new development: the role of accounting in assessing local government sustainability

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This article was downloaded by: [134.117.10.200] On: 28 November 2014, At: 07:46 Publisher: Routledge Informa Ltd Registered in England and Wales Registered Number: 1072954 Registered office: Mortimer House, 37-41 Mortimer Street, London W1T 3JH, UK Public Money & Management Publication details, including instructions for authors and subscription information: http://www.tandfonline.com/loi/rpmm20 New development: The role of accounting in assessing local government sustainability Manuel Pedro Rodríguez Bolívar, Andrés Navarro Galera & Laura Alcaide Muñoz Published online: 07 Apr 2014. To cite this article: Manuel Pedro Rodríguez Bolívar, Andrés Navarro Galera & Laura Alcaide Muñoz (2014) New development: The role of accounting in assessing local government sustainability, Public Money & Management, 34:3, 233-236, DOI: 10.1080/09540962.2014.908035 To link to this article: http://dx.doi.org/10.1080/09540962.2014.908035 PLEASE SCROLL DOWN FOR ARTICLE Taylor & Francis makes every effort to ensure the accuracy of all the information (the “Content”) contained in the publications on our platform. However, Taylor & Francis, our agents, and our licensors make no representations or warranties whatsoever as to the accuracy, completeness, or suitability for any purpose of the Content. Any opinions and views expressed in this publication are the opinions and views of the authors, and are not the views of or endorsed by Taylor & Francis. The accuracy of the Content should not be relied upon and should be independently verified with primary sources of information. Taylor and Francis shall not be liable for any losses, actions, claims, proceedings, demands, costs, expenses, damages, and other liabilities whatsoever or howsoever caused arising directly or indirectly in connection with, in relation to or arising out of the use of the Content. This article may be used for research, teaching, and private study purposes. Any substantial or systematic reproduction, redistribution, reselling, loan, sub-licensing, systematic supply, or distribution in any form to anyone is expressly forbidden. Terms & Conditions of access and use can be found at http:// www.tandfonline.com/page/terms-and-conditions

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Page 1: New development: The role of accounting in assessing local government sustainability

This article was downloaded by: [134.117.10.200]On: 28 November 2014, At: 07:46Publisher: RoutledgeInforma Ltd Registered in England and Wales Registered Number: 1072954 Registered office: MortimerHouse, 37-41 Mortimer Street, London W1T 3JH, UK

Public Money & ManagementPublication details, including instructions for authors and subscription information:http://www.tandfonline.com/loi/rpmm20

New development: The role of accounting inassessing local government sustainabilityManuel Pedro Rodríguez Bolívar, Andrés Navarro Galera & Laura Alcaide MuñozPublished online: 07 Apr 2014.

To cite this article: Manuel Pedro Rodríguez Bolívar, Andrés Navarro Galera & Laura Alcaide Muñoz (2014) Newdevelopment: The role of accounting in assessing local government sustainability, Public Money & Management, 34:3,233-236, DOI: 10.1080/09540962.2014.908035

To link to this article: http://dx.doi.org/10.1080/09540962.2014.908035

PLEASE SCROLL DOWN FOR ARTICLE

Taylor & Francis makes every effort to ensure the accuracy of all the information (the “Content”) containedin the publications on our platform. However, Taylor & Francis, our agents, and our licensors make norepresentations or warranties whatsoever as to the accuracy, completeness, or suitability for any purpose ofthe Content. Any opinions and views expressed in this publication are the opinions and views of the authors,and are not the views of or endorsed by Taylor & Francis. The accuracy of the Content should not be reliedupon and should be independently verified with primary sources of information. Taylor and Francis shallnot be liable for any losses, actions, claims, proceedings, demands, costs, expenses, damages, and otherliabilities whatsoever or howsoever caused arising directly or indirectly in connection with, in relation to orarising out of the use of the Content.

This article may be used for research, teaching, and private study purposes. Any substantial or systematicreproduction, redistribution, reselling, loan, sub-licensing, systematic supply, or distribution in anyform to anyone is expressly forbidden. Terms & Conditions of access and use can be found at http://www.tandfonline.com/page/terms-and-conditions

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Financial managers are being required toproduce higher quality, transparent financialinformation in order to detect financial distressin local government (Zafra et al., 2009) andachieve a sustainable financial balance (Burrittand Schaltegger, 2010).

One of the crucial issues relating tosustainability is intergenerational equity, sinceit is necessary to include the effect of differentlevels of intergenerational transfers uponefficiency in the allocation of resources(Norgaard, 1992).

In the field of public sector accounting,GASB (1987, 1990) considers ‘intergenerationalequity’ to be a concept closely linked to theeconomic performance of a municipality. It isdefined as the ability of the income it generatesin any one year to cover the costs of deliveringthe services it needs to provide. In this regard,governmental financial reports, particularlyincome statements, play a fundamental role inassessing financial sustainability (IFAC, 2011a).Many authors (for example Navarro et al.,2010) believe that government financial reportsshould provide all the relevant informationrequired to assess the capability of a publicsector entity to maintain service delivery overtime. Reports should therefore facilitatedecision-making on the basis of the concept ofinter-period equity, such as any variation in thevolume of current services (increases ordecreases); the search for new sources ofresources; and requirements for users to payfor specific services.

Analysis of financial sustainability isespecially relevant for local governmentsbecause these bodies are often closest to the

general public and shoulder the greatest burdenas far as public services are concerned. Inaddition, local governments manage a highvolume of budgets and provide a wide varietyof services (Saiz, 2011). Finally, the globaleconomic crisis and the accumulated deficitand debt in many large municipalities (Muñoz-Cañavate and Hípola, 2011) mean that it isessential to analyse the capacity of localgovernments to continue providing services.In fact, there is a strong consensus of opinionthat the development of sustainability will notbe met without the full involvement of localgovernment and of civil society (for exampleEchebarria et al., 2009).

However, present-day governmentfinancial statements are often not good enoughfor assessing the financial sustainability orotherwise of public sector entities (Williams etal., 2010). Minimal research on the analysis offinancial sustainability in local publicadministration has been done. Indeed, in thelocal context, although numerous studies havebeen made of financial disclosure andaccountability (Guillamón et al., 2011), fewhave focused on sustainability reporting(Dumay et al., 2010; Guthrie and Farneti, 2008).

This paper seeks to contribute to advancingthe role of accounting in the assessment of localgovernment sustainability. We present a criticalanalysis of the usefulness of annual incomestatements for the measurement of inter-periodequity.

Intergenerational equityHicks (1945, p. 205) suggested nearly 70 yearsago years ago that economic sustainability

Manuel PedroRodríguez Bolívar isan associate professorin the Department ofAccounting andFinance, Universityof Granada, Spain.

Andrés NavarroGalera is a professorin the Department ofAccounting andFinance, Universityof Granada, Spain.

Laura AlcaideMuñoz is a lecturerin the Department ofAccounting andFinance, Universityof Granada, Spain.

New development: The role ofaccounting in assessing localgovernment sustainabilityManuel Pedro Rodríguez Bolívar, Andrés Navarro Galera andLaura Alcaide Muñoz

In order to evaluate financial sustainability, public sector managers are beingpressured to provide better financial information and information transparency.This article examines the role of accounting in assessing the sustainability of localgovernments and analyses of the usefulness of annual income statements in themeasurement of ‘inter-period equity’.Keywords: Cutback management; financial sustainability; income statement; inter-periodequity; local government.

http://dx.doi.org/10.1080/09540962.2014.908035

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should be included within the concept of‘income’. In this regard, income is defined asthe maximum amount that a person canconsume during a period and still be as well-offat the end of the period as he/she was at thebeginning. Since then this idea has been takenup in a number of academic papers.

For example, Stavins et al. (2003) and Bath(2001) relate the measurement of sustainabilityto the revenues and expenses generated by apublic administration because economists tendto see a better world whenever the value of themagnitude of profits is greater than that oflosses. Stavins et al. (2003) suggest that a broadapproach should be taken to sustainability,based on a growth that combines dynamicefficiency—measured on the basis of thedifference between revenues and expenses—with future maintenance. Padilla (2002) andPezzey and Toman (2002) have warned thatthe mere assessment of efficiency in theconventional analysis of sustainability losesmuch of its legitimacy within the framework ofintergenerational analysis because anunderstanding of the rights of futuregenerations is vital.

According to the paradigm of the usefulnessof financial information framework, GASB(1987, 1990), IPSAS No. 1 and IPSAS No. 3(IFAC, 2011a) and IFAC’s sustainabilityframework (2011b) define the income statementas being that made up of the sum of the surplus/deficit from ordinary activities and of thesurplus/deficit from extraordinary items.According to these IPSASs, ‘ordinary’ activitiesare those undertaken by an entity as part of itsservice-providing duty, and ‘extraordinary’activities are those that should not be repeatablein the foreseeable future within theenvironment in which the entity operates.

While intergenerational equity isconsidered essential to the assessment ofsustainability, the importance of the incomestatement in measuring depends on the capacityto represent this equity from the point of viewof making decisions in the future. This objectiverequires more emphasis on having informationavailable about the financial years to come thanon explaining the reasons for the figurespertaining to the present one, which is in linewith the most up-to-date conceptualframeworks (see IASB, 2010; FASB, 2010;IFAC, 2011a) and recent internationalpronouncements (IFAC, 2013).

Within this context, we investigated twoimportant issues:

•Does the information in an income statement

offer a sufficiently representativemeasurement of inter-period equity to allowus to assess the financial sustainability ofpublic administrations?

•If not, what improvements need to be madein guides and standards?

Local government income statements andfinancial sustainabilityAny approach to financial sustainability oughtto contain the required information to beable to assess whether the present activitiesof a local government might put their capacityto provide services in the future at risk.Future risk management is crucial to financialsustainability (IFAC, 2011b). Therefore itseems to us that including ‘extraordinaryitems’ in an annual income statement woulddistort the accounting balance in terms ofintertemporal equity.

According to IPSAS (IFAC, 2011a),extraordinary items should never appear inan initial budget because of theirunforeseeable and presumably unrepeatablenature. Consequently, the fact that anextraordinary transaction or event mighthave produced effects in the incomestatement for any particular financial yearshould not lead to it being taken into accountwhen measuring sustainability.

One of the problems of applying accrualaccounting is that some items of revenue orexpenditure that do not have implications forthe future can be classifed as ‘ordinary’. So anyestimate of local government revenue is subjectto uncertainty as a result, for example:

•Legal changes affecting municipal taxes.•Changes in demand for public services.•Modifications in national and international

financing organizations.•The effects of international mechanisms for

correcting deficit and debt.

On the expenses side, future spending canalso be subject to uncertainty as a result ofchanges in the terms and conditions of publicsector employment; ways of calculatingdepreciation; or the final outcome of situationsconsidered to be contingent, such as arrears inreceivables or legal cases pending judgement.

An additional risk is a growth in thepopulation receiving local government services.Both the size of the population and the socio-economic characteristics of citizenry are capableof influencing future expenses and revenues,particularly such variables as the dependentpopulation, income per capita and

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unemployment rate (Benito et al., 2010;Guillamón et al., 2011).

So income statements must be improved inorder to measure inter-period equity (see figure1 above):

•First, extraordinary activities cannot be shownin income statements.

•Second, as far as local government expensesare concerned, it is important to recognizethose expenses which might not be repeatedin the future, so income statements need todistinguish between fixed and variableexpenses.

•Third, revenues which might not be receivedin the future should also be adjusted in theincome statement.

ConclusionsMeasuring financial sustainability is crucialin the face of economic crises, and this hasled to the concept of intergenerationalequity—first proposed by GASB in 1987—becoming important in analyses of publicpolicy-making. Current governmentfinancial statements, especially incomestatements, have a key role in the assessmentof financial sustainability, but this article hasrevealed serious weaknesses in terms ofpredicting the capacity of local governmentsto maintain levels of public services overtime.

This article has suggested improvementsto local government income statements tomeasure financial sustainability moreeffectively. These include removingextraordinary items and those revenues andexpenses that are unlikely to be repeated inthe future. Additional research would beuseful on the measurement of financial risks

associated with uncertainty, the analysis ofthe dimensions of the long-term fiscalsustainability (IFAC, 2013), and the applicationof the matching principle of accounting fromthe point of view of sustainability.

AcknowledgmentsThis research was carried out with financialsupport from the Regional Government ofAndalusia (Spain), Department of Innovation,Science and Enterprise (research projectsnumbers P09-SEJ-5395 and P11-SEJ-7700) andfrom the Spanish National R&D Plan throughresearch projects numbers ECO2010-17463-ECON and ECO2010-20522-ECON (Ministryof Science and Innovation).

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Income statement for the financial year obtained by applying the current IPSAS (1)

+ Negative entries for extraordinary activities (2)

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Corrected income statement for the financial year (intergenerational equity forfinancial sustainability) (1) + (2) - (3) - (4) + (5)

Figure 1. Proposed changes to income statements.

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