When looking at the public sector, people not familiar with the structures and the relationship between administrations and the political level often ask how its governance structure compares to other environments, such as the private sector.
Governance in the private sector is based on the management and control of a traditional principal – agent relationship. A principal, invested with a certain power, such as money or public support, asks an agent to execute certain roles and responsibilities it does not deem itself adequately capable of, for a compensation. This translates down into the organisation structures all the way to the proverbial work floor, or desk in the case of an administration. Responsibility is delegated down. Governance describes the structures put in place to ensure such a delegation continues to function well, without abuse by either the principal or the agents and with the proper safeguards built in to avoid a crowding out of minority shareholders. But how does this translate to a public sector context? We will see that this principal-agent concept and the related ideas on delegation and control hold pretty well in a public sector environment.
We, the people, are the principals
As citizens, we are ultimately the shareholders of government. As tax payers we can claim certain rights as a result of our willingness – albeit sometimes begrudgingly – to pay these taxes. One of these rights is the right to elect our representatives. We elect these representatives to – what is in a word – represent us, because a direct democracy actually turns out to be quite difficult to manage when dealing with populations of any meaningful size.
First level principal-agent delegation
As principals we select by means of an election a first group of agents to fulfil the task of managing the country. This represents the first level of principal-agent relationships.
An important risk is that because of the number of people voting, some people whose ideas are outside of the “norm” can feel significantly disenfranchised. People often wonder whether their vote really matters. Significantly disenfranchised people sometimes turn to extremist parties to make the point they don’t feel their ideas are represented. These more extremist ideas sometimes turn out to be indicators of an undercurrent running through society. They are then picked up and integrated into mainstream political party programs.
Oversight on the first level principal-agent delegation
Note that the election mechanism is the only “control” mechanism we have in place to manage that first level of principal-agent relationships. However, that statement is not entirely true, or at least incomplete.
Let me elaborate on that. Representatives are elected locally (within a certain geographical area) and can usually only get on the ballot if they have the support of a political party. To get the support of an established political party, you need to be considered as a viable candidate by that political party. And the most common way to achieve that is to start building your political credibility at the street level, by actively engaging in the local political scene. There are some noteworthy exceptions to this rule, as parties that see a sudden upsurge in popularity often scramble to find good candidates will confirm, but even these “new” candidates will need to build a local credibility to get elected the next time around, when they can no longer coast on the popularity of their party.
That said, there is no permanence in the control of the people on their representatives, but there is oversight in the form of civil society monitoring. Depending on what the representative is specialised in, this monitoring may be very strict or non-existent.
Second level agent-agent delegation
Within this body of agents representing us principals, the representatives – the representatives of the people, assembled in parliament, and structured in parties representing broad idea sets – determine among themselves, based on which party or coalition of parties has the majority in the representative body, who will be selected to govern us. Within their ranks, and sometimes even outside of their ranks, they choose the ministers who will form the government. The agents choose the 2nd level agents, usually – but not always – among their peers. This is the second level agent-agent relationship.
Note that this selection is very unlikely to be unanimously approved. Rather, it will be a selection which is supported by the majority but opposed by the opposition. There are hearings, but they come after the selection and are about the longer term vision a minister has on certain issues within his or her area of responsibility.
Oversight on the second level principal-agent delegation
There is a more formal oversight on this second level of delegation. The Court of Auditors functions a broad terms just like a certified public auditor would – I once heard the Court of Auditors referred to as the largest CPA firm in the country – but they have also built capabilities to assess beyond the mere financial evaluations, with more and more focus being put on the assessment of the internal control evironment, with COSO or rather INTOSAI, a COSO based public sector adaptation, as a reference framework.
There is often critique directed at the traditionalist ideas of the Court of Auditors, but in my opinion this oversight mechanism has kept up admirably well with governance evolutions. Essential new governance aspects such as regular rotation of audit responsible collaborators is not yet firmly embedded everywhere, but the Court has shown itself to be aware of some of the remarks directed at it.
In essence, the Court of Auditors remains the foremost structural oversight system reporting to parliament. I’m making abstraction here of ad hoc or even structural commissions the parliament can set up for a specific purpose.
The third level of agent-agent delegation
But a minister is not working alone. In order to do the work, he is supported by an administration, and delegates the operational responsibility to the management of that administration. A minister as such acts as a board of directors would towards a management team in a private sector company. And there are a number of control structures in place in these administrations as well.
The federal Copernic reform of the early ’00’s gave each federal government service (the former ministries) a management team. The president of the federal government service acts like a CEO and has comparable authority. He in turn has a team which consists of a number of directors-general who manage the line services while staff directors manage the support services.
Oversight on the third level of agent-agent delegation
There are a number of complementary, and sometimes overlapping third line of defence controls present in a typical federal administration. First, the minister of the budget has his inspectors in each administration. The finance inspectors, as they are called, although budget inspectors would be a more appropriate name, have a double role. First, they are to ensure compliance with the budget related laws. Second, they have an advisory role to the minister responsible for that specific area. While their advice is not necessarily the end of any discussion on how to use the available means, trying to circumvent their advice takes quite a significant administrative procedure.
Does a finance inspector have a parallel in a private sector company? Yes, but in private sector this third line of defence role is seldom permanent. Imagine that a court would appoint a financial watchdog to a company, to monitor and avoid certain spending behaviours and to ensure legal compliance. Imagine that watchdog being an overall nice person, willing to impart some of his or her advice to the organisation. That would pretty much be the role of the finance inspector if he or she were to operate in the private sector.
Within the internal control structure of any federal government service are other, more second line of defence roles that exist, such as a “controller” function whose responsibility it is to approve budgetary reservations. I’m not going into these roles in this blog post.
The role of internal audit
What had been missing, and was initially described in Royal Decrees going back to 2002 but never implemented, was a third line of defence oversight structure supporting the minister in his or her role as board of directors, looking not just at the financial dimension but first and foremost at the operational dimension: an internal audit function. Where parliament has the Court of Auditors, where the minister responsible for the budget has his finance inspectors, the minister responsible for the content has no structural oversight capability in place. And this is why the internal audit function in the Belgian federal government is so necessary.
Internal audit structure and independence
The initial 2002 Copernic documents and the Royal Decrees spoke of an independent audit committee and internal audit department for each federal government service. Some federal government services built these functions, sometimes on the remains of prior internal audit departments, dismantled during Copernic to perform project and change management. Only few succeeded in forming audit committees. While the cost of putting such structures in place was an element, I believe the most important factor impeding the timely establishment of these functions was the availability of capable audit committee members.
Staffing at least thirteen audit committees with between three and five competent members requires between 35 and 65 people. Even with some overlaps this would have meant finding between 20 and 30 people with relevant internal audit and content experience that were independent. And this turned out to be an insurmountable task.
However, the Royal Decrees were revised in 2007 and by the end of 2010 there finally was a single audit committee for the Belgian federal government. This audit committee will do the necessary oversight, enforce internal auditor independence and function as the go between between the auditors and the minister, while maintaining a close link to the presidents of the federal government services.
The new central federal internal audit service that will be established in the coming months will likely be a single internal audit service for the entire Belgian federal government, but with links to each of the federal government services, in order to keep abreast and informed of the internal control environment. The exact modalities are still to be discussed and established. Suffice to say that after thirteen years, one of the most important control framework gaps has finally been resolved.
Key challenges for the new central federal internal audit service
I believe the following three elements to be the most relevant short term challenges to the new central federal internal audit service:
- Staffing: there is a shortage of good internal auditors. Not just in Belgium, but in the world. Finding and more importantly keeping high potential profiles to work in this challenging environment will require a creative approach to the recruitment, the training and the day-to-day work;
- Single audit: there are many different actors active in the second and third lines of defence in a public sector organisation. Ensuring the audit burden is as low as possible to the organisations being audited while maintaining independence and timely, complete coverage will be another important challenge;
- Remaining in touch with the federal government services: one of the most important challenges to the Flemish internal audit – also a centralised internal audit – was remaining in touch with the departments it audited. As an external service, the auditors were seen as “not one of us” and it took a lot of time and a high degree of diplomacy of its head of internal audit to convince these departments to show and tell all. An internal audit needs to be seen and believed to be internal in order for the people being audited to open up. Otherwise is will just be like the Court of Auditors, but with less power and prestige. And the internal audit service has a place next to the Court of Auditors.
Exploring The Black Box 