Local government: A case for governance repair

Some opening comments

Governance is one of those words a bit like family or community; the moment you think you really understand it, up pops a different approach and you recognise you are still just scratching the surface of a highly diverse collection of different understandings and usages.

This article draws on my more than 30 years’ experience working on issues of council and community governance in New Zealand and internationally, and observing the growing divergences between practice in New Zealand and practice in most other Westminster style jurisdictions.

It explores an area of governance outside the IoD’s normal purview but one which both has an important influence on the quality of the business environment and also plays a major role in community well-being. I will do so by taking a comparative look at governance within three of the main components of New Zealand’s society and economy:

• the central government public sector,
• local government
• the private sector represented by the incorporated company.

Let’s start with the description of governance set out in the Four Pillars of Governance Best Practice:

"Governance sits with the board which is responsible for the strategic and overall direction of the organisation, including the development of strategic policies to achieve its goals. Good governance is about providing the organisation with the big picture to help enable good management decisions be made."

It’s clearly designed to suit a particular sector, the incorporated for-profit company. It’s less clear how well it would fit (say) a public sector entity or a philanthropic trust. It’s particularly unclear where it would fit with entities which operate in environments where co-governance is an expectation.

Nonetheless, it’s a very useful starting point setting out some generic principles including that governance should focus on strategy and on its responsibility for setting the big picture within which the organisation functions.

Some context

One of the many outcomes from the major series of economic and social reforms initiated by the 1984-1990 Labour government was a reframing of governance in each of the three sectors this article considers. The previously unified public service was restructured into what in effect became a series of semi-autonomous entities (eg departments, state-owned enterprises, Crown entities, Crown research institutes). The local government sector was restructured from top to bottom and much of its legislative framework rewritten. On a somewhat slower timetable, the Companies Act 1955 was replaced by the Companies Act 1993 marking a significant and ongoing shift in the nature and responsibility of the director role.

In this article I propose rethinking governance to pull it back to an understanding that the privilege of incorporation, regardless of the form of incorporation, should invariably be accompanied with the obligation to deliver on a social purpose (the simple rationale is that because incorporation is necessarily the product of a societal decision to enable incorporation, there is a correlative obligation). It's an understanding which is currently stronger in corporate forms other than the listed public corporate, although even in that area views do appear to be changing. There are certainly signs the economic turmoil which is one of the consequences of COVID-19 will reinforce trends making the traditional shareholder value focus unsustainable^[1]. Signs of this of course were already evident pre-COVID 19, for example, in the King IV report on corporate governance for the Institute of Directors in South Africa, and the growing emphasis on environmental and social governance.

30 years on: rethinking governance in the three sectors

Reform in each of the three sectors was driven substantially by central government’s perception of what was necessary in each sector to ensure effective and efficient performance to achieve the sector’s underlying purposes. This section looks at what happened with governance in each of the three sectors and in particular draws a contrast between local government and the governance of incorporated companies.

For both the central government public sector and local government, the government’s approach to reform was driven very much by a belief that existing structures were characterised by a series of conflicting roles.  Typically the same entity was responsible both for policy and implementation; there was too much scope for political interference; monitoring of and accountability for performance was inadequate.

Central government

For the central government public sector this meant major restructuring including separating out commercial and non-commercial activity and adopting a chief executive model for the management of government departments instead of the previous unified public service model. The relationship between ministers and departments was changed to one based on contract between the Minister and the Chief Executive, giving chief executives substantial operational independence.

30 years on a review of the State Sector Act highlighted a number of concerns with what had resulted from the 1980s reforms. These included difficulty in achieving coordination between different departments; a relative lack of a public service ethos; and perverse incentives resulting from the contractual arrangement between ministers and chief executives ^[2].

The solution? The review proposed a return to a unified public service under the control of an enhanced Public Services Commission and with a series of purposes intended to restore/reinforce a public service ethos and a sense of service to the public. This is recognised in the fifth of the five purposes stated in the section dealing with the purposes of the Public Service Act 2020 as “to affirm that the fundamental characteristic of the public service is acting with a spirit of service to the community.”

The Act also establishes the role of the Public Service Commissioner as leading the governance of the public service (although the term governance itself is not actually used). In the stated role “the Commissioner acts as the Head of Service by providing leadership of the public service, including of its agencies and workforce and by oversight of the performance and integrity of the system.”

Local government

The local government sector underwent perhaps the most comprehensive reform of the three sectors with significant restructuring, the abolition of literally hundreds of special-purpose local bodies and the reduction of the number of territorial local authorities themselves from approximately 200 to now 67.

Governance reforms were comprehensive. Prior to change, elected members as a body were the employers of all council staff and could and indeed often did direct individual staff in the course of their day-to-day operations.

In what at the time was thought to be a replication of private-sector practice, local government legislation was rewritten so that elected members’ responsibility was for policy - expressed as being “responsible and democratically accountable for the decision-making of the local authority”. Administration was the responsibility of a chief executive employed by the council on a time-limited contract (typically five years) who was to act as the employer of all staff, to be responsible for implementing the decisions of the Council and by statute act as the advisor to the council. A quick look at the Companies Act makes it clear that this understanding of private-sector practice did not reflect the reality of the Board of Directors/management relationship. Section 128 of the Act, which has remained unchanged since the Act was passed, provides:

• The business and affairs of a company must be managed by, or under the direction or supervision of, the board of the company.
• The board of a company has all the powers necessary for managing, and for directing and supervising the management of the business and affairs of the company.

The expectation at the time of local government reform was for an enhanced role for elected members in setting the strategic direction for the authority and leading in policy development with the chief executive then implementing the resultant decisions.

What did not happen at the time of the reform and has not happened subsequently is an assessment of the nature of the governance role of elected members and how that should best be discharged. At the time of the reforms the role of an elected member was relatively straightforward. There was virtually no requirement for public accountability (the only formal accountability was the publication of a rudimentary annual report), no provision for public consultation, infrastructure provision was an order of magnitude simpler than it is now, there was no resource management act (instead a relatively simple town planning act) and relatively minimal compliance requirements.

In practice, the job of an elected member was very much part time and for most if not all elected members could easily be undertaken with a few hours at the kitchen table each month.

Successive government interventions over the past three decades have dramatically changed the workload on elected members. From virtually no requirement for accountability, elected members now face multiple requirements for planning, reporting and accountability which by themselves have virtually become a full-time job. The intention in separating the respective roles of elected members and management and of clarifying the respective responsibilities for decision-making and implementation has, in many councils, resulted in what amounts to management control - not by intent, but by incremental creep in response to ongoing government intervention.

Despite massive changes, the job of elected member is still treated much as though it were part-time. The only support which most councils provide to their elected members is a laptop and a cell phone. Few councils provide any working space (the kitchen table still reigns supreme). Elected members have no secretarial or research support other than that provided by the Chief Executive. Agendas, often hundreds of pages long, are typically circulated just a few days, sometimes only two or three, prior to the meeting which will consider them. Councils are often required to take decisions on very complex matters with financial impacts in the multi-tens of millions of dollars.

As a matter of good governance, no matter how strong the confidence the governing body may have in its Chief Executive, on major decisions especially those with serious financial implications it is simply prudent to obtain an independent overview, if only to be satisfied that the questions which need to be asked have been asked and there are no significant risks or other matters which have not been adequately covered. A council wanting to obtain such an overview would need to ask the Chief Executive if the Chief Executive would please commission an independent review of his/her recommendations to the Council. This is hardly conducive to good governance.

Against this background it is not surprising public confidence in local government is low as evidenced by a 2017 Local Government New Zealand survey of public opinion which showed that overall, public satisfaction with local government’s performance was only 17%.

30 years of central government driven reform, focusing on the performance of local government, has resulted in a situation in which elected members are broadly disempowered, public confidence is low, and central government continues to act on the assumption it has carte blanche to intervene in the affairs of local government whenever it considers it appropriate to do so.

Private-sector

The reform of the legislative framework for companies was driven by much the same broad government objective of making governance arrangements fit for purpose. In the case of company law reform this meant ensuring a legislative framework which would create an environment in which businesses would function efficiently, and effectively in terms of broader social objectives (environment, health and safety et cetera) and, most importantly, facilitate further investment. It’s clear that the role of directors was seen as somewhat more central for the performance of companies than the role of elected members was for the performance of councils.

It is also clear successive central governments have been much more reluctant to intervene directly in the operation of companies than they have been in the operation of councils. In practice this has meant a relatively stable operating environment notwithstanding ongoing pressures across a range of areas such as climate change, health and safety, sustainability and accountability.

The result; although there remain tensions between the private sector and central government regarding the operating environment for business, and the role and accountability of directors, it’s within a context in which the pivotal role of directors in the governance of companies is unquestioned and governments understand the importance of maintaining a positive environment for business (albeit with some differences in understanding of what constitutes positive).

Governance changes in local government

30 years ago the responsibility and prestige associated with being a councillor or a company director was broadly similar. Certainly most councils had relatively little difficulty in attracting as candidates for elected positions people who in broad terms were similarly experienced and qualified as people who would put themselves forward as candidates for appointment to a board. That is far from the case today. IoD members who would almost crawl across broken glass to get a board appointment will quite often not even consider putting themselves forward to become an elected member of a council.

Why has the relative attractiveness of these two significant spheres of governance changed so markedly? There are a number of relatively easy explanations. The job of councillor is now so time-consuming it is difficult or impossible to combine with a separate career. Public distrust of local government is an active disincentive to becoming involved (so incidentally is the way that too many people on social media treat councillors). Many people doing due diligence will conclude that the relative lack of support for the governance role makes it unattractive. The persistence of government intervention and the way in which government policy changes as governments change presents another disincentive. So almost certainly does the public appearance that many of the most demanding issues confronting local government are outside its power to resolve.

None of this has happened overnight. By and large the current state of governance, and its relative lack of attractiveness, reflect the cumulative outcome of years of ongoing government intervention coupled with the lack of focus on the nature of the governance role and how best to make it effective.

This is a marked difference from what has happened in the private sector with the governance of companies. In particular, although company boards have also faced the consequences of ongoing central government intervention in their operating environment, it has always been within broadly acceptable limits - the common reaction to each successive government intervention that it will be the final straw which breaks the camel’s back, making it impossible for companies to recruit capable directors, has never in practice been realised.

I believe there is a very clear and credible explanation, but one which has seldom if ever been advanced. This lies in the way in which the two sectors, as sectors, responded to major central government driven reform initiatives.

Local government responded by strengthening the sector organisation representing councils themselves. The natural corollary of this has been that the priorities for sector leadership have focused on business of councils (eg funding, infrastructure, service delivery and land use planning). In contrast, the response of the private sector was to establish an organisation explicitly to represent the interests of the people who themselves were responsible for governance, the IoD. Unsurprisingly the focus of the IoD has been on the governance environment for directors with its primary emphasis on working with government to ensure successive interventions are not put in place in ways which present undue risk to directors, or to their ability to discharge their role in the best interests of the company.

The difference is palpable. Increasingly, local government is becoming a management dominated sector many of whose own elected members openly recognise the role of elected member is less and less one of genuine governance and leadership of the council and more and more one which too closely resembles a tick the box function.

Searching for a solution

Theoretically there are possible solutions within the current local government legislation. In practice there appears to be little appetite for making the good governance of local government a priority for the sector. As an example, induction programmes run for new councillors concentrate on the activity of the council as an organisation and pay little or no attention to the reality that the core role of elected members is to act as the governing body of the council. In practice it seems very unlikely the decline in the governance of local government will be reversed until enabling good governance becomes the core business of a dedicated entity with a membership base of elected members, not organisations.

In the past, the IoD has provided governance training to local government elected members. This is potentially useful (especially for elected members from councils involved with council-controlled organisations). However, I believe it could do more. The IoD has for the most part offered courses from its portfolio of training options rather than beginning with a first principles assessment of the governance needs of the local government sector and in particular of the people who hold elected office. It is only by taking an approach of this sort that support for the governance role of elected members will be based on the breadth of understanding necessary and support developing the range of interventions required. Training and development is important but so also is a focus on how to build a ‘governance culture’ across the governance of local government.

The present standing and capability of New Zealand’s directorial community owes a very great deal to the IoD’s focus not just on training and accreditation but also and crucially on continuing to ensure that the environment within which directors function is supportive of good governance. This means ongoing monitoring of government policy, of economic and social trends, of global thinking about the nature of corporate governance and so forth. It’s an examplar for what is required to support good governance in local government.

The IoD has the reputation and experience, and increasingly the capacity, to provide the same type of support for the essence of governance itself for other sectors as it already does for the directorial community.

Although there are clear and significant differences in governance among the three sectors discussed in this article, there are also increasing and important commonalities. In each of the three sectors (and indeed this applies to other sectors such as not for profits and the philanthropic sector) there is a growing recognition of the importance of social purpose (see footnote 2 discussing the work on the privilege of incorporation). It’s coming into the discussion of corporate governance (King IV).

The social and economic governance of corporates is increasingly a priority for major institutional investors (see the work of The Investment Integration Project and the UN affiliate Principles for Responsible Investment). Today New Zealand’s directorial community would undoubtedly benefit from the IoD consciously taking a broader overview of governance and the different societal and other trends shaping the governance environment (which in practice would see the IoD build on much of what it does already).

Improving the quality of governance of local government will pay real dividends for the business sector. The performance of local government is a critical element in the quality of the business environment and the ability of businesses to carry on their activity in a timely and efficient way - just speak with anyone involved in infrastructure or property development frustrated by the inability of local government to deliver.

So, what should the IoD do differently to address the very clear shortcomings in governance within the local government sector? First, approach local government as a critical friend and not as a critic. It’s important to reflect that much of what has happened in recent years within local government has been a direct consequence of decisions over the years by central government, including quite significant vacillation over time about the role and purpose of local government.

Next, approach addressing the governance needs within the local government sector in much the same way as the IoD has done within the private sector. Place the people in governance roles at the heart of its contribution to rebuilding the understanding and calibre of governance within local government. Treat the delivery of training and other professional development services as a second order objective. Make the first order objective working with local government leadership to determine how best to rebuild an understanding of the essence of governance, and how to align the responsibilities of members of governing bodies and the resources and support needed to deliver on those responsibilities. Do this on a partnership basis.

Establish a separate category of membership for people holding a governance role in local government. Support it with people who have both a good overarching understanding of the essence of governance and an in-depth appreciation of the difference between governance in local government and governance in the private sector. Work with central government to ensure that ministers and officials understand the value of this initiative and encourage elected members in local government to get involved.

New Zealand’s local government sector faces a serious and growing crisis of governance. The impacts are not confined to local government itself. They affect all aspects of society and in particular the interests of business in being able to operate in a stable and well-run local environment. It is timely to investigate the solution proposed in this article, and very much in the interests of the IoD’s members that the problem be resolved in a way which can best ensure good governance in local government.

References

^[1] There is a very interesting stream of academic research on the role of the corporation in society which looks at the theme of the privilege of incorporation. This quotation from Can corporations be held to the public interest, or even to the law? illustrates this line of thinking: "From the first application of the corporate form to business enterprise, and for centuries thereafter, the reigning norm (if not in all instances the reality) was that business associates received the privilege of incorporation only on condition that their enterprise would generate public benefits."

^[2] Chief executives were employed on five yearly contracts with the opportunity for renewal at the end. The potential for the relationship between a chief executive and a minister to be influenced by the chief executive’s interest in being reappointed was seen as a very real risk.

The views expressed in this article are the author’s own and do not reflect the position of the IoD unless explicitly stated.