Municipal budgets in the age of sustainability

One of the main challenges for the next few years is the municipalities’ transformation based on sustainability goals. The overarching topic of climate change as the driver of this fundamental restructuring process is the precise thing that impacts all areas of human life as well as the infrastructures for the provision of public utilities and services. Where the municipalities have rather cautiously adapted their administrative departments and processes to date, the socio-economic transformation now requires radical structural changes. Glocal mega trends, such as climate change and digitalisation, cannot be tackled in a hierarchical organisational structure as was previously the case. A new “governance for sustainability transformation” is needed. Municipalities must be organised, think and act in a networked fashion, use new management tools, and include the stakeholders from the towns and cities. Whether they will succeed is not just a question of political will and corresponding majorities, but the control and management of this transformation based on sustainability goals must also be backed up by the budget and accompanied by suitable budgetary instruments. That is the only way to realise the sustainable effects that determine how well Germany copes with the sustainability transition and climate change.

The task is not made any easier by the fact that many municipalities have suffered budget deficits and short staffing for years. Nevertheless, the German municipalities have always been keen to experiment. Therefore, despite limiting general conditions many of them have been searching for solutions. The United Nation’s Development Goals (SDGs) and the “SDG indicators for municipalities” system have proven to be drivers of innovation: they provide goals and indicators that serve as guidelines for all of the municipalities’ sustainability activities in the most varied areas of action. Their application is also being field-tested in various areas of municipal finances. This is only logical because the municipal budgets are their central controlling instrument. Therefore, it can and should be used in a targeted manner for the sustainability transformation governance. Currently, three areas of reform that build on the SDGs are predominant: “sustainability budgets”, “sustainability ROI” and “sustainable finance”.

At the moment, there are frequent discussions about “sustainability budgets”. They are primarily developed by the Agenda 21 joint commission of the Federal States (LAG21) and are generally tested and updated in the towns and cities of North Rhine-Westphalia, including Cologne, Bonn, Lüdenscheid, Detmold, Jüchen and the district of Unna. Sustainability budgets are a form of impact-based budget and administration controlling. They should direct municipal financial resources towards sustainability goals. The process is similar to the traditional impact-based controlling in double-entry bookkeeping: goals and key figures are anchored in product groups or rather products of the budget, and regular reports are made regarding attaining the goals. In this way, the concept of sustainability is intended to become a component of the budgetary cycle and public funds should be directed to sustainable projects in a more purposeful way than before. Even though the municipalities have had mixed experiences with impact-based controlling over the last twenty years, they regard the new instruments of the sustainability budget with optimism because they have been developed primarily in the context of an interdisciplinary strategy and dialogue process that involves urban society stakeholders. That ensures acceptance.

Further to the sustainability budget, the “sustainability ROI”, which is still in the draft phase, should be mentioned. Currently, Difu along with eight partner municipalities and NRW.BANK is developing a model that allows the scenario-based assessment of how budgetary applications for the transformation-relevant investments feed into the sustainability goals. The model is based on theoretically-founded concepts of returns that had already been developed in various contexts of urban development and are being adapted for sustainable urban development for the first time in this project. A sustainability ROI is understood — in contrast to a financial ROI — as a multi-dimensional item, which includes economic, ecological and social dimensions. Using an index-based evaluation, an assessment of costs and benefits in regard to the achievement of the SDG goals is carried out for the individual investment-related “transformation requirements”. They examine whether a monetisation of the considered investment alternatives could additionally be possible. The sustainability ROI instrument is intended to support municipalities and finance departments in entering into a well-founded discourse with administrative departments in order to make forward-looking investments that are also profitable throughout their life cycle in terms of sustainability.

Budgetary sustainability is important to the municipalities for another reason as well: in 2019, the EU initiated a process in the form of the taxonomy that is also based on the SDGs and is currently primarily aimed at commercial stakeholders. In the coming years, it will also influence the financial and budgetary policies of municipalities and public enterprises. The German Federal Government also emphasised in its sustainable finance strategy that “federal states, municipalities and in particular the financial companies under public law hold a position of great importance in the German financial system” and are therefore important “in achieving the goal of becoming a leading sustainable finance location”. With the EU taxonomy a comprehensive system of classification and criteria has been developed for six environmental goals that can be used to determine to what level economic activities are ecologically sustainable. The sustainable finance taxonomy is intended to act as leverage for the fundamental re-orientation of the capital markets — towards predominantly financing ecologically, socially and economically sustainable transformation measures. Due to the new reporting and evidence obligations, it should be possible for all market stakeholders to recognise green investments. At the moment, the process of the re-orientation of the credit market in regard to sustainable finance aspects is in its infancy. In this respect, the SDGs are ascribed above all an implicit importance as normative frames of reference. Even if the municipalities and their budgets do not directly fall under the taxonomy, it looks as if it may be heading that way. Therefore, the state and promotional banks as the municipalities’ main banks expect that the price formation in the municipal credit business will experience a spread between “green” and “brown” loans because the terms will follow the new framework conditions. Furthermore, the banks must reveal in how far their lending is conform with the taxonomy. In this regard, a standardised sustainability reporting will also be unavoidable for the municipal budgets in the future. Insofar the SDGs could become important for the municipalities in this sense.

The three ways illustrated here show that municipalities’ sustainable development must include the budget. Therefore, increasingly more municipalities are already rethinking such strictly regulated processes, e.g., budget and finance. However, cities, towns and municipalities need support on this journey — not only from research, but also from the federal states, municipal supervisory bodies as well as from state and promotional banks. Only together can a raft of binding controlling instruments be developed. It is certain that the socio-economic transformation will struggle to succeed without a more purposeful control of public budgetary resources and funding streams on a broader front.

Difu-Magazin "Berichte" 3/2022