From Budgets to Corruption: How Smarter Cost Accounting Can Reshape Public Finance

The International Monetary Fund’s Fiscal Affairs Department, with analytical inputs from the World Bank’s BOOST dataset and practical insights from institutions like the Inter-American Development Bank, has released a working paper that reimagines the role of cost accounting in public financial management. Authored by Lorena Rivero del Paso, Chloe Cho, and Ramon Narvaez Terron, the research underlines that while cost accounting, unlike financial accounting, focuses on analyzing internal costs to guide decisions and improve efficiency, it remains underutilized in the public sector. The authors argue it could significantly strengthen budget credibility, enhance performance-based budgeting (PBB), improve public procurement, and detect corruption. Yet widespread adoption is hindered by outdated IT systems, fragmented administrative records, poor interoperability, shortages of skilled personnel, and a lack of direct links between cost data and strategic policymaking.

From Industrial Roots to Public Sector Potential

The paper traces cost accounting’s evolution from its industrial revolution origins, when more precise measurement was needed to manage rising inventories and labor costs, to its adaptation in the public sector, where the goal is effective stewardship of public resources rather than profit. Over time, tools such as activity-based costing, lifecycle costing, process costing, and variance analysis have been tailored to government operations. Countries like Australia, Canada, New Zealand, South Africa, the United Kingdom, and Brazil have experimented with these methods, sometimes as part of broader public finance reforms. However, even when governments invest in systems, integration with existing budget, accounting, and performance frameworks often lags, leaving much of the potential unrealized. The paper notes that progress is strongest when cost accounting is embedded into wider reform agendas and backed by reliable data infrastructure.

Cost Accounting for Stronger Budgets

Budget credibility, the ability to execute budgets as approved, remains a challenge worldwide. According to BOOST data, capital spending in sectors such as agriculture and transport is, on average, underspent by more than 10 percent, with poor forecasting, unrealistic allocations, and weak monitoring as common culprits. Cost accounting can help reverse this trend by generating realistic life-cycle cost estimates, aligning budgets with evolving policy priorities, producing real-time execution data, and enabling variance analysis to identify emerging deviations. Publishing this information enhances both internal control and public oversight. The authors emphasize that credible costing requires wide stakeholder involvement, dependable historical data, robust risk assessments, and meticulous documentation, conditions often missing in practice. They also point out that transparency can curb the tendency to inflate estimates for political or bureaucratic advantage.

Linking Costs to Performance

For PBB to fulfill its promise, it must connect funding decisions to measurable results. OECD surveys cited in the paper reveal that nearly half of responding countries say improving resource allocation drives their PBB efforts, but only a fifth rate themselves as highly effective in doing so. Cost accounting addresses this gap by linking outputs and outcomes to the costs of delivering them, enabling meaningful efficiency measures rather than superficial ratios. This allows for accurate attribution of costs to specific programs, benchmarking across agencies, and fairer allocation formulas. However, challenges such as oversimplified unit costs, regional disparities, and the complexity of outcome measurement remain. Technology offers solutions: algorithms can detect anomalies in overhead spending, flag cases where high costs do not correspond with better results, and strengthen cost attribution accuracy, ultimately making PBB more data-driven and actionable.

Sharpening Procurement and Fighting Corruption

In public procurement, cost accounting supports realistic contract budgeting, life-cycle cost analysis, and the design of performance-based contracts. It also facilitates supplier performance monitoring and risk assessment. Real-world examples include Canada’s cost-based pricing negotiations, Denmark’s integration of energy efficiency into procurement through total cost of ownership analysis, and the United States Department of Defense’s continuous monitoring of major projects. The same data can identify anomalies in bids, contract awards, and payment flows, triggering early intervention. In the fight against corruption, cost accounting provides a factual basis for red flags, unexplained price changes, suspiciously consistent margins, or procurement trends that deviate from benchmarks. Tools such as the open-source Cardinal system in Latin America and the Corruption Cost Tracker index demonstrate how integrating cost data into automated monitoring can deliver real-time integrity checks.

Digital Integration and Machine Learning Innovation

The authors place strong emphasis on digital solutions, particularly the interoperability of central financial systems with line ministry administrative records through APIs. This approach eliminates duplicate reporting, standardizes data structures, and ensures real-time updates. They propose a flexible schema for harmonizing cost centers and service definitions, allowing detailed cross-ministry analysis while accommodating local variations. This architecture also enables automated calculation of both cost-related and broader performance indicators, letting policymakers drill down to specific regions, facilities, or service units.

Machine learning, especially in a semi-supervised framework, is highlighted as a powerful tool for advanced cost data use. Unsupervised models like Isolation Forest can detect anomalies without prior labeling, which can then be verified and fed into supervised models for more refined detection. An illustrative case on school infrastructure transfers uses synthetically augmented data to flag schools with small student numbers but disproportionately high costs, demonstrating how technology can guide audit priorities. The paper cautions, however, that model accuracy depends on rigorous data preprocessing, careful feature selection, hyperparameter tuning, and expert interpretation to avoid false positives.

Cost accounting can deliver transformational gains in transparency, efficiency, and responsiveness if it is integrated into core budgeting, planning, and oversight processes. Technology, interoperability, automation, and analytics can remove many adoption barriers, but sustained political will, institutional leadership, strong data governance, and ongoing capacity-building are essential. By embedding standardized, scalable, and context-adaptable solutions, governments can create a virtuous cycle where better data drives better decisions, and better decisions fuel demand for ever higher-quality data, ultimately strengthening public finance credibility and performance.