Ethiopian Public Finance

Fiscal Federalism
Federalism is a system of government in which there is division of powers and functions between
federal government and several regional governments, each of which in its own sphere coordinates
with the others and each of which acts directly on the people through its administrative machinery.
Ethiopia follows a federal government structure. The government is divided into federal
government and nine regional governments, namely, Tigray, Afar, Amhara, Oromiya, Somali,
benishangul/Gumuz, Southern nations Nationalities, Gambela, and Harare. There are also two
special administrations: Addis Ababa and Dire Dawa. The form of government is parliamentary
having both Federal and state governments with legislative, executive, and judicial powers.
Federalism requires decentralization of government decision-making and implementation involves
delegating more power to the decentralized divisions of the government. The goal of this strategy is
to speed up government action and to deliver a more suitable package of services needed by the
locality. One component of federalism is fiscal federalism which gives local governments some
taxing power and expenditure responsibility, and allows them to decide on the level and structure of
their expenditure budgets. The main goal of fiscal decentralization is to move governance closer to
the people, and this does require strengthening local government finances. Fiscal decentralization
requires local governments with some autonomy to make independent fiscal decisions.
Fiscal federalism has four components:
Revenue Assignment
Expenditure Assignment
Intergovernmental Transfer (subsidy)
Borrowing

Revenue Assignment
The division of taxation power is a principal aspect of the Constitution that provides the legal
framework of the Ethiopian federal system. The Constitution divides the taxation power into three
categories, namely the federal power of taxation, the state power taxation and the concurrent
power of taxation.
The FDRE Constitution under Article 96 enumerates the exclusive revenue sources of the federal
government. They include:
Foreign trade tax
Tax from employees of central government and international organizations
Personal income tax, value-added tax, turnover tax, and excise taxes from the
enterprises owned by federal government
Tax on lottery and other chance winning
Tax from air, rail and marine transportation
Tax on rent of houses and properties owned by central government
Fee for services rendered and licenses issued by federal government
Revenue of Regional Government:
Employment income tax from employees of regional government and from private
employees
Personal income tax, value-added tax, turnover tax, and excise taxes from enterprises
owned by regional government
Agricultural income tax from farmers and rural land use fee
Profit , value-added tax, turnover tax, and excise taxes of individual traders
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Tax on income from inland water transport

Rent of land and royalty
Income tax from small-scale mining operations
Fee for services rendered and for license issued by regional government.

Joint Revenue:
Personal income tax, value-added tax, turnover tax, and excise taxes of enterprises
owned jointly
Profit, value-added tax, turnover tax, excise taxes, and dividend of organization
owned jointly.
Rent of land, royalty and profit tax of large-scale mining operations
Petroleum and gas operations
Forest royalty
The division of joint revenues is made based on a decision made by a committee appointed by the
prime minister and consists of representatives of both governments. The committee is reportable to
the Council of Ministers. The following table shows how the joint revenue is shared between the
federal government and regional government.
The Division of Joint Revenue
Federal Government
Jointly Established Enterprises
Profit Tax
Employment Income Tax
Value-added Tax
Turnover Tax
Excise Taxes
Companies
Profit Tax
Dividend Income Tax
Value-added Tax
Turnover Tax
Excise Taxes
Mineral & Petroleum Operation
Profit Tax
Royalty

Regional Government

In proportion to their respective capital contribution

50%
50%
70%
30%
70%
30%
70%
30%
50%
50%
70%
70%
70%

50%
50%
30%
30%
30%

50%
60%

50%
40%

Undesignated Power of Taxation: The power of taxation mentioned in the Constitution is not
exhaustive. To avoid unnecessary dispute between regional governments and the federal
government when a new taxable activity emerges, Article 99 of the constitution states that The
House of Federation and the House of peoples Representatives shall, in a joint session, determine
by a two-thirds majority vote on the exercise of powers of taxation which have not been specifically
provided for in the constitution.
Public Expenditure
The federal structure of Ethiopia allocates functions and responsibilities, and hence expenditure, to
federal government and regional governments. Art 51 of the Constitution entrusts the federal
government with power subject to national defense, international or foreign relations, citizenship,
immigration and naturalization; interstate commerce, postal and telecommunication services,
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weights and measures, domestic currency coinage and foreign currency usage, banking, patents and
copyrights, operation of air, rail and water transports and highways linking two or more states,
enacting labour, electoral, procedural, criminal, and commercial codes. Art 52 (2) assigns to
regional governments such power and functions as enacting and executing the state constitutions;
establishing state police, maintaining public peace and order; administration of land and other
natural resource within the region; and formulating and executing economic, social and
development policies, strategies and plans of the state. The states also have power over areas of
education, health and agriculture. Both regional governments and federal government are required
to cover expenditure to be incurred in connection with their respective functions and
responsibilities. The following table shows the expenditure assignment to the three levels of
government.
Level of Government

Federal
Government

Regional
Government

Woreda

Expenditure Assignments
Defense
Foreign relations
Justice and internal security
Macro stabilization
International trade
Currency and banking
Immigration
National interest capital projects
Shared with regions: environment, airlines, and
railways
Secondary education and colleges
District and referral hospitals
Nursing schools
Water supply
Regional and zonal roads
Regional police
Maintenance of irrigation systems
Maintenance of smaller-scale water supply projects
and energy programs
Agricultural planning
Shared with federal: justice, environment, police, and
vocational and preparatory schools
Primary education
Basic health care
Agricultural extension programs
Veterinary clinics
Land use administration
Water development, wells construction and
maintenance
Local police
Local roads
Shared with regions: small-scale capital projects

Intergovernmental Transfer (subsidy)

Intergovernmental transfers refer to the transfer of money from central government to regional
governments. It has been employed in all federations to achieve a variety of economic objectives. In
Ethiopia the transfer is in the form of subsidy. The main objectives of subsidy in Ethiopia are:
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1. offsetting fiscal imbalances or closing fiscal gaps;

2. establishing horizontal equity across the federation and
3. offsetting inter-jurisdictional benefit spillovers or for merit good reasons
Fiscal Imbalances: An important reason for giving transfers arises from fiscal imbalances or
mismatch between revenues and expenditures of different governmental units. Fiscal imbalances
can be vertical or horizontal. Vertical fiscal imbalance refers to the difference between
expenditures and revenues at different levels of government, and horizontal fiscal imbalance
refers to the differences between revenue and expenditure levels within a particular level of
government.
Fiscal Equity: The argument for intergovernmental transfers on equity grounds has been made
either in terms of ensuring horizontal equity of individuals across the states, or simply of ensuring
inter-regional equity. Both the approaches build a case for unconditional or general purpose
transfers from the centre to the states on a progressive scale so as to offset the fiscal disabilities
arising from low revenue capacity and high expenditure needs.
Correction of spillovers: Intergovernmental transfers are seen as a device to resolve the problem of
mismatch between benefit spans from various hierarchies of public goods and exogenously given
spatial jurisdictional domains. When the benefits of public services provided by a state spill over its
jurisdiction, the state ignores the benefits accruing to the non-residents while deciding the amount
of the service provided. The jurisdiction equates the marginal benefits from the public service with
the marginal cost of providing it, and as it ignores the part of the benefit accruing to non-residents
the result is non-optimal provision of the public service. Optimal provision of the service is ensured
through central subsidies to offset the spillovers.
The subsidy from the federal government to the regional government is made based on a formula
approved by the House of Federation. A student can download the recent subsidy formula from the
Houses website at www.hofethiopia.org. The following table summarizes the share of each region
from the subsidy for the past years.
Variables of the Previous Budget Grant Distribution Formula
Year

Variable
Weight in Percent
Size of population
30
Index of development
25
Regional revenue collection
20
1995
Capital Budget allocation for EFY 1994
15
Area
10
Size of population
33.3
Level of development
33.3
1997
Ratio of regional revenue collection to budget
33.3
Size of population
60
Level of development
15
1998
Ratio of regional revenue collection to budget
15
Area
10
Size of population
55
Level of poverty
10
Level of development
20
2000
Revenue collection effort and sector performance
15
Size of population
65
Level of development
25
2004 - 2007 Revenue collection effort
10
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2007/2008

Population
Revenue raising capacity
Expenditure needs

Borrowing
Regional governments are not allowed to borrow from abroad. They can, however, borrow
internally to meet the cash flow timing problem. Borrowing internally requires the permission of
MOFED. It is the federal government that has the power to borrow from abroad.

Ethiopian Public Finance

Source of Government Finance
Domestic Revenue
Tax Revenue
Non-Tax Revenue
Capital Revenue
External Assistance
Multilateral Institutions
Bilateral Assistance
Counter Part Fund Assistance
HIPC Relief Assistance
External Loans and Credits
Multilateral Institutions
Bilateral Loan
Counter Part Fund Loan
Domestic Borrowing

Public Revenue
Public revenue refers to different sources of governments income. The Ethiopian government
revenue is broadly divided into three: tax revenue, non-tax revenue, and capital revenue. The tax
revenue includes income taxes, VAT, TOT, excise tax, custom duty, and stamp duty. The non-tax
revenue includes
Administrative fees and charges: passports & visas, registration of foreigners, work permits,
court fines, court fees, forfeits, business and professionals registration fee, license fees,
warehouse fees, television license fees, coffee inspection & other fees, standards charges,
other fees and charges,
Sales of public goods & services: sales of government newspapers, magazines &
publications, media, advertising revenue, health services, sales of medicines &medical
supplies, medical examinations & treatments, handicrafts, printed forms, prisons
administration revenue, research and development services, vocational and educational
institutions, entertainment, engineering industry cultural services meteorological services
mapping services civil aviation services road transport services; science &technology
services; national examination services; farm products; forest products; and other goods and
service
Government investment income: residual surplus; dividend income from government assets;
national lottery surplus; interest on loan to government agencies; interest on loan to
government employees; interest on government bank accounts; capital charges; lease of land
Miscellaneous revenue: pre-shipment inspection fee; others miscellaneous revenue; sales of
stamps;
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Capital revenue: sales of moveable and immovable properties; privatization proceeds; collection of
principal from on-lending; stamp duty.
The government receives grants from foreign governments and other developmental organizations.
The grant may be in cash or in-kind. The grant and assistance may be obtained from multilateral
institutions (such as African Development Fund, European Union, Food and Agricultural
Organization, International Development Association, UNICEF, United Nations Development
Program, United Nations Fund for Population Activity, World Health Organization), bilateral (grant
from countries), and HIPC debt relief assistance.
The following table summarizes the amount of government revenue for the past few years.
(In millions)
Tax revenue
Non-tax revenue

Grants
Total revenue

1997/8
5292.23
3089.12
1185.22
9566.57

1998/9
5528.89
4021.62
1644.75
11195.26

1999/0
6130.57
3639.13
1530.91
11300.6

2000/1
7393.06
3147.09
3195.55
13735.7

2001/2
7857.94
2573.12
1323.25
11754.3

2002/3
8194.3
3505
2191.5
13891

2003/4
10771
2941.07
4001
17713.1

2004/5
12397
3195
4565
20157

2005/6
14158.8
5371.13
3731.75
23261.6

2006/7
16035
4443.73
7583
28061.7

Public Expenditure
Since the modern government represents a welfare state, the responsibility of the government is to
bring about maximum social welfare. In addition to this, it has to perform various other functions,
which require heavy expenditures. Public expenditure refers to the expenses, which the government
incurs for its own maintenance as also for the society and the economy as a whole. Classifying
expenditures is important in policy formulation and the identification of resources allocation among
sectors. An expenditure classification system provides a normative framework for both policy
decision making and accountability. The best-known classification systems are the functional
Classification of the Functions of the Government (COFOG), developed by the United Nations,
and the Government Financial Statistics (GFS) classification, developed by the IMF. Expenditures
are classified for different purposes, such as: the preparation of reports that fit the needs of report
users (policy decision makers, the public, and the budget manager); the administration of the budget
and budgetary accounting; and the presentation of the budget to Parliament.
According to the different needs for policy formulation, reporting and budget management
expenditures are classified according to the following categories:
function, for historical analysis and policy formulation;
organization, for accountability and budget ration;
economic category, for statistics (GFS)
object (i.e., line item), for compliance controls and economic analysis;
Classification by Function: A functional classification organizes government activities according
to their purposes (e.g., education, defense, health, social security, housing, etc.). It is independent of
the government organizational structure. A functional classification allows analyzing the allocation
of resources among sectors. It also allows producing historical surveys of government spending and
comparing data from different fiscal years.
Line-item classification: For budget management purposes, the budgets include an object
classification (also called line-item classification). This line-item classification lists expenditures
along categories used for budgetary control and monitoring, such as different categories of
personnel expenditures, travel expenses, printing.
Administrative classification: Public expenditures can be classified based on governmental
organization. Expenditures are classified into separate sections for each ministry, department, or
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agency. It is used for clear identification of responsibilities in public expenditure management and
also for day-to-day administration of the budget.
Economic classification: Public expenditures are classified into recurrent expenditure, capital
expenditure, interest payment, and repayment of loan. Recurrent expenditure covers all items to be
funded during the current fiscal year like salaries, materials, and services necessary for the ongoing
activities. Capital expenditure refer to the cost of acquiring buildings, roads, dams, equipment and
other items that will have a life-span of more than 1 year. The following table summarizes the
expenditure of the government over the last few fiscal years in millions birrs.
Recurrent
Expenditure
Capital
Expenditure
Total
Expenditure

1997/98

1998/99

1999/00

2000/01

2001/02

2002/03

2003/04

2004/05

2005/06

2006/07

7190.52

10533.06

13678.4

11824.6

12125.7

14219.402

13008

13236

15234

17323.9

3608.32

4144.16

3855.1

5296.02

7204.13

4582.301

8535.44

11343.3

14041.8

14041.8

10798.84

14677.22

17533.5

17120.7

19329.8

18801.703

21543.5

24579.3

29275.8

31365.7

Even if the government expenditure is broadly classified into recurrent and capital expenditure,
expenditures are also classified based on functions. The major classification is into general services,
economic services, social services, pension payments, interest & charges, subsidies, and external
assistance. The following table shows what is included under the major functions.
General Services
Organ of the State
Justice
Defense
Public order & security
General services

Economic Services
Agriculture & Natural Resource
Trade & Industry
Mines & Energy
Tourism
Transport & communication
Urban devt. & construction
Economic development studies

Social Services
Education & training
Culture & sports
Public health
Labour & social welfare
Rehabilitation

Public Debt
It is obvious that if any government's expenditure exceeds its revenue, then this deficit will be
financed either by internal or external borrowing. Ethiopia is not an exception. The external debt of
the government is divided into three: multilateral, bilateral, and private creditors. Multilateral
creditors are institutions such as the IMF, the World Bank, African Development Bank, OPEC Fund
for International Development, as well as other multilateral development banks. Bilateral creditors
include governments and their agencies (including Central Bank), autonomous public bodies or
official export credit agencies. Private creditors include foreign commercial banks and suppliers.
The government borrows internally through issue of bonds, sale of treasury bills and direct
advances from National Bank of Ethiopia. Treasury bills are issued by government to raise money
for short-term. A government may need money to cover salary expenses, operating and project
expenditures before its regular revenue is collected on time. Or it may issue treasury bills to adjust
the amount of money in circulation with its actual demand whenever there is imbalance. Three
kinds of treasury bills, different with respect to their maturity, are issued a monthly (28 days), a
three-month (91 days), and six-month (182 days) bills. Bonds, in general, are long-term written
promissory agreements by which a borrower promises to pay a stated sum of principal and interest
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amount on specific dates to the holder of the bond. Government bonds are those bonds issued by the
government for the purpose of financing, mainly, its recurrent expenditure. With bonds, the interest
rate is generally fixed.
External Debt Outstanding by Source of Financing (at the end of fiscal year) in million USD

Fiscal year Multilateral

Bilateral Commercial Total Debt
Organizations
Outstanding
2001/02
2002/03
2003/04
2004/05
2005/06
2006/07
2007/08

3,623.60
4,273.90
4,679.90
4880.82
4884.66
1,193.06
1,536.86

2472.3
2431
2447.8
787.59
796.82
806.90
953.48

90.4
76.8
72.6
352.59
354.15
314.60
275.81

6,186.30
6,781.60
7,200.30
6021
6035.56
2,314.56
2,766.15

Source: MOFED
Domestic Debt Outstanding By Borrowing Instrument (At the End of Fiscal Year) in Million Birrs

Borrowing
Instrument

2006/07

2007/08

Direct Advance
T. Bills
Bonds
Total

20,827.00
12,346.00
14,658.01
47,831.01

30,425.00
8,291.00
14,408.83
53,124.83

Source: MOFED

Public Financial Administration

One of the main responsibilities of the government is to ensure an efficient and effective utilization
of public resources. Proper utilization of public resources calls for a systematic administration of
public financial resources. Proclamation No 57/1996 and regulation No 17/1997 with its
amendments govern the financial administration of the government. The public financial
administration is about budgeting, execution of budget, reporting, and control of performances.
The Budget Process
A budget is a plan for future spending that builds on certain income expectations. It is the most
important economic policy tool of the government. It is the blueprint for a nation's socioeconomic
policies for each fiscal year. The national budget is thus the fundamental indicator of what
government proposes to do and what objectives it pursues. It presents the government's financial
plans for an upcoming period and is a comprehensive statement of the priorities of the nation.
Beyond the numbers lie the real essence of budgets: a plan, and a concrete programme of action,
determining the activities that governments will spend funds on in the pursuit of development goals;
which sectors of the economy will be expected to pay for said activities; how government will
respond to economic disturbances in the short term; and who will be the direct and indirect
beneficiaries of public services.
The budget is about people and should respond to their needs. It is a way of determining how the
government seeks to fulfill goals for the welfare of people as set out in a country's constitution, in
international instruments and standards (e.g. MDGs), and in government policy statements.
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In general, public budgets have four functions:

1. They are used to reflect the priorities of a government;
2. They serve to evaluate specific public programmes, reviewing the governments activities
annually;
3. They are used to increase economic growth and impact on development; and
4. They are a system of accountability and controls over government officials and agencies,
setting limits on their activities and safeguarding against corruption.
Phases of the Budget Cycle
A standard budgeting process has the following major steps.
Plan Preparation
Budget Call
Budget Preparation
Budget Review
Budget Hearing
Budget Approval
Budget Execution
Reporting & Control
Plan Preparation
The Ethiopian fiscal year runs from July 7 of one year to July 6 of the following year. The budget
process begins with the preparation of a three-year rolling macro-economic and fiscal framework by
the MOFED. This framework provides a three year forecast of economic growth and GDP,
government revenue and expenditure and source of financing, financing of expenditure, the split of
aggregate expenditures between federal and regional government and administrative councils, and
the split of federal expenditures between recurrent and capital. MOFED is expected to prepare and
present the three-year rolling macro-economic and fiscal framework to the Council of Ministries not
later that October 26.
MOFED is also expected to prepare Public Investment Program, which is a rolling three-year
capital expenditure forecast of public bodies. To prepare this document MOFED first send call letter
to public bodies on November 25. After receiving the request to the public bodies, it will review,
amend and consolidate the Public Investment Program. The preparation & consolidation by
MOFED should be completed by February 8.
In addition to the macro-economic and fiscal framework and public investment program, MOFED
prepares and notifies the three-year estimates of subsidy to regional governments and administrative
councils. The notification should be completed by November 25. It also prepares the annual fiscal
plan, which is annual estimate of the upcoming fiscal year revenue, expenditure and financing. It
should be prepared by 24th of January.
Budget Call: Every year, at least three months before the end of the fiscal year the Ministry of
Finance and Economic Development issues annual call letter for recurrent and capital budgets to
different government organization. At regional levels, the Finance Bureaus issue the budget call
letters to different public bodies in their respective regions. The budget call puts the budget ceiling
of the institution.
Budget Preparation: After receiving the budget call, different sections of the organization prepare
their respective budget. The draft budget of the institution is then discussed and reviewed by senior
officials of the respective organization. Finally, the budget proposal that is revised and accepted by
the senior officials is sent to the Finance Bureau (for regional governments) or Ministry of Finance
& Economic Development (for the federal government). If the budget proposal shows variations
from budget ceiling for the year, the institution will be required to give explanation for the
variation.
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Budget Hearing: After receiving the proposed budget from each institution, the Budget Hearing
Committee of Ministry of Finance & Economic Development or Finance Bureau, as the case may
be, requires the official of the budget proposing body to present the proposed budget. The
presentation is followed by discussion and negotiation and the officials are expected to defend their
budget before the Committee.
Budget Approval: Budget proposals accepted by the Ministry of Finance & Economic
Development or Finance Bureau are compiled into one budget document that shows the recurrent
and capital budgets of the country. At the federal level, the Ministry of Finance & Economic
Development submits the summarized budget to the Council of Ministers for review and discussion.
After making modifications, if any, the Council of Ministers will forward the budget document to
the Council of People's Representatives for approval. At regional level, the Finance Bureau submits
the budget to State's Council.
The Council of People's Representatives should approve the budget by 6 th of July. If the Council of
People's Representatives can not approve the budget by the beginning of the fiscal year, the
previous year budget will be implemented on a month-by-month basis until the budget for the
current fiscal year is approved.
Budget Allocation: Following the approval, the budget is published in the 'Negarit Gazetta'. The
Gazetta, however, shows only the headings, sub-headings, and expenditure items of the budget and
not the allocation of the budget to different branches within the respective public bodies. Once the
public body gets the budget allocated under each sub-heading from the concerned Finance Bureau,
it allocates the budget under sub-headings and branches at different levels. This may involve the
revision of plans of action accordingly, for proper execution of the budget.
Budget Execution: Since budget is a monetary estimate for activities to be carried out in the future,
discrepancies may arise upon execution; there may be budget shortage for one sub-program or
another may be in excess both necessitating the transfer of budget. The presentation and approval of
budget transfer requests are done at different levels. Transfers are allowed from the recurrent budget
to the capital budget and from one sub-heading to another within the recurrent budget and from
personnel services to non- personnel services subject to regulations issued by the Council of
Ministers. But no transfer is allowed from the capital budget to the recurrent budget.
Cycle
Planning Cycle
1. Macro-Economic and Fiscal Framework
1.1 Preparation of MEFF
1.2 Approval of MEFF
2. Public Investment Program Preparation
2.1 Public Investment Program call letter
2.2 Submission of Public Investment
2.3 Review and Finalize PIP
3. Notification of a 3-year subsidy estimates
4. Prepare and finalize Annual fiscal plan
Budget Cycle
A. Executive Preparation and Recommendation of budget
1. Budget preparation
2. Notification of annual subsidy budget
3. Issue budget call
4. Submit budget Request
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Calendar
July 8 - November 10
Not later than October 26
October 27- November 10
November 11 - February 8
November 25
Not later than December 25
Dec. 26 - Feb 8.
November 25
January 24
Not later than Feb 8
Feb. 8
Feb. 8
Not later than March 22

5. Preparation of the Recommended budget

6. Budget Recommendation
B. Legislative Approval
7. Approval and appropriation of the budget
C. Executive Implementation
8. Notification of the approved budget
9. Submission of Budget allocation and action plan
10. Implementation of the approved budget

March 23 - May 22
May 23- June 2
June 8 - July 7
July 8-15
July 16-Aug. 16
July 8- July 7

Budgetary Reporting and Control: Public bodies are required to maintain a register of
appropriations, authorized transfers and allotments for each budgetary heading and sub-heading and
for each capital project. Each institution local or central should prepare and submit monthly
statement of cash receipt and expenditure. At this stage, institutional compliance to the budget,
economic and effective application conformity with the government accounting system will be
verified. The verification could be made by respective finance bureau or the internal audit unit or
external auditors. Each government institution is supposed to form an internal audit team or unit in
their structure. While the Federal Auditor General or the regional Audit bureaus are the external
auditors of the pertinent government bodies.

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