Report by the Court of Auditors

on the operational efficiency of the management of the European Monetary Institute and the European Central Bank for the financial year 1998 together with the replies of the European Central Bank

(2000/C 133/01)

CONTENTS

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INTRODUCTION

1. The European Central Bank (ECB) replaced the European Monetary Institute (EMI) on 1 June 1998. The EMI had been in existence since 1 January 1994, with the task of contributing to the realisation of economic and monetary union (EMU), in particular by realising the conditions necessary for the transition to the third stage of that union and the introduction of a single currency.

2. The Court has presented four reports on the results of audits carried out as part of the examination of the efficiency of the EMI's management for the financial years 1994 to 1997(1). In 1998, the ECB completed the task of preparing for the third stage, which had been started by the EMI, and took over on its own account management of the tasks that had previously been carried out by the latter. During that year it was not carrying out normal central bank activities and went through a transitional period marking the continuation, rather than the breaking off, of the work of the EMI, which went into liquidation on 1 June 1998. An annual report presenting both the financial statements of the ECB as at 31 December 1998 and the final accounts of the EMI as at 31 May 1998 was published in April 1999.

3. As the Court's mandates with regard to the EMI(2) and the ECB(3) are identical, it is reporting for 1998 on the efficiency of the management, of the EMI (for the first five months) and of the ECB (for the remainder of the year). Two sections are devoted to an examination of the EMI's activities and its liquidation respectively.

EXAMINATION OF THE EMI'S ACTIVITIES

4. The EMI's main object was to carry out the necessary preparatory work for the third stage of EMU, leading up to the establishment of the European System of Central Banks (ESCB), the pursuit of a single monetary policy and the introduction of a single currency. In order to achieve that the EMI was given the task of strengthening the coordination of national monetary policies, with the aim of ensuring price stability and improving the convergence between the economies of the Member States.

5. This work took the form of publications, studies, working papers, consultations, opinions and recommendations, prepared by members of the EMI's staff and by subcommittees and working groups of experts from the EMI and the national central banks. Among the subjects covered were: monetary policy, exchange-rate policies, macroeconomic and monetary statistics, payments systems, the issue of euro banknotes and coins, harmonisation of accounting rules and standards, information and communications systems, banking supervision and legal questions. In operational terms, this involved the development, testing and integration of ECB and ESCB systems and procedures, together with the completion under strict time constraints of a considerable number of major projects.

6. In addition to the four annual reports for the financial years 1994 to 1997 the EMI published around 40 reports, some of which were particularly important, notably the reports on the single monetary policy in the third stage of EMU, the progress reports on the Trans-European Automated Real-time Gross settlement Express Transfer system (TARGET) project and the reports on convergence in the European Union (EU).

7. Between 1994 and 1998 the EMI replied to 123 requests for consultation on areas covered by its terms of reference: from the Council (24) and the Commission (five) in relation to proposals for Community regulations, and from the authorities of EU Member States (94) in the case of draft national texts of a legislative or executive nature.

8. Since the establishment of the EMI financial investments have generated total interest income amounting to some ECU 144 million, whilst extraordinary income amounted to ECU 24 million. Expenses amounted to ECU 185 million in total, which breaks down as ECU 96 million for staff costs, ECU 77 million for other administrative expenses, ECU 11 million depreciation and ECU 1 million valuation differences. Investments accounted for ECU 40 million over the full period.

THE LIQUIDATION OF THE EMI

9. In accordance with the provisions of Article 23 of the Statute of the EMI, all assets and liabilities of the EMI automatically passed to the ECB(4) when the EMI went into liquidation on 1 June 1998. The procedure for liquidating the EMI was laid down in Decision No 10/98 of the EMI Council of 5 May 1998. The negative balance on liquidation of the EMI, amounting to ECU 17625 220, was offset against the national central banks' contributions to the resources of the EMI.

ACTIVITIES IN 1998

10. The number of permanent staff employed by the EMI, which was 334 at 31 December 1997, was 407 persons on 31 May 1998. Of that total, 402 were transferred to the ECB on 1 June 1998 and 375 of them subsequently signed contracts of employment with the ECB for periods extending beyond 31 December 1998. As of 31 December 1998 the ECB had a permanent staff of 534 persons, 54 of whom held managerial positions.

11. The ECB's Annual Report for 1998 describes, firstly, the preparatory work for the third stage of EMU and the changeover to the single currency and, secondly, the activities of the ESCB. Some 20 legislative texts have been adopted by the ECB in that context.

12. 1998 was the last year before the start of the third stage of EMU and the introduction of the euro. The ECB took over from the EMI, which had already made significant progress in preparing the operational framework for the Eurosystem(5) surrounding the implementation of monetary policy. In September 1998, for example, the ECB published a report presenting the instruments of this monetary policy, which include a minimum reserve requirement(6), open market transactions(7) and standing facilities(8).

THE EFFICIENCY OF THE MANAGEMENT IN 1998

13. Following its audits the Court sent observations and recommendations to the ECB's management. Some of these warrant mention in this report.

Budgetary management and monitoring

14. On 6 January 1998 the Council of the EMI adopted a budget covering the full financial year 1998 for EMI but not for ECB, as at that time the future organisation of the ECB and the precise rank mix of its initial staff complement remained to be decided. The first ECB budget was then intended to comprise two parts, namely the part of this EMI budget transferred to the ECB and the additional resources needed for the ECB. Given the uncertainties as to the precise foundation date of the ECB, the EMI management decided to assume 1 July 1998 as a starting date for the first ECB budget and to implement the EMI budget until that date. They also decided to include items from the EMI budget in the ECB budget only after review of their necessity. At its first meeting on 9 June 1998, the Governing Council of the ECB confirmed the validity of the EMI budget as being up until approval of the ECB budget for the second half of 1998. The latter was approved by the Governing Council on 7 July 1998 at a provisional level of ECU 96,7 million and subsequently reduced, in September 1998, to ECU 79,8 million.

15. However, the EMI budget was not revised following the decision to change its horizon from December to June 1998. The report on the implementation of the budget as at 30 June 1998 thus attributes to the EMI an outturn of ECU 48,5 million for expenditure for the first half of 1998 and compares this figure with ECU 110,2 million (the amount budgeted for the EMI up to December 1998), thus giving an apparent rate of implementation of 44 %. No comparison was provided in terms of the budget for the first five months or the first six months of 1998.

16. The report on the implementation of the budget at 31 December 1998 provides an analysis of budgetary implementation for the second half of 1998 only. It shows a sum total of ECU 60,3 million for expenditure, compared with the revised budget of ECU 79,8 million, giving an implementation rate of 75,5 %. This includes, however, EMI expenditure for which invoices were received after 30 June 1998. In any case, having regard to the way in which budget implementation for the first half year was analysed (see paragraph 15), information about the consolidated budget outturn for the 1998 year was not available and thus could not be forwarded to the Governing Council.

17. Due to the divergence between accounting and budgetary periods, the service responsible for budget monitoring did not carry out any reconciliation of the expenditure outturn and the expenses shown in the profit and loss account, whether for the ECB (period 1 July to 31 December 1998) or for the EMI (first five months of the year). In consequence, the reliability of the information presented has not been verified by arithmetical or accounting checks.

Project management and monitoring(9)

18. Project monitoring procedures could be improved to render assessment of the state of progress of projects easier and better, in respect of both timepath and budget utilisation.

(a) The method adopted does not always guarantee that the monitoring is objective and reliable. The progress of a project is, in fact, assessed mainly in terms of the consumption of resources, which, taken on its own, as an indicator, does not reflect how far the project has progressed, especially in the case of complex, interdependent projects, and does not allow any overruns of resources or time limits to be pointed out in good time, as in the case of the foreign currency reserves subledger (FCRS) projects(10). This weakness is accentuated by the fact that there is no commitments accounting system;

(b) it is difficult to track project development simply and coherently between years; over a period of time projects are, in fact, renumbered, re-named, re-scaled, merged or subdivided, and the list that appears in the budget monitoring report does not allow fast, clear identification; moreover, the monitoring reports do not provide information on transfers of funds, so that it is not possible to ascertain the position regarding the funds available for each project.

19. In the case of the FCRS projects, which are intrinsically linked and intended to monitor the foreign currency reserves accounts, DEM 2 million was spent in the first half-year of 1998, a figure which already exceeded the total budget for the year, which was adopted in April 1998 (DEM 1,78 million). In the second half-year the competent internal authority formalised the cost overruns retrospectively by means of transfers from the FCRS 2 budget to the FCRS 1 budget and accepted a supplementary budget, for which part of the amounts had already been committed as of the date when it was adopted. The FCRS 2 budget of DEM 450000 was thus used to cover the overruns on FCRS 1 before they had been authorised. In addition, a firm of consultants was engaged as from the beginning of July 1998, although the contract was not signed until 2 October. Moreover, the contract in question is somewhat vague as to the consultants' remit and obligations vis-à-vis the ECB, especially as regards deadlines and costs. Furthermore, as of end-1998 the ECB had still not designated a full-time manager for this project, although that was essential for monitoring the work of the consultants.

20. The department responsible for providing organisational support for market operations and the related risk management (middle office) used the Eurosystem software for managing the pool reserves, even though the software in question proved to be inadequate as an automated solution. Part of the middle office budget (DEM 850000) was spent on making it possible for the system to be operated manually at the beginning of the third phase. DEM 300000, which was, theoretically, for the fees of the consultants needed to research and develop the computer specifications, was spent on analysing the software capabilities and producing a set of middle office procedures.

Extraordinary bonus

21. On 24 March 1998 the EMI Council, in the capacity of budgetary authority, decided to grant an extraordinary bonus to part of the EMI's staff on the occasion of the establishment of the ECB, in recognition of the effort made by them. This bonus was to come on top of the normal merit pay distributed every year since 1996. The Council had set a figure of DEM 1,9 million as the total amount to be distributed by way of the extraordinary bonus(11) but, as a result of the way in which the decision(12) was implemented, the total cost was DEM 2,8 million and some employees received bonuses of up to 38 % of their annual basic salaries, even though, theoretically, the maximum was 13,5 %(13).

22. The DEM 0,9 million overspending was funded by a transfer from the normal merit pay budget following the executive service's decision not to apply the normal merit pay procedure for the second half of 1998. Neither that decision nor the transfer to the extraordinary bonus budget was authorised by the Council.

This report was adopted by the Court of Auditors in Luxembourg at the meeting on 6 April 2000.

For the Court of Auditors

Jan O. Karlsson

The President

(1) These reports were all published in the Official Journal (OJ C 394, 31.12.1996 for 1994 and 1995; OJ C 42, 9.2.1998 for 1996; OJ C 164,10.6.1999 for 1997).

(2) Article 17(4) of the Protocol on the Statute of the EMI (annexed to the EC Treaty) reads, "The provisions of Article 248 of this Treaty shall only apply to an examination of the operational efficiency of the management of the EMI".

(3) Article 27(2) of the Protocol on the Statute of the ESCB and of the ECB (annexed to the EC Treaty) reads, "The provisions of Article 248 of this Treaty shall only apply to an examination of the operational efficiency of the management of the ECB".

(4) Article 23(1) of the Protocol on the Statute of the EMI (annexed to the EC Treaty) reads, "In accordance with Article 109l of this Treaty, the EMI shall go into liquidation on the establishment of the ECB. All assets and liabilities of the EMI shall then pass automatically to the ECB. The latter shall liquidate the EMI according to the provisions of this Article. The liquidation shall be completed by the beginning of the third stage".

(5) The Eurosystem comprises the ECB and the national central banks of the Member States that adopt the euro in the third stage of EMU. It is administered by the Governing Council and the Executive Board of the ECB.

(6) The requirement for institutions to hold minimum reserves with their central banks. In the minimum reserve framework of the Eurosystem, the reserve requirement of a credit institution is calculated by multiplying the reserve ratio fixed for each category of items in the reserve base by the amount of those items in the institution's balance sheet.

(7) Operations executed on the ECB's initiative in the financial markets and involving one of the following transactions: (1) buying or selling assets outright (spot or forward); (2) buying or selling assets under a repurchase agreement; (3) lending or borrowing against underlying assets as collateral; (4) the issue of central bank debt certificates; (5) the collection of deposits; (6) foreign exchange swaps between domestic and foreign currency.

(8) An ECB facility available to counterparties on their own initiative. The Eurosystem offers two standing facilities: the marginal lending facility, which allows counterparties to receive overnight credit, and the deposit facility, whereby they may make overnight deposits at the ECB.

(9) The term project covers the work of fitting out buildings as well as the development of IT systems and the work associated with the various stages of EMU (statistics, databases, introduction of banknotes and coins, etc).

(10) See also the Court's Annual report concerning the financial year 1997, paragraphs 12 and 13, OJ C 164, 10.6.1999, and p. 3.

(11) The additional budget for the merit payments was, in the words of the Council decision, "directed especially at those who did not receive compensation for overtime performance and was differentiated according to performance and duration of employment at the EMI".

(12) The Council decision stipulated that the extraordinary bonus would cover the 18-month period 1 July 1997 to 31 December 1998. However, when the measure was implemented the annual performance rate was multiplied by the period of service, which could be as long as 54 months.

(13) Highest given per year, 9 % of basic salary, which is equal to 13,5 % for a period of 18 months.

Annex 1

Balance sheet of the ECB as at 31 December 1998

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Annex 2

Profit and loss account of the ECB from 1 June to 31 December 1998

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Annex 3

Balance sheet of the EMI as at 31 May 1998

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Annex 4

Profit and loss account of the EMI for the period 1 January to 31 May 1998

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Replies of the European Central Bank

Paragraph 17 (Budget management)

As regards the Court's observation on the non-establishment of an annual summary reconciliation for 1998, the ECB would like to emphasise that such an exercise was only suspended for 1998 and only on an exceptional basis. This exception was acknowledged by the ECB Governing Council when considering the 1998 Year-end Quarterly Budget Monitoring Report in March 1999. The exception derived from the non-availability of homogeneous data due to the differences in accounting principles, in charts of accounts and IT systems in use. The common practise of establishing such an annual summary reconciliation shall be resumed for the years 1999 onwards.

Paragraph 18 (Project management)

The EMI project organisation and control procedures in force in 1998 were revised in 1999 thereby building on lessons learned during the lifetime of the EMI.

The referred renaming, re-scaling and some mergers of individual projects were unavoidable given operational circumstances in a fast-moving environment and were duly examined and authorised by the relevant ECB decision-making bodies. In order to identify projects over time, individual project codes similar to budget centre numbers existed for each project in the ECB's budget system since 1996. From mid-1999 onwards, this code was also provided as additional information in in the Quarterly Budget Monitoring Reports, thereby enhancing the ability to better track project development over time.

Paragraph 21 (Extraordinary bonus)

The ECB acknowledges that the wording of the EMI Council Decision may lead to the conclusion that a special budget of DEM 1,9 million was created for the payment of the extraordinary bonus and that this only covered the 18 month period from 1 July 1997 to 31 December 1998. Actually, when sending the request to the EMI Council, the intention of the proposal was to ask for an increase in the existing budget with a view to covering the extraordinary bonus which would reflect service up to the full lifetime of the EMI, i.e. four-and-a-half years. In doing so, account was taken of the likely underspending of the normal merit pay budget for 1998 and the utilisation of the resulting surplus funds for the payment of the extraordinary bonus. The actual combined expenditure on both measures was in line with the budget which had been enhanced in this manner, and the highest extraordinary bonus amounted to 9 % per year of service with the EMI. The extraordinary bonus was merely an acknowledgement rather than a compensation of the high number of extra hours worked by the EMI staff.