ Under the current laws, local government financial management systems include medium term local government finance plan (Article 33 of the Local Finance Act), investment appraisal (Article 37 of the Local Finance Act), issuance of Local Government Bonds (Article 11 of the Local Finance Act), financial analysis and financial examination (Articles 54 through 57 of the Local Finance Act), publication of management condition of local government finance (Article 60 of the Local Finance Act) and emergency finance management system (Articles 60-3 through 60-9 of the Local Finance Act).

○ The local government financial management systems can be classified into proactive local government financial management systems, which are implemented before the compilation of budget, and ex-post local government financial management systems which apply with regard to the execution and settlement of budget. A medium-term local government finance plan, investment appraisal and issuance of Local Government Bonds correspond to proactive local government management systems.

○ Depending on the point of view, the significance of ex-post local government financial management systems can be emphasized since they can be a way to manage and overcome a financial crisis when any financial crisis occurs in a local government, but proactive local government financial management systems are also important in that they can prevent the occurrence of a financial crisis in advance. In this regard, the subject of this study is the proactive local government financial management systems. 

▶ Relation of changes in social environment with local government financial management systems

○ Demo-graphical changes caused by the decrease of fertility rate and the increase of aged population are expected to have a significant impact on the finance of the nation and local governments directly and indirectly. Against this background, it is necessary to discuss local government financial management systems that can improve an efficient operation of local government finance and enhance the accountability of local governments in its operation.

○ Moreover, the government is implementing policies for decentralization and fiscal decentralization, focusing on expanding the administrative affairs and financial authorities of local governments, and such policies are important to realize a practical administration of local autonomy. It is necessary to fully discuss measures to expand authorities of local governments and to improve their responsibilities at the same time. In addition, in terms of local government finance, research on the development of local government financial management systems is required. 

 

Ⅱ. Major Content 

▶ Significance of current proactive local government financial management systems 

○ A medium-term local government finance plan includes development plans of local governments and mid- and long-term forecast of their financial demand; functions as a multi-year budget complementing the limitations of a one-year budget, and contributes to enhancing predictability of local government finance and facilitating a strategic allocation of resources. 

○ An investment appraisal system performs a function of appraising the feasibility and efficiency of a local government finance investment project in advance to prevent over-investment, overlapped investment or pork barrel projects, thereby enhancing the efficiency and soundness of local government finance.

○ A management system of Local Government Bonds allows a local government to issue Local Government Bonds under specific conditions and limitations to prevent the increase of debts of the local government, thereby enhancing the soundness of local government finance. 

▶ Legal issues of individual system and improvement measures

○ Medium-term local government finance plan

- A medium-term local government finance plan can be compared with a national financial management plan under the National Finance Act. The National Finance Act clearly states that the purpose of the national financial management plan is to promote efficiency and soundness in financial management while the Local Finance Act simply provides that the purpose of the medium-term local government finance plan is to manage local government finance in a planned manner. Thus, through the amendment to the Local Finance Act, the purpose of the medium-term local government finance plan can be clearly stipulated.

- In order for the medium-term local government finance plan to function as a multi-year budget, securing the connection with actual budget is important. In practice, lack of connection with budget is pointed out as a main issue. Therefore, it is necessary to establish a system that can improve the accountability of local governments in formulating a medium-term local government finance plan. Specific recommendation is to amend the Local Finance Act in order to publicly announce, to local residents, the difference between the budget under the medium-term local government finance plan and the actual budget. 

- In addition, the National Finance Act stipulates accompanying documents including the State obligations management plans, which are required to be attached when the government submits the national financial management plan to the National Assembly.  However, under the Local Finance Act, there is no provisions regarding the medium-term local government finance plan. As obligations are one of the important factors directly affecting financial management, it is appropriate to stipulate a statement that the head of a local government should attach a plan to manage soundness of local government finance according to the Local Finance Act when formulating a medium-term local government finance plan and submitting it to the local council in the same manner as the government submits its financial plan to the National Assembly.

- Article 33 (9) of the Local Finance Act provides for a deliberative committee on local government finance plan to be established under each local government and Article 33 (10) of the same Act delegates the organization and operation of the deliberative committee to municipal ordinance of the local government. This causes a big difference in the organization of a deliberative committee on local government finance plan of each local government. Under some municipal ordinances, vice mayor or vice governor may be appointed as the chairperson of the deliberative committee even through the deliberative committee has the nature of advisory committee. To solve such difference, standards generally applicable to all local governments should be prepared under the Local Finance Act. 

○ Investment appraisal system 

- Projects subject to investment appraisal under the Local Finance Act are classified based on project cost. However, as land price shows big differences among regions, uniform application of project costs, which include the land price is contradictory to the principle of proportionality and equality. Thus, in classifying the subjects and types of investment appraisal, it is necessary to discuss measures to take into account conditions and circumstances of each individual local government. 

- A project with a total cost of at least 50 billion won is subject to undergoing a feasibility study or preliminary feasibility study before investment appraisal. The application of standard of a total cost of at least 50 billion won may limit projects conducted by a local government, which is subject to a feasibility study. As a feasibility study is an important system that can analyze priority and effect of projects, it is possible to propose that the Local Finance Act should be amended in the direction of extending the scope of projects by easing the current standards and enhancing binding force of the results of a feasibility study. 

- Article 37 of the Local Finance Act delegates matters concerning subjects of investment appraisal and the procedure and standard of a feasibility study to the Presidential Decree and municipal ordinances uniformly and comprehensively. As a result, the Presidential Decree of the Local Finance Act and the Rules on Appraisal of Local Investment Projects, which is the Ordinance of the Ministry of the Interior and Safety, specifically prescribe the main content regarding the investment appraisal system. In particular, the Rules on Appraisal of Local Investment Projects provides for the basic and significant content regarding the investment appraisal system, which is not dealt with under the Local Finance Act and the Presidential Decree of the same Act. Thus, it is necessary to overhaul legal systems related to the investment appraisal system.

○ Issuance of Local Government Bonds

- Currently, the limits of issuance of Local Government Bonds are evaluated as a measure of strengthening the autonomy of local governments, but the autonomy of local governments is still restrictively guaranteed in the issuance of Local Government Bonds. The Minister of the Interior and Safety is in charge of presenting the standards for calculating the limits, so the local governments should pre-consult with the Minister of the Interior and Safety to issue Local Government Bonds beyond the limits, before obtaining a resolution from the local council. 

- While the intervention of the central government has a certain strong point, an excessive intervention can worsen the elasticity and flexibility of local finance. In practice, a system that can manage and control a financial risk caused by the increase of debts in a local government already exists. Thus, regarding the issuance of Local Government Bonds, discussion is needed about a system that can publicly announces the matters related to the control by the local council, not by the central government and matters related to the issuance of Local Government Bonds as well as can collect opinions from residents.

- In addition, the introduction of a certain rules on finance can be proposed to manage the existing debts of a local government. However, reviews are needed on relevant standards, debt management in a special circumstance, and relation between supervisory agencies and the current system for managing a financial crisis.

▶ Development direction of local government financial management system for realizing autonomous administration

○ The Local Finance Act and its Presidential Decree provide for the authorities of the Minister of the Interior and Safety regarding proactive local government financial management systems under the multiple provisions. This is the case of ex-post local government financial management systems. In other words, the current local government financial management systems are established under the control of the central government, rather than under the guarantee of the autonomy of local governments. 

○ It is impractical for local government to perfectly control their own financial management, but the intervention of the central government in a wide range can hamper the autonomy and flexibility of financial management of local governments. Moreover, there are certain limitations in the central government’s ability to accurately identify the circumstances and status of each individual local government.  

○ In this regard, to realize autonomous administration, which is guaranteed under the Constitution, and to enhance the autonomy of local  government finance, the current local government financial management systems should be reformed in the direction of tightening the control by the local council, not by the central government, and expanding the scope of participation by residents. 

 

Ⅲ. Expected Effects

This study

○ can be utilized as a basic data in conducting research on local government financial management systems; 

○ presents limitations of the current local government financial management systems and proposes measures to improve them;

○ proposes measures to improve local government financial management systems to guarantee the decentralization and autonomous administration;

○ can be utilized as reference in amending relevant statutes and regulations regarding local government financial management systems.