Annex 14. Greening budget support – guiding questions to assess the eligibility criteria and dedicated tools

Credible & relevant development / sector policy

A country may be considered eligible for EU Budget Support when it demonstrates a credible and relevant national/sector policy that supports the overall objectives of poverty eradication and inequality reduction, sustainable and inclusive growth and job creation, the consolidation of democracies and peaceful societies, and the promotion of gender equality (Requirements as defined in the Budget Support Guidelines). Greening budget support operations will therefore depend on the country policies that will be supported, and which should be environmentally sound. The greening of country policies must be part of the EU dialogue with partner countries, at the outset of policy formulation and probably prior to the start of the budget support operation itself, including on the impact assessment, costing and monitoring of the policy. 

✅ Review the quality of the environmental and climate change integration through the following questions:

• Does the policy/strategy supported imply the promotion of fossil fuels? Of projects or measures that are contrary to the country’s Nationally Determined Contribution to the Paris Agreement (NDC)?
• Is the implementation of the policy/strategy likely to result in significant adverse impacts to the environment, biodiversity and to climate resilience, and are adequate measures put in place to avoid, minimise and/or offset them?
• Does the policy/strategy meaningfully address environmental, biodiversity and climate issues/risks that may affect the intended sectoral development?
• Does the policy/strategy to be supported take up opportunities to contribute to the protection and sustainable use of natural resources and biodiversity, or to low carbon development, and thus to the transition to a greener and circular economy?
• Is the policy/strategy coherent with the national environmental policies, biodiversity commitments and climate ambitions? Will it reduce economic vulnerability by strengthening resilience to economic shocks or natural hazards? Is the policy based on a sound risk assessment and a set of mitigation measures?
• Does the costing of the policy factor in direct/indirect costs, financing needs/sources or positive/negative externalities, related to environment and biodiversity protection or climate change?
• Which human, financial and institutional resources are foreseen to support environmental and climate objectives? Are capacities deemed adequate and assumptions realistic in this respect, also in relation to financial constraints?
• Does the policy monitoring framework include dedicated indicators to measure and report on performance with respect to environmental policies, biodiversity commitments and climate ambitions? Are indicators and their targets initially, and the results achieved subsequently made public and discussed with non-governmental stakeholders in an inclusive manner? Are other indicators made sensitive to environmental, biodiversity or climate action objectives, where relevant? Are these used to increase domestic accountability on those questions, either through performance/special audits by the Supreme Audit Institution and dedicated hearings at Parliament or through the media, civil society organisations or private sector associations?

Assess how environmental and climate issues relate to macroeconomic policies

The assessment of macroeconomic stability-related policies should examine the "potential sources of instability that would endanger the strength and the persistence of growth" as well as "assess the country's vulnerability to external shocks and efforts to strengthen macroeconomic resilience".

The links between macroeconomic stability and environmental degradation/climate change can be significant, notably in SIDS and LDCs (See Annex 10 of the Budget Support Guidelines). Adaptation investment for instance, despite their cost, can make the economy more resilient against natural hazards, limiting a post-disaster strain on the fiscal space and rise in public debt.

Macroeconomic resilience can be improved by:

• Providing countries with the capacity to formulate and implement coherent medium‐term fiscal policies. Effective medium‐term frameworks are essential to addressing medium and long‐term risks to macroeconomic stability and development in the region. Activities may include, for instance, defining the costs of adaptation needs and integrating them into the macro-fiscal framework. The same applies to a medium-term expenditure framework (MTEF), a medium-term revenue strategy (MTRS) and a medium-term debt management strategy (MTDS) derived from and implementing a medium-term fiscal framework (MTFF). Countries and EU Delegations can tap into IMF expertise on these tools.
• Improving fiscal risk management and establishing credible fiscal frameworks. Climate change and environmental risks need to be included into fiscal risk assessments seeking to limit the uncertainty of the costs associated with climate change mitigation and adaptation (prevention and recovery).
• Using various types of analyses to cover short- and long-term needs. For instance, shock scenarios can reflect short-term impacts of climate related disasters. A long-term analysis of risks and uncertainties related to environmental degradation or climate change requires average and extreme scenarios that cover all types of impacts, including for disaster management framework or contingency plans when applicable.
• Monitoring processes, tracking to which extent the fiscal policy, including the budget execution, is climate and environmentally sensitive.
• Capacity building activities, preferably through a cross-sectoral approach e.g. in macroeconomic forecasting, budget analysis and planning competencies or natural capital accounting.
• Facilitating private sector investment, which is essential to meet climate goals. Enabling factors include incentives for investing in resilience-inducing measures, such as lowering trade barriers to accelerate imports of low carbon technologies, promoting payment for ecosystems leading to sustainable funding in sectors such as agroforestry, lowering taxes for research and development towards green production, or for the development of scalable solutions.

Assessment and entry points of Public Finance Management ^[55]

The analysis of Public Finance Management focuses on how public money is managed, from revenue mobilisation to the transmission of the policies at citizen’s level through public service delivery. This should be seen through the “Collect More-Spend Better” approach, which:

• Supports the recalibration of tax policy to increase its financial and behavioural effectiveness in promoting environmental sustainability.
• Addresses the potentially regressive effects of transition taxes (e.g. revenues related to fossil fuels) through balancing measures (e.g. social protection expenditure).
• Supports leveraging public resources to finance a sustainable transition and managing debt through efficient public investment and procurement procedures.

The main environmental and climate entry points for assessing PFM systems include:

• Improved revenue and expenditure management should provide fiscal space for new priorities. In countries where national development is closely related to the health of ecosystems and to climate change adaptation and mitigation, the assessment should examine how these environmental and climate-related priorities are addressed in the budget cycle.
• Domestic revenue mobilisation (DRM) is part of a social contract that underpins social cohesion and contributes to shaping good governance. Applying a polluter-pays principle shall support environmental protection including pollution abatement. Countries can also mobilise domestic revenues to finance set priorities such as new adaptation investments.
• Promotion of greening PFM, e.g. through the elimination of perverse subsidies (e.g. to fossil fuels), greening public budgeting processes, and launching fiscal incentives towards green development, and other Environmental Fiscal Reform measures. See Annex 12.

Guiding questions on how to assess if PFM systems are responsive to environmental and climate issues include^[56]:

• Are climate and environmental risks adequately identified, measured and considered for planning? Do budget planning and execution match environmental and climate-related priorities?
• To which extent does the PFM reform strategy favour the integration or implementation of “green public procurement” or green public investment management? To which extent are fiscal measures supportive of the green transition? For instance, do they include:
  • incentives for green investments (renewable energy, low-carbon investments, resource and energy efficiency) e.g. supporting feebates and/or rebates related to GHG emitting processes in specific industries (such as cement and extracting industries);
  • the gradual elimination of perverse subsidies (e.g. to fossil fuels);
  • taxes to activities that create adverse side effects to the environment (Pigouvian taxes);
  • other environmental fiscal measures, e.g. supporting national production (e.g. industry, garments), tax incentives for circular and resource efficient practices, aligning to environmental standards in international trade agreements.

EU Budget Support recognises that sustainable growth hinges on sound macroeconomic and fiscal management (Budget Support Guidelines) This approach creates ties between core public management functions and climate and environmental issues.

Review transparency & oversight of national budgets through an environmental and climate perspective

The Budget Support Guidelines underline that “in resource-rich countries, the EU should reinforce support for comprehensive reform programmes promoting enhanced natural resources governance, transparency and accountability”.

Ultimately, the understanding of how public funds are used may call for potential policy changes towards improved public service delivery and results. For example, the green dimension should be integrated into the audits, so that the legislature and the civil society could assess to what extent climate and environmental objectives are pursued through the actual government spending and ask for corrective measures as deemed necessary.

Governments should report on green and brown subsidies and tax expenditures (e.g. exemptions) on activities that relate to the use of environmental resources or to climate issues e.g. holiday taxes on touristic resorts, tax exemptions on large farms or plantations, mining, forestry, water pricing, energy pricing, and types of transport.^[57] Reports ideally need to disclose both financial and non-financial performance information, including information on fiscal and environmental impacts, and be made publicly available to allow for a meaningful participation of civil society. The EU can help foster capacities in government administration, in regulatory agencies, in statistical units, in audit bodies and at the legislature. The EU can also promote inclusive policy review processes to make sure the information on progress and challenges is being made public and well understood. The EU could equally strengthen capacities within administration to communicate on green fiscal measures to help secure buy-in by taxpayers, consumers and/or businesses. These measures are not necessarily easy to understand and will often face vested interests – not necessarily within the most vulnerable parts of the population – and can trigger disinformation campaigns.

To have a properly functioning accountability system, it is important to have CSOs and media with appropriate capacities to analyse budget documents and other relevant reports and engage in the relevant discussions on fiscal impacts of various environmental and climate change related policies. The EU budget support can contribute to building such capacities through complementary measures.

The analysis of this criterion can include the following questions:

• Which budget documents should be produced to reflect public reforms and obtained results at environmental and climate level?
• Which budget documents should be made available and accessible to the public, with reference to public environmental and climate action?
• What is the usual timeliness of release of green budgetary information?
• To which extent is the available budgetary information sufficiently comprehensive, providing for sound impact assessment on the fiscal, socio-economic and environmental effects of a given measure?
• Is there a review of the quality, integrity and accuracy of the available information on green budgets?

Tools for a green Budget Support

Policy dialogue

Policy dialogue is one of the main pillars of Budget Support. Greening the policy dialogue implies following the progress in the implementation of and continued credibility and relevance of the supported policy, and of its potential successors, with a focus on environmental and climate issues.

The practices and tools mentioned below are recommended to feed the greening of policy dialogue. Policy dialogue will normally be necessary to build government ownership of the supported processes and political will to effectively implement change in the relevant national/sectoral policies based on the subsequent findings. Policy dialogue could include also taking into account the possibility of introducing green taxation as part of fiscal reforms; green taxes would not only increase Domestic Revenue Mobilisation but also result in greener economies and/or sector policies.

Strategic Environmental Assessment

A Strategic Environmental Assessment (SEA) can be a very valuable tool providing elements to guide decision making towards more sustainable pathways, enhance the policy's performance from an environmental and climate resilience perspective and identify adequate lines of action. Therefore, a Strategic Environmental Assessment of the national/sector policy to be supported is usually recommended when providing budget support, notably to an environmentally/climatically sensitive sector: it can either inform and guide a new policy being developed; inform the design of a support programme; inform the implementation of the policy in place; or inform and guide the successor policy.

More detailed information on SEAs can be found in the policy dialogue section, the screening procedure (Annex 4), the template for terms of reference (Annex 6) and additional guidance.

Understanding public finance and budgeting systems

Established exercises such as the Public Environmental Expenditure Review (PEER), the Climate Public Expenditure and Institutional Review (CPEIR), PEFA-Climate for the overall assessment of PFM systems, Climate-PIMA for public investments, or the MAPS module for sustainable procurement can be useful to understand the climate and/or environmental expenditure landscape at country level.

While these are distinct types of studies, with set methodologies which are sometimes related to broader exercises (e.g. PEFA, PIMA or MAPS), they pursue the objectives of improving the understanding of:

• the formulation of environmental and/or climate change policies and their linkages to revenue/expenditure;
• the role and responsibilities of institutions involved in managing climate change and/or environmental issues;
• how environmental and/or climate change related expenditures can be tracked;
• A present situation as a baseline for future analysis.

Note: such exercises allow to take an initial picture from different standpoints (e.g. a CPEIR makes a global photo of climate action and its main actors, PEFA-Climate focus on climate responsiveness of the PFM and following a standard set of criteria) and may be repeated in the medium term (3-5 years) in order to track progress. These tools were not designed to be replaced by each other. This information may be important when launching an initial exercise.

Stress-Tests

Derived from the banking system, stress-tests are used to give an indication of environmental and climate sensitivity of local assets. The testing uses available information on potential environmental or climate impacts, together with data of strategic sites (e.g. drinking water, energy, telecommunication, transport, healthcare facilities, ….). The compiled information allows an initial overview of a number of environmental and/or climate risks, such as:

• At climate level, flood, heat, drought and heavy rainfall.
• At environmental level, change in land use (e.g. conversion of forests, land and wetland degradation, habitat loss); overexploitation of natural resources (including, mining, in forestry, fishing, …); pollution (including, air, water, soil, presence of plastics, chemicals, …); biodiversity issues (e.g. loss of biodiversity, invading species).

This raises awareness on risks and initiates a participatory dialogue between local authorities and citizens, local businesses and civil society organisations to agree on the accepted level of risk, and to decide on the preferred measures to be taken.

Monitoring and evaluation

Monitoring and Evaluation can go beyond the use of performance indicators, which are mainly related to the release of financial tranches. Data systems can be supported to track record or progress (including, in the implementation of reforms to improve green public financial management), good practices at sector level (e.g. limiting environmental degradation, improving guidance on natural resource management) and innovation on environmental and climate action, to build evidence for new policy making.

Risks identified in the Risk Management Framework Plus should also be reviewed on a regular basis.

References

^[55] Additional guidance can be found in the E-Note 4 “Green Public Finance Management: Scope, tools and instruments” (2021).

^[56] These questions are further developed in more detail, with sub-questions in Annex 12 on greening PFM. It is recommended to use Annex 12 when an Action intends to improve environmental and climate considerations in public financing systems.

^[57] Additional guidance on green taxation can be found in E-Note 19 “Green taxation in non-OECD countries” (2023).