Select Committee on European Union Minutes of Evidence

Examination of Witnesses (Questions 540-560)

Mr Graham Meadows, Mr Nicholas Martyn and Mr Marco Panigalli

17 OCTOBER 2006

  Q540  Chairman: "We" being who?

  Mr Martyn: The Commission.

  Q541  Chairman: And the auditor inside the Commission?

  Mr Martyn: A financial correction decision is a formal Commission decision by the college but it is based on the results of audit work that has been carried out.

  Q542  Lord Cobbold: You have been talking about it. It seems to me the problem is this shared management concept whereby nobody has the ultimate responsibility. Can you expand a bit more about what is meant by shared management? How can it be got rid of, that seems to be where the problems arise.

  Mr Martyn: Shared management is the only way one can implement a policy like the structural funds because it is clearly not possible for the Commission to manage a process involving the delivery of hundreds of billions of euros through 27 Members States; so it is the starting point, it is the way of doing it. It poses particular risks because of the multiplicity of bodies involved and the fact that there is a long control chain down to the lowest level but we have mechanisms in place through our regulations which address this as I tried to explain.

  Q543  Lord Cobbold: You cannot pass the responsibility for the delivery to the Member State concerned in the first instance?

  Mr Martyn: They have the responsibility to deliver and they have the responsibility to give an assurance that it has been delivered correctly, to audit it themselves and to report to us. We have the overall responsibility, the Commission has the overall responsibility under the Treaty. Clearly, the Commission has what is called a supervisory role to make sure that the system is working properly and if it is not working properly to take the appropriate measures, which ultimately can be a financial correction. It is perhaps important to remember that programmes are implemented over a period of nine years and then there is the closure of a programme and so the control process is not just year-on-year, it is a rolling process. The ultimate check can be done at programme closure, with ex-post audits after the closure of the programme to, if necessary, claw back the money that has been incorrectly used. We have a series of ways in which we can ensure, finally, that the Community budget has been properly protected.

  Mr Meadows: My Lord Chairman, if I can underline one point, there is no confusion about responsibility under shared management. The responsibility for managing the European Union budget lies with the Commission. The difficulties flowing from shared management are not confusion as to who does what, the difficulties flowing from shared management are the extent of operations which one is trying to audit and to control.

  Mr Panigalli: If I can also add a comment to this. The Financial Regulation explicitly states which are the different modes of implementation of Community funds. You have the centralised management which could be either direct or indirect and you have the shared management together with Member States, you have joint management with international organisations and you have the decentralised management which is the one applied for the external co-operation. The term which is used in the Financial Regulation of shared management means that the implementation of the funds is delegated to the Member States so there is the delegation act but, as Mr Meadows and Mr Martyn have just said, the final responsibility lies with the Commission.

  Q544  Lord Inglewood: In his remarks about shared management Mr Martyn said that the whole thing goes fine if the audit work in the Member States is done properly. Do you find that is generally the case and, if it is not generally the case, are some countries rather more lax about this than others? In this audit work that is done at Member State level, is each Member State applying international standards or are some of them applying local standards which are at variance?

  Mr Martyn: My Lord Chairman, first, I think the key thing is not to focus on the audit work but the controls at all levels because in fact our experience is that you can have situations where audit work may be quite good but the auditors are only finding problems at the lower levels. In fact, our focus is on the first level of controls, done by the managing authority being good because that is the heart of the internal control system. If the controls at the primary level are good, then everything above that is going to work. If the controls at the primary level are not good then, however many times you audit, you are only going to find that they are not working. Our focus is on making sure that those controls at the first level are working effectively and that is the difficult job in Member States, to do that with the large number of operations concerned. Clearly, there is a diversity of risk between Member States and the amounts of money being managed are very different and the assessments we have also vary. We make an assessment in the annual activity report which is produced by the Directorate General and signed by the Director General. We set out an assessment on the basis of our work to date of what the situation is. As I say, we are building up assurance over a period of time. We say "this is the amount of audit work we have done so far" and "this is the assessment we have". We have a group of countries where we consider we have reasonable assurance that the systems are functioning effectively to ensure legality and regularity. We have a group of Member States where, if you like, things are okay but there are some improvements to make. As Mr Meadows said, in 2005 we had reservations in two cases for Spain and for England because we considered that there were important deficiencies which would require some time to remedy. Clearly we take account of the assessment for the further audit work that we are doing and in particular we work to make sure that where we have identified deficiencies, those are adequately treated. We aim to achieve assurance that there is evidence that the risks are being managed properly in all Member States or if there is a problem that is intractable, that we have taken the necessary action; ie we have used the powers which the Commission has to suspend the payments and make financial corrections.

  Q545  Lord Inglewood: Is it right then to draw the conclusion from your remarks that, in general, you are satisfied where money is being disbursed, that the money is then being spent properly.

  Mr Martyn: I would put it that we are satisfied, and this is what comes out from the annual activity report, that the Commission is able to exercise its supervisory role in a way that is giving us reasonable assurance at a particular point in time bearing in mind the length of the implementation period. We cannot be sure for every programme, for all of the 370-odd programmes, that all the systems are working optimally. We cannot do that year-on-year; it is not possible to do that. We are satisfied that the strategy which we have to build up this assurance is one which will ensure that during the implementation period we will have that assurance or that we will have taken steps to claw money back where it is irregular.

  Q546  Lord Inglewood: Some of the stories that one hears told and reads in the newspapers about widespread irregularity in various branches of the regional policy are basically misplaced.

  Mr Meadows: Yes. The first thing to have in mind is the difference between irregularity and fraud. Irregularity is a very wide catch-all term. We are as sure as we can be that each year we are able, as I said at the very beginning, to give a reasonable assurance to the Commission and to the public at large that in fact the money which is being spent through European regional policy is being spent for the purposes for which it is intended by the legislation. If I could draw one point out of Mr Martyn's remarks. Inherent in what he is saying is a difference of approach between us and the European Court of Auditors. The European Court of Auditors builds up its assurance, or lack of assurance, by looking at one particular year. It treats the European Union budget as an annual budget, as an annual exercise. We say that this is not an appropriate way of auditing European regional policy because European regional policy, as Mr Martyn has explained, is implemented over a number of years and a programme will be in operation for nine years and there will be a further three years before it is closed. At any time in that nine or twelve years we can audit that programme and if we discover some irregularity which has taken place in the past, we can correct the system and if needs be in order to protect the European Union budget, we can claw back money. When Mr Martyn talks about building up assurance over time, he is referring in a coded way to the way in which we view the assurance which can be given for European regional policy which is different from the approach of the European Court of Auditors which is always auditing on an annual basis. One of your previous witnesses from The Netherlands referred to the sample of programmes taken by the European Court of Auditors and, of course, this is greatly affected by whether you take a multi-year approach, which is ours, or an annual approach which is the Court's.

  Q547  Lord Maclennan of Rogart: I find the answers that you have given in response to the Lord Chairman's enquiries about a real life example generally comprehensible but I wonder if you might be a little more particular in just conveying clearly to me exactly what the mechanisms are. You said that there was obviously a heavy reliance on the management agency to ensure regularity and they report in turn to the paying authority. Where does the Commission intervene to check on those two bodies? These are national bodies presumably, for example, perhaps the Highways and Islands Enterprise Agency, certainly the department of the Scottish Executive, the paying authority. How do you go behind the paying authority's assurance that all is for the best and that is the best of all possible ways or do you?

  Mr Meadows: If I may start the answer and Nicholas can again complete it. There is a distinction between our work in Spain and our work in the Highlands and Islands, which you may be aware of from the newspapers. In the Highlands and Islands we are auditing the closure process for a programme from the 1994-99 period and the audit which has taken place in the Highlands and Islands has been at a level of projects, something like 40 projects, to try to test whether in fact the system operated correctly through the lifetime of the programme. If we look at the Spanish case, which is related to ongoing 2000-06 programmes, the difficulty that we discovered through our own audit work is at the first level of checks which Mr Martyn referred to; in other words the checks carried out by the people in the Spanish regions, the people in the regions who certified expenditure as being regular and legal, were not carrying out, in our view, sufficient checks. They were making this certification on an unsound basis. The work which we have undertaken with the Spanish authorities is, at that level, to try and make sure that their first level certification is accurate. This is work which is carried out by the paying authorities.

  Mr Martyn: How do we get the assurance from our audit work that we can rely on what we get from the paying authority? We carry out audit work which first of all involves checking the systems as described by the Member State. The Member State has to send us detailed descriptions of its systems, who is the managing authority, how it works; who is the paying authority and how it works; we do a desk check on all systems for all bodies. Then, we would go on the spot to look at a sample of programmes and that is normally done in two phases. We go on the spot to a given programme, walk through the procedures of the managing authority or other bodies involved such as the paying authority, check that they are in accordance with the description, check that they are in compliance with the regulations and in compliance with proper control standards. Then we would take a sample of operations of actual projects so we test the system in practice. We would visit a selected number of projects in order to see whether the expenditure that has come all the way up the chain and has been declared and certified as legal and regular actually is. This is a way of then testing the system which enables us, from the level of error we find, to draw a conclusion as to whether the managing authority and the paying authority are indeed performing correctly, and then we have an appropriate follow-up depending on the results of the audit work. We would be expecting the national audit body to be doing something similar and wherever possible we would then seek to rely on the results of the national audit work so that we are not duplicating that work. This would be in-line with the single audit approach, that I am sure you have heard about in the course of evidence.

  Q548  Lord Maclennan of Rogart: You rather beg the question by saying wherever possible you will rely on the national audit process. What are the signals or what activates this kind of international inquiry that looks behind the certification of the paying authority? Is it just spot checking in a fairly random way or how do you do it? Sorry, it seems rather pernickety of me.

  Mr Martyn: I am happy to have the opportunity to explain how we do it. We work on a multi-annual strategy so we work on a three-year rolling plan and we decide on how we are going to use our audit resources on a risk basis. We do a risk assessment at a global level. Then within a Member State we would have a more detailed risk analysis to see which of the programmes we would consider high risk, bearing in mind the amounts concerned, the volume of the expenditure and known information that we have. We would seek to audit, as a priority, the riskier programmes so that we have an assurance that those systems are working effectively. In terms of relying on the audit work of the national audit bodies, as I explained, we have co-ordination arrangements to be able to have contact with audit bodies but there is a big difference in how the audit work is done in different Member States. You just heard from the previous witnesses from The Netherlands that currently they have a very decentralised approach so that in each province in The Netherlands the system is completely different and they have different audit bodies in each province. This makes it more difficult for the Commission to rely on that work because it is harder for us to go around and audit each of those bodies in order to see whether we can rely on them. In other Member States they have one single central audit body which is responsible for all the audit work throughout all the programmes. There, it makes it easier for us to do the work necessary to gain an assurance that the audit work of that body is reliable; so you have a variety of different arrangements in place.

  Q549  Lord Jordan: It is said that the financial management obligations in the new Member States are more demanding than those for the rest of the Union, is this true?

  Mr Meadows: No. It may be more demanding for the new Member States to achieve the same level of efficiency as the older Member States but the level of management which we expect from all the Member States is the same. If you take, as an example, our work in Romania and Bulgaria over the last few years. We have worked with both of these candidates to help them to understand the requirements that the Commission has for their national audit and management authorities. We have audited them several times to monitor their progress to the level of operations required by the Commission. We arrived at a position with Romania last June where we were able to agree a period of free flight so that, instead of managing the resources Romania receives through the pre-accession instrument together with the Commission, they can manage solo. We were sufficiently satisfied by June that they had mastered the techniques, had the systems in place, and people to operate the systems that we certified them to go on operating these systems on their own, with us obviously watching to make sure that things continue to work out. In Bulgaria we have not arrived at the same level of confidence. The standards that would be applied in Romania and Bulgaria, are the same as those to be applied in the United Kingdom, Denmark or Sweden. The way in which they operate the systems may be different, but the requirements are the same. It is no stronger and it is no weaker.

  Q550  Lord Jordan: You have mentioned a couple of cases you were looking at, at the moment, Spain and England. Are there any persistent offenders in what is called the "old Community"; and have you any actions you can take that are, in a sense, punitive, rather than telling them they must do it a bit better?

  Mr Meadows: The first point to make about Spain and England is to remember we are trying to build up the assurance over a number of years. The misfortune of Spain and England is that we just happened to have looked at them at the moment. It may be, that later we may have similar problems with someone else, which we have not looked at yet. We should not take the view that Spain and England are worse than everyone else—although we did find problems in their methods in the last year. Do we have any persistent problems? The answer to that is no. Do we need a system of sanctions? We do not have a system of sanctions. We do not look upon our teams of auditors as some kind of financial police force which is out to catch wrongdoers and, having caught wrongdoers, to make some sort of sanction or some sort of fine as a warning to everyone else to do better. The approach is more of trying to detect errors in systems and, having detected the errors, put them right; and, having detected the errors, tell all of the other Member States of the things that we have discovered so that they can make sure their systems do not contain the same errors. To the extent that we make financial recoveries, it is because it is the only way we can give an assurance that we have properly protected the European Union taxpayer. But it is not as a way of punishing the Member State concerned. If there is a punishment, the punishment is to the policy because this money was voted to the policy by the European Council; it was allocated to the Member State concerned on the basis of need and if, in the end, we cannot use this money to actually bring about an improvement to the quality of the life of the citizens concerned basically we are failing. Taking the money back is not something we view with great delight. We do not behave like Dixon of Dock Green and let out an "hurrah" every time we catch a wrongdoer; we do not see the problem in that way. We are anxiously always trying to help the Member States to make sure that their systems give as great a surety as possible.

  Mr Panigalli: On this very point, my Lord Chairman, the simple fact that each year in the annual activity report and the annual declaration by the Director General the Member States which have weaknesses, or where weaknesses are detected, are not the same, has at least two causes: one is that the work which is done is serious, and it means that the controls which are made allow us to detect some weaknesses in some Member States; and, on the other hand, it means that the Member State for which weaknesses were detected in previous years have been subject to action plans with concrete corrective measures which have been taken into account and implemented. This explains why each year you see different Member States mentioned in the annual activity report.

  Q551  Lord Cobbold: From what you have been saying you do not sound as though you agree with the proposals that the Dutch are making, which we heard earlier this morning, which centralise responsibilities at a national Member State level and a possible template for similar structures in other Member States. You are saying that the existing systems are perfectly adequate?

  Mr Meadows: We have heard from the Dutch of the system they are planning to implement and we think that would be an improvement and we welcome it. I said at the beginning the fact that we sign off the annual activity report and we assure the Commission that in any particular year we have got a reasonable degree of assurance does not mean that we feel we have reached some level of perfection. We are always trying to do better. The most positive way to live in the audit climate in which we find ourselves is to constantly seek improvement. I would hope that our operations this year are more certain than our operations of, say, three years ago. I think the improvements which the Dutch Government is planning to introduce will contribute towards a climate of improvement.

  Q552  Lord Blackwell: One of the issues we have to address is the extent to which the irregularities which you raised in the Court of Auditors Report are the only irregularities on an otherwise clean bill of health, or whether they could possibly represent the tip of the iceberg in terms of other things which have not been exposed—and I come back to the effectiveness of your controls and audit processes. Generally I suggest if those are going to be more effective, the clearer one is about the risks you are trying to address; and you mentioned that you go through a risk assessment. Is there a process where every significant programme, both at a Commission level but also at a national level, has to have a proper risk assessment; and to what extent are those used to drive the local as well as the Commission level audit programmes? Secondly, could you give us an idea, as you look at it, of what you see as the two or three biggest risks at a generic level which you are trying to deal with in the control and audit processes?

  Mr Martyn: My Lord Chairman, on the question of obligations to carry out risk assessment, at the national level there is a limit to how prescriptive the Commission can be in telling Member States how to do their job in terms of internal controls; so we have regulations which fix a framework and which fix a certain level of detail but we do not say to Member States exactly from A to Z what they have to do to run an effective internal control system. At the level of the audit work of the Member State then there is a requirement that the selection of audit work must be based on a risk analysis. We have provided guidance to Member States on how to do that. We have produced an audit manual which was the result of discussions with Member States; and the audit manual contains examples of good practice about how to carry out a risk assessment. At the lower levels of control, and the first levels of control by the managing authority, there is no formal obligation to carry out a risk assessment; but, again, the Commission has issued guidance to Member States about what the Commission expectations are about how those first level controls should be done. In that guidance there is advice that the way in which the checks are carried out of operations should be based on a risk assessment which is reviewed annually. At the level of the Commission in our own work, as I explained, we carry out a risk assessment on an annual basis which we review and update as we review our audit strategy. In terms of the biggest risks, obviously one of the main drivers is simply the amounts involved because if you are looking at how you are going to use, by definition, limited audit resources then in the current period you have Spain as the major recipient, on the one hand, and you have Luxembourg on the other. Clearly you have extremes in terms of the amounts involved, which is one of the main elements. Within that I would say that one of the key risks relates to the number of bodies involved. Again, you have this very, very wide diversity in implementation. You have some Member States very centralised, where you can get an assurance on the whole system by carrying out a limited amount of audit work, and then you can have assurance that the same controls are being rolled out everywhere. You have other Member States that institutionally are regionalised or decentralised. The way in which you carry out audit work in Germany is, by definition, quite different because you can audit in one of the La­nder but it does not give you an assurance about the situation in a different one; so there you have to devise new audit methods which we have tried to do. As I say, the main focus we have is on getting an assurance at the first level checks. This we see as a risky area because it is the complicated bit of the work. When we do our annual review we use the information we have from our own audit work and from the audit work of the Court of Auditors in order to establish which of the programmes or which of the bodies we consider at the highest risk.

  Q553  Lord Blackwell: How big a risk do you think it is that in some Member States, or in some parts of some Member States, the controls are deliberately circumvented in order to use the funds?

  Mr Meadows: Thinking about the answer to your earlier question, what are the biggest risks, the biggest risk is quite clearly that a chasm opens up between what people say they do and what they actually do. This is one of the reasons why we place such importance, as Nicholas has said, on these controls at the very, very lowest levels, so we are able to actually make sure that the systems reach right down to the operator within the region or within the city concerned. The only thing we can always maintain, as it were, is this awareness that, as you point out, there may be this difference between what people say they do and what they in actual fact do. We try to make sure that our controls meet that point. This explains why Nicholas says we associate risk with the amount of money concerned because, quite clearly, the injurious effects of this chasm opening up would be greatest in those areas where our expenditure is highest. We are aware of this and we do try to take it into account in assessing the programmes that we should look at. As I say, we try to build up this assurance over time. Just because a programme has escaped a control in 2004 it does not mean it has got away with whatever it is doing, because if we come along in 2006 or 2007 and discover that something is wrong we can act retrospectively to correct the system, first of all. If we feel there has been a danger to the European Union budget and the money is being wrongfully used we can claw it back and, in fact, we do. In the evidence which Mr Gray gave to you earlier he mentioned that because of public procurement difficulties in Greece, for example, we have clawed back 518 million euro which is a sizeable sum of resources. As I say, we do not do that with joy because then that is lost for the policy, but at least we are able to say to the Court and to the European taxpayer that their money is being properly used.

  Q554  Lord Blackwell: The incidence of this gap opening up between what people say they do and what they actually do in those audits you conduct, are you suggesting that is a low incidence?

  Mr Meadows: Yes, and this is partly an answer to Lord Maclennan's question earlier; we do not only have information coming from our audit work, there are questions posed by members of the European Parliament and these often, as it were, relate to articles in newspapers or things of this sort. Mr Denness, who is here, is an example; we have our own teams of geographical desk officers who tend to work within a region for, say, four or five years and build up a quite close knowledge of what goes on in the region; and sometimes these desk officers come back from a visit to a region and say, "We would like you to audit something or other", and we always make sure that in Mr Martyn's work programme there is spare capacity for us to be able to do these ad hoc audits. We are fairly sure that, what with the systems we have and with these more ad hoc methods with which we can support them, we are able to keep a closer watch on making sure that people actually do what they are required to do and what they say that they do.

  Mr Martyn: My Lord Chairman, perhaps I could add something to make it a bit more concrete in the types of issues. I would say it is not that we audit and we find that simply what has been presented to us as a description is complete fabrication and nothing is going on; it is not that there are no controls but that there are certain gaps in the way the controls are done. For example, there are controls going on but they are using procedures or checklists for this work that do not cover all the issues that should be covered. Perhaps there is not sufficient attention given to the risk of failing to comply with proper public procurement procedures; or failing to deal with certain eligibility rules or some such. There are certain gaps that we detect; or the controls are not properly evidenced and you cannot actually see an audit trail to track the controls that have been done; you do not see the reports that have been made. These are the typical kinds of weakness that we find, that we then make recommendations about how to improve.

  Q555  Lord Inglewood: I was wondering, in your activities around the various Member States, whether (from dealing with those you have an interface with) you find that the basic understanding of concepts of financial integrity and probity are more or less the same; or is there quite a wide variation in the underlying understanding of what people are talking about? Equally, is there a general agreement about the importance of adhering to proper standards of auditing and financial control, or in some countries is there an attitude of "it doesn't really matter"?

  Mr Meadows: This is in part an answer to Lord Cobbold's earlier question. It may well be that when we began to deal with, for example, Romania and Bulgaria, their view of financial management and financial control was different from the rest of the Union; but by the time they become a Member their view will be more or less harmonised with that of everyone else and they will understand the importance of what they have to do. We would say there are not any lasting pockets in Member States of people who take these controls lightly. I think the most impressive feature of the whole exercise is in fact the degree of diligence which Member States do show in trying to operate within a common framework which is mutually agreed between them and the Commission.

  Q556  Chairman: Is the complexity of some of the regulations a contributory factor to problems arising either in terms of irregularities or within fraud?

  Mr Meadows: It is sometimes, or it may be sometimes. What is required of a programme manager in a part of England or a part of Greece, say, is an understanding of Community laws about public procurement, the environment and competition policy as well as national laws and perhaps, if one is the Federal Republic, laws at the La­nder level also. So the requirement on the programme manager is quite heavy. Is it complex? Complexity is something which, in my view, you can always try to reduce, you can always try to simplify, and we do. We view complexity as something which is reducible by the effort of everyone involved. We shall never escape that the programme manager is required to understand Community law as well as national law and perhaps conditions in the region. But we have to work constantly to try to make sure that with this layering of requirements you do not get unnecessary complexity.

  Q557  Lord Cobbold: How does your relationship with OLAF work out in practice?

  Mr Meadows: It works out well in practice, apart from the fact that we have tried to have a code of conduct with OLAF for a number of years and we have not been able to agree it, and that is frequently mentioned in our annual activity report. OLAF itself has recently gone through some change in its organisation and in the scope of its work. We have taken over some of OLAF's work, but we work well together. Nicholas is more at the cutting edge.

  Mr Martyn: We have regular contacts with OLAF. OLAF has a unit responsible for structural funds so we have regular meetings with them. They have two roles: one of their roles is carrying out specific inquiries on cases; and sometimes if we in our audit work find a case that we think they should investigate then we notify them about it and they may then follow it up, and we obviously collaborate and provide information. When they have the results of their inquiries sometimes there are financial implications that we then need to enforce as we are responsible on the budget side. We help them in terms of their own risk analysis work through the wider information that we have. Then the other part of their work is to do with the communication of irregularities because Member States communicate through OLAF irregularities that they detect. We use the database that OLAF has in order to get information about irregularities reported and, in particular, to ensure that the financial follow-up is complete. Especially when a programme is closed, one of the activities is to make sure that all irregularities that have been reported during the life of that programme have been properly dealt with by the Member State. The Member State has to give a declaration about that and then we do a verification of closure to make sure all of those cases have been properly closed off: either an amount has been recovered and paid back to the Commission; or it has simply been taken out of the programme; or, if it is underway, that we track the process to the closure.

  Q558  Lord Cobbold: Do you think OLAF should have the right of prosecution?

  Mr Meadows: It is not really a question for us, my Lord. I can give you an example of recent work between us and OLAF. The Commission received allegations concerning our own delegation in the capital of one of the candidate countries. We did two things: firstly, we immediately carried out audit work ourselves to try to verify whether, in fact, we needed to take immediate action to protect expenditure; and, secondly, at the same time we handed the dossier over to OLAF to look into it in a more thorough-going way to try to decide whether there was a case to answer (and it turned out there was not) and what should be the correct way to proceed. Whether OLAF should be able to bring court proceedings itself is really not a question for us.

  Q559  Lord Maclennan of Rogart: Reviewing the process from the sharp end as you do, can you give any indication as to what timescale you might regard as practical in respect of any member country for the issuance of contracts of confidence prepared by the Commission?

  Mr Meadows: I will let Mr Martyn talk about this in a moment. We have been talking about contracts of confidence with Member States for quite some time and we have now managed to sign one—the first one has been signed and it is with Wales. So Wales has become the path breaker in the European Union entering into a contract of confidence which says that we are sufficiently satisfied with the way things are done in Wales, that we will step down our own audit activity; which means that we in the United Kingdom find ourselves in the strange position of having a reserve with respect to a programme in England and a contract of confidence with respect to Wales. There are other Member States which may soon sign these contracts, so perhaps Nicholas could give a fuller answer.

  Mr Martyn: It is useful just to explain that this idea was initiated some three or four years ago in order to have some kind of annual assurance from Member States. There is nothing in the regulations which provides for the audit body to give a formal audit opinion every year; there will be for the next period but there is not for the current period. To try to fill this gap and to get a formal assurance, the way forward was to do it by agreement through this contract of confidence. The prerequisites were that we had evidence that the system was functioning properly and, in particular, that we could rely on the work of the national audit body, the audit body in the region or the part of the Member State, as in the case of Wales. We have worked on that with Member States and, although we have not signed contracts of confidence until this year, in a sense the whole process has actually significantly improved the way in which we have worked with national audit bodies; that it has driven a process by which we have improved the methodology of the work done by national audit bodies and the reporting, so that we can get a reliance from it. There are a couple of other Member States who are in the final stages and are still interested; so I think Wales will not be the only body to sign. The other result of the whole process has been that for the next structural funds period we have effectively built into the regulations the same mechanism, so that in the future regulations the Commission will be able to draw a conclusion that it can rely principally on the work of the audit authority, the national audit body, for its assurance, and can reduce its own audit work as a consequence of that.

  Q560  Lord Blackwell: I was intrigued earlier when you referred to England rather than the United Kingdom, and you have now referred to Wales. Is the United Kingdom the only Member State where you deal with the component parts separately in this way; or are there other Member States where you seek audit relationships with different parts of the Member State? Why is it that that is appropriate, rather than the United Kingdom?

  Mr Meadows: Purely technical.

  Mr Martyn: My Lord Chairman, it is a question of systems. As auditors we are interested in systems. In some Member States you have one system; in some Member States you have five or six systems; and in some Member States you may have 20 or 30 systems. In Germany there is a different system for each of the La­nder. In the United Kingdom it is a separate system in terms of delivery of the structural funds, in England, Scotland, Wales and Northern Ireland. If we go and audit in Scotland and find everything is perfect it does not give us any assurance that what is happening in England is perfect, or in Northern Ireland is perfect. The reason we were able to arrive at a positive conclusion for Wales was that there we did audit work; (we worked with the authorities there); and we have reached a position where we are satisfied that the systems are working well. The audit work is very well done and therefore we were satisfied that we could enter into a contract of confidence. On the contrary, in England we have done a substantial amount of audit work over the last few years and we have found some systematic weaknesses which have led to difficulties there.

  Chairman: Thank you very much indeed. We are most grateful to you.

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