2015/16 Knowledge Sharing Program with Kuwait

2015/16 Knowledge Sharing Program with Kuwait: Evaluation of Public Investment Management System (PIMS) in Kuwait 2015/16 Knowledge Sharing Program with Kuwait 2015/16 Knowledge Sharing Program with Kuwait

Project Title Evaluation of Public Investment Management System (PIMS) in Kuwait

Prepared by Korea Development Institute (KDI)

Supported by Ministry of Strategy and Finance (MOSF), Republic of Korea

Prepared for The Government of the State of Kuwait

In cooperation with General Secretariat of the Supreme Council for Planning and Development, Kuwait

Program Directors Si Wook Lee, Executive Director, Center for International Development (CID), KDI Kwang Eon Sul, Senior Fellow, CID, KDI

Program Officer Jiyu Ha, Research Associate, Division of Planning & Policy Consultation, CID, KDI

Senior Advisor Jong Chan Choi, Former Minister of Construction and Transportation

Project Manager Kang-Soo Kim, Senior Fellow, Department of Land and Infrastructure Policy, KDI

Authors Chapter 1. Yeonseob Ha, Professor, Yonsei University Chapter 2. Sungmin Han, Associate Fellow, KDI Meesoo Park, Senior Research Associate, KDI Chapter 3. Jongyearn Lee, Associate Fellow, KDI

English Editor Seoul Selection

Government Publications Registration Number 11-1051000-000700-01 ISBN 979-11-5932-132-0 94320 979-11-5932-117-7 (set) Copyright ⓒ 2016 by Ministry of Strategy and Finance, Republic of Korea Government Publications Registration Number 11-1051000-000700-01

2015/16 Knowledge Sharing Program with Kuwait: Evaluation of Public Investment Management System (PIMS) in Kuwait Preface

In the 21st century, knowledge is one of the key determinants of a country’s level of socio-economic development. Based on this recognition, Korea’s Knowledge Sharing Program (KSP) was launched in 2004 by the Ministry of Strategy and Finance (MOSF) and the Korea Development Institute (KDI).

KSP aims to share Korea’s experience and knowledge with the partner countries to achieve mutual prosperity and cooperative partnership. Former high-ranking government officials are directly involved in the policy consultation to share their intimate knowledge of development challenges, and to complement the analytical work of policy experts and specialists who have extensive experience in their fields. The government officials and practitioners effectively pair up with their counterparts in the development partner countries to work jointly on pressing policy challenges and share development knowledge in the process. The program includes policy research, consultation and capacity-building activities, all in all to provide comprehensive and tailor-made assistance to the development partner countries in building a stable foundation and fostering capabilities to pursue self-sustainable growth.

In 2015, policy consultation and capacity building workshop were carried out with 32 partner countries covering over 100 research agendas. As a new partner, Nicaragua and Visegrad Group were selected in consideration of the country’s policy demand, growth potential, and strategic economic partnership.

The 2015/16 Knowledge Sharing Program with Kuwait was carried out with the aim of exchanging socio-economic development experience of two countries for improving Kuwait’s policy making capacity and achieving her socio-economic development. Under the MOU signed between the Ministry of Strategy and Finance of Korea and the General Secretariat of the Supreme Council for Planning and Development of Kuwait, the joint research and seminars were conducted in order to support the establishment of “Evaluation of Public Investment Management System (PIMS) in Kuwait”.

I would like to take this opportunity to express my sincere gratitude to Senior Advisor Mr. Jong Chan Choi, Project Manager Prof. Kang-soo Kim, as well as the project consultants including Prof. Yeonseob Ha, Dr. Sungmin Han, Dr. Jongyearn Lee and Ms. Meesoo Park for their immense efforts in successfully completing the 2015/16 KSP with Kuwait. I am also grateful to Executive Director Dr. Si Wook Lee, Program Director Dr. Kwang Eon Sul, and Program Officer Ms. Jiyu Ha, and all members of the Center for International Development, KDI for their hard work and dedication to this program. Lastly, I extend my warmest thanks to the Kuwaiti counterpart, the General Secretariat of the Supreme Council for Planning and Developmentand other related agencies, program coordinators, and participants for showing active cooperation and great support.

In your hands is the publication of the results of the 2015/16 KSP with Kuwait. I believe that KSP will serve as a valuable opportunity to further elevate mutual economic cooperation of Kuwait and Korea to a new level. I sincerely hope the final research results on the selected areas could be fully utilized to support Kuwait in achieving economic development goal in the near future.

Joon-Kyung Kim President Korea Development Institute Contents

2015/16 KSP with Kuwait ...... 011 Executive Summary ...... 014

Chapter 1 Public Investment Management Systems in Korea and Kuwait Compared

Summary ...... 018 1. Introduction ...... 020 2. Public Investment Management: Issues and Challenges ...... 021 2.1. Goals of PIM ...... 021 2.2. Stages of PIM ...... 022 3. PIM in Kuwait ...... 023 3.1. Duplication and Fragmentation of PIM Decision-making ...... 023 3.2. No Gatekeeping Function in PIM ...... 024 3.3. Linking Public Investment Projects to Development Plans ...... 024 3.4. Quantitative and Qualitative Appraisal of Public Investment Projects ...... 026 3.5. No Link between Capital and Current Expenditures ...... 027 4. PIM in Korea ...... 027 4.1. Evolution of PIM in Korea ...... 027 4.2. Public Financial Management Reform and PIM ...... 030 4.3. Total Project Cost Management (TPCM) System ...... 040 4.4. Preliminary Feasibility Study (PFS) ...... 045 4.5. Performance of PIM ...... 046 5. Conclusion and Policy Suggestions ...... 050 5.1. Preconditions for Effective Reform ...... 050 5.2. Policy Recommendations: Short Term ...... 051 5.3. Policy Recommendations: Long Term ...... 052 References ...... 053

Chapter 2 Improvement of Project Appraisal and Monitoring System in Kuwait

Summary ...... 058 1. Introduction ...... 060 2. Project Appraisal and Monitoring System of Kuwait ...... 063 2.1. Economy and National Development Plan ...... 063 2.2. Project Appraisal System in Kuwait ...... 071 2.3. Project Monitoring System in Kuwait ...... 074 3. Project Appraisal System in Korea ...... 076 3.1. System in Early Stage of Economic Development ...... 076 3.2. Ex Ante Evaluation: Preliminary Feasibility Study (PFS) ...... 079 4. Project Monitoring System in Korea ...... 091 4.1. Intermediate Evaluation: Reassessment Study of Feasibility (RSF) ...... 091 5. Conclusion and Policy Suggestions ...... 096 References ...... 098

Chapter 3 Methodological Framework to Evaluate Public Investment Projects

Summary ...... 100 1. Introduction ...... 101 2. Practices in Kuwait: Comparison with Korea and Other Select Countries ...... 102 2.1. Competence in Infrastructure ...... 102 2.2. Cost-Benefit Analysis Practices ...... 104 3. Korean Methodology for Evaluating Public Investment Projects: Preliminary Feasibility Studies 111 3.1. Multi-Criteria Decision Making ...... 112 3.2. Economic Analysis ...... 114 3.3. Policy Analysis ...... 125 3.4. Balanced Regional Development Analysis ...... 128 3.5. Comprehensive Evaluation: Analytic Hierarchy Process ...... 130 4. Lessons from Korea and Policy Suggestions for Kuwait ...... 133 4.1. Requiring Ex Ante Project Appraisal Using Cost-Benefit Analysis ...... 134 4.2. Standardization of Parameters ...... 134 4.3. Data Collection and Management for Appraisals ...... 137 4.4. Establishment/Designation of Dedicated Organization for Analysis ...... 139 4.5. Considering Introduction of Multi-Criteria Decision Making ...... 140 References ...... 142 Contents | List of Tables

Chapter 1

Cost Savings by PFS ...... 047 Reasons for RSF ...... 048 Performance of RDF ...... 048 Cost Savings from RSF ...... 049

Chapter 2

Summary of Public Revenue and Expenditures ...... 063 Roles and Responsibilities of Institutions Concerned ...... 072 Results of Feasibility Studies Conducted between 1994 and 1998 ...... 079 National Finance Act Provisions on PFS (1) ...... 082 National Finance Act Provisions on PFS (2) ...... 083 No. of PFS Cases by Sector ...... 088 Proportion of Feasible Projects by Sector (1999~2014) ...... 090

Chapter 3

Global Competitive Index 2015-16: Infrastructure ...... 102 Assessment Framework for CBA Practice at Government Level ...... 105 Qualitative Assessment of Public Investment System ...... 107 Requirements for Cost-Benefit Analysis ...... 108 Legal Requirements on Content of Cost-Benefit Analysis ...... 110 Content of Analysis of Water Supply and Demand ...... 116 Water Demand by Purpose ...... 117 Standards to Reflect Development Plans ...... 118 Benefits of Road and Railroad Projects ...... 119 Composition of Total Project Cost ...... 120 Comparison of Evaluation Criteria in Economic Analysis ...... 123 Indicators Used in Calculation of Regional Development Index ...... 129 Weights for Indicators to Calculate Regional Development Index ...... 129 Weights in Each Evaluation Area in Preliminary Feasibility Studies ...... 132 Social Discount Rates Used in Cost-Benefit Analyses ...... 136 List of Required Data to be Submitted for PFS ...... 138 Contents | List of Figures

Chapter 1 [Figure 1-1] Stages of PIM ...... 022 [Figure 1-2] Project Classification Criteria and Framework in Kuwait ...... 025 [Figure 1-3] Kuwait's Project Classification System ...... 025 [Figure 1-4] Evolution of PIM Reform in Korea ...... 029 [Figure 1-5] Expansion of Budget Coverage ...... 031 [Figure 1-6] Sequence of Performance Management and Budgeting Reform ...... 032 [Figure 1-7] Checklist of Self-Assessment of Budgetary Program ...... 033 [Figure 1-8] Evaluation Results from Self-Assessment of Budgetary ...... 033 [Figure 1-9] Direction of Performance Management System Reform ...... 036 [Figure 1-10] 4 Major Fiscal Reforms ...... 037 [Figure 1-11] Main Contents of Nat’l Fiscal Management Plan ...... 039 [Figure 1-12] Implementation Process of Public Investment ...... 040 [Figure 1-13] Total Project Cost Management ...... 042 [Figure 1-14] Expanding Coverage of PIM System ...... 046

Chapter 2 [Figure 2-1] Changes in Crude Oil Prices ...... 064 [Figure 2-2] Five Themes of Kuwait Mid-range Development Plan ...... 066 [Figure 2-3] 7 Pillars of Kuwait’s Mid-range Development Plan ...... 068 [Figure 2-4] Selection Criteria ...... 070 [Figure 2-5] Project Implementation Procedures ...... 073 [Figure 2-6] Evolution of Korea PIM System from 1960s to 2000s ...... 081 [Figure 2-7] Implementation Procedure of PFS ...... 088 [Figure 2-8] Implementation Procedure of RSF ...... 094 [Figure 2-9] Performance of RSF ...... 095 [Figure 2-10] RSF Conducted by Sector ...... 095

Chapter 3 [Figure 3-1] Infrastructure Quality and GDP per Capita ...... 103 [Figure 3-2] Structure of Analyses in Preliminary Feasibility Studies ...... 113 [Figure 3-3] Process of Transport Demand Estimation under Conventional 4-Step Model ...... 115 Contents | List of Boxes

[Figure 3-4] Structure of AHP in PFS ...... 131 [Figure 3-5] Evolution of Korean Practices in PFS Implementation ...... 133 [Figure 3-6] Timeline of Policy Suggestions for Kuwait ...... 141

Chapter 1 Requirements for RSF per Article 49 of Guidelines for Total Project Cost Management(TPDM) ...... 043

Chapter 2 Projects Subject to PFS per Article 38 of Nat’l Finance Act ...... 084 Projects Subject to PFS by Article 13 of Enforcement Decree of Nat’l Finance Act ...... 085 Projects Exempt from PFS by Nat’l Finance Act ...... 085 2015/16 KSP with Kuwait

Jiyu Ha (Program Officer, Korea Development Institute)

Amid the global environment of low oil prices, Kuwait, whose economy is heavily dependent on oil revenue, has made huge efforts to ride out these tough economic times. To drive sustainable growth, the Kuwaiti government has set a national vision that includes greater economic diversification by focusing more on large infrastructure projects and enhancing the private sector. Numerous problems at various levels of infrastructure project cycles have occurred, however, ranging from the selection of each project to low efficiency and quality of public investment management. Thus the Kuwaiti government requested a collaboration with Korea under the Knowledge Sharing Program (KSP) to continue after its project in 2014 to find practical and tangible options for making visible changes in economic development.

In 2007, the KSP with Kuwait was conducted under the theme “Kuwait’s Strategic Response to its Developmental Challenges: Recasting its Strategic Options and Implementation Strategy from a Korea Perspective.” On four occasions in 2007, 2009-10, 2013 and 2014, the KSP with Kuwait was developed based on a strong partnership between Kuwait and Korea to raise Kuwait’s national competitiveness and strengthen the policy capacity of the Kuwaiti government. With the successful completion of the 2014 KSP, bilateral cooperation continued through the 2015-16 KSP under the umbrella topic “Evaluation of Public Investment Management System in Kuwait.” The General Secretariat of the Supreme Council for Planning and Development of the State of Kuwait (GS- SCPD) asked the Korea Development Institute (KDI) to specify the main theme,

2015/16 KSP with Kuwait • 011 and confirmed three specific topics proposed by the Korean side. The following information gives a brief overview of this year’s program, including its topic and research team.

2015/16 KSP with Kuwait: Topics and Research Team

Evaluation of Public Investment Management System in Kuwait

No. Topic Researcher

Public Investment Management Systems Yeonseob Ha 1 in Korea and Kuwait Compared (Yonsei University)

Sungmin Han Improvement of Project Appraisal and 2 Meesoo Park Monitoring System in Kuwait (Korea Development Institute)

Methodological Framework to Evaluate Jongyearn Lee 3 Public Investment Projects (Korea Development Institute)

* Senior Advisor: Jong Chan Choi, Former Minister of Construction and Transportation * Project Manager: Kangsoo Kim, Director and Vice President, Department of Land and Infrastructure Policy, KDI * Program Director: Kwangeon Sul, Honorary Fellow, Center for International Development (CID), KDI * Program Officer: Jiyu Ha, Research Associate, CID, KDI * Young KSPians (YKSP): Eunhwa Lee, Student, Hankuk University of Foreign Studies Yeahbin Yu, Student, Seoul National University

To foster in-depth understanding of the research topic and gather information from relevant institutions, the KSP delegation, headed by Program Director Dr. Kwangeon Sul, conducted a High-Level Demand Survey and Pilot Study in Kuwait City September 12-15, 2015. In the Kick-off Seminar, the Korean delegation informed the GS-SCPD, its partner institution, of the KSP implementation cycle and procedures. The delegation also held meetings with H.E. Hind S.B. Al-Sabeeh, Minister of Social Affairs and Labor and Minister of State for Development and Planning Affairs, to identify Kuwait’s needs and policy concerns. In addition, the delegates had interviews with government officials and experts from the GS-SCPD, Public Authority for Housing Welfare (PAHW), Ministry of Public Works (MPW) and Kuwait Petroleum Co. (KPC). Through their visit, the Korean researchers achieved their goals of coordinating the research scope, identifying relevant themes and collecting information and data.

After the initial meeting, the Local Reporting Workshop and Additional Pilot Study were opened again in Kuwait City December 6-8, 2015. Korean researchers in their visit gathered research data and information on the topics through in-depth

012 • 2015/16 Knowledge Sharing Program with Kuwait discussions with relevant experts and organizations such as the GS-SCPD, Kuwait Authority for Partnership Projects (KAPP), Ministry of Finance (MOF), and the MPW. Also, the KSP delegation attended a meeting of the Supreme Council for Privatization (SCP) per its request to discuss the importance and urgency of “privatization” in Kuwait. In addition, the KDI and GS-SCPD held a signing ceremony for their “Activity Agreement” in the presence of Boonam Shin, the Korean ambassador to Kuwait.

As the next step, Korea hosted the Interim Reporting and Policy Practitioners’ Workshop February 14-18, 2016. For this occasion, a Kuwaiti delegation headed by Dr. Khaled Mahdi, Secretary-General of the GS-SCPD, was invited to Korea. In the Interim Reporting Workshop conducted February 15, the Korean researchers presented their interim research findings and discussed and received feedback from the Kuwaiti delegation. Also, Secretary General Khaled in the workshop shared Kuwait’s situation by giving the presentation “Kuwait Public Investment on Mega-projects in the Context of the Kuwait National Development Plan.” In the Policy Practitioners’ Workshop, the KDI invited Kuwaiti delegates to visit the most relevant institutions and experts in Korea to provide first-hand experience and offer networking opportunities with related Korean institutions, including the National Assembly Budget Office (NABO), Sudokwon Landfill Management Corp. (case study), Incheon Bridge (case study), KDI, Ministry of Strategy and Finance (MOSF), and Dr. Youngmin Oh from Korea Institute of Public Finance (KIPF).

In the final stage, the KSP delegation, headed by Senior Advisor Jong Chan Choi, visited Kuwait City to hold the Final Reporting Workshop and Senior Policy Dialogue April 12-15. The Korean researchers reported the final outcomes of their study and made policy recommendations for each KSP subject to Kuwaiti participants, including policymakers, policy practitioners and other stakeholders from the GS- SCPD, MPW, Ministry of Housing, PAHW, Kuwait University and the private sector. A diverse range of questions and comments was discussed on the research results and their application to the Kuwaiti economy. In the Senior Policy Dialogue, the Korean delegation and the Korean Ambassador to Kuwait discussed with H.E. Hind Al- Sabeeh the application of the recommended policies. The End of Project Evaluation, Performance Evaluation Interviews, and Monitoring and Impact Evaluation were also conducted to evaluate projects and track the results and performance of ongoing as well as previous KSPs.

2015/16 KSP with Kuwait • 013 Executive Summary

Kangsoo Kim (Korea Development Institute)

Public investment promotes and results in positive effects on economic growth and social welfare. Done properly, it can trigger higher growth, productivity and long-term development. But the general consensus is that the size and even signs of public investment productivity depend on the effectiveness of the public investment management system (PIMS).

Kuwait faces the fundamental challenge of turning its natural resources into productive assets, and requires an efficient and effective PIMS to deliver better public services, generate faster growth and improve social equity.

The purpose of this study is to suggest policy recommendations to make PIMS in Kuwait more efficient, consistent and reliable. To do this, this study reviewed and evaluated the country’s existing PIMS and identified the key issues and challenges for a more efficient and effective system.

Chapter 1 (Public Investment Management Systems in Korea and Kuwait Compared) describes how to improve PIMS in Kuwait based on an in-depth study of the institutional foundations of the Korean PIMS and its evolutionary process. The following recommendations are suggested.

In the short run, Kuwait needs a better filtering system. The country lacks a standard procedure to rank projects since it has not faced budget constraints. The

014 • 2015/16 Knowledge Sharing Program with Kuwait GS-SCPD or the Ministry of Finance (MOF) should have sole authority to oversee the appraisal and selection of individual investment projects. For this purpose, a clear division of labor between government agencies involved in PIMS is needed.

Second, this chapter suggests that Kuwait needs to develop systematic decision- making processes. The country heavily relies on qualitative appraisal in feasibility studies. Usually, the annual outlay for capital expenditures for sectors and subsectors is determined ahead of time. Suitability of the projects is determined through qualitative appraisal by the GS-SCPD, and the selected projects are included in budget provisions. Employing some kind of non-mechanical criteria is inevitable at a certain stage of project appraisal. But such non-mechanical criteria should be as systematic and consistent as possible. The qualitative appraisal process is also prone to political manipulation in the evaluation of individual projects. So Kuwait needs to develop a systematic form of qualitative evaluation such as Korea's AHP.

This chapter recommends the bolstering of the gatekeeping function in the long run. Kuwait needs to designate a government department for overseeing the whole process of public investment management. The Kuwaiti government has two alternative ways of reviewing feasibility studies done by line ministries: centralize the function of public investment management by setting up an independent agency similar to Korea's PIMAC or perform an independent peer review. But either of these methods requires designation of an agency responsible for overseeing public investment management, which in Korea is performed by the Ministry of Strategy and Finance. Finally, this paper emphasizes the importance of capacity building of public agencies. Kuwait must solve the problems of low efficiency and low quality of public investment, but has paid little attention to budget optimization because of resource constraints. Greater awareness is thus needed of the role of capacity building in government agencies related to public investment management.

Chapter 2 (Improvement of Project Appraisal and Monitoring System in Kuwait) deals with policy recommendations to improve the country’s project appraisal and monitoring system. To do this, the system is fundamentally compared to the project appraisal and monitoring system in Korea, which is recognized as one of the successful in the PIMS sector. The policy recommendations are as shown below.

First, a preliminary feasibility study (PFS) of public investment projects should be conducted, possibly by the GS-SCPD, in the early stage of project initiation. To do this, a specific operating guideline should be prepared in advance to deliver information on project appraisal to all line ministries. Information on the size and types of government projects subject to PFS should also be included.

Executive Summary • 015 Second, though Kuwait has a project appraisal system in place, it mainly focuses on qualitative analysis such as consistency of the national development plan and project purpose. In this case, project evaluation is more likely to depend on the subjectivity of evaluators. An analytical guideline focusing on quantitative analysis such as cost-benefit and financial analyses is needed to assess the feasibility of public investment projects.

Third, a poorly conducted feasibility study in a project’s early stage often results in cost and time overruns over the construction period. The rising increments of construction cost lead to an additional financial burden for budget authorities. Additional input for public projects can negatively affect mid- and long-term development plans as well as those of the short term. So a process is required to ensure the feasibility of additional input. The introduction of a project monitoring system, such as RSF in Korea, is crucial for Kuwait to reduce inefficiency in the construction period.

Finally, the most important element of project appraisal is fostering the professional ability of evaluators to appraise the feasibility of public investment projects. In the short run, the Kuwaiti government needs to emphasize continuous training or overseas study for staff responsible for project appraisal. In the long run, an institution specifically designed for public project appraisal will prove extremely useful. Despite the difficulty in forming an evaluation watchdog like as the KDI PIMAC of Korea, such an entity will become a cornerstone in setting up an effective PIMS.

Chapter 3 (Methodological Framework to Evaluate Public Investment Projects) suggests an appropriate roadmap to establish a methodological framework based on the knowledge and experience accumulated by the Korean government. Based on the lessons learned from the methodological settings of and their progress of Korea’s PFS with respect to the formulation of a methodological framework for project appraisals, the policy suggestions of this chapter are (1) require ex ante project appraisals using the CBA since Kuwait has no legal requirement, (2) standardize the parameters to be specified in the CBA for securing consistency across evaluated projects, (3) collect and manage data for appraisal, again for consistency and improving the accuracy of the analyses, (4) set up or designate an organization dedicated to ex ante project appraisals to attain efficiency at the institutional level and secure objectivity, consistency and transparency in the implementation of appraisals, and (5) consider the setup of a multi-criteria decision-making system for comprehensive assessments.

016 • 2015/16 Knowledge Sharing Program with Kuwait 2015/16 Knowledge Sharing Program with Kuwait: Evaluation of Public Investment Management System (PIMS) in Kuwait Chapter 1

Public Investment Management Systems in Korea and Kuwait Compared

1. Introduction 2. Public Investment Management: Issues and Challenges 3. PIM in Kuwait 4. PIM in Korea 5. Conclusion and Policy Suggestions ■ Chapter 01

Public Investment Management Systems in Korea and Kuwait Compared

Yeonseob Ha (Yonsei University)

Summary

The purpose of this paper is to find ways of improving the public investment management system in Kuwait based on lessons from the Korean experience. The Korean system of public investment management (PIM) has drawn attention from practitioners as well as academics from around the world for effectively de- politicizing public investment decisions by centralizing the decision-making process of public investment. The Korean system is not only supported by the technical sophistication of the ex ante evaluation system but, more importantly, it has a solid basis in the legal and institutional framework. In this respect, this paper will suggest a roadmap for improving the PIM system in Kuwait based on an in-depth study of the institutional foundations of the Korean PIM system and its evolutionary process.

The challenge facing Kuwait is not a technical one but one of the institutional and legal foundations for PIM. In other words, the question is how Kuwait should approach PIM. Another issue is governance of PIM. Kuwait has relied on a bottom-up approach in the context of resource abundance, but needs institutional mechanisms to set strategic priorities and coordinate investment decisions of the agencies involved in PIM. Furthermore, Kuwait has to solve the problems of low efficiency and quality of public investment. Though the country has had a series of development initiatives (its latest being the fifth) and tried to link plans on overall development and sectoral investment, it has yet to set the institutional mechanisms for strategic

018 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 019 prioritization and coordination for effective implementation of PIM. Kuwait has paid little attention to budget optimization due to resource constraints. Since the division of labor among its government agencies concerned is unclear, Kuwait has to devise an effective coordinating mechanism and lay the proper institutional and legal foundations for PIM management.

The policy recommendations for Kuwait's government in the short term are described below.

1. Better Filtering System

Any project included in a Kuwaiti development plan is accepted and no standard procedure ranks projects since the nation has not faced budget constraints. More importantly, the General Secretariat of the Supreme Council for Planning and Development (GS-SCPD) or Ministry of Finance (MOF) should have the sole authority in overseeing the appraisal and selection of individual investment projects. For this purpose, a clear division of labor is needed among government agencies involved in PIM.

2. Development of Systematic Decision-making Processes

Kuwait heavily relies on qualitative appraisal in feasibility studies, with annual outlay for capital expenditures by sector and subsector being predetermined. Project suitability is determined through qualitative appraisal by the GS-SCPD and the selected projects are included in budget provisions. At a certain stage of project appraisal, some kind of non-mechanical criteria is inevitable but must be as systematic and consistent as possible. Qualitative appraisal is also prone to political manipulation in the evaluation of individual projects. Kuwait needs a systematic form of qualitative evaluation such as Korea’s AHP.

The policy recommendations for Kuwait's government in the long term are made as follows.

1. Stronger Gatekeeping Function

Kuwait needs to designate a government department exclusively for overseeing the process of PIM. There are two alternative ways of reviewing feasibility studies done by line ministries: centralize the PIM function by setting up an independent agency similar to Korea’s PIMAC or perform an independent peer review. Either of these methods, however, requires designation of an agency responsible for overseeing the process of PIM, which in Korea is performed by the Ministry of Strategy and Finance.

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 019 2. Capacity Building of Public Agencies

Kuwait has to solve the problems of low efficiency and quality of public investment. Its government, however, has paid little attention to budget optimization due to resource constraints. So, greater awareness is needed of the role of capacity building in public agencies involved in PIM.

1. Introduction

The purpose of this paper is to find ways of improving the PIM system in Kuwait based on lessons from the Korean experience. The Korean system of PIM has drawn attention from practitioners as well as academics from around the world for de- politicizing public investment decisions by centralizing the decision-making process of public investment. The Korean system is not only supported by the technical sophistication of the ex ante evaluation system but, more importantly, has a solid foundation in legal and institutional frameworks. In this respect, this paper will suggest a roadmap for improving the PIM system in Kuwait based on an in-depth study of the institutional foundations of the Korean PIM system and its evolutionary process.

The challenge facing Kuwait is not a technical one, but that of the institutional and legal foundations for PIM. In other words, how to approach PIM is the issue. A related task is governance of PIM. Kuwait has relied on a bottom-up approach in the context of resource abundance, but needs institutional mechanisms to set strategic priorities and coordinate investment decisions of public agencies involved in PIM. Furthermore, Kuwait has to solve the problems of low efficiency and quality of public investment. Though the government has had a series of development initiatives (the latest being the fifth) and tried to link plans on overall development and sectoral investment, it has yet to develop the institutional mechanisms for strategic prioritization and coordination for effective implementation of PIM. Kuwait has paid little attention to budget optimization due to resource constraints. Since the division of labor among public agencies concerned is unclear, Kuwait has to devise an effective coordinating mechanism and lay the institutional and legal foundations for PIM.

In this respect, this paper focuses on four aspects:

1) How has the Korean system of PIM evolved?

2) How has Korea’s budget reform evolved and supported PIM? On this point, this

020 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 021 paper pays particular attention to the legal and institutional foundations of PIM in Korea.

3) This paper discusses the specific features of Korea’s system of PIM including management of overall project cost, pre-feasibility studies, the reassessment study of feasibility, and reassessment of demand forecast. It also covers the achievements of Korea’s PIM system in cost savings.

4) This paper will conclude with recommendations for the future direction of reform in Kuwait’s PIM.

2. Public Investment Management: Issues and Challenges

2.1. Goals of PIM

The goals of public investment management (PIM) are the same as those of public financial management, namely aggregate fiscal discipline, allocative and technical efficiency. Aggregate fiscal discipline requires management of public financial resources in a way to maintain fiscal soundness. In general, the mid- term expenditure framework (MTEF) and top-down budgeting contribute to the attainment of aggregate fiscal discipline. Similarly, the overall resource envelope for public investment should be decided in a top-down manner to gain fiscal soundness.

Allocative efficiency is related to the government’s capacity to strategically allocate budgetary resources to maximize overall efficiency. The selection and funding of individual projects should reflect the government’s strategic priorities for each sector and subsector (Laursen & Myers, 2009: p.2). The comprehensiveness of budget management is key for achieving allocative efficiency since the concept is related to public financial management of the public sector as a whole. So the MTEF and top-down budgeting are also essential ingredients of allocative efficiency.

Technical efficiency refers to the selection and implementation of individual projects in a cost-efficient manner. Most discussions on PIM reform have focused on raising technical efficiency in selecting and managing individual investment projects.

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 021 2.2. Stages of PIM

According to Rajaram (2014), a well-functioning process of PIM includes guidance, appraisal, independent review, selection, implementation, adjustment, operation and post-evaluation.

Guidance is the process of setting overall priorities in PIM. Usually, the development plan usually functions as guide to public investment.

[Figure 1-1] Stages of PIM

Consistency in Authority to Maintain assetregister, Evaluation to project screen and operate and maintain improve quidance preparation reject projects asset

1 2 3 4 5 6 7 8 Implementation Independent Adjustment Operation Evaluition Appraisal Guidance Selection Review

Link to a Key to An effective budget and development credible procurement process to support strategy selection implementation and operation

Source: Anand Rajaram, “Public Investment Management Systems: A Global Overview and Agenda”, paper presented at MOSF-KDI-IMF-WB International Conference on Strengthening the Management of Public Investment: Korean and International Experiences, Grand Intercontinental Seoul Parnas, October 30, 2014.

Appraisal of individual projects may be conducted by line ministries in a decentralized fashion or by a designated agency in a centralized manner.

Since the appraisal of individual projects can suffer from cost under-estimation or benefit over-estimation, a proper system of PIM conducts an independent peer review of project appraisals done by the sponsoring line ministries. Examples of quality independent reviews include the U.K.’s gateway review process, Norway’s Q.A. (quality-at-entry) system and Korea’s preliminary feasibility studies. An independent review process is an institutional arrangement allowing the central budget office to stop or suspend a public investment project that fails to pass the efficiency test.

Selection is inherently a political process, but should be backed by sound and objective decision criteria.

022 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 023 In the implementation process, costs can escalate or project design could undergo revision due to changing circumstances including shortfall of demand. Institutional arrangements are needed to cope with contingencies in the implementation process.

In the operations stage, a close link is required between capital and current expenditures.

After three or four years of operations, post-evaluation of finished projects should be conducted on the initial design features (including cost and benefit estimations) implementation and operations processes, and delivery of specified outputs. Learning from post-evaluations should provide useful information on future project design and implementation (Rajaram, et al., 2010: p.10).

3. PIM in Kuwait

3.1. Duplication and Fragmentation of PIM Decision-making

Duplication and fragmentation characterizes the decision-making process of PIM in Kuwait. A number of ministries, institutions and agencies such as the Ministry of Public Works (MPW), Ministry of Finance (MOF) and the Supreme Council for Planning and Development (SCPD) and a substantial number of beneficiary entities and line ministries are involved in the stages of the project cycle, from design and implementation to evaluation. In addition, a number of line ministries, independent public or quasi-public organizations, and authorities and corporations are part of the decision-making process. In other words, multiple ministries, independent agencies and quasi-public corporations all play a role in the process of PIM.

The MOF, SCPD and line ministries play roles in managing capital expenditures. The line ministries propose projects to the SCPD and the latter sends them to the MOF. The MOF decides the viability of projects based on their qualifications and holds talks with representatives from line ministries. Most importantly, any project not included in the development plan is rejected.

In a sense, the SCPD is a bridge between the line ministries and MOF. The SCPD reviews and recommends line ministries’ proposals and has the final say on if the proposed projects are included in the development plan.

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 023 In the past, no single agency was in charge of overseeing the process of PIM, including ex ante feasibility studies, intermediate monitoring and ex post evaluation. In other words, no organization had the gatekeeping function in PIM. But with the February 2016 passage of a new law on PIM, the Kuwait Authority for Partnership Projects has been designated with the role of project evaluation. Furthermore, the SCPD will function as a gatekeeper in PIM.

3.2. No Gatekeeping Function in PIM

The Supreme Council for Planning and Development (SCPD) is the government body responsible for formulating mid-term plans, but not for checking the feasibility of individual projects. Rather, the beneficiary department (or agency) is primarily tasked with estimating the costs and benefits of public investment projects.

A serious problem is the lack of institutional mechanism to check the validity of these estimations. Kuwait lacks an independent peer review and centralized system of PIM. No standard procedure to rank projects exists since Kuwait has no budget constraints. Any project in the development plan is accepted.

3.3. Linking Public Investment Projects to Development Plans

What is most emphasized in the evaluation of a project is whether it is linked or coordinated with higher-level development plans. The inclusion of investment projects in such plans is far more important than the viability of individual projects. The inclusion of investment projects in development plans, however, is no longer a guarantee that the projects will be accepted. But there is no systematic comparison of capital investment projects across sectors.

024 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 025 [Figure 1-2] Project Classification Criteria and Framework in Kuwait

Project Classification Criteria

1 X-axis: determine alignment with Vision related & vision non-operational Non- operational 2 Y-axis: determine nature of project Unrelated Enablers to vision Nature of project Cluster similar projects together & Vision related 3 identify enablers & operational Operational Non Vision- Vision-related related Alignment with vision

Source: Khaled A. Mahdi, “Kuwait Public Investment on Mega-projects in the Context of the KNDP”, KDI-GSSCPD PIMS Workshop, Seoul, 2016.

[Figure 1-2] shows the project classification matrix employed by the GS-SCPD. The X-axis determines alignment with vision, while the Y-axis decides the nature of a project. The first criterion to be employed is the X-axis. If a project is unrelated to the national vision, it is judged non-viable. The projects passing vision-related screening are classified into three categories: vision related and non-operational, enablers, and vision related and operational. When a project is classified as vision related but not operational, it is determined to be non-viable.

[Figure 1-3] Kuwait's Project Classification System

Project classification results Project # of projects Cost (KD) category

Vision- related & Bn 4 15 non- KD operational Non- Bn 6 operational Enablers 16 KD

Vision- related & 71 Bn 15 KD operational operational Not vision 370 Bn 24 KD related Non vision- Vision-related related

Source: Khaled A. Mahdi, “Kuwait Public Investment on Mega-projects in the Context of the KNDP”, KDI-GSSCPD PIMS Workshop. Seoul, 2016.

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 025 [Figure 1-3] shows the results of preliminary project classification. Out of 472 projects, 370 (approximately 78 percent) were classified as non-vision related, and this classification could save 24 billion KD. Fifteen projects were classified as vision related but non-operational for a savings of 4 billion KD. Sixteen projects were classified as enablers and 71 as vision related and operational. The results of the preliminary project classification showed that most projects were not suitable for public investment.

In Kuwait, a national development plan consists of initiatives from the public and private sectors and civil society. These initiatives are eventually transformed to one of the three project types. The first is tactical and strategic projects making up the mega-projects of the national plan. Nineteen such projects are geared to mainly upgrade the physical and structural infrastructure of the nation.

The second type is enabling projects that support the former projects.

And the third is operations projects intended mainly to effectively sustain and maintain tactical projects

Though the Kuwaiti government employs the project classification model, the classification is still based on qualitative appraisal. A formal decision-making system has not yet been legalized.

3.4. Quantitative and Qualitative Appraisal of Public Investment Projects

The SCPD employs qualitative appraisal in the final stage of project selection.

In the first stage of project evaluation, quantitative indicators are used to judge and monitor the feasibility of individual projects. No project is approved without undergoing a cost-benefit analysis, but the results of the appraisal process do not necessarily determine which projects proceed.

In the second stage, projects are qualitatively appraised to add political and social arguments in the determination of their feasibility. Through the qualitative appraisal, Kuwait opens the possibility of accepting projects with a low cost-benefit ratio and allowing wide political discretion in selecting individual projects.

The use of some kind of non-mechanical criteria is inevitable at a certain stage of project appraisal. But such criteria should be as systematic and consistent as possible. Without these properties, the qualitative appraisal is prone to political manipulation in the evaluation of individual projects.

026 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 027 3.5. No Link between Capital and Current Expenditures

One way of classifying government expenditures is to classify them as operating (current) and capital. Operating expenditures finance routine state activities in a given fiscal year. By contrast, capital expenditures fund the construction or purchase of a facility expected to provide services for a considerable period of time. Such services are non-recurrent and have a long life, high cost and major impact (Mikesell, 1991: p.167; Reed & Swain, 1990: p.27). Since capital expenditures have a life span extending well beyond a single year, they require operating expenditures for operation and maintenance of the completed facility. For this reason, both types of expenditures need to be closely linked in the budget process for efficient use of resources.

In Kuwait, however, no links exist between capital and current expenditures though the MOF classifies two types of expenditures. In principle, the MOF is in charge of linking capital and current expenditures, but no close link is used, mainly due to surplus.

4. PIM in Korea

4.1. Evolution of PIM in Korea

PIM in Korea over the period of the nation’s rapid economic development created no serious problems since it was tightly linked with a series of five-year economic development plans. The central government could also tightly control the pattern of public investment since the management of Korean economy was relatively simple and straightforward. Yet such development plans saw their influence weaken as a guiding principle of resource allocation because of economic development and ensuing democratization of Korean society. This provided a propitious environment for the growth of pork barrel politics and ultimately, these politico-economic changes seriously eroded the efficiency of resource allocation (Ha, 2014).

In this context, the Korean government invented a PIM system called Total Project Cost Management (TPCM). Though introduced to keep in check the costs of individual investment projects, TPCM was plagued with ”silo” effects and optimism bias because of fragmented management of public investment. Even after the introduction of TPCM, ministries conducted their own feasibility studies on major investment projects. No mechanism existed to check the validity of feasibility studies such as independent peer review. Serious underestimation of costs

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 027 and overestimation of benefits resulted. Only one of 33 projects was evaluated as infeasible between 1994 and 1998. “Feasibility studies performed under the supervision of each ministry lacked objectivity and reliability, and there were no uniform and standard guidelines in place for feasibility studies.” (Ha, 2014)

To cope with the problems of the PIM system and enhance the validity and reliability of feasibility studies, the government organized an inter-ministerial task force to develop a reform agenda. Members comprised officials from the Ministry of Planning and Budget (now Ministry of Strategy and Finance) and Ministry of Construction and Transport (now Ministry of Land, Infrastructure and Transport). The task force issued “A Comprehensive Plan to Enhance Efficiency of Public Investment” in July 1999 that included policy measures to tackle weaknesses in the PIM system (Kim, 2012: p.33).

The results of feasibility studies conducted before 1999 showed that PIM undertaken in a decentralized manner without independent peer review could seriously erode the efficiency of resource allocation. Under this circumstance, the central budget office (then the Ministry of Planning and Budget) attempted to centralize the decision-making process but faced serious resistance from line ministries. The compromise reached between the central budget office and line ministries was a new PIM system called the preliminary feasibility study (PFS).

[Figure 1-4] Evolution of PIM Reform in Korea

1994 1999 2003 2006

TPCM introduced PFS introduced

RSF guidelines RSF RSF introduced developed strengthened

RDF TPCM (Total Project Cost Management) introduced PFS (Preliminary Feasibility Study) RSF (Re-assessment Study of Feasibility) Nat’l RDF (Re-assessment of Demand Forecast) Finance Act legislated

Source: Kim, Jay-Hyung, 2011 Modularization of Korea’s Development Experience: Public Investment Management Reform in Korea: Efforts for Enhancing Efficiency and Sustainability of Public Expenditures, Seoul: Ministry of Strategy and Finance and KDI, 2012, p. 89.

028 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 029 The introduction of the PFS signified a stronger TPCM through the centralization of the decision-making process. Though the PFS began to function as an ex ante screening process of public investment decisions, significant loopholes remained in the PIM system. For instance, line ministries attempted to lower the construction costs of an investment project to under KRW 50 billion as a way of evading the PFS in the initial stage. They also attempted to elicit a favorable result in cost-benefit analysis by underestimating costs or overestimating benefits. As a result, construction costs began to increase rapidly after an investment project underwent a PFS and feasibility study. In other cases, demand forecast was exaggerated in the initial stage and serious over-investment resulted as a consequence. To cope with these problems, the Korean government introduced the reassessment study of feasibility (RSF) in 1999 and reassessment of demand forecast (RDF) in 2006. TPCM began to function as a highly effective tool of PIM by institutionalizing the RSF and RDF.

When the Korean government adopted the PFS as a preemptive measure, Korea had no serious fiscal problems. Rather, PFS was adopted as a preventive medicine as the government centralized the decision-making power in public investment management.

The PFS ended up contributing to the maintenance of aggregate fiscal discipline by enhancing the technical efficiency of infrastructure investment projects. Since the PFS focused on individual investment projects, it did not directly deal with allocative efficiency. Thus, upon adopting the PFS, the Korean government developed the habit of coping with the problem of aggregate fiscal discipline by enhancing the technical efficiency of individual projects.

As Ha (2014) emphasized, the PFS was an effective policy tool to cope with the problems of common pool resources and information asymmetry. These problems made it difficult to achieve the three basic objectives of public financial management: aggregate fiscal discipline, allocative efficiency and technical efficiency. Because the budget contains the property of common pool resources (finite resources, many users and depletion due to overuse), the maximization of individual self-interest can result in the sub-optimization of collective interest (Schick, 1998). In extreme cases, the maximization of individual self-interest could ruin the community itself in a phenomenon called “the tragedy of the commons.” The budget maximization strategy of public agencies could lead to the overuse of budgetary resources, thereby making it difficult to maintain aggregate fiscal discipline (Ha, 2014). Hence a centralized decision-making body with political autonomy should ration the use of common pool resources. The PFS was conducted by a decision-making body with a comprehensive view and political autonomy. Also, the PFS could alleviate information asymmetry between the central budget office and line ministries since the former could gain independent information on the viability of individual projects.

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 029 The PFS also contributed to the enhancement of impartiality and objectivity of project appraisal. In sum, the adoption of the PFS constituted a turning point in the management of public investment projects. Decision criteria and project appraisal techniques developed rapidly afterwards. While performance budgeting is an ex post evaluation mechanism for government programs, the PFS is an ex ante evaluation mechanism for government investment projects (Ha, 2014).

4.2. Public Financial Management Reform and PIM

One notable feature of Korea’s PIM reform was the government’s pursuit of it in tandem with the restructuring of other systems of public financial management. The overall restructuring of public financial management after the Asian financial crisis of 1997-98 provided a propitious environment for PIM reform. In a sense, the crisis worked as a catalyst for sweeping change in public financial management and PIM. Hence, particular attention is needed to the process of public financial management reform to understand the institutionalization process of Korea’s PIM system.

4.2.1. Streamlining of Budget Structure

At the time of the Asian financial crisis, Korea’s public financial management was plagued with problems such as overly rigid central control, a fragmented and non- transparent budget structure due mainly to the proliferation of non-conventional expenses such as off-budget funds and special accounts, and the relatively inefficient management of financial resources. One of the most serious problems for the Korean government was the severely fragmented nature of the budget structure that hindered the strategic allocation of budgetary resources. The proliferation of non-conventional expenditures (Schick, 1987) like extra-budgetary funds, special accounts, tax expenditures and debt guarantees meant that a substantial proportion of budgetary resources was beyond the control of the central budget office (Ha, 2013a).

To manage budgetary resources in a comprehensive and strategic way, the Korean government simplified and consolidated the budget structure. Policy measures included the elimination of the “off-budget” nature of public funds. Though public funds remain in the Korean budget structure, they are no longer “off-budget” or “extra-budgetary” funds. Public funds are under the direct control of the central budget office and subject to parliamentary review.

The simplification of the budget structure was followed by the expansion of budget coverage. In the past, the Korean government focused on general accounts in its financial management, but after 2000, it began to manage public financial resources based on the concept of a consolidated public sector.

030 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 031 In 2002, the Kim Dae-jung administration revamped extra-budgetary funds and placed them under the control of the central budget office and National Assembly. This was a turning point in Korea’s public financial management that significantly enhanced the comprehensiveness and transparency of budget management. Yet the comprehensiveness of budget management remained incomplete since the local government sector was not included in the budget structure until 2005. Finally, the Korean government included the local government sector in its financial statistics, completing the transition to the concept of a consolidated public sector. By expanding budget coverage, Korea’s move to comprehensive and transparent budget management came to fruition (Ha, 2013a).

[Figure 1-5] Expansion of Budget Coverage

Streamlining of extra-budgetary funds (2002) ⇩ Expansion of budget coverage ⇨ Budget management based on consolidated public sector ⇩ Inclusion of local governments in consolidated public sector (2005)

Source: Ha, Yeonseob, “Financial Crisis, Economic Recovery, and an Era of New Public Management”, Paper presented at the PEMNA Budget Community of Practice Meeting, Plaza Hotel, Seoul, Nov. 20, 2013.

4.2.2. Performance Budgeting

Whereas the PFS is an ex ante evaluation system, the Korean government attempted to introduce the ex post evaluation system as an element of the reform of public financial management. But the shift toward performance budgeting proved rather slow. Though the Kim Dae-jung administration designated 16 pilot agencies for performance budgeting in 2000 and increased that number to 28 in 2001 and 39 in 2002 (Ha, 2013a), it failed to institutionalize the performance budgeting system for the public sector as a whole.

The introduction of performance management and budgeting had to wait until the inauguration of President Roh Moo-hyun in 2003. Based on the experiences of performance management under the previous administration, the introduction of a full-fledged performance budgeting system was done in a short timeframe (see [Figure 1-6]).

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 031 [Figure 1-6] Sequence of Performance Management and Budgeting Reform

Designation of 16 pilot agencies for performance budgeting (2000) ⇩ Expanded number of pilot agencies to 39 (2002) ⇩ Introduction of Performance Goal Management System (2003) ⇩ Introduction of Self-Assessment of Budgetary Programs (2005) ⇩ Introduction of In-depth Evaluation System (2006) ⇩ Restructuring of Performance Evaluation System (2016)

Source: Ha, Yeonseob, “Financial Crisis, Economic Recovery, and an Era of New Public Management”, Paper presented at the PEMNA Budget Community of Practice Meeting, Plaza Hotel, Seoul, Nov. 20, 2013.

The Korean system of performance management consists of three pillars. The first is the Performance Goal Management System introduced in 2003. This system requires all government departments and agencies to develop performance goals and indicators for their spending programs, and is modeled after the Government Performance and Results Act of the U.S (Park & Choi, 2013: p.9).

More specifically, under this system, every line ministry must submit an annual performance plan along with a budget request and annual performance report, plus an annual financial report to the Ministry of Strategy and Finance. The system follows a three-year cycle. In year t-1, the line ministry devises an annual performance plan that includes objectives, performance indicators and targets of individual projects. In year t, the line ministry implements its budgetary programs and projects. In year t+1, every line ministry submits its annual performance report to the MOSF. The annual performance report shows each line ministry’s performance vs. its original objectives as measured by performance indicators and their targets (MOSF, 2016).

The second pillar is the Self-Assessment of Budgetary Programs introduced in 2005, modeled after the Bush administration’s Performance Assessment Rating Tool (PART) of the U.S. Under this system, each line ministry performs a self-assessment of its budgetary programs and the results are received and applied by the MOSF to public financial management. A checklist method is then used for three main areas: design and planning (20 percent), management (30 percent), and results and feedback (50 percent) as shown in [Figure 1-7].

032 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 033 [Figure 1-7] Checklist of Self-Assessment of Budgetary Program

Design & - Clear goals, conformity & duplication with other projects Planning - Relevance of performance objectives & indicators (20%) - Practicability of performance targets

- Implemented as planned Management - Monitoring effects (30%) - Settlement of implementation difficulties

Results & - Performance results as planned Feedback - Review of project implementation for effectiveness (50%) - Feedback from other sources

Source: MOSF (2016).

One notable feature of Korean performance budgeting was that it automatically imposed a 10-percent budget cut for programs deemed “ineffective” or “very ineffective.” [Figure 1-8] shows the evaluation results from the Self-Assessment of Budgetary Programs.

[Figure 1-8] Evaluation Results from Self-Assessment of Budgetary

No. of Rated Rated Rated FY (Evaluation) Programs Effective Adequate Ineffective

2008 440 (100) 36 (8.2) 311 (70.7) 93 (21.2)

2009 552 (100) 26 (4.7) 393 (71.2) 133 (24.1)

2010 482 (100) 33 (6.8) 317 (65.8) 132 (27.4)

2011 474 (100) 32 (6.8) 330 (69.6) 112 (23.6)

2012 597 (100) 29 (4.9) 424 (71.0) 114 (24.1)

2013 484 (100) 30 (6.1) 368 (76.0) 91 (18.9)

2014 466 (100) 82 (17.6) 3 (60.7) 101 (21.7)

Note: Numbers in parenthesis denote proportion of programs. Source: MOSF (2016).

Since its inception, the Self-Assessment of Budgetary Programs has functioned as a major instrument to check the performance of individual spending programs. It also strengthened the ex post accountability of government organizations in return for increased autonomy made possible by the introduction of a mid-term expenditure framework and top-down budgeting.

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 033 The third pillar is the In-depth Evaluation system introduced in 2006. The Ministry of Strategy and Finance utilizes this system if certain programs are found to be operating ineffectively or failing to meet public expectations.

More specifically, for projects evaluated to be poorly performing as a result of the Self-Assessment of Budgetary Programs, cross-cutting issues and projects of deep social impact are subject to in-depth evaluation. The characteristic feature of the In- depth Evaluation is that it mainly focuses on cross-cutting issues. The primary purpose of this is to find a fundamental way of improving the performance of budgetary programs through a systematic review of design and implementation features.

Korea’s performance management system can be characterized as follows:

First, it has been institutionalized and become routine practice. Performance budgeting processes have been legalized and repeated every year.

Second, an explicit link exists with budget cuts but a weak link is apparent with fiscal consolidation. As shown above, the rule of a budget cut of at least 10 percent is applied to ineffective programs, but no explicit targets are in place for fiscal consolidation based on performance budgeting. In other words, Korea’s performance budgeting system is not a tool for fiscal consolidation.

Third, the system is highly centralized with guidance issued by the MOSF every year, and the quality of performance information is also closely monitored by the government (MOSF, 2016).

The Korean government is in the process of reforming the performance management system. The basic direction of reform is to integrate the diverse evaluations and encourage comprehensive expenditure restructuring at the ministerial level. Also, the government is trying to strengthen the in-depth evaluation and introduce “strategic reviews” as a guidepost for a mid- and long-term investment strategy.

The Korean government’s recent reforms reflect the shortcomings of the performance management system in place. The MOSF (2016) has summarized the shortcomings of the system as follows.

The first problem is the “silo evaluation.” Korea’s performance evaluation system focuses on a specific project in a microscopic way that hampers comprehensive evaluation and the strategic prioritization of the project.

034 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 035 The second problem is superficial and defensive evaluation. Since a variety of evaluation activities are out there, line ministries suffer from insufficient human resources and expertise resulting in superficial evaluation on their part. At the same time, they are defensive and eager to minimize budget cuts, leading to the severe weakening of the “feedback” function of performance evaluation.

The third problem is a higher burden on line ministries. While performance reports are only marginally utilized in the budget allocation process, they raise the amount of paperwork for line ministries.

Korea’s performance management system is in a transitional process in going from “silo evaluation” to “integrated evaluation,” from “ superficial and defensive evaluation” to “enhanced expertise and line ministries’ initiative,” and from “paperwork burden to “less paper and more results.”

The three pillars of recent reforms are an integrated Self-Assessment of Budgetary Programs, bolstered in-depth evaluation and the introduction of a strategic review.

First, the MOSF has tried to integrate the number of evaluations and streamline the evaluation process.

Second, the ministry is in the process of strengthening preliminary examination of discretionary spending items. This means that the PFS-like ex ante evaluation system will be applied to discretionary expenditures in addition to infrastructure investment.

Third, the responsibility of strategic review will be undertaken at the sector and/ or subsector level from 2016 (MOSF, 2016).

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 035 [Figure 1-9] Direction of Performance Management System Reform

Direction

“Silo evaluation” “Integrated evaluation”

“Enhancing expertise & “Superficial & defensive” Line ministries’ initiative”

“Burden of Paperwork” “Less paper, more outcomes”

“Strengthen “Integrated BPE” in-depth evaluation” “Strategic review”

Integration of diverse Preliminary examination Spending analysis on evaluations sector and sub-sector

Evaluation process Line ministries’ initiative Guidepost for medium and streamlining long-time investmenplan

Source: MOSF (2016).

4.2.3. Four Major Fiscal Reforms

Reform of public financial management started under the Kim Dae-jung administration culminated during the succeeding Roh Moo-hyun administration through four major fiscal reforms. The four consisted of the National Fiscal Management Plan (a Korean version of a mid-term expenditure framework), top- down budgeting, performance management, and a digital budget and accounting system. Basically, these reforms were an extension of the previous round of budget reform (Ha, 2013a).

The Roh administration followed a top-down approach in implementing the four reforms. Though the reforms were initially drafted by the Presidential Commission on Government Innovation and Decentralization, the central budget office, namely the Ministry of Planning and Budget, played the role of initiator, executor and guardian of the reforms.

036 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 037 [Figure 1-10] 4 Major Fiscal Reforms

Four Major Fiscal Reforms

National Fiscal Management Plan

Digital Budget Top-Down and Accounting Budgeting System Performance Management System

Source: Ha, Yeonseob, Kangho Lee, and Jón R. Blöndal, “Top-down Budgeting in Korea”, Paper presented at the OECD Experts Meeting on Modern Budgeting Reforms, OECD Headquarters, Paris, April 4-5, 2013.

The four major fiscal reforms were pursued in a comprehensive manner. The MTEF, top-down budgeting, performance management, and the digital budget and accounting system were also pushed for simultaneously.

The fiscal reform initiative culminated in the promulgation of the National Finance Act in 2006. To ensure the permanence of fiscal reform measures, the Korean government revamped the legal framework of public financial management by replacing the longstanding Budget and Account Act with the National Finance Act (Ha et al., 2013).

The promulgation of the new law laid the legal foundation for reform of public financial management in general and that of public investment management in particular. This practice was in sharp contrast to the case of Kuwait given the Middle Eastern nation’s lack of legal foundation for effective management of public investment.

4.2.4. Nat’l Fiscal Management Plan

The Korean version of the MTEF is the five-year National Fiscal Management Plan (NFMP). For instance, the NFMP for 2016-2020 is a rolling and not fixed plan. It is updated every year to reflect changes in socioeconomic circumstances and the international environment. Its influence is comprehensive in covering all resources under the discretion of the central government, meaning it covers the general and special accounts and public funds (Ha, 2013a).

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 037 The government sets the overall expenditure ceiling for the public sector through the NFMP. The latter also reflects state policy priorities. The NFMP presents budget allocations plans for 12 functional areas (sectors). Since 2012, forecasts for mandatory and discretionary spending have been required to be shown separately to control the fast-growth of mandatory spending (Hong, 2013).

The NFMP performs four major functions.

First, it integrates national policy priorities into the annual budget from a mid- term perspective (five years).

Second, it contributes to the maintenance of fiscal soundness. By forcing public management of budgetary resources from a mid-term perspective, the NFMP enables the government to cope with fiscal risk in a preemptive manner.

Third, it enhances operational efficiency by raising the discretion of line ministries over their spending.

Fourth, it strengthens feedback and accountability in association with performance management(Jang, 2016).

The NFMP consists of three major parts (see [Figure 1-11]).

The first part is the introduction that includes a general primer on the NFMP, explanations on internal and external changes in the economic-fiscal environment, previous records and evaluations, and explanations of major changes from the previous NFMP.

The second deals with resource allocation plans including national priorities and public finance prospects over the five-year period, specific targets for fiscal aggregates and sectoral allocations with major policy directions in each sector.

The third part discusses policy measures employed to improve the efficiency and sustainability of public finance, as well as previous experiences.

038 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 039 [Figure 1-11] Main Contents of Nat’l Fiscal Management Plan

- General introduction to NFMP system Part 1. - Explanations of internal & external economic-fiscal environmental Introduction changes- Previous records & evaluations - Major changes from previous NFMP

Part 2. - Nat’l priorities & public finance prospects over 5-year period Future Resource - Specific targets for fiscal aggregates Allocations - Sectoral allocations with major policy directions by sector

- Measures employed to improve efficiency & sustainability of Part 3. public finance Reform Measures - Previous experiences

Source: Jang (2016).

4.2.5. Top-down Budgeting

The Korean government also adopted top-down budgeting in 2003. Since this process presupposes the predetermination of overall expenditure ceilings, the NFMP was adopted in tandem with top-down budgeting in the same year. This means that Korea has since practiced a typical two-state budget process. The government first sets the overall expenditure ceilings and then those of the 12 sectors. After the sectoral ceilings are set, detailed allocations between subsectors are set. In the second phase, line ministries are allowed to autonomously allocate appropriations to individual programs (Ha et al., 2013).

4.2.6. Reform of Public Financial Management and PIM

Korea’s public investment management began to take its current institutional shape starting with the Total Project Cost Management system and the adoption of preliminary feasibility studies in the mid to late 1990s. This means that the existing PIMS was adopted prior to the four major fiscal reforms (top-down budgeting, mid- term expenditure framework, performance management, and digital budget and accounting system) adopted in 2005. But the status of PIMS was consolidated as the National Finance Act of 2006 provided the legal framework for it. The promulgation of the law in Korea signified that a series of reforms in public financial management pursued since the Kim Dae-jung administration was finally institutionalized in form as well as substance. As Rajaram et al. (2014) emphasized, the wider environment of public financial management in which PIM was nestled influences the feasibility of PIM reforms. In Korea, a series of budget reforms such as the MTEF, top-down budgeting and performance management provided a propitious environment for revamping PIM.

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 039 4.3. Total Project Cost Management (TPCM) System

Total Project Cost Management (TPCM) refers to a system aimed at improving the efficiency of public spending through sound management of the combined costs of large-scale investment projects funded by the government budget and public funds. For projects taking two years or longer for completion and costing more than KRW 50 billion (or construction work exceeding KRW 20 billion), the head of each government agency determines the scale of the project, overall cost and project period. Then he or she consults with the Ministry of Strategy and Finance in advance. This control measure also applies to the modification of or change in the scale, cost or period of a project already consulted on (MOSF, 2014: p.44). So under the TPCM system, any ex post alterations of the project are strictly controlled.

The National Finance Act stipulates the basic elements and processes of PIM. With the promulgation of the National Finance Act, projects are expected to go through the process shown in [Figure 1-12]. TPCM, PFS, RSF and RDF are stipulated in the law and enable the central budget office to manage public investment in a more effective way (Kim, 2012: p.34).

[Figure 1-12] Implementation Process of Public Investment

Ex Ante Intermediate Ex Post

Operation/ Planning Draft Design Maintenance

Blueprint PFS* Design

Land Feasibility Acquisition/ Study Construction

Performance Evaluation/ TPCM*(RSF*&RDF*) EBP (In-depth Evaluation of Budgetary Program)

Source: K Kim, Jay-Hyung, 2011 Modularization of Korea’s Development Experience: Public Investment Management Reform in Korea: Efforts for Enhancing Efficiency and Sustainability of Public Expenditure, Seoul: Ministry of Strategy and Finance and KDI, 2012, p. 35.

040 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 041 TPCM was initially introduced to halt the trend of rising project costs in the implementation process. The tendency was to raise project cost by frequently modifying design features after a project passed the feasibility study. The introduction of TPCM sought to control the pattern of cost increases in the project implementation stage, that is, all the way through project planning, PFS, feasibility study, basic and working design, contracting, construction and completion. As each stage is completed, changes in the project’s design features and overall cost are reviewed in detail to avoid unnecessary increases in project size or volume of construction costs. Changes in project design or overall costs are compared to those in the original plan. This practice makes it difficult for contractors to arbitrarily raise project costs by changing design details and adding unnecessary works over the construction period.

As shown in [Figure 1-13], TPCM operates in the following way. In the initial stage, line ministries plan a project including size, cost and duration by referring to similar projects. Then they request the MOSF to conduct a PFS on projects with estimated costs of KRW 50 billion or more. Though all new large-scale investment projects costing KRW 50 billion or more should pass a PFS to request government funds, all large-scale projects do not automatically become candidates for the PFS. The MOSF selects PFS candidates based on selection criteria including congruence with medium- to long-term investment plans, concreteness and urgency of a project, eligibility for government grants and potential contribution to balanced regional growth (Ha, 2014). Furthermore, only 60 percent of the projects subject to a PFS pass.

If a project passes the PFS stage, line ministries perform a feasibility study and proceed to the stages of basic and working designs, ordering and contracting, and construction. In all of these stages, the line ministries should consult with the MOSF and keep the overall project cost in check. If revision of the cost is deemed necessary, the line ministries must consult with the MOSF to modify the amount.

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 041 [Figure 1-13] Total Project Cost Management

General Content Process

··Line ministries refer to examples of similar projects to set project size, Planning overall cost and duration.

▼

Preliminary ··Line ministries request to the MOSF a PFS on projects with estimated cost Feasibility of KRW 50 billion or more. Study (PFS)

▼

··Line ministries perform a feasibility study in consideration of all necessary Feasibility elements such as the environment, transportation and finances. Study & ··If the results of the basic design derived from related laws differ from the Master Plans PFS or feasibility study, the project cost must be revised with the MOSF before the basic design is announced.

▼

··Line ministries must allot enough time and money to produce the basic design. When the latter is completed, ministries consult with the MOSF Basic Design first before requesting service for working designs. ··Any changes to the project size must be consulted with the MOSF.

▼

··Line ministries need at least one expert review of the design details, which reflect the results of local government meetings and evaluations of the Working environmental and transportation effects. Designs ··The appropriateness of the unit price as a result of the design is reviewed by the Public Procurement Office (PPO). ··Project duration, size and cost are consulted on with the MOSF.

▼

··Line ministries prepare a detailed statement on the project cost in Ordering & consultation with the MOSF and request contracting to the PPO. Contracting ··Line ministries may adjust the differences of the bids within 90 days of the contract date.

▼

··If revision is necessary, line ministries must consult the MOSF to modify Construction the project cost such as expenses for construction, compensation and installation units.

Source: Ministry of Strategy and Finance, The Budget System of Korea, 2014, p.46.

042 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 043 Though TPCM was introduced in 1994, its effect was significantly limited due to the fragmented decision-making process of PIM. Each line ministry conducted its own feasibility studies, and this practice led to the proliferation of inefficient investment projects. To correct this practice, the Ministry of Planning and Budget introduced the PFS as a preemptive measure. Since the overall project cost and period came under intensive screening in the PFS stage, contractors and line ministries found it much harder to arbitrarily raise project costs by adding unnecessary design features in the implementation process (MOSF, 2014: p.44).

The two wings of TPCM are the reassessment study of feasibility (RSF) and reassessment of demand forecast (RDF), with the former introduced in 1999 and the latter in 2006. The Ministry of Strategy and Finance conducts the RSF on a project in the following cases: (1) If the project size is increased to the PFS scale though originally not big enough to require a PFS (2) Originally a project was executed without a PFS, as certain government agencies tended to deliberately reduce the size of a project to evade the PFS. If the real costs of a project exceed KRW 50 billion, the RSF is required. (3) If the project cost rises more than 20 percent in the implementation stage (4) If the demand forecast in the initial stage exceeds 30 percent of the real demand found in the implementation stage (5) If a project is reported to the Budget Waste Reporting Center under the Ministry of Strategy and Finance as a case of budget waste, then the ministry considers the case as a highly probable candidate of budget waste. (6) With the amendment to the National Finance Act in 2009, the Board of Audit and Inspection or the National Assembly can request an RSF on a project deemed wasteful, (7) If the head of the Ministry of Strategy and Finance or that of each government agency concludes on other grounds that an RSF is required

Requirements for RSF per Article 49 of Guidelines for Total Project Cost Management (TPDM)

1. If no PFS has been conducted because the overall cost of a project did not reach the size subject to the PFS, but has risen to the level subject to the PFS in the course of implementing the project 2. If a project subject to the PFS was reflected in the budget or fund management plan and implemented without the PFS 3. If the overall cost of a project, excluding price increases and hikes in compensation cost for losses on land and other property necessary for the implementation of a public interest project, has grown not less than 20/100 in comparison with the overall project cost fixed through consultation with the Ministry of Strategy and Finance

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 043 Continued (Note 1) If a project had no adjustment to its overall cost in the preceding phase, whether the cost has increased no less than 20/100 shall be judged based on the overall cost as of the preceding phase fixed through consultation with the Ministry of Strategy and Finance. (Example) If engineering design works have been carried out for a project without adjustment of the overall project cost in the basic design phase, whether the cost per the engineering design phase has increased no less than 20/100 will be judged in comparison with the overall project cost per the preceding phase (PFS or feasibility study), not the overall project cost per the basic design phase. (Note 2) If the overall project cost has been changed twice or more in the construction phase, it shall be judged whether such cost has increased no less than 20/100 in comparison with the overall project cost per the engineering design phase, not at the time of the immediately preceding change. (Note 3) “Increases in compensation cost for losses on land and other properties” refer to price changes as a result of an appraisal, excluding the portion accruing according to changes in the volume subject to compensation. 4. If, as a result of an RDF, the estimated demand for a project has decreased no less than 30/100 in comparison with the estimated demand as of the preceding phase, or if, in the course of a feasibility study or basic or engineering design works, the estimated demand has decreased no less than 30/100 in comparison with the estimated demand as of the preceding phase 5. If a project is reported to the Budget Waste Reporting Center under the Ministry of Strategy and Finance as a case of budget waste and the ministry concludes as highly probable that the project will waste budget due to overlapping investments 6. If the Board of Audit and Inspection of Korea requests an RFS on a project as a result of its audit, or if the National Assembly demands the same on a project via a resolution 7. If the head of the Ministry of Strategy and Finance or that of each government agency concludes on other grounds that an RFS is required

Source: Kim, Jay-Hyung, 2011 Modularization of Korea’s Development Experience: Public Investment Management Reform in Korea: Efforts for Enhancing Efficiency and Sustainability of Public Expenditure, Seoul: Ministry of Strategy and Finance and KDI, 2012, pp.56-57.

Though the average growth of overall project cost exceeded 10 percent even after TPCM was introduced in the 1990s, the average rate of increase in such a cost was kept around 1 percent after the implementation of the PFS in 1999. This indicates that the TPCM system served as an effective tool of project management after the introduction of the PFS (MOSF, 2014: p.47).

Whereas the PFS performs a gatekeeping function in the overall project management process, the RSF focuses on keeping in check cost increases and finding alternative ways to implement public investment projects. When the RFS results show serious cost escalation or demand overestimation, the Ministry of Strategy and Finance reduces the project’s size. If the RSF results show no alternative for improving the performance of a given project, the ministry decides to terminate the project.

044 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 045 The RDF is a control device in the process of demand forecast since the results can lead to reduction of project size even in the implementation stage. “If forecast demand is below the level of real demand by 30 percent or more, an RSF follows for a thorough reevaluation of a project’s feasibility (Kim & Lee, 2014: p.109).”

4.4. Preliminary Feasibility Study (PFS)

As a way of controlling the tendency of SOC budgets to rise, the Kim Dae-jung administration in 1999 introduced the PFS in SOC projects. Initially, the central budget office attempted to assume responsibility for feasibility studies as a way of controlling the optimism bias prevalent at the time among line ministries, especially the Ministry of Construction and Transportation. But this incited serious resistance from the line ministries. The PFS was invented as a compromise between the central budget office and line ministries (Park, 2008: p.126). The PFS is conducted by the central budget office before line ministries do their own feasibility studies. Though termed a “preliminary” feasibility study, the PFS has an influence far beyond preliminary. Any large-scale investment project must pass the PFS to have a chance of getting into the budget game.

The Ministry of Strategy and Finance conducts the PFS for any large-scale investment project costing more than KRW 50 billion and needing a central government subsidy of more than KRW 30 billion. If a project is deemed feasible after undergoing the PFS, the authority in charge does its own feasibility study, then prepares the basic and detailed designs and selects contractors through an open competitive bidding (Burger & Hawkesworth, 2011: p.30).

The Korean government in 1999 set up the Public and Private Infrastructure Investment Management Center (PIMAC) under the state-run Korea Development Institute (KDI) to conduct PFS. As a semi-autonomous entity under the central budget office, PIMAC elevated the credibility of project appraisal (Rajaram et al., 2014). Like other reform elements of public financial management, the Kim Dae-jung administration laid the foundation for the analysis of public investment projects (Ha, 2014).

Though the PFS was initially confined to infrastructure projects, its scope was expanded to cover R&D and information technology projects in 2007, and further to investment projects in social welfare, health, education and culture in 2009. It was also expanded to cover the public sector in 2011 (see [Figure 1-14]).

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 045 [Figure 1-14] Expanding Coverage of PIM System

Introduction of PFS (1999) ⇩ Expanded to R&D and Informatization Projects (2007) ⇩ Expanded to Investment Projects in Social Welfare, Health, Education & Culture (2009) ⇩ Expanded to Public Sector (2011)

Source: Ha, Yeonseob, “Financial Crisis, Economic Recovery, and an Era of New Public Management”, Paper presented at the PEMNA Budget Community of Practice Meeting, Plaza Hotel, Seoul, Nov. 20, 2013.

The initial adoption of the PFS in SOC projects and its expansion to R&D and information technology projects, then to social welfare expenditures and finally to the SOE sector have shown the same pattern. The PFS was expanded as a preemptive measure to maintain aggregate fiscal discipline. The so-called path dependence can be seen here, as the Korean government attempted to restore fiscal soundness in each sector with a focus on technical efficiency. The PFS was an effective policy instrument to achieve these objectives (Ha, 2014).

The main analysis of the PFS includes the economic analysis, a policy analysis, and an analysis on balanced regional development. In most cases, the economic analysis takes the form of a cost-benefit analysis. Only when the benefits are not quantified in monetary terms is a cost-effectiveness analysis employed. The policy analysis focuses on consistency with higher-level policy, project risk and other project-specific considerations. The analysis of balanced regional development evaluates the project from the perspective of a regional dimension (Kim, 2012: p.42-43).

To synthesize the results of the economic, policy and balanced regional development analyses, the so-called analytic hierarchy process (AHP) is applied to the PFS. The AHP is a multi-criteria, decision-making approach combining quantitative and qualitative analyses into a decision under a hierarchical structure. Lastly, the Ministry of Strategy and Finance makes decisions on budget allocation for large-scale fiscal projects based on the results of the PFS (Burger & Hawkesworth, 2011: p.32).

4.5. Performance of PIM

How has the PFS prevented optimism bias and saved budgetary resources by institutionalizing the PIM system? It has contributed to enhancing efficiency in PIM by preventing projects with unfavorable PFS evaluations from being launched. Cost savings reached 121,477 billion won between 1999 and 2014, as the PFS saved 41.7

046 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 047 percent of the overall project costs requested (see

).

Cost Savings by PFS

(Unit: KRW billion )

Year No. of Projects Overall Project Cost Cost Savings

1999 20 27,156 19,796

2000 30 15,244 5,775

2001 41 19,840 10,582

2002 30 16,206 7,312

2003 32 17,628 3,989

2004 55 18,574 5,270

2005 30 12,356 3,957

2006 52 19,353 10,140

2007 46 18,948 8,295

2008 38 9,047 3,969

2009 63 30,329 9,136

2010 48 27,983 11,209

2011 99 22,826 10,761

2012 35 20,643 7,515

2013 13 2,436 0.210

2014 36 127,261 35,627

Total 668 291,295 121,477

Source: KDI PIMAC Annual Report (2014).

shows why the main reason RSF has been conducted: cost overruns. Fifty-one projects have undergone RSFs since their overall costs increased more than 20 percent after feasibility studies were conducted. Next, 46 projects were subject to RSFs since they were executed without the PFS. RFSs were conducted on 31 projects because their sizes were increased to the PFS scale. These statistics show that the RFS played a significant role in strengthening the gatekeeping function of the PFS. Even if a line ministry evades the PFS in the initial stage, a project could ultimately be subject to the RSF due to the overall cost system.

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 047

Reasons for RSF

Project size Budget Demand Reported Requested TPC Year increased to executed forecast budget by Others Total ≥20% PFS scale w/o PFS ≥30% waste BAI or NA

2002 – – 1 – – – – 1

2003 3 1 1 – – – 1 6

2004 2 2 5 – – – – 9

2005 3 4 9 – – – – 16

2006 3 4 8 – 1 – 4 20

2007 3 4 2 1 1 – 6 17

2008 4 1 6 1 – – 6 18

2009 4 2 3 3 – 14 10 36

2010 2 8 6 1 – 6 4 27

2011 2 5 2 – – – – 9

2012 2 2 3 1 – – 1 9

2013 1 8 2 1 – 2 7 21

2014 2 5 3 7 3 20

Total 31 46 51 15 2 22 42 209

Note: RSFs completed as of Dec. 31. 2014

shows that of 17 projects subject to the RDF, 15 were for road construction and two for port construction.

Performance of RDF RDF completed as of Dec. 31. 2014 Culture & Water Year Roads Railways Ports Others Total Tourism resources shows cost savings derived from the RSF. The Korean government has saved2007 KRW 28,644– billion– (approximately1 US$28– billion) since– the introduction– of1 RSF in 2003.2008 1 – – – – – 1

2009 2 – 1 – – – 3

2010 1 – – – – – 1

2011 – – – – – – 0

048 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 049

Continued

2012 1 – – – – – 1

2013 3 – – – – – 3

2014 7 – – – – – 7

Total 15 – 2 – – – 17

Note: RDF completed as of Dec. 31. 2014

shows cost savings derived from the RSF. The Korean government has saved KRW 28,644 billion (approximately US$28 billion) since the introduction of RSF in 2003.

Cost Savings from RSF

(Unit: KRW billion KRW)

Year No. of Cases Cost Savings

2003 6 566

2004 6 5

2005 9 2,685

2006 19 477

2007 14 -192

2008 21 2,931

2009 31 3,054

2010 31 3,425

2011 48 9,658

2012 11 3,499

2013 9 595

2014 17 1,941

Total 222 28,644

Note: RSFs completed as of Dec. 31. 2014

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 049 5. Conclusion and Policy Suggestions

5.1. Preconditions for Effective Reform

5.1.1. Problem of Approach to PIM

The challenge facing Kuwait is not a technical one, but that of the need for institutional and legal foundations for effective PIM.

5.1.2. Reforming PIM Governance Crucial

Kuwait has relied on a bottom-up approach in the context of resource abundance, but needs institutional mechanisms to set strategic priorities and coordinate the investment decisions of state agencies involved in public investment.

Despite the country’s series of development initiatives (the latest being the fifth) and attempts to link plans on overall development and sectoral investment, the institutional mechanisms required for strategic prioritization and coordination for successful PIM implementation remain lacking.

5.1.3. PIM System Needs Budgetary and Financial Management Reforms

PIM reform should be closely linked with strategic prioritization in the overall budget process, a medium-term perspective in budgeting and top-down budgeting.

The Kuwaiti Ministry of Finance allocates yearly expenditures depending on a project’s stage rather than overall amount of expenditures. The ministry does not touch overall costs since they are predetermined.

The budget process in Kuwait has no medium-term focus and largely follows an annual and input-oriented approach (IMF, 2014: p.7). This results in myopic and unpredictable budget allocations, overspending, parochialism in the use of resources and conservative budget management (Brumby & Hemming, 2013; World Bank, 2013).

So a mid-term perspective is required to improve the overall efficiency of resource use. A medium-term expenditure framework (MTEF) is a relatively recent attempt to introduce a strategic perspective to budget management. Its characteristic feature is the attempt to integrate policy, planning and budgeting under a medium-term

050 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 051 timeframe. The MTEF differs from the conventional model of multi-year national economic planning in that the focus is on the mobilization and allocation of budgetary resources rather than dealing with the economic sector as a whole (Ha, 2013b).

Without setting resource development in the initial stage of budget preparation, maintenance of aggregate fiscal discipline is nearly impossible. Furthermore, without defining the boundaries of resource allocation, it is difficult to set strategic priorities in overall budget management. This means the MTEF is an essential ingredient for sound and efficient management of public finance.

Kuwait needs to adopt the MTEF in the initial stage and a top-down process to formulate a fiscal strategy and strengthen fiscal discipline. Overall resource envelopment makes it imperative for public agencies in PIM to set strategic priorities in resource allocation.

Also, a legal framework such as the National Finance Act of Korea should incorporate these reform measures.

In Korea, the four major fiscal reforms - the MTEF, top-down budgeting, performance management, and digital budget and accounting system provided a propitious institutional environment for systematic PIM. All of these reform measures have the legal support of the National Finance Act.

5.2. Policy Recommendations: Short Term

5.2.1. Better Filtering System

Kuwait has no standard procedure to rank projects since it has not faced budget constraints.

More importantly, the GS-SCPD or the MOF should have the sole authority to oversee the appraisal and selection of individual investment projects. For this purpose, a clear division of labor is needed among government agencies involved in PIM.

5.2.2. Development of Systematic Decision-making Process

Kuwait heavily relies on qualitative appraisal in conducting feasibility studies. Usually, the annual outlay for capital expenditure by sector and subsector is predetermined. Project suitability is decided through qualitative appraisal by the GS-

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • 051 SCPD and the selected projects are included in budget provisions.

At some stage of project appraisal, implementation of a certain kind of non- mechanical criteria is inevitable, but such criteria should be as systematic and consistent as possible. The qualitative appraisal is also prone to political manipulation in the evaluation of individual projects.

Kuwait needs a systematic qualitative evaluation system such as Korea’s AHP.

5.3. Policy Recommendations: Long Term

5.3.1. Stronger Gatekeeping Function

Kuwait needs to designate a government department for overseeing the whole process of PIM.

There are two alternative ways of reviewing the feasibility studies done by line ministries: centralize the PIM function by setting up an independent agency similar to Korea’s PIMAC or perform an independent peer review. But either method requires designation of an agency for overseeing the process of PIM, as done in Korea by the Ministry of Strategy and Finance.

5.3.2. Capacity Building of Public Agencies

Kuwait must also solve the problems of low efficiency and quality of public investment, yet has paid little attention to budget optimization due to resource constraints.

Much more attention is needed to capacity building in public agencies involved in PIM.

052 • 2015/16 Knowledge Sharing Program with Kuwait References

Boin, Arjen, PaulHart, Eric Stern, and Bengt Sundelius, The Politics of Crisis Management: Public Leadership under Pressure, Cambridge University Press, 2005. Borio, Claudio and MathiasDrehmann, Towards an Operational Framework for Financial Stability: ‘Fuzzy’ Measurement and Its Consequences, BIS Working Paper No. 284, 2009. Caballero, Ricardo, Takeo Hoshi and Anil Kashyap, “Zombie Lending and Depressed Restructuring in Japan,” American Economic Review 98, 2008, 1943- 1977. Cho, D., “The Republic of Korea’s Economy in the Swirl of Global Crisis,” in Kawai, M., M. Lamberte, and Y. Park (eds.) The Global Financial Crisis and Asia: Implications and Challenges, pp.182-196, 2012a. Cho, D., “Responses of the Korean Economy to the Global Crisis: Another Currency Crisis?” in Obstfeld, M, D. Cho, and A. Mason (ed.) Global Economic Crisis: Impacts, Transmission, and Recovery, Edward Elgar Publishing Inc., pp.57-77, 2012b. Cho, W., D. Kang, and Y. Kim, Crisis and Corporate Insolvency, Ministry of Strategy and Finance of Korea’s 2011 Modularization of Korea’s Development Experience, 2012. Cordero, Jose Antonio, The IMF’s Stand-by Arrangements and the Economic Downturn in Eastern Europe: The Cases of Hungary, Latvia, and Ukraine, Center for Economic and Policy Research Paper, 2009. Csaba, László, Growth, Crisis Managemen and EU: The Hungarian Trilemma, Joint International Hungary Conference of the SüdosteuropaGesellschaft, UngarischesInstitut and InstittfürOstrecht, Univeritaet Regensburg, April, 2013. Czibik, Agnes, Agnes Mako, and Istvan Janos Toth, Corporate Responses to the Economic Crisis: The Hungarian Case, 30th CIRET Conference, New York, October 2010 Dapontas, Dimitrios, Currency Crises: The Case of Hungary (2008-2009) Using Two Stage Least Squares, Bank of Greece Working Paper, 2011. Dolls, Mathias, Clemens Fuest, and Andreas Peichl, “Automatic Stabilizers and Economic Crisis: US vs. Europe,” Journal of Public Economics 96, 2012, 279–294. European Commission, Macroeconomic Imbalance: Hungary 2014, Occasional Papers 180, 2014. Financial Services Commission of Korea, Korean Economy and Financial Markets: Beyond Financial Turmoil, March, 2009 (in Korean). Financial Services Commission of Korea, An In-depth Look at the Korean Economy and Policy Responses to the Current Crisis, December, 2009 (in Korean). Gereben, Áron, FerencKarvalits, and ZalánKocsis, Monetary Policy Challenges during the Crisis in a Small Open DollarisedEconomy: the Case of Hungary, BIS Papers 57, 2011.

Chapter 1 _ Public Investment Management Systems in Korea and Kuwait Compared • •0 53 Kovács, Árpád and PéterHalmosi, Similarities and Differences in European Crisis Management, University of Szeged Working Paper, 2010. Krueger, Anne “Lessons from Asian Financial Experience,” Federal Reserve Bank of San Francisco Asia Economic Policy Conference, October 18-20, 2009. Langhammer, Rolf J. and Sebastian Heilmann, “Managing the Crisis: A Comparative Assessment,” in Stiftung, Bertelsmann (ed.) Managing the Crisis A Comparative Analysis of Economic Governance in 14 Countries, 2010, 9-30, Verlag Bertelsmann Stiftung. Lim, W., S. Lee, and K. Han, Experience of Overcoming the Economic Crisis and Creation of the New Growth Engine, Ministry of Strategy and Finance of Korea’s 2010 Modularization of Korea’s Development Experience, 2011. Magas, Istvan, Impacts of the Financial Crisis on a Small Open Economy: The Case of Hungary, International Relations Quarterly 1(3), 2010, 1-10. Ministry for National Economy of Hungary, Improving Hungary’s Economic Crisis Management Skills: Summary report, 2014. Ministry of Strategy and Finance, Republic of Korea, Launching Economic Crisis Management Meeting, Press release, July 8, 2008 (in Korean). Ministry of Strategy and Finance, Republic of Korea, The third Economic Crisis Management Meeting, Press release, February 7, 2013 (in Korean). OECD, Economic Surveys: Hungary, 2014. Pearson, C. M. and J. A. Clair, “Reframing Crisis Management,” Academy of Management Review, Vol. 23, 1998, pp.59-76. Pop-Eleches, Grigore, From Economic Crisis to Reform : IMF Programs in Latin America and Eastern Europe. Princeton, NJ : Princeton University Press. 2009. Sobják, Anita, From the Periphery to the Core? Central Europe and the Economic Crisis, The Polish Institute of International Affairs Policy Paper 7(55), 2013. Sohn, W., „Market Response to Bank Relationships: Evidence from Korean Bank Reform,“ Journal of Banking and Finance 34, 2010, 2042-2055. Sohn, W. and B. Choi, „An Equity Market Perspective on the Korean Financial Crisis,“ Global Economic Review 39, 2010, 83-90. Sohn, W. and H. Choi, “Banks’ Lending Decisions after Loan Acquisitions: Do Banks Favor Pre-existing Relationships?“Applied Economics 43, 2011, 1099-1112. Sohn, W. and H. Min, „Closing Inefficient Affiliates: The Case of Korean Conglomerates,“ Applied Financial Economics 18, 2008, 1351-1361

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054 • 2015/16 Knowledge Sharing Program with Kuwait Eastern European Union Countries, International Journal of Business and Social Science 2(17), 2011, pp. 186-192 Tran, Van Hoa (ed.), Economic Crisis Management : Policy, Practice, Outcomes, and Prospects. Cheltenham : E. Elgar. 2002.

ChapterChapter 1 1_ _ Public Public Investment Investment Management Management Systems Systems in in Korea Korea and and Kuwait Kuwait Compared Compared • •0 55 056 • 2015/16 Knowledge Sharing Program with Kuwait 2015/16 Knowledge Sharing Program with Kuwait: Evaluation of Public Investment Management System (PIMS) in Kuwait Chapter 2

Improvement of Project Appraisal and Monitoring System in Kuwait

1. Introduction 2. Project Appraisal and Monitoring System of Kuwait 3. Project Appraisal System in Korea 4. Project Monitoring System in Korea 5. Conclusion and Policy Suggestions ■ Chapter 02

Improvement of Project Appraisal and Monitoring System in Kuwait

Sungmin Han (Korea Development Institute) Meesoo Park (Korea Development Institute)

Summary

The aim of this chapter is to suggest policy recommendations to improve the project appraisal and monitoring system of Kuwait by identifying its problems. To do this, the system is fundamentally compared to that of Korea, which is recognized as one of the most successful in public investment management (PIM) in a developed or developing economy. The effective PIM system made by the Korean government has led to fiscal soundness and efficiency of public investment resulting in the total cost savings of nearly KRW 200 trillion from 1999 to 2014.

Government officials and policymakers in Kuwait are increasingly concerned with the low level of efficiency and quality of public investment. The IMF recently said improvement in productivity and welfare will impact government spending (IMF, 2012). Hence, this study places emphasis on further efforts toward a more efficient, consistent, well-functioning and reliable PIM system in Kuwait.

KSP researchers had several face-to-face meetings to assess the Kuwaiti PIM system and resolve issues with staff from the Supreme Council for Planning and Development (SCPD), Ministry of Finance (MOF) and several line ministries. After holding in-depth meetings, we could understand the Kuwaiti PIM system and identified the main causes of inefficiency in public investment projects. The problems and suggestions for improvement of the project appraisal and monitoring system in Kuwait described by this study are shown below.

058 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 059 First, each public investment project in Kuwait should undergo a preliminary feasibility study (PFS) conducted by the SCPD in the early stage before implementation. The Ministry of Public Works and certain line ministries, however, have been found to autonomously review project feasibility and discuss it with the MOF except the SCPD. This is because of the absence of a legal basis and detailed operating guidelines on the process of project appraisal for public investment projects. If projects are implemented without conducting the preliminary review system, serious problems are likely to arise over the construction period. For this reason, a specific operating guideline is a must to deliver information on project appraisal to all line ministries, including on the size and types of public sector projects subject to a PFS. Furthermore, the scope of the roles and responsibilities of the SCPD, line ministries and MOF in project appraisal must be defined in the budgeting process. And a firm legal basis must support this entire process.

Second, though Kuwait has a project appraisal system in place, it mainly focuses on qualitative analysis such as consistency of a national development plan and a project’s purpose and others. If projects are mainly assessed from a qualitative aspect, they are susceptible to the subjective judgement of evaluators. Once the evaluators move to other departments, maintaining consistency and transparency in evaluating the feasibility of public investment projects will prove difficult due to lack of objective standards, and this could negatively affect the government budget over the mid to long term. So, an analytical guideline on project appraisal is needed to assess the feasibility of public investment projects irrespective of the characteristics of evaluators, and should focus more on quantitative analysis such as cost-benefit and financial analyses.

Third, a poorly done feasibility study in the early stage often incurs cost and time overruns over the construction period. The incremental rise of construction cost leads to a growing cost burden for budget authorities. Additional input in public projects can negatively affect national plans over the mid and long term, as well as those of the short term. So a process is needed to ensure the feasibility of additional input. In the case of Korea, the reassessment study of feasibility (RSF) and reassessment of demand forecast (RDF) were introduced to resolve these problems. This intermediate review process has raised the efficiency of project monitoring and prevented waste of budget. So the introduction of a project monitoring system such as the RSF in Korea is crucial for Kuwait to reduce inefficiency over the construction period.

Finally, the most important element of project appraisal is to foster the professional ability of evaluators to assess the feasibility of public investment projects. In the absence of expert evaluation, feasible projects might get passed over for infeasible ones. To ensure precise evaluation, the directions for evaluation of public investment projects should be set by distinguishing short-term plans from those of

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 059 the long term. In the short run, the Kuwaiti government needs to stress providing continuous training or overseas study for staff responsible for project appraisal. In the long run, a public agency specifically for appraisal of public investment projects will prove useful. Since similar problems occurred in Korea in past decades, the Korean government set an institutional framework for project appraisal of public investment projects and formed the Private Infrastructure Investment Management Center (PIMAC) under the state-run Korea Development Institute (KDI). The role of PIMAC is to conduct feasibility studies such as the PFS, RSF and RDF. Though setting up such an evaluation entity such as the PIMAC is no easy task, it will serve as a cornerstone for installing an effective PIM system.

1. Introduction

The Knowledge Sharing Program (KSP) with Kuwait aims to suggest policy recommendations for making the existing public investment management (PIM) system more efficient, consistent and well-functioning. Government officials and policymakers in Kuwait are increasingly worried over the low efficiency and quality of public investment.1) The IMF recently said improvement in productivity and welfare will impact government spending (IMF, 2012), so an efficient PIM system is obviously a key element for sustainable national development. This chapter will focus on improving Kuwait’s project appraisal and monitoring system.

The importance of public investment in many countries and international organizations is emphasized because public investment is inseparable from economic growth. Even in academia, different perspectives exist on the relationship between economic growth and public investment. The negative impact of reckless investment on economic growth is clear, however. An efficient PIM system based on a well- defined institutional framework is an essential factor for sustainable economic development.

In particular, countries rich in natural resources should especially recognize the importance of efficient public investment for sustainable development. Abundant state revenues from natural resources generally weaken incentives to assess the feasibility of public investment projects. As the capacity for sound project appraisal is

1) Generally, public investment refers to capital expenditures on physical (e.g. roads and government buildings) and soft infrastructure (e.g. human capital development, innovation support, and R&D) with productive use that extends beyond a year. Public investment comprises both direct and indirect investment. Direct investment is defined as gross capital formation and acquisition minus disposal of non-financial and non-produced assets over a given period. Indirect investment is defined as capital transfers like investment grants and subsidies in cash or in kind made by subnational governments to other institutional units. The definition and scope of public investment in Kuwait are analogous to that of the above statement.

060 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 061 limited, unnecessary projects are often implemented without undergoing a suitable review process. Revenues from natural resources can fluctuate with boom-and-bust cycles, however, and in a poor economic situation, the potential for falling revenues dramatically increases. Thus preparation is needed for rapidly changing circumstances as well as efforts to raise the efficiency of public investment.

In general, the project evaluation of public investment projects can be divided into two phases: ex-ante appraisal before proceeding with the project and monitoring in the construction period. In this context, a preliminary feasibility study (PFS) and reassessment study of feasibility (RSF) on public investment projects are carried out by PIMAC in Korea. A PFS is an ex-ante procedure to appraise the feasibility of public investment projects based on economic, policy and balanced regional development analysis. An RSF reassesses project feasibility to keep in check cost overruns over the construction period. The same methodology and implementation procedure are employed as in a PFS, and an RSF is conducted if the overall project cost rise more than 20 percent from the amount endorsed by the Ministry of Strategy and Finance (MOSF) in the previous phase of the project.2) This integrated PIM system of the Korean government has achieved fiscal soundness and efficiency of public investment, and received acclaim as one of the most successful PIM systems from a developed or developing economy.

Public investment in Kuwait is managed similar to a conventional system of public financial management. A multiyear budget for projects and capital budget require initial estimation, cost and budget calculations for each year under an annual development plan. These budgets are usually planned in advance and consequently managed and implemented over time by line ministries in coordination with the Ministry of Finance (MOF). A number of ministries, institutions and agencies such as the Mega Project Agency (MPA), Ministry of Works, Ministry of Finance and the Supreme Council of Planning and Development (SCPD) are involved in the project cycles from design to implementation and evaluation. Public investment is managed by an independent panel responsible for review and evaluation of the projects in coordination with relevant beneficiaries, and the General Secretariat of the Supreme Council of Planning and Development (GS-SCPD) is the coordinating body of the SCPD. The SCPD is the key government body responsible for devising mid-term plans. Other government agencies oversee the decision-making system and regulatory mechanisms in coordination with the SCPD.

Project appraisal in Kuwait is also different by the nature of a project. Mega projects and those of public-private partnerships are appraised by different agencies. The appraisal of an annual development plan is qualitatively conducted by the SCPD.

2) In addition to these devices, reassessment of demand forecast (RDF) and post-evaluation are also used to manage the implementation process of public investment projects as a whole.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 061 Major key processes are the technical evaluation of a project’s quantitative and qualitative parameters, capacity to technical appraisal of the projects, monitoring and implementation of projects and ex-post evaluation. The capital expenditures for public investment are scrutinized through the ex-ante system of evaluation and screening of viable projects.

Once the process is completed, the project proposal is submitted for capital budgeting through beneficiary entities. Line ministries provide estimations of their revenues and expenditures according to each ministry’s mandate, which is then reviewed and discussed with the MOF within specific dates. Accordingly, the state’s general budget is then prepared and compiled. The suitability of a project is determined through qualitative appraisal by the SCPD and projects selected are included in the budget provisions. The organizational structure of monitoring, evaluation and follow up is governed through the coordinating mechanism of a council of ministers, the SCPD in coordination with the General Secretariat, MOF and line ministries based on key performance indicators. Legally, the SCPD is responsible for project appraisal of beneficiary entities and historically under an annual development plan.

KSP researchers had several face-to-face meetings to assess the Kuwaiti PIM system and resolve the issues with staff from the SCPD, MOF and several line ministries. After holding in-depth meetings, they could better understand the Kuwaiti PIM system and identified the main causes of inefficiency in public investment projects. The research findings in Kuwait’s project appraisal and monitoring system are shown below.

First, the Ministry of Public Works and other line ministries were found to review project feasibility autonomously and discuss it with the MOF but not the SCPD. Second, though Kuwait has a project appraisal system in place, it mainly focuses on qualitative analysis such as consistency of a national development plan and a project’s purpose. Third, a poorly done feasibility study in the early stage often incurs cost and time overruns in the construction period. Finally, the professional ability of evaluators is lacking.

Thus this study focuses on offering concrete and practical policy recommendations to resolve the problems mentioned above by comparing the project appraisal and monitoring system of Korea with that of Kuwait. The remainder of this study is organized as follows. Section II introduces the project appraisal and monitoring system of Kuwait and Section III focuses on the PFS of Korea. Section IV presents the RSF of Korea. Section V concludes this study and presents policy implications.

062 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 063 2. Project Appraisal and Monitoring System of Kuwait

2.1. Economy and National Development Plan

2.1.1. Public Revenues and Expenditures

The Kuwaiti economy is heavily dependent on oil. Over a long period of time, the share of oil revenue has averaged 91.3 percent of public revenue. In the 1970s, the share rose to as high as 93.6 percent before going down to nearly 90 percent in the 1980s (Abbas Al-Mejren, 2015). Since 2008, the amount of oil revenue has steadily increased from US$19.7 billion to US$29.3 billion, and the oil sector has taken up nearly 95 percent of export revenue. Despite the significant growth in oil revenue, growth targets for non-oil revenue have not been achieved.

Public revenue is used to pay wages and salaries, requirements for goods and services, transportation and equipment, construction and land acquisition, and transfer payments. While the amount of public spending has marginally changed over the last eight years, the gap in the government balance, or the difference between public revenue and expenditures, saw a steady decline until 2014. The amount of public expenditures finally exceeded that of public revenue in 2015.

shows a summary of public revenue and expenditures since 2008.

Summary of Public Revenue and Expenditures

(Unit: US$ million)

Revenue Expenditures

Construc- Requirements Transpor- Other Year tion & Oil Other Wages & for Goods tation & Expenses & Total Land Total Revenue Receipts Salaries & Equipme- Transfer Acquisiti- Services nt Payments on

2008 19,711 1,295 21,006 3,039 3,002 122 1,358 10,741 18,262

2009 16,585 1,103 17,688 3,195 2,172 227 1,081 4,577 11,251

2010 19,947 1,555 21,502 3,423 2,792 153 1,688 8,165 16,221

2011 28,570 1,667 30,236 4,103 2,760 147 1,652 8183 16,845

2012 29,970 2,039 32,009 4,832 3,641 159 1,652 8,760 19,042

2013 29,292 2,520 31,811 5,038 3,219 209 1,531 8,906 18,903

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 063

Continued

(Unit: US$ million)

Revenue Expenditures

Construc- Year Requirements Transpor- Other tion & Oil Other Wages & for Goods tation & Expenses & Total Land Total Revenue Receipts Salaries & Equipme- Transfer Acquisiti- Services nt Payments on

2014 22,502 2,424 24,926 5,303 3,026 197 1,662 11,227 21,416

2015, 10,758 1,453 12,211 5,387 2,603 286 2,076 8,820 19,171 Q3

Source: Central Bank of Kuwait.

The decline in public revenue stems from the fall of crude oil prices that began in 2014. [Figure 2-1] shows the changes in oil prices over the past decade. Oil prices in 2014 plunged 60 percent from the previous year, negatively affecting public revenue due to Kuwait’s strong dependence on oil. Until recently, Kuwait had not suffered resource constraints thanks to its abundant crude oil resources. Now, however, the Kuwaiti government is considered to face a serious financial deficit due to the fall of crude oil prices. So the consequent decline in public revenue indicates that Kuwait urgently needs efficient fiscal management to overcome its financial woes.

[Figure 2-1] Changes in Crude Oil Prices

Price (Unit: US$/barrel) 160

140

120

100

80

60

40

20

0

2006-012006-072007-012007-072008-012008-072009-012009-072010-012010-072011-012011-072012-012012-072013-012013-072014-012014-072015-012015-072016-01

Price

Source: https://fred.stlouisfed.org/.

064 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 065 2.1.2. Kuwait’s Mid-range Development3)

The purpose of the mid-range plan is to provide a unified national direction for strategic planning in Kuwait. This is done by highlighting the areas Kuwait needs to focus on through measuring performance against global indices related to the vision

and identifying a set of projects expected to have the highest impact on achieving that vision.

The mid-range plan sets a number of goals, policies and targets to be achieved over the next five years in two tracks. The first aims to take on Kuwait’s challenges and imbalances, including those facing the economy and development such as economic diversification, expanded role of the private sector in development, correcting imbalances in the state budget, encouraging foreign direct investment, developing national infrastructure, adoption of an integrated and comprehensive urban development strategy, and tackling human resources and social challenges. Other objectives are improving the quality of public education and healthcare services, empowering youth, reducing corruption and enhancing the efficiency of the administrative apparatus. The second track aims to develop the northern region of Kuwait into a commercial center for the government and create the proper conditions to turn the area into a business hub.

The mid-range plan for 2015-16 to 2019-20 presents a national direction for the coming years to determine the plans and projects to achieve the desired state of Kuwait and its populace. The plan’s structure has been revised to follow a clear cascading process, from the national vision to specific areas of focus and down to support projects. This process will focus and unify development efforts in Kuwait toward achieving common goals serving the greater good of the nation.

The plan is derived from a vision statement declared by the Emir of Kuwait, Sheikh Sabah Al Ahmad Al Sabah, which sets the nation’s vision and priorities to be achieved by 2035. This timeline is critical as it sets a clear target in time and desired states to achieve over the next 20 years. From the vision statement, multiple targets for Kuwait can be extracted to make the nation more than just an area attractive to investors, such as improving government institutions and developing human resources and infrastructure.

The goals of the mid-range plan are to raise the contribution of the non-oil sector from 37 percent to 55 percent of GDP by 2020; hike the private sector’s contribution to GDP from 25 percent to 34 percent; and boost the share of Kuwaitis employed in the private sector above the current 21 percent. 3) Most of the following points in this section hereafter are based on “Kuwait Mid-Range Development Plan 2015/2016-2019/2020, May 2015”.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 065 The vision has five themes representing the desired “end state” for Kuwait and are supported by seven pillars that represent the drivers usable by Kuwait’s institutions to achieve them. Government entities should familiarize themselves with the first two chapters of the mid-range plan, which introduces the vision as well as the components, and with the 20 mid-range indices. The five themes should be used as a guide for all development plans at the organizational level.

[Figure 2-2] Five Themes of Kuwait Mid-range Development Plan

Kuwait’s Vision Five themes

“Transforming Kuwait into a nancial and trade Citizen participation & respect of the law - Creating a respected rule of law through controlling corruption, building con dence in and respect of rules of society and improving citizen participation in centre, attractive to investors, where the private government sector leads the economy, Eective & transparent government - Creating a transparent creating competition and promoting production government through improving fairness and responsibility in policymaking, formalizing rules and regulations and the proper eciency, under the umbrella of implementation of formulated policies

enabling government institutions, Prosperous & diversi ed economy - Developing a prosperous & which accentuates values, diversi ed economy through ensuring growth in the economy other than from oil production and developing a strong presence in a variety of industries safeguards social identify,

and achieve human resource Nurturing & cohesive nation - Developing a nurturing & cohesive nation through providing high quality healthcare and education and development as well as balanced ensuring the economy, infrastructure provides a good quality of life for residents development, providing adequate infrastructure,

advanced legislation and inspiring Globally relevant and inuential player - Acting as a globally relevant and eective partner through maintaining strong political, business environment.” economical, trade and diplomatic inuence internationally

Source: Kuwait Mid-Range Development Plan 2015/2016-2019/2020, May 2015.

Statement: “[To] transform Kuwait into a financial and trade center, attractive to investors, where the private sector leads the economy, creating competition and promoting production efficiency, under the umbrella of enabling government institutions, which accentuates values, safeguards social identify, and achieve human resource development as well as balanced development, providing adequate infrastructure, advanced legislation and inspiring business environment.”

The vision statement provides clear guidelines on what Kuwait must aspire to become and achieve by 2035, from which five main themes can be derived. The themes are the desired end states Kuwait, through its development plan and strategic and operational planning should aim to achieve by 2035.

066 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 067 • Civic Participation & Respect for Rule of Law

This theme is about building respect for rule of law through reducing corruption, raising confidence in and respect for rules of society, and improving civic participation in government. This requires reinforcement of rules and regulations and bolstering enforceability and accountability within public institutions, as well as support for the development of Kuwait’s civil society and promoting public participation in governance.

• Effective & Transparent Government

The emphasis here is to reinforce transparency, effectiveness and efficiency in Kuwait’s public institutions, which require fairness and responsibility in policymaking, formalized rules and regulations, and proper implementation of formulated policies.

• Prosperous & Diversified Economy

The aim here is to achieve strong and stable economic growth through a combination of private development, and diversification away from oil. The objective is to ensure economic growth through means other than oil production, and develop a strong presence in a variety of industries.

• Nurturing & Cohesive Nation

The focus of this theme is to develop a nurturing and cohesive nation as well as people through high quality healthcare and education for all residents at a sustainable cost to the government, and ensuring that a well-balanced economy and modern infrastructure allow the populace access to a good quality of life.

• Globally Relevant & Influential Player

This theme aims to develop a strong and influential presence regionally and globally through trade, political influence and humanitarian support. This requires the maintenance of strong political and diplomatic influence abroad and development of significant economic influence in the world through investment abroad.

The seven pillars should serve as means to meet mid- and long-term targets. To achieve the five end states, Kuwait requires the support of public institutions across multiple pillars. A pillar represents the means through which the vision and its themes can be achieved. The mid-range plan comprises seven unique types of pillars as mentioned below.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 067 [Figure 2-3] 7 Pillars of Kuwait’s Mid-range Development Plan

Kuwait's Vision Seven pillars

Transforming Kuwait into a nancial and Administration trade centre, attractive to investors,

where the private sector leads the economy, Economy creating competition and promoting

production eciency, under the umbrella of Infrastructure

enabling government institutions,

which accentuates values, Living environment

safeguards social identify, and

achieve humon resource development as well as Healthcare

balanced development providing

adequate infrastructure, Education and human capital

advanced legislation and inspiring

business environment.” Interational positioning

Source: Kuwait’s Mid-range Development Plan 2015-16 to 2019-20, May 2015.

• Administration

This pillar seeks the reform of administrative and bureaucratic practices to reinforce integrity, transparency and accountability throughout the government. Streamlining public administration also improves effectiveness and efficiency in policy implementation and service delivery, as administration plays a crucial role in Kuwait’s social and economic affairs.

• Economy

Kuwait’s economy represents the engine driving broader development and gradual reduction of the country’s dependency on oil exports. This requires stimulating competition and innovation in the private sector, improving the mechanisms of the domestic labor market, encouraging foreign direct investment (FDI), and stimulating the market for small and medium enterprise.

• Infrastructure

This pillar focuses on developing and modernizing infrastructure to develop and improve Kuwait’s information and communication technology (ICT), transportation,

068 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 069 logistics and trade, and electricity generation and transmission.

• Living Environment

This pillar is about ensuring the availability of living accommodations for the Kuwaiti people, as well as achieving sustainable development through environmental conservation and reduced consumption of strategic natural resources such as water and oil.

• Healthcare

Healthcare institutions in Kuwait will play a vital role in achieving a desired quality of life for the people. This means improving service quality in the public healthcare system and developing a national system of medical care capable of resolving public health issues at reasonable cost.

• Education & Human Capital

This pillar stresses reform of the education system to better prepare youths to become competitive and productive members of the workforce, as well as improving the efficiency of educational spending. The development of Kuwait’s people through the improvement of education and human capital will be a key driver in achieving the national vision and overcoming challenges.

• International Positioning

International positioning focuses on enhancing Kuwait’s regional and global presence in spheres such as diplomacy, trade and culture, and will enable Kuwait to become a globally relevant player.

The themes and pillars presented in this section represent the main building blocks of achieving the 2035 vision. As shown in the matrix below, they are classified into strategic directions and areas of focus and improvement according to the vision strategy, which are then translated to projects at the organizational level. Vision indices are ultimately what will measure national performance, and so organizations should strive to submit projects that support improvement of these indices based on their strategic directions. To set up links among themes, pillars and strategic directions, interdependencies between themes and pillars were identified and indices allocated to each interdependency, as shown in the matrix below.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 069 [Figure 2-4] Selection Criteria

Themes Citizen participation Effective & Prosperous & Nurturing & Globally relevant & Pillars & respect of the law transparent govt. diversified economy cohesive society influential player

1 2 Effective 3 Ethical policymaking index Ease of Administration 1 government index 20 Government doing business spending index 4 5 6 Business Labour market Exports of goods & Economy 2 sophistication performance index services

7 8 9 10 Quality of Cross-border Government ICT Logistics

Pillars Infrastructure infrastructure traffic flow 3 usage Performance (air / port / rail / roads) index Index 11 12 13 Living Resource & energy Time to receive Environment 4 environment use public housing performance index

14 Healthcare Healthcare quality 5 index

15 16 Education & Workforce Education quality 6 Human capital readiness index

17 18 19 International International Global peace index Net inflows of FDIs 7 positioning relations index

Source: Kuwait’s Mid-range Development Plan 2015-16 to 2019-20, May 2015.

Global indices have been selected to measure the interdependencies shown in the matrix above and allow an accurate assessment of Kuwait’s performance per the vision’s themes. All indices selected to measure progress made in the vision are based on international sources or a composite of them to maintain impartiality in the measurement process. They are barometers of Kuwait’s performance relative to other countries and set targets for the country’s progression over time.

The indices are broken down into their constituent parts, or indicators, to identify specific and concrete areas for improvement. If Kuwait’s performance in one indicator is below the target, an area for improvement called a “strategic direction” is identified to provide guidance to organizations in coming up with support projects.

The selection and revision of vision-related indices and indicators form a dynamic process. Indices and indicators could be added or replaced over time. An indicator can be added if it improves understanding of the components of an index, or replaced if its counterpart is from a more reliable source updated more regularly. An index could be added if it measures a distinct and fundamental link between a theme and pillar of importance in achieving Kuwait’s 2035 vision.

070 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 071 2.2. Project Appraisal System in Kuwait

2.2.1. Project Selection

To implement public investment projects, line ministries should submit proposals to the SCPD according to the latter’s designated template. They must fill out items on the consistency of a national development plan, project purpose and cost. Nonetheless, the most critical element for project feasibility assessment is whether it is related to the mid-range plan.

In more detail, each line ministry is required to submit a project proposal to support a strategic direction, and thus indicators and indices. To gain inclusion in the mid-range plan, a project must be directly related to the vision. When submitting project proposals, line ministries should link their projects to one or more of the strategic directions. They also need to explain how their projects fit into the strategic direction(s) and thereby improve their related indicators. The ultimate decision on inclusion lies with the General Secretariat of the SCPD. Through these selection criteria, projects are classified into two main categories:

Vision related: projects directly related to one or more strategic directions

Non-vision related: projects not directly or clearly aligned with one or more strategic directions, and those unrelated to any strategic direction

Not all government projects are reflected in the mid-range plan. Projects that fail to satisfy the above criteria are kept at the level of mid-range plans of organizations and executed independently.

2.2.2. Project Implementation Procedure

Vision-related projects will have a support platform to help ensure implementation success. Projects deemed vision related and categorized as either tactical or enabling could get assistance from the Vision Realization Committee (VRC). If the VRC finds specific projects off-track or requiring specific improvement, it can temporarily support the entity in question by bringing in internal or external experts who can help turn around or improve implementation within a defined scope. Similarly, the VRC may escalate certain project concerns and liaise with other government sections to help these projects move forward.

Projects considered vision related and categorized as operating will get support from the General Secretariat of the SCPD. This will promote certain project concerns and liaise with other government sections to help these projects move forward.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 071 As explained in the table below, the SCPD is responsible for the mid-range development plan and reviews a project proposal submitted by each line ministry whether to include a project in the plan. The SCPD also acts as a coordinator or consultant when discussing and negotiating budget approval between a line ministry and the Ministry of Finance. Each line ministry prepares a project proposal based on the template provided by the SCPD and submits it to the latter. A requirement for inclusion in the mid-range development plan is an explanation on how a project is related to the national vision. The SCPD shall be responsible for reviewing the proposed projects and programs at the sectoral level, examining the analyses of the development impact from each of the projects. Projects whose feasibility for implementation can be adequately proven shall be selected and included in the plan’s draft framework, according to the terms and conditions of prioritization. After getting approval from the SCPD, the draft plan shall be submitted together with the draft public budget to the Cabinet for approval. That is, line ministries, the SCPD and MOF closely coordinate and discuss budget approval.4) 5) [Figure 2-5] briefly shows the implementation procedure of public investment projects according to the role of each entity.

Roles and Responsibilities of Institutions Concerned

Line Ministry SCPD Ministry of Finance

··Devise mid-range development plan (MRDP) ··Devise project proposal ··Review project proposal ··Review project proposals ··Submit proposal submitted by line ministry & budget ··Conduct feasibility study ··Select projects for MRDP ··Approve budget ··Procure & operate ··Consult & coordinate with line ministry / get MOF budget approval

4) Not all projects in the mid-range plan should be funded by the government budget. Projects can be set up through private-public partnerships (PPPs) through private investors or international development organizations such as the IMF and the U.N. Funding sources for a project should be determined by the ministry responsible for it. The Kuwaiti development plan includes 17 vision-related tactical, 19 enabling and 88 vision-related operational projects. 5) Certain line ministries such as the Ministry of Public Works skip the ex ante review system conducted by the SCPD. They autonomously conduct feasibility studies and hold a meeting only with the MOF on if the project will be implemented.

072 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 073 [Figure 2-5] Project Implementation Procedures

Line Ministry SCPD Ministry of Finance

Review and consultation Submit project proposals of project proposals

Submit the final version of Review and discussion project proposals

Implementation of the projects Budget decision

2.2.3. Budgetary Decision

The general budget for a fiscal year in Kuwait is approved by decree or law for a specific year, and the fiscal year runs from April to March. The budget for 2014-15 was approved by Decree Law No. 120 for 2014. The Ministry of Finance (MOF), based on functional classifications of the budget, orders line ministries to prepare their current and capital budgets to meet their current and capital expenditure needs. The line ministries prepare these expenditures for the public provision of services such as health, education, security and social services by October. They and public authorities prepare and review their budget estimates within public policy, laws, declarations and decisions. In the case of public investment projects deemed feasible through the ex ante review process of the SCPD, the final selection of a project is determined in a meeting with line ministries, the SCPD and MOF by December. Afterwards, the MOF draws up the budget for the project depending on the meeting’s results.

The budget covers all the ministries, departments and the units under the “attached budget,” and select units are considered for independent budgets excluding those considered non-financial businesses and financial institutions. The Kuwaiti government allocates the budget for an investment project under the Chapter 4 budget classification of the Ministry of Finance (MOF). For example, construction projects, maintenance and public acquisition are combined in the Chapter 4 classification. Every year, a budget is allocated for newly approved projects under an annual plan. For example, the MOF allocated KD 674 million for 41 newly approved projects to meet the infrastructure needs of the 2014-15 budget. Of the 41 projects, 18 were for economic services such as the design of the Kuwait Metro Rail, infrastructure, power generation, water purification and deference services.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 073 2.2.4. Current Issues

Through this study, KSP researchers gained a better understanding of the Kuwaiti PIM system and its issues. After holding in-depth meetings, they understood the Kuwaiti PIM system and identified the main causes of inefficiency in public investment projects. The country’s problems with its project appraisal system are below.

First, the Ministry of Public Works and certain line ministries are known to review project feasibility autonomously and discuss it with the MOF without the SCPD (circumventing review work by the SCPD without consulting it on project appraisal). This is due to the absence of detailed operating guidelines on the process of project appraisal for public investment projects. If projects are implemented without undergoing the preliminary review system, serious problems are likely arise over the construction period.

Second, though Kuwait has a project appraisal system in place, it mainly focuses on qualitative analysis such as consistency of a national development plan and project purpose. If projects are mainly assessed from a qualitative aspect, they are susceptible to the subjective judgements of evaluators. Once the evaluators move to other departments, maintaining consistency and transparency in evaluating public investment projects is difficult due to lack of objective standards, which could have a negative effect on the government budget over the mid and long term.

Finally, the most important element of project appraisal is to secure the professional ability of evaluators to assess project feasibility. The absence of this means infeasible projects might get the green light over feasible ones. The direction of evaluation of public investment projects should be set by distinguishing short-term plans from those of the long term to ensure precise evaluation.

2.3. Project Monitoring System in Kuwait

2.3.1. Overview

While project ownership and implementation are ultimately the responsibility of each government entity, a monitoring and support model tailored to project type has been developed to ensure success of vision-related projects. Projects deemed vision related are classified into three categories that require varying levels of monitoring and support. The following three categories of projects have been grouped by the General Secretariat of the Supreme Council of Planning and Development (SCPD): vision related and tactical, vision related and enabling and vision related and operational.

074 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 075 • Tactical Projects -- Occurring infrequently in Kuwait and having a high measurable impact -- Not included in the mandate for institutions but needed to achieve Kuwait’s vision • Enabling Projects -- Lack high measurable impact on a standalone basis, but required to support the implementation success of other projects -- Can be infrastructure enablers that include basic infrastructure such as roads, electricity, water and sewage or administrative enablers such as improvement of key government processes or forming specialized institutions. • Operational Projects -- Occurring frequently or representing a core part of the activities of the government entity responsible for the project

Projects classified as vision related and tactical and those deemed vision related and enabling will be monitored and reported on by a vision realization committee (VRC). A VRC provides monitoring and implementation support for vision-related tactical and enabling projects and helps alleviate implementation bottlenecks as they arise. The committee assigns a representative to follow-up with government entities on the detailed status of these projects and raise flags where applicable.

Projects classified as vision-related and operational will continue to be monitored and reported on by the General Secretariat of the Supreme Council of Planning and Development (GS-SCPD). Improvements will be made to electronic monitoring and reporting tools to facilitate this process, and representatives from the General Secretariat will consult with government entities to facilitate the process.

Projects that fall into none of the three categories will be monitored at the entity level and not by the GS-SCPD, as the projects are not part of the mid-range plan.

2.3.2. Current Issues

Kuwait has a project monitoring system in place for vision-related projects, but it is generally based on qualitative measures. In addition, once line ministries require more budget from the MOF, they submit a yearly-based project cost, not the overall amount needed over the entire cycle. This often leads to cost overruns that aggravate the cost burden of budget authorities. Additional input in public projects can negatively affect mid- and long-term development plans as well those of the short term. Thus the feasibility of additional inputs must be checked.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 075 3. Project Appraisal System in Korea

3.1. System in Early Stage of Economic Development

After Korea gained independence from Japanese colonial rule in 1945, most infrastructure investment projects were reviewed by foreign organizations or experts due to Korea’s lack of appraisal ability, and the projects were partly selected without serious scientific and rational verification until the 1960s. From 1962, the Korean government began efforts to expand infrastructure facilities such as roads and railroads according to seven five-year economic development plans. At the time, Seoul selected projects that could contribute to economic growth and use limited national resources in the most efficient way. The investment appraisal system, however, was in its nascent stage in technical expertise and limited to how consistent the projects were with the policy goals of economic development and the master plan. The government was at the time lacked the capacity to clearly verify a project’s feasibility in a quantitative manner.

In the 1970s, the Korean government continued investment in highways and railways as well as expanded fiscal investment in industrial complexes, ports and other facilities for the development of the heavy and chemical industries. The transportation infrastructure built over this period is considered a crucial underpinning of Korea’s rapid growth in the 1970s and 80s. Yet many side effects occurred over that period due to the use of heavy state intervention in development rather than an effective approach to public investment.

The Korean government acknowledged that more systematic and sophisticated methodologies and techniques were required to review the feasibility of projects, as state investment plans grew more complicated and the number and size of projects increased. In this sense, a number of planning staff at the Economic Planning Board (EPB) visited the Economic Development Institute of the World Bank after Korea’s second five-year plan was drafted to receive training in investment project review. The Investment Project Review Manual was prepared and distributed to related government agencies in 1968, and the manual was updated and distributed in 1970, 1972 and 1973 to introduce more sophisticated methodologies in the review process (KDI, 2013: p.42).

The Regulations on the Investment Project Deliberative Committee were enacted in August 1970 pursuant to Economic Planning Board Directive No. 52. The regulations governed matters related to the organization and operation of the committee. At the time, Korea was unfamiliar with such a system, so the government prepared a manual reflecting its circumstances and introduced methodologies used

076 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 077 by foreign experts from other countries and international organizations such as the World Bank. Once the system was launched, it examined the feasibility of foreign capital involvement for major investment projects. Considerable enthusiasm and expectations surrounded the system, and its activities continued for the following two to three years. Failure ensued in 1973, however, for the following reasons.

First, a sufficient number of professional human resources for investment project review were not properly allocated in government organization. Second, the internal rate of return (IRR) calculated by non-professionals had many problems and proved insufficient to use. Third, Korea lacked practical and applicable methodologies and techniques. The government needed development theoretical methodologies and techniques suitable for the country’s situation and strived for continuous improvement. But the conditions for developing such methodologies were not provided and a dedicated task force was not formed. Finally, a social atmosphere too immature to accept this kind of system and lack of proper awareness also contributed to the failure, partly because of inadequate methodologies. But at the time, the system’s development would have been difficult under conditions in Korea that could not embrace the concept of measuring investment feasibility as objectively as possible and using it as a baseline when making investment decisions.

After undergoing trial and error in enhancing project review methodologies and techniques, the Korean government recognized that a new system of investment review was required for economic development. In March 1977, the Regulations on Major Investment Project Review were enacted pursuant to an Economic Planning Board directive. Accordingly, task forces were formed in January 1977 (Business Analysis Office of EPB) and promoted to bureau level (Investment Appraisal Bureau) by the end of 1977. Another office was added (four overall) in July 1979 and have remained since.

Major investment projects subject to review were new treasury investment and loan projects exceeding KRW 10 billion in overall cost, public loans, and projects involving the private sector, commercial loans and foreign investment for which the EPB minister requested reviews under the Foreign Capital Inducement Act, and projects in resource development abroad under the Overseas Resources Development Business Act (KDI 2012, p19).

The criteria and factors of a project review were 1) consistency with the master plan and economic development policy, 2) supply and demand analysis, 3) cost and facility size and global competitiveness analysis, 4) analysis of financing capability, 5) analysis of debt repayment capability, 6) analysis of profitability, 7) and a comprehensive analysis under the amended regulation on review in 1979. When investment projects subject to the regulations were proposed, the director-general

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 077 of a related bureau at the EPB requested a counterpart at the Investment Review Bureau to review the project plans. Then the director-general organized a working- level task force to examine the project and replied to the director-general at the related bureau with a comprehensive review report.

The project review process was vigorously implemented until the 1980s. As the Korean economy grew at an unprecedented rate, however, the number and cost of projects subject to review did as well, making effective analysis difficult given the lack of expertise. And other problems occurred as a result of unspecified review deadlines, which meant that the project review results were not appropriately reflected in the budget. To correct these problems, the Regulations on the Major Investment Project Review were once again amended in January 1991.

The major amendments were limiting new fiscal projects subject to review to those with combined investment of KRW 50 billion (approximately US$50 million) or more. An internal review was applied by project procuring ministries with investment of KRW 10 billion to just under KRW 50 billion, encouraging capacity building by such ministries in project review. The amendments also allowed the ministry concerned to conduct a project review before the establishment of mid- and long- term plans, and set the end of March as the annual deadline for review of new fiscal projects to link the review process with that of the national budget (KDI, 2012: p.20). Offshore resource development projects were exempted from review given that their economic feasibility was analyzed by the principal entity of offshore resource development funds (KDI, 2012: p.20).

The EPB led the investment review process until the early 1990s, but this function was considerably weakened in 1994, when the Review and Evaluation Bureau was abolished as a result of the merger of the MOF and EPB into the Ministry of Finance and Economy (MOFE). The EPB’s Budget Office could not review the feasibility studies of new investment projects conducted by line ministries due to lack of expertise and time. Feasibility studies at the time were considered the means for project procuring ministries to secure budget but failed to properly perform their roles and functions in the PIM system, and thus the results grew less objective and more biased toward the procuring ministries.

Of the 33 projects that underwent feasibility studies between 1994 and 1998, just one was ruled infeasible, namely the Ulleungdo airport project of the Ministry of Construction and Transportation

.

078 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 079

Results of Feasibility Studies Conducted between 1994 and 1998

(Unit: KRW 100 million) Result No. of Under Ministry Concerned Budget Projects Study Feasible Infeasible

Ministry of Construction & 15 12,829 9 1 5 Transportation

Korean National Railroad 6 730 6 0 0

Ministry of Agriculture & 1 102 1 0 0 Forestry

Ministry of Maritime Affairs 16 12,770 14 0 2 & Fisheries

Ministry of Culture & Tourism 4 930 1 0 3

Ministry of Environment 1 405 1 0 0

Ministry of Science & 1 600 0 0 1 Technology

Total 44 28,366 32 1 11

Note: The only project ruled infeasible by a feasibility study was that for an airport on Ulleungdo Island carried out from 1997 to 1998. Source: Improvement of Efficiency of Public Projects by the Planning and Budget Committee, news release, September 22, 1998.

Another problem was the application of methodology for conducting feasibility studies. The coefficients for analysis of economic factors in feasibility studies were not consistently applied across the conducting agencies due to lack of general guidelines at the government level. For instance, the social discount rate, used to convert future values into present values, was 13 percent across all project areas in the 1980s but just 10 percent for electric power generation projects. For a feasibility assessment of expressway projects, factors such as maintenance and vehicle operating costs or value per hour were all applied differently to different projects.

3.2. Ex Ante Evaluation: Preliminary Feasibility Study (PFS)

3.2.1. New Initiatives in Project Appraisal System

A major reform of Korea’s PIM system came in the wake of the Asian financial crisis in 1997-98. The Korean government pursed intensive restructuring and

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 079 reforms in both the public and private sectors, including finance and labor. The crisis led to growing voices urging an objective and efficient PIM system. Many critics also questioned whether public projects were implemented efficiently and if taxpayer’s money was being used appropriately. For example, the construction cost of the KTX high-speed rail between Seoul and Busan ballooned to KRW 18.5 trillion (approximately US$18.5 billion) from KRW 5.5 trillion (approximately US$5.5 billion). This was because the same line ministry was responsible for both planning and conducting the feasibility study, resulting in a biased project appraisal and focus on implementation. Another problem was the lack of standardized guidelines and databases for the feasibility study from the perspective of the project lifecycle, so these technical deficiencies resulted in the huge difference between the construction cost and budget in the mid-term financial plan.

To solve these problems and enhance PIM, a cross-ministerial task force was formed to develop an action plan. The task force, put under the Ministry of Planning and Budget (MPB), now the Ministry of Strategy and Finance, and the Ministry of Construction and Transport (MOCT), now the Ministry of Land, Infrastructure and Transport (MOLIT) after being renamed the Ministry of Land, Transportation and Marine Affairs (MLTM), issued “A Comprehensive Plan for Enhancement of Public Investment Efficiency” in July 1999. The plan introduced policy measures and made up for the weaknesses of the PIM system at the time.

The major feature of the new PIM initiative was to strengthen the monitoring system of the project implementation process by the budget authority. In this regard, the government introduced an integrated system of PIM consisting of ex ante, intermediate and ex post evaluation processes for efficient public investment. The MPB introduced the preliminary feasibility study (PFS) as an ex ante system of public investment evaluation to assess a project’s feasibility headed by the budget authority, the MOSF, to produce information needed to make budgetary decisions. And the Planning and Budget Committee set up the Public and Private Investment Management Center (PIMAC) under the state-run Korea Development Institute (KDI) to conduct the PFS and provided related funds to the center. In this way, the government intensified the ex ante evaluation system. The figures below illustrate the evolution of the Korean PIM system from the 1960s to the 2000s.

080 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 081 [Figure 2-6] Evolution of Korea PIM System from 1960s to 2000s

1970 1977 1979~1991

Most infrastucture Investment Project The Regulations on As the nation began to investment projects had Deliberative Committee (IPDC) Major Investment Project expand steadily at an been evaluated by foregign (Economic Planning Review unprecedented rate financially and organizations or experts. Board (EPB)) (EPB directive) economically,

the number of projects Implementation of new New treasury investment Review of the feasibility and their value infrastructure investment and loan projects, costing of investment projects by increased, rendering as suggested by the Five-year over 10 billion Korean effective analysis IPDC Economic Development Plans Won (KRW) in total increasingly difficult.

Investment Appraisal Bureau (IAB) was established in EPB.

Criteria for review and analysis: long-term plans and alignment with economic policies; cost, facility size, and international competitiveness; financing capability, debt service capacity, profitability; 1991 1994 1997 1998 1999

The “Regulations on the The Planning and Budget The Planning and Major Investment Project The Budget Office in Committee (1998) + The Review” amended Budget Committee Budget Office Ministry of MFE (PBC) (EPB dir.) Planning and Budget (MPB); 『The Enforcement Decree of the Budget and Accounts Act』 Review of projects with Difficult to review the Lack of objectivity and total investment of results of feasibility reliability of feasibility KRW50 billion or more; assessments of major studies performed under Introduction of pre- Currency Internal review of projects submitted by the supervision of each feasibility study, and projects with KRW 10 each operating ministry; the PBC's assertion The Public Investment billion to just under division Financial that feasibility studies for Crisis Management Center(PIMA) KRW 50 billion by an new large projects could at the Korea Development "operating division” not be left up to each ministry Institute (KDI) to undertake pre-feasibility studies was established (2000) Total Projects Cost Management (TPCM) 『 The Act on Private 『 The Private Capital Participation in Inducement Promotion Infrastructure』(MPB); Act』 the amendment of PPP Act

3.2.2. Legal Framework of PFS

The preliminary feasibility study (PFS) was introduced in 1999 to verify project feasibility under the supervision of the Ministry of Finance and Economy (now the Ministry of Strategy and Finance) to devise budget and fund management plans for new large-scale projects. Whereas a feasibility study focuses mainly on technical viability, a PFS mainly reviews economic and policy sufficiency. And while a feasibility study is carried out by line ministries, a PFS is conducted by the MOSF.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 081 As mentioned earlier, a PFS is conducted independently by PIMAC at the request of the MOSF and National Assembly. A key success factor of the Korean PIM system is the control of the PFS by a competent and independent think tank such as the KDI. Since 1971, the KDI has served as a leading state-run think tank for socioeconomic policies, and has had the capacity to conduct a rigorous PFS and institutional arrangements. In addition, the KDI’s efforts to maintain autonomy and transparency in the evaluation process have provided a buffer from political pressure and other influences. That is, a clearly defined institutional arrangement, along with support from the highly skilled staff of the KDI, has made Korean PIM successful. The PFS is now considered a necessary step in the process of budgeting and most of its results are directly reflected in budget formulation.

The purpose of the PFS is to prevent waste of government budget and contribute to enhancing the efficiency of PIM by ensuring that new state-financed projects are implemented in a transparent and fair manner, in accordance with established criteria through objective and neutral appraisals.

The National Finance Act (NFA) enacted in 2006 and its enforcement decree provide a firm legal basis of the PFS. The law stipulates projects subject to and exempt from the PFS and the organization in charge of assessment of public investment projects. Pursuant to Article 8.2 of the NFA, the strategy and finance minister may designate the KDI (set up per the Act on the Establishment, Operation and Fostering of Government-funded Research) to execute all or select related duties for the suitable performance assessments of major state-financed projects. To ensure the efficiency and expertise of the PFS, PIMAC is designated to supervise it per Article 8-2 of the NFA. In the case of R&D projects, the Korea Institute of S&T Evaluation and Planning (KISTEP) is assigned to conduct research.

National Finance Act Provisions on PFS (1)

Category Provisions

Article 8.2 For proper assessments of major government-financed (Designation of Specialist projects, the strategy and finance minister may designate the Studies/Research KDI (established per the Act on the Establishment, Operation Organizations for Gov’t- and Fostering of Government-funded Research) to execute all financed Project Assessment) or some related duties.

To secure the budget for new large-scale projects costing KRW Article 38 50 billion or more and overall state financial support of KRW 30 billion or more, the strategy and finance minister must (Preliminary conduct a PFS, the results of which are to be summarized Feasibility Survey) and presented to the relevant National Assembly standing committee and Special Committee on Budget and Accounts.

Source: Korea Law Information Center, Jan. 6, 2015.

082 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 083 According to Article 38, the MOSF presents yearly operating guidelines for a PFS to provide clear regulations on the target projects and selection standards, the organizations responsible for the PFS, and details on methods and procedures.

National Finance Act Provisions on PFS (2)

Category Provisions

(5) The Minister of Strategy and Finance shall prepare guidelines for the criteria for selection of projects subject to Article 38 the PFS under Paragraph (1), institutions to conduct the PFS, (Preliminary the methods and procedures, and other relevant matters and Feasibility Survey) shall notify the head of each government agency thereof.

Source: Korea Law Information Center, Jan. 6, 2015.

3.2.3. Scope of PFS

Article 38 of the National Finance Act and Article 13 of the law’s Enforcement Decree stipulate the projects subject to or exempt from the PFS.

Any new large-scale project with a cost of KRW 50 billion (about US$50 million) or more using state funds of KRW 30 billion or more is subject to a PFS. Under the National Finance Act, the PFS has expanded its scope to non-infrastructure (e.g., R&D) projects instead of mainly being conducted on infrastructure projects.

Projects subject to the PFS are 1) those of construction, informatization and national R&D whose overall costs are at least KRW 50 billion and for which government financial support amounts to at least KRW 30 billion; and 2) those in social welfare, health, education, labor, culture and tourism, environmental protection, agriculture, forestry, maritime affairs, and small and medium enterprise in which mid-term fiscal expenditures amount to at least KRW 50 billion (hereinafter referred to as “other non-investment financial projects”) submitted according to Article 28 of the National Finance Act.

A construction project refers to one involving construction works such as civil engineering and architecture, and informatization and national R&D projects are subject to compilation of an informatization and R&D project budgets, respectively, according to the Guidelines by Detailed Project Type or Guidelines for Formulation of a Budget Bill (Article 4 of the Enforcement Decree of the National Finance Act).

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 083 Other non-investment financial projects denote those not classified as a construction, information or R&D project per Provision 1, 2 and 3 of Article 38 of the NFA, and among projects related to social welfare, health, education, labor, culture and tourism, environmental protection, agriculture, forestry, maritime affairs, and small and medium enterprise according to the category or classification under the program budget system.

(Example 1) Public medical informatization project of the Ministry for Health, Welfare and Family Affairs: This project is classified under social welfare per the program budget system, but deemed an informatization project.

(Example 2) Construction of the historic city culture center in Gyeongju by the Ministry of Culture, Sports and Tourism: This falls under the category of culture and tourism under the program budget system, but is classified as a construction project.

A PFS is done on all projects using state financial support such as those directly run by the government or proxy, a project subsidized by a local government and one using private investment.

Projects Subject to PFS per Article 38 of Nat’l Finance Act Article 38 (Preliminary Feasibility Study) (1) To formulate a budget for any of the following large-scale projects, among those new, the overall cost of which is at least KRW 50 billion , of which at least KRW 30 billion is to be subsidized by the Government, the Minister of Strategy and Finance shall conduct a preliminary feasibility survey in advance, make a summary report on the survey’s findings and present the report to the relevant Standing Committee and the Special Committee on Budget and Accounts of the National Assembly: Provided, that the projects under Subparagraph 4 shall be limited to new projects that require at least KRW 50 billion of Treasury expenditures under a medium-term project plan submitted under Article 28: 1. A project involving construction works 2. An informatization project under Article 15 (1) of the Framework Act on National Informatization 3. A national R&D project under Article 11 of the Framework Act on Science and Technology 4. A project related to social welfare, health, education, labor relations, culture and tourism, environmental protection, agriculture, forestry, maritime affairs, industry or small or medium businesses

Source: Statutes of the Republic of Korea.

084 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 085 Projects Subject to PFS by Article 13 of Enforcement Decree of Nat’l Finance Act Article 13 (Preliminary Feasibility Survey) "Large-scale project prescribed by Presidential Decree" in Article 38 (1) of the Act means a new project that costs KRW 50 billion or more, of which state financial aid amounts to KRW 30 billion or more, falling under any of the following project categories: Provided, that the project in Subparagraph 4 refers to a new project that requires Treasury expenditures of KRW 50 billion or more according to the mid-term project plan submitted under Article 28 of the Act: 1. A project requiring construction works 2. An informatization project under Article 15 (1) of the Framework Act on National Informatization 3. A national R&D project under Article 11 of the Framework Act on Science and Technology 4. Other projects in social welfare, health, education, labor, culture and tourism, environmental protection, agriculture, forestry, ocean, fishery, industry, and small and medium enterprise

Source: Statutes of the Republic of Korea.

The following project types are exempt from the PFS pursuant to the NFA and its Enforcement Decree, which is typical of building projects such as for government offices and correctional institutions; legally required facilities such as sewage and waste treatment facilities; rehabilitation projects and restoration works following natural disasters; projects implemented by international accords and South-North Korea exchange and cooperation program; and military facilities and projects related to national security (KDI, 2012: p.40).

Projects Exempt from PFS by Nat’l Finance Act 2) Notwithstanding Paragraph (1), any of the following projects shall be exempt from the preliminary feasibility survey in accordance with the procedure prescribed by Presidential Decree: 1. A project for the construction or extension of a public office building, correctional facility or elementary or secondary educational facility 2. A project for restoration of a cultural heritage 3. A project related to national security or defense that requires confidentiality 4. A project for inter-Korean exchange and cooperation or implemented under an agreement or treaty between both sides 5. A project for simple amelioration, maintenance or repair to improve the efficiency of facilities, such as maintenance or repair of a road or improvement of decrepit waterworks 6. A project urgently required for assisting people in recovery from a disaster per Subparagraph 1 of Article 3 of the Framework Act on the Management of Disasters and Safety (hereinafter referred to as “disaster”), securing safety of facilities or taking measures on health or food safety issues 7. A project approved by the relevant Standing Committee of the National Assembly and needing urgent implementation for disaster prevention

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 085 Continued 8. A project that needs implementation under an Act or subordinate statute 9. A project in which a preliminary feasibility survey is of no practical use, such as one implemented with a subsidy or loan for personnel or operating expenses of a funded or subsidized institution 10. A project that meets two requirements among those needing implementation under national policies for balanced regional development ns and requiring an urgent response to an economic or social situation. In such cases, the details of the project exempt from a preliminary feasibility survey and the reasons thereof shall be reported to the relevant Standing Committee of the National Assembly without delay. 11. (a) A project with a specific plan formulated for the purposes and scale of the project and that for implementation 12. (b) A project finally approved by the State Council as needing implementation under national policy(3) Projects subject to preliminary feasibility surveys under Paragraph (1) may be selected by the Minister of Strategy and Finance upon receipt of an application from the head of a central government agency or at the discretion of the Minister of Strategy and Finance.

Source: Statutes of the Republic of Korea.

The projects subject to or exempt from the PFS are clearly defined this way to keep line ministries from evading the PFS, which is believed to have contributed to the successful settlement of the system.

3.2.4. Implementation Procedure of PFS

For projects requiring a PFS in every budget cycle, the line ministry concerned submits a list of PFS candidate projects to the MOSF, which then selects the projects and requests a PFS to the Public and Private Infrastructure Investment Management Center (PIMAC) under the KDI. A comprehensive PFS is conducted by PIMAC but the Korea Institute of S&T Evaluation and Planning (KISTEP) does the research for national R&D projects.

PFS project selection starts with the submission of a written PFS request. If the head of a line ministry intends to reflect a project subject to a PFS in a draft budget or fund management plan, he or she shall request to the MOSF that a PFS be conducted, in principle, by the year immediately preceding the previous year of the project’s implementation, in consideration of the period required for such study. Provided, however, that if any urgent and unavoidable circumstances requiring implementation of the project exist, he or she may request a PFS on a project to be newly executed immediately in the following year (KDI, 2012: p.41).

The head of a line ministry shall prepare and submit a “written request for a PFS” as specified: project plan (draft); need for project implementation; adequacy of the

086 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 087 central government subsidy; amount and financing method of necessary resources; factors of balanced regional development (“need for technological development” in the case of an R&D project); and risks associated with project implementation and responses (KDI, 2012: p.41).

The MOSF shall then select projects subject to the PFS via the Government- financed Project Evaluation Advisory Council after reviewing a project. When necessary, the ministry may request that the head of a line ministry to submit more materials on the project including, but not limited to, explanatory materials thereon and rationale for prioritization.

In selecting projects subject to the PFS, the MOSF shall comprehensively consider the concreteness of a project plan, urgency of implementation, requirements for central government subsidies and factors of balanced regional development (“need for technological development” in the case of an R&D project).

At the MOSF’s request, PIMAC shall take charge of conducting the PFS, but in the case of pure national R&D projects, the Korea Institute of Science and Technology Evaluation and Planning (KISTEP) will do so.

PIMAC organizes the research team per request by the MOSF, conducts the PFS and submits the final PFS report to the MOSF. While conducting the PFS and making a final decision, members of the PFS Advisory Committee supervise the whole review process. The PFS team comprises external and internal experts and researches related data, handles issues, and studies PFS general and sectoral guidelines. Team members are composed of the project manager (KDI) and those of demand and benefit (professor), cost (engineering companies) and advisory committee (PIMAC staff and peer reviewers). External experts wishing to join the PFS team must have an understanding of the project, rigorous approach method, institutional assessment, outcomes and personnel evaluation.

A number of values (economic efficiency, policy consistency, job creation, environmental impact, regional equity and project-specific factors) are incorporated into the PFS framework. The multi-criteria decision-making technique AHP is then adopted to combine quantitative and qualitative elements of evaluation. A project is evaluated as feasible if the AHP score is half a point or more out of one point. PFS results are rarely overruled by budget authorities and the National Assembly.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 087 [Figure 2-7] Implementation Procedure of PFS

Ministry of Line Ministry Strategy & Finance KDI(PIMAC)

Select and Submit Consultation based on : PFS candidate Select PFS Projects Eligibility for central projects in consultation with government grants PFS committee Urgency or the Projects (pre-PFS Committee) Concreteness of the project plan

Organize Teams/ Determination of the Request PFS Priorities by considering Conduct PFS The long-term National Compre- hensive Plan, Make Investment National Policy Submit PFS Report Direction Decision

Conduct Feasibility Announcement & Report Open to the Public Study or Stop the Project to the National Assembly

Source: KDI, PIMAC.

The PFS was focused on infrastructure projects before the National Finance Act was passed, but has been expanded to non-infrastructure projects. The PFS is considered a necessary step in the process of budgeting and its results are reflected in budget formulation given its importance in the project implementation process in the context of budgeting.

3.2.5. Performance of PFS

shows the number of PFS cases from 1999 to 2014. A combined 612 projects were evaluated, among which 220 were road projects and 109 were night railway projects. In addition, 39 projects were for ports, 65 for culture and tourism, 49 for water resources and 130 for other areas including construction of airports, informatization, R&D and welfare facilities.

No. of PFS Cases by Sector

(Unit: No.)

Culture & Water Year Roads Rail Ports Others Total Tourism Resources

1999 11 2 1 4 1 1 20

2000 11 7 5 2 1 4 30

2001 20 14 1 5 - 1 41

088 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 089

Continued

(Unit: No.)

Culture & Water Year Roads Rail Ports Others Total Tourism Resources

2002 9 8 2 2 5 4 30

2003 10 7 3 5 5 2 32

2004 24 13 1 2 3 12 55

2005 11 6 2 1 3 7 30

2006 27 10 5 5 1 4 52

2007 30 5 1 2 1 7 46

2008 12 2 4 3 2 15 38

2009 22 5 2 2 12 20 63

2010 7 14 2 1 2 22 48

2011 6 5 2 11 5 14 43

2012 7 7 5 6 5 5 35

2013 5 - 1 2 1 4 13

2014 8 4 2 12 2 8 36

Total 220 109 39 65 49 130 612

Note: 1) As of December, 2014. 2) Airport, informatization, R&D and welfare facilities project included in others category. Source: KDI PIMAC, 2014 Annual Report, Mar., 2015.

shows the proportions of feasible projects by sector and year. A combined 387 projects, accounting for 63.2 percent of the 612 projects, were evaluated as feasible. The proportion of feasible road projects was 59.5 percent. Port projects showed the highest rate of feasibility at 76.9 percent, and those of railways had the lowest rate at 56 percent. The rejection ratio of 36.8 percent, or 225 out of the 612 projects, seems extremely high compared to the figure of 3 percent, or one out of 33 projects in 1994-98, before the reform.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 089

Proportion of Feasible Projects by Sector (1999~2014)

(Unit: %, No.)

Culture & Water Feasibility Year Roads Railways Ports Others Tourism Resources Rate (%)

1999 45.5 50.0 100.0 100.0 100.0 100.0 65.0

2000 27.3 71.4 80.0 0.0 100.0 75.0 53.3

2001 30.0 35.7 100.0 40.0 - 0.0 34.1

2002 33.3 75.0 50.0 0.0 0.0 75.0 43.3

2003 70.0 71.4 100.0 0.0 60.0 50.0 59.4

2004 87.5 53.8 100.0 100.0 66.7 66.7 74.5

2005 36.4 83.3 100.0 100.0 66.7 71.4 63.3

2006 63.0 40.0 40.0 40.0 100.0 50.0 53.8

2007 63.3 20.0 100.0 50.0 100.0 42.9 56.5

2008 75.0 100.0 100.0 100.0 50.0 46.7 68.4

2009 50.0 80.0 50.0 0.0 91.7 80.0 68.3

2010 71.4 64.3 100.0 100.0 100.0 77.3 75.0

2011 83.3 50.0 50.0 90.0 80.0 71.4 74.4

2012 100.0 28.6 80.0 42.9 80.0 100.0 69.4

2013 80.0 - 100.0 50.0 100.0 75.0 76.9

2014 62.5 75.0 50.0 91.7 50.0 75.0 75.0

No. of 220 109 39 65 49 130 612 Projects

No. of Feasible 131 61 30 40 35 90 387 Projects

Feasibility 59.5 56.0 76.9 61.5 71.4 69.2 63.2 Rate (%)

Source: KDI PIMAC, 2014 Annual Report, Mar. 2015.

090 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 091 4. Project Monitoring System in Korea

4.1. Intermediate Evaluation: Reassessment Study of Feasibility (RSF)

4.1.1. Total Project Cost Management (TPCM)

Total project cost management (TPCM) is a device used to monitor expenditures of public investment to contain cost overruns throughout the project cycle from planning and construction to completion. TPCM is implemented for the purpose of improving the efficiency of government spending in accordance with Article 50 of the National Finance Act and Article 21 and 22 of the act’s Enforcement Decree.

In 1989, TPCM was enacted by Article 3 of the Enforcement Decree of the Budget Accounting Law and in 1994, target projects were specified by TPCM guidelines. Large-scale projects costing KRW 10 billion or more required TPCM. The criteria of an overall cost of a target project was increased in 1995 from KRW 10 billion to KRW 50 billion or more and subdivided into project type in 1996. For example, civil engineering projects costing KRW 50 billion or more and building projects costing KRW 20 billion or more were subject to TPCM. The device became an effective system of government expenditure management after the Asian financial crisis of 1997-98.

In 2000, the PFS was introduced to strengthen TPCM. Under the TPCM system, reassessment study of feasibility (RSF) and reassessment of demand forecast (RDF) were introduced in 2003 and 2006, respectively. Both recast feasibility studies and demand forecasts on projects under design development or construction, and decided whether a project could continue. The RSF guideline and RDF system were developed and introduced after the advent of the PFS system. The guidelines for the RSF and RDF use the same analytical methodology as that of the PFS (Kim, 2003: p.11).

The principles of TPCM are: -- Increase in construction size via design modification is not allowed except in certain cases. -- Construction costs cannot be arbitrarily interchanged between project phases or between construction units. -- The minister in charge of the project must consult with the strategy and finance minister about adjusting the total project cost if it is unavoidable. -- The line ministry can set construction contingencies for up to 8 percent of the project’s contract price to cope with inevitable design modification, amendment to the law and other occurrences.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 091 Coverage of TPCM includes: -- Projects implemented by the central government or its agents, local governments or private institutions that get central government funding -- Projects whose construction period is two years or longer -- Civil engineering projects whose overall cost is KRW 50 billion or more -- Building construction projects whose overall cost is KRW 20 billion or more

4.1.2. Overview of RSF

The RSF, a key device to support ex ante PFS, was introduced in 2003 to help keep projects subject to the PFS from being budgeted without a rigorous PFS, as well as to prevent inaccurate demand forecast and cost estimation and significant cost escalation. The RSF guidelines were developed in 2003 and the RSF was strengthened in 2006 after the National Finance Act was legislated (Kim, 2014: p.30).

Under TPCM, an RSF is conducted if 1) total project cost increases more than 20 percent (excluding price escalation and increase in land acquisition cost) of the cost approved by the MOSF in the previous phase of the project; 2) the PFS has not been conducted though required; 3) the demand forecast for a project falls 30 percent or more; or 4) the Board of Audit and Inspection requests an RSF (Kim, 2014: p.30).

Compared to the PFS, finding alternatives to cut the size and cost of a project is emphasized, and the RSF team of the KDI makes suggestions on whether to continue or stop a project (KDI, 2011: p.27). This has worked well to prevent deliberate overestimations of demand and underestimations of cost. Conducted on 113 projects between 2003 and 2009, the RSF has not just kept line ministries from deliberately underestimating project cost in the planning stage and escalating the amount once a project commences, but also prevented political forces from skipping the PFS when budgeting projects subject to a PFS. So the PFS is considered a key device to support the Korean PIM system (Kim, 2014: p.30).

The RSF is conducted by the Ministry of Strategy and Finance (MOSF) and evaluated by the independent evaluation unit PIMAC. An RSF is an intermediate evaluation of a project to produce information for making budgetary decisions, and provides a buffer from political and bureaucratic pressure. The RSF team under PIMAC evaluates project feasibility through comprehensive judgment.

The RSF examines a project’s feasibility through economic, policy and balanced regional development analyses. The economic analysis is based on quantitative assessment through a cost-benefit analysis, while that of policy uses a qualitative approach to determine policy links and other factors. The analysis of balanced

092 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 093 regional development has two components, the aforementioned analysis using the regional underdevelopment index and a study of the ripple effects on the local economy. The comprehensive AHP analysis is conducted to support the budgetary decision.

4.1.3. Implementation Procedure of RSF

For projects that require an RSF, a line ministry is required in principle to submit a project proposal to the Ministry of Strategy and Finance. Receiving the project proposals of line ministries through the MOSF, PIMAC conducts RSFs and objectively evaluates project feasibility. In the early stage, the RSF team comprises external and internal experts and researches related data, handles issues and studies RSF guidelines. Team members are composed of the project manager (KDI) and those on the demand and benefit (professors), cost (engineering companies) and advisory committees (PIMAC staff and peer reviewers). External experts wishing to join the team must have an understanding of the project, rigorous approach method, institutional assessment, outcomes and personnel evaluation.

A number of values (economic efficiency, policy consistency, job creation, environmental impact, regional equity and project-specific factors) are incorporated into the RSF framework. The multi-criteria decision making technique (AHP) is finally used to combine quantitative and qualitative elements of evaluation. A project is evaluated as feasible if the AHP score is half a point or more out of one point. RSF results are rarely overruled by budget authorities and the National Assembly.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 093 [Figure 2-8] Implementation Procedure of RSF

Ministry of Line Ministry KDI(PIMAC) Strategy & Finance

Select Projects Request RSF Subject to RSF (after consultation w/ LMs)

Board of Audit and Request RSF Orgnize Teams/ Inspection / Conduct RSF National Assembly

Make Investment Submit Decision RSF Report

Continue, Adjust or Stop Announcement & Report the Project to the National Assembly

4.1.4. Performance of RSF

From 2003 to 2014, the RSF were done on 189 projects for roads, railways, ports, culture, tourism and buildings, and water resources. According to [Figure 2-9] below, the number of RSF cases was six in 2003 and exceeded 30 in 2009 and 2010. After 2010, the number of RSFs fell 60 percent. The performance of RSF in all sectors is shown as follows.

The execution of the RSF is broken down by sector as seen in [Figure 2-10]. Road projects cover a large proportion of RSF cases, taking up 62 percent, followed by culture, tourism and buildings with 16 percent and water resources 7 percent.

094 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 095 [Figure 2-9] Performance of RSF

(Unit: no. of projects) 35

30

25

20

15

10

5

0 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

[Figure 2-10] RSF Conducted by Sector

etc 4% (Unit: %)

Water Resources (dam) 7% Culture·Tourism· Building 16% Road Port 62% 6%

Railway 5%

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 095 5. Conclusion and Policy Suggestions

The Knowledge Sharing Program (KSP) with Kuwait aims to suggest policy recommendations for making Kuwait’s public investment management (PIM) system more efficient, consistent and well-functioning. Government officials and policymakers in Kuwait are increasingly worried over the low levels of efficiency and quality of public investment. An efficient PIM system is thus a key element for sustainable national development. So this chapter focuses on improving the Kuwaiti system of project appraisal and monitoring by benchmarking Korea’s.

KSP researchers held several face-to-face meetings to assess the Kuwaiti PIM system and resolve issues with staff from the Supreme Council for Planning and Development (SCPD), Ministry of Finance (MOF) and several line ministries. After holding in-depth meetings, they could better understand the Kuwaiti PIM system and identify the main causes of inefficiency in public investment projects. The problems and suggestions for improvement in the project appraisal and monitoring system in Kuwait described by this study are below.

First, the preliminary feasibility study (PFS) of public investment projects should be conducted by the SCPD in the early stage to implement them in Kuwait. Because of the absence of detailed operation guidelines for project appraisal of public investment projects, the Ministry of Public Works and certain line ministries review project feasibility and have time to discuss it with the MOF without the SCPD. If projects are procured without an advance review process, serious problems are highly likely over the construction period. For this reason, a specific operational guideline is highly recommended to provide the required information to line ministries on project appraisal. Such information should contain the size and types of project subject to the PFS.

Second, though Kuwait has a project appraisal system in place, it mainly focuses on qualitative analysis such as consistency of a national development plan and project purpose. If projects are mainly assessed from a qualitative aspect, they are susceptible to the subjective judgement of evaluators. Once the evaluators move to other departments, maintaining consistency and transparency in evaluating public investment projects is difficult due to the lack of objective standards, which could have a negative effect on the government budget over the mid to long term. So an analytical guideline on project appraisal is needed to assess the feasibility of public investment projects irrespective of evaluators’ characteristics. The focus should shift toward quantitative analysis such as cost-benefit and financial analysis. Yet compilation of data, a time-consuming job, should precede quantitative analysis. Thus embracing the criteria of qualitative analysis can serve as a starting point for efficient evaluation in the short run.

096 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 097 Third, a poorly done feasibility study in the early stage often incurs cost and time overruns in the construction period. The incremental rise in construction cost leads to a higher financial burden for budget authorities. Additional input in public projects can negatively affect mid- and long-term national plans as well as those of the short term. Hence, a process is needed to ensure the feasibility of additional input. In Korea, the reassessment study of feasibility (RSF) was introduced to resolve these problems. This intermediate review process raised the efficiency of project monitoring and prevented waste of budget. So the introduction of a project monitoring system like the RSF of Korea is crucial for Kuwait to reduce inefficiency over the construction period.

Finally, the most important element of project appraisal is to develop the professional ability of evaluators to assess the feasibility of public investment projects. Without this capacity, feasible projects might get passed over for infeasible ones in the selection process. To ensure precise evaluation, the directions for evaluation of public investment projects should be set by distinguishing short-term plans from those of long term. In the short run, the Kuwaiti government needs to stress providing continuous training or overseas study for staff responsible for project appraisal. In the long run, an institution specifically for project appraisal of public investment projects will be useful. Since similar problems have occurred in Korea over past decades, the Korean government set up an institutional framework for project appraisal of public investment projects and formed PIMAC under the KDI. PIMAC’s role is to conduct the PFS, RSF and RDF. A key success factor of the Korean PIM system is that a competent and independent think tank, the KDI, is in charge of the PFS. In the light of the Korean experience, Kuwait is recommended to set up an independent research institute. Though doing so is no easy task, such an institute can become the cornerstone of an effective and successful PIM system.

Chapter 2 _ Improvement of Project Appraisal and Monitoring System in Kuwait • 097 References

Al-Mejren, Abbas, “Impacts of Fiscal Legal Setting and Institutions on Budget Outcomes in the Rentier State of Kuwait”, Working Paper No. 920, Economic Research Forum, 2015. Kim, Jay-Hyung, 2011 Modularization of Korea’s Development Experience: Public Investment Management Reform in Korea: Efforts for Enhancing Efficiency and Sustainability of Public Expenditures, Seoul: Ministry of Strategy and Finance and KDI, 2012. KDI, Public-Private Infrastructure Investment and Deposit Insurance in Mongolia, Seoul: KDI, 2011. Sakong, Il, and Youngsun Koh, The Korean Economy: Six Decades of Growth and Development, Seoul: KDI, 2010. KDI, Support for the Establishment of Mid- and Long-term Socioeconomic Development Policies for Vietnam, Seoul: KDI, 2013. KDI PIMAC, 2014 Annual Report, 2015. Ministry of Strategy and Finance, 2014 Operational Guidelines for the Preliminary Feasibility Study, 2014. SCPD, “Kuwait Mid-range Development Plan 2015/2016-2019/2020”, May 2015. Statutes of the Republic of Korea, Enforcement Decree of the National Finance Act. Statutes of the Republic of Korea, The National Finance Act.

098 • 2015/16 Knowledge Sharing Program with Kuwait 2015/16 Knowledge Sharing Program with Kuwait: Evaluation of Public Investment Management System (PIMS) in Kuwait Chapter 3

Methodological Framework to Evaluate Public Investment Projects

1. Introduction 2. Practices in Kuwait: Comparison with Korea and Other Select Countries 3. Korean Methodology for Evaluating Public Investment Projects: Preliminary Feasibility Studies 4. Lessons from Korea and Policy Suggestions for Kuwait ■ Chapter 03

Methodological Framework to Evaluate Public Investment Projects

Jongyearn Lee (Korea Development Institute)

Summary

The government of the Republic of Korea has developed and improved the methodological framework for evaluating public investment projects since launching the preliminary feasibility study (PFS) in 1999. This chapter attempts to suggest an appropriate roadmap to establish a methodological framework based on the knowledge and experience the Korean government has accumulated. Recognizing that Korean methodologies are not necessarily applicable to all cases immediately, this work examines Kuwait’s practices to find the best applicable alternatives.

First, this chapter assesses the practice of ex ante project appraisal in Kuwait for identifying the issues to solve. While most of the comparison is between the practices of Kuwait and Korea, the survey results on selected countries by the OECD are also used for reference. Compared to Korea and other selected countries, Kuwait is evaluated as less systematic in the use of the cost-benefit analysis (CBA) for ex ante project appraisal, as in it has no specified requirement for the CBA, and thus no full- scale CBA is conducted.

Second, the main content to be introduced as an exemplary practice is the methodologies adopted in the PFS of Korea. The methodological framework in the PFS is in the form of multi-criteria decision making and assesses the target project from the three aspects of economic, policy and balanced regional development

100 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 101 analyses. While introducing specific methodologies, this chapter discusses the backgrounds and purposes of the specifications. All methodological settings are developed in a direction to enhance the three pillars of the PFS: objectivity, consistency, and transparency.

Third, the chapter concludes with policy suggestions for Kuwait based on the lessons learned from the methodological settings and their progress for the PFS in Korea vis-a-vis the formation of a methodological framework for ex ante project appraisal.

The policy suggestions this chapter provides are (1) requiring ex ante project appraisal using the CBA as Kuwait lacks a legal requirement; (2) standardizing the parameters to be specified in the CBA for securing consistency across evaluated projects; (3) collecting and managing the data for appraisal, again for the consistency and improving analysis accuracy; (4) establishing or designating a dedicated organization for ex ante project appraisal to attain efficiency in an institutional sense and to secure objectivity, consistency, and transparency in the implementation of appraisals; and (5) considering the introduction of multi-criteria decision making for comprehensive assessments.

1. Introduction

The government of the Republic of Korea has developed and improved the methodological framework for evaluating public investment projects since the inception of the preliminary feasibility study (PFS) in 1999. This chapter attempts to suggest an appropriate roadmap to form a methodological framework based on the knowledge and experience accumulated by the Korean government. As Korean methodologies are not necessarily applicable to all cases immediately, this work examines Kuwaiti practices to find the best applicable alternatives.

First, this chapter assesses the practice of ex ante project appraisal in Kuwait for identifying the issues to solve. While the practices of Kuwait and Korea are mainly compared, the survey results on selected countries by the OECD are also used for reference.

Second, the main content to be introduced as an exemplary practice is the methodologies adopted in the PFS of Korea. The PFS methodological framework is in the form of multi-criteria decision making, and assesses the target project from the three aspects of economic, policy and balanced regional development analyses. While introducing the specific methodologies, this chapter discusses the backgrounds

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 101 and purposes of the specifications if needed.

Third, the chapter concludes with policy suggestions for Kuwait based on the lessons learned from the methodological settings and their progress of the PFS in Korea vis-a-vis the formation of a methodological framework for ex ante project appraisal.

2. Practices in Kuwait: Comparison with Korea and Other Select Countries

First of all, the practice of ex ante project appraisal in Kuwait should be assessed to find vulnerable facets needing amendment and improvement. This section focuses on the practice of cost-benefit analysis (CBA) since it is the most widely adopted methodology to assess public investment projects in the ex ante sense. Mainly, interest resides in comparing the practices of Kuwait and Korea. In so doing, the survey results on selected countries by the OECD are also used for reference.

2.1. Competence in Infrastructure

The global competitiveness index recently announced by the World Economic Forum (Schwab, 2015) contains the competence measure for infrastructure of various countries.

compares the quality of infrastructure in Korea and Kuwait in the global competitiveness index.

Global Competitive Index 2015-16: Infrastructure

Category KOREA KUWAIT

Quality of Overall Infrastructure 5.6 (20) 4.1 (67)

Quality of Roads 5.6 (17) 4.5 (47)

Quality of Railroad Infrastructure 5.6 (10) N/A

Quality of Port Infrastructure 5.2 (27) 4.0 (74)

Quality of Air Transport Infrastructure 5.5 (28) 3.9 (89)

Note: score ranges from 1 to 7. Numbers in parentheses represent the country’s ranking out of 140. Source: Schwab (2015), p. 223 and p. 225.

102 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 103 The quality of overall infrastructure in Korea is ranked in the top 15 percent (20th) of all 140 countries surveyed, while that of Kuwait is near the median (67th). Individual types of infrastructure showed similar performance to the quality of overall infrastructure. Noticeably, the quality of railroad infrastructure in Korea was ranked relatively higher than other sectors in the country. For Kuwait, however, the quality of roads was evaluated the highest among other sectors, and the quality of air transport infrastructure was assessed relatively low.

To check if the difference was inevitable due to geographical and/or geopolitical circumstances, the same index values for countries surrounding Kuwait were also studied. In the quality of overall infrastructure, the United Arab Emirates was second, Qatar 18th, Bahrain 25th, Saudi Arabia 31st, Oman 34th and Jordan 53rd. Though the compared countries are in close proximity to each other, their rankings are not necessarily similar because of different perspectives of national planning and different priorities in budget allocation. The results of the rankings, however, inferred that Kuwait needs some effort to enhance the quality of its infrastructure.

On the other hand, the International Monetary Fund surveyed countries on the quality of their infrastructure (Albino-War et al., 2014). [Figure 3-1] plots the quality of infrastructure (same index as above averaged over 2006-12) along GDP per capita (averaged over 2003-12).

[Figure 3-1] Infrastructure Quality and GDP per Capita

Source: Albino-War et al. (2014), p. 10,

.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 103 The statistics show that Korea is located close to the frontier (the envelop curve connected by uppermost observations), while Kuwait is positioned below it. Countries close to the frontier are considered efficient in the quality of infrastructure given their GDP per capita. For example, Kuwait and the U.S. have similar GDP per capita but the latter is considered more efficient in the quality of infrastructure. Yet other countries are rated more efficient than the U.S. in this category, including Hong Kong and Singapore.

Bearing in mind the difference in quality and efficiency of infrastructure in Kuwait and Korea, this chapter attempts to compare practices in ex ante project appraisal in the two countries, focusing on the methodological frameworks. Of course, the results above are not solely due to the institutions for ex ante project appraisal but to complex interlocked factors including the socioeconomic, political, and even geographic environment, to name a few. As discussed in the earlier chapters, however, the well-functioning process centered on ex ante appraisal for large-scale public investment projects is the cornerstone to improve project quality, and eventually raise the quality of domestic infrastructure overall.

2.2. Cost-Benefit Analysis Practices

To assess the practices in ex ante project appraisal in Kuwait and Korea, this section utilizes the results of a survey on CBA applications for the preliminary study of capital investment conducted by the OECD on Austria, Canada, Denmark, Germany, France, the Netherlands, New Zealand, Sweden, and the U.K.

In the survey, information was collected to reflect evidence on how countries implement CBA and the relevant characteristics and methodologies applied. The survey followed the framework assessment presented in

and was submitted to country representatives in ministries of finance or equivalent departments with central budgetary roles (liaising with line departments when relevant). In other cases, written questions were complemented by phone interviews to get deeper into the most significant aspects in selected countries. Policy documents, guidelines and regulatory reference documents complemented the information base and were analyzed when available (KDI, 2014: p.150).

In this study, the same surveys were conducted in Kuwait with an extended survey questionnaire based on the assessment framework developed by the OECD. The questionnaire included all items in

and questions on methodological settings like on benefit items included or excluded, the social discount rate applied and the operation period preset by project type.

104 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 105 Distinct from the OECD survey, surveys were conducted twice in the format of face-to-face interviews in Kuwait: September 13-14, 2015, and December 6-8, 2015. Respondents to the surveys were selected and limited to those responsible for planning, implementation, and budgetary decisions in Kuwait. The General Secretariat of the Supreme Council for Planning and Development (SCPD) participated as the planning authority. As the core line ministry responsible for large- scale infrastructure projects, the Ministry of Public Works participated the survey and answered methodological practices in detail. The Public Authority for Housing Welfare gave a unique perspective on the appraisal of the construction of new cities and towns in Kuwait, and the Ministry of Finance introduced the internal screening process for budgetary decisions.

Assessment Framework for CBA Practice at Government Level

Scope & Objectives

Is there a well-defined legal requirement for CBA or it is simply a Legal basis recommended practice by a government body?

Is CBA the standard appraisal tool for all financially significant public Definition of investments or it is performed only for some specific typologies of scope projects (e.g. in some sectors only)?

Is CBA performed ‘early’ in the process when project alternatives are still Timing to be selected or it is used only as an ex-post justification or elaboration of a decision already taken?

Role in the Is CBA a key tool in the decision making process (for example is it used decision making as basis to determine the amount of public funds) or is it a tool among process several others?

Role & Responsibilities

Central vs . Who is responsible for capital expenditure decisions? decentralized Is there a coordinating role of a central agency or CBA practices is system delegated at sectoral/local procurement agencies?

How are responsibilities and functions of procurement agencies, project Distinction of promoters and project appraisers specified? roles Is there a system of independent quality review of CBA?

Content & Methodology

What is the standard content of a CBA? How is quality standard defined? Content of a CBA Are general and specific guidelines developed? Are input values such as parameters and key benefits computed and provided to project analysts?

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 105

Continued

Is training provided at a central level and according to the set quality Capacity standards? Is technical capacity constantly monitored and ensured?

Accountability & Learning

Are CBA reports publicly available? Publicity Are CBA results systematically used to inform public consultations and debate?

Is CBA performed also in itinere and ex post for policy learning and planning? Timing of CBA Is CBA constantly updated as monitoring and management tool to improve project resilience?

Source: KDI (2014), p. 149,

.

To supplement information and to check other implementation schemes for large-scale infrastructure projects, additional interviews were conducted with the Kuwait Authority for Partnership Project and Kuwait Petroleum Corporation on ex ante appraisal of public-private partnership (PPP) projects and oil megaprojects, respectively. Finally, selected answers were double-checked and complemented with email correspondence.

2.2.1. Institutional Framework: Scope, Objectives, and Role

An important dimension in identifying CBA patterns is the sharing of responsibilities between central and decentralized procurement agencies (KDI, 2014: p.150). By qualitative assessment of the public investment system, Kuwait and Korea share some similar institutional arrangements as discussed in the previous chapters, e.g. centralized governance including national planning and budgeting. Even though the specific roles of budgetary authorities in ex ante project appraisal are different between the two countries, both show significant strength in the screening process compared to line ministries and regional or local authorities.

More distinctively and specifically, the Ministry of Finance and the General Secretariat of the SCPD in Kuwait are responsible for capital expenditure decisions. The General Secretariat plays the role of coordinator and evaluator of a project. These projects, however, are limited to those under the control of beneficiary entities and ministries. For instance, the PPP Bureau and the Mega Project Agency is responsible for PPP projects and mega projects, respectively.

Based on the findings of the surveys, Kuwait and Korea can be compared to other selected countries as shown in

.

106 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 107

Qualitative Assessment of Public Investment System

Category KR KW AT CA DE DK FR NL NZ SE UK

Strong central responsibility at national budget level with an increasing role of line/sectoral ● ● ○ ○ departments and regional/local authorities

Strong central responsibility of central and line ministries ○ with now an increasing role of regional/local authorities

Line ministries are the main planning authorities at the ○ central level

The role of line ministries and regional/local authorities varies ○ ○ ○ ○ ○ ○ a lot depending on sectors

Source: KDI (2014), p. 151,

and author’s survey results.

In

, the sampled countries provide a good balance between more centralized (New Zealand, Austria, Germany and Canada) and more decentralized orientations (U.K., Sweden, the Netherlands, Denmark and France, the latter being the most decentralized system with an 83.8-percent regional share of public investment budget). Clearly, such differences in the institutional system influence the way in which roles and responsibilities are allocated across sectors and departments. In recent developments, all countries declare that their systems are characterized by a degree of central responsibility (either at the budget or line ministry level), but with an increasing role of line/sectoral departments and regional/local authorities, with strong sectoral differentiations. Yet, it is worth noting that, even in the most decentralized countries such as France for example, major capital investment, i.e. large transport infrastructure remain in the hand of central government while sub- national authorities bear responsibilities for smaller investments, e.g. schools (KDI, 2014: pp.150-151).

Next, the effectiveness of the CBA in improving resource allocation is linked to the enforcement and promotion of its proper and timely use. The two key aspects related to this are a legal requirement streamlining CBA use across all major decisions on capital investment and the definition of its key objectives (KDI, 2014: p.152).

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 107 Unfortunately, ex ante project appraisal has not yet been highlighted across all ministries in Kuwait since the main concern of the government is on who take responsibility and how to implement megaprojects efficiently. In Kuwait, no well- defined legal requirement for the CBA exists, and so projects are usually evaluated based on a few qualitative indicators. Overall, the CBA is neither a standard appraisal tool nor is it being extensively and consistently performed on specific types of projects.

Nevertheless, certain ministries such as the Ministry of Public Works conduct the CBA or estimate cost only in practice. This practice, however, is heavily dependent on previous similar projects, meaning the cost estimates are simply scaled up from those of similar projects undergoing implementation. This approach cannot take into account the specific circumstances and features of the target project.

Overall, the CBA is not being used as a monitoring and management tool for project resilience in Kuwait. No defined itinerary or ex post schedule exists for the learning process or systematic planning. Moreover, the CBA reports are not publicly available and a system for public consultation or debate is nonexistent.

Requirements for Cost-Benefit Analysis

Category KR KW AT CA DE DK FR NL NZ SE UK

CBA is mandatory nationwide by legislation for all capital ● ○ ○ investment projects above a certain financial threshold

There is a national obligation to perform CBA which does not stem from legal requirement but from ○ ○ ○ recommendations of the central authority perceived as prescriptive

There is no legal requirement, but CBA is recommended by ● ○ ○ ○ ○ government and used anyway

Source: KDI (2014), p. 152,

and author’s survey results.

Based on these findings, Kuwait can be categorized as in

. Korea is clearly categorized as a country where “CBA is mandatory nationwide by legislation for all capital investment projects above a certain financial threshold,” since the PFS, which incorporates the CBA, is mandated by the National Finance Act for any public investment project whose total project cost is not less than KRW 50 billion (roughly

108 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 109 US$ 50 million) and the central government’s financial support is not less than KRW 30 billion.

Considering the other selected countries in

, only Germany and France have some nationwide obligations to carry out the CBA on all or most capital investment projects. In France, Article 17 of Law N. 2012-1558 that plans public funding for 2012-17 requires all investment projects financed from the state budget must be evaluated through a socioeconomic analysis. In addition, according to Decree 2013-1211 on the appraisal procedures of public investment, the CBA is necessary for a project whose cost exceeds EUR 20 million, while for a project requiring more than EUR 100 million an independent review should be performed on the CBA. Similar requirements exist in Germany, where the financial threshold for a mandatory CBA is specified by the Federal Budget code and depends on a project’s characteristics (KDI, 2014: p.152).

In other countries such as the U.K., Canada and Denmark, this obligation does not stem from a legislative prescription but from firm recommendations to the central authority bearing this responsibility for decisions on fund management and capital expenditures to ground requests for funding based on clear and objective evidence supporting their social utility (“business case”). In these cases, the CBA is indicated as the key tool to support such an argument, and thus perceived as mandatory by project promoters and agencies seeking funding from the central budget (KDI, 2014: pp.152-153).

In other surveyed countries, when no legal obligation or similar prescriptive arrangement is in place, the use of the CBA may be either recommended or left to the discretion of individual procurement agencies, and in certain cases should be used regardless. In Austria, according to the general principles laid out in the country’s federal constitution and federal budget act, public authorities must apply procedures to guarantee that resources are used in an efficient and effective way. The implementation of the CBA, however, depends on specific sectors and issues without a strong coordinating role from the central government (KDI, 2014: p.154).

2.2.2. Content and Methodology

As mentioned above, no legal requirement for the CBA exists in Kuwait, meaning no requirement on CBA content as well. In Korea, on the other hand, the operational guidelines for the PFS promulgated by the Ministry of Strategy and Finance require the preparation of general and sectoral guidelines for the PFS that specify standards and methodologies. These guidelines work as reference manuals for the PFS and the rules and standards specified are well acknowledged. In this regard, Korea and Kuwait are categorized according to the legal requirements on CBA content as shown in

.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 109

Legal Requirements on Content of Cost-Benefit Analysis

Category KR KW AT CA DE DK FR NL NZ SE UK

Legal requirement

Minimum set of data ● ○ ○ ○ ○ mandatorily contained

Different requirements depending on procuring ○ ○ ○ agencies

No specific requirement ● ○ ○ ○ ○

Source: KDI (2014), p. 162,

and author’s survey results.

For the other countries studied, evidence from the OECD survey showed that CBA content varies across countries and procedures. The definition of what should be intended as a CBA report is not trivial since different traditions and experiences of CBA have been observed in international practice. In this regard, the coordinating role of a central authority can also be specified through technical requirements of the content of a CBA report. While the larger scope of providing specific sectoral guidance is left to procuring agencies in every country, the U.K., Germany, Canada and Denmark have a detailed general guideline useful for determining a minimum set of contents mandatorily required for analysis. The UK Green Book is a global reference manual for the CBA. Together with the Magenta Book, it explains how policies, programs and projects must be evaluated in a similar manner with the general guidelines for the PFS in Korea. The two books are complementary; the former emphasizes the economic principles recommended to be applied in both appraisal and ex post evaluations. The latter provides in-depth guidance on how evaluation should be planned, designed and managed. Its peculiarity is its setting of a general and flexible approach for the analysis of public investment and other socioeconomic proposals rather than defining a rigid set of rules. From a purely technical point of view, the peculiarity of the Green Book, reflecting a specific CBA tradition, is that it does not recommend the use of shadow prices and shadow wages, and does not emphasizes the role of financial analysis as the starting point of a proper CBA (KDI, 2014: p.162).

Canada has a business case guide providing specific guidance on CBA content, but different requirements are then specifically demanded depending on procuring agencies. In addition to the business case guide, a CBA Guide for Regulatory Proposals, considered a reference document also for non-regulatory decisions, is particularly detailed not only in content but also in methodologies and techniques used for the evaluation of key costs and benefits (KDI, 2014: p.163).

110 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 111 Denmark provides general CBA guidelines prepared by the Ministry of Finance, while line ministries publish specific guidelines in their field of expertise. Conversely, New Zealand, France, Austria and Sweden have no specific requirement for content (KDI, 2014: p.163).

On items commonly present in the CBA, all countries require CBA reports to have economic analysis with the calculation of a cost/benefit ratio. The U.K. is the only country that applies switching value and distribution analysis with the use of welfare weights or affordability ratio, but does not include project identification, sensitivity analysis, technical design evaluation and economic rate of return. Though the Dutch guidelines call for a distribution analysis, in practice, this indication is not pursued. The same applies to Canada, where the national CBA guidelines for regulatory proposals mention the need for stakeholders’ analysis, i.e. analysis of impacts on different stakeholders, while in practice, this seems not to materialize. A sensitivity analysis is performed by New Zealand, Denmark, Germany, France, Canada and Sweden. The first two do not include a scenario analysis. Sweden, the Netherlands and U.K. apply risk analysis with the use of Monte Carlo simulations. None among the nine countries surveyed appears to calculate a territorial distribution analysis with regional welfare effects (KDI, 2014: pp.163-164).

In comparison, the PFS of Korea performs a sensitivity analysis and includes a scenario analysis if needed. Particularly, as described in the next section in more detail, the PFS explicitly calculates a territorial distribution analysis considering regional welfare effects and regional balance.

3. Korean Methodology for Evaluating Public Investment Projects: Preliminary Feasibility Studies

As mentioned above, the general guidelines for the PFS contain the standards, methodologies, required data sets and so on that applies to all types of projects in common, while the sectoral guidelines maps out similar content but more in detail particularly applied to each sector including roads, railroads, ports, airports, water resources, cultural and tourism facilities, informatization, R&D, and others. In this section, Korean practices in the analysis of ex ante project appraisal are discussed. Meanwhile, this section introduces the methodologies specified in the general guidelines for the PFS (KDI, 2008) and discusses the backgrounds and purposes of the specifications if needed.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 111 3.1. Multi-Criteria Decision Making

The results and suggestions from the PFS have been utilized extensively in decisions on resource allocation by the budget authority. Moreover, the cost estimates in the PFS have the substantial vigor throughout the lifecycle of public investment projects, e.g. they work as benchmarks of the total project cost at the stage of basic as well as detailed design. The methodology has thus been highlighted and consistently improved since the inception of the PFS, and consequently has evolved in a more comprehensive manner.

The analyses of each PFS begin with project overview and analyzing basic data surrounding the project. This step consists of checking the background, goals and expected effects of the proposed project, examining local conditions including demography, geography and economy, analyzing cases of existing similar facilities, studying basic engineering data, and identifying issues surrounding the proposed project.

The main body of the analyses consists of three components: economic, policy and balanced regional development. Finally, a multi-criteria decision making process, namely the analytic hierarchy process (AHP), is used to combine all three components to determine whether the proposed project is worth implementing. The whole process is summarized as in [Figure 3-2].

112 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 113 [Figure 3-2] Structure of Analyses in Preliminary Feasibility Studies

Basic Design Writing a Project Plan

Project Overview & Basic Data Analysis

Background, Goals & Expected Effects of Project Conditions (demography, geography & economy) Case analysis of similar facilities Engineering data study & analysis Identification of issues

Economic Policy Balanced Regional Analysis Analysis Development Analysis

Demand estimation Consistency with relevant Regional backwardness Technical review policy & willingness to Ripple effects on regional pursue project Benefit estimation economy - Alignment with relevant plans & Cost calculation policy directions Cost-benefit analysis - Willingness to pursue project & Sensitivity analysis preference for project Review of Ways to Attract Risk in pursuing project Private Investment & Financial - Possibility of financing Feasibility Analysis - Environmental impact analysis Special Evaluation Items Related to Project

Comprehensive Evaluation: Multi-Criteria Analysis (AHP)

Feasibility of project Other policy suggestions

Source: KDI (2008), p. 12,

.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 113 One of the main reasons the PFS adopted the multi-criteria decision-making process through the AHP is consideration of balanced regional development. That is, interregional inequality will worsen if implementation is determined only by economic analysis, as in the possibility of “the rich getting richer.” For example, when deciding whether to construct a road in a less populated and less industrialized region, the estimated traffic demand would be relatively low and thus the benefit estimate would thus be relatively small. In the long run, resource allocation will be concentrated in more developed regions only, and the gap between regions will grow larger (Lee, 2013).

3.2. Economic Analysis

3.2.1. General Methodology for Economic Analysis

Though the PFS eventually judges overall project feasibility under the multi- criteria decision-making method, the economic analysis, i.e. the CBA, is considered the most important component in analysis. The typical ways of conducting a CBA in the PFS are divided into three types of estimation: demand, benefit and cost.

3.2.1.1. Demand Estimation

In most cases, estimating future demand when a project is being operated is needed to estimate ultimately the benefit. The standards for estimating demand include (i) use of data with public confidence and (ii) reflection of development plans likely to be implemented.

For the most accurate and neutral demand estimate, using data with strong public confidence is recommended as much as possible. In the case of transport demand estimation, the PFS in principle uses the present and future O/D (origin/ destination) and network data provided by the Metropolitan Transport Authority for the greater Seoul area and that from Korea Transport Database (KTDB) of the Korea Transport Institute (KOTI) for other regions (KDI, 2008: p.25).

114 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 115 [Figure 3-3] Process of Transport Demand Estimation under Conventional 4-Step Model

Trip Generation (Rate of change & trip rate models, regression analysis)

Trip Distribution (Fratar method, gravity model)

Passenger Cargo O/D O/D Correction & Change (No. of lanes, capacity, each model Parameter, etc.)

Modal Share (Trip end & logit models)

Construction of Current Transportation Network Traffic Assignment (User equilibrium model)

Traffic Volume per Traffic Volume per Road Link Railroad Link (Passenger, cargo) (Passenger, cargo)

Comparison of (Big Margin of Error) Assumed & Observed Traffic Volume

(Small Margin of Error)

Establishment of 4-Step Model Future Social and Economic Indices and Transportation Network Construction Table of Future Total O/D Traffic and Each Mode’s Traffic

Future Traffic Assignment

Estimation of Future Road and Railroad Traffic (by Transportation Mode and Section)

Source: KDI (2008), p. 24,

.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 115 [Figure 3-3] shows the process of transport demand estimation under the conventional four-step model. When doing a PFS on most road projects, transport demand at the origin and destination of each future mode of transport estimated in KTDB is used so that three of the four steps - trip generation and distribution and mode choice - are omitted. The process of estimating transport demand in a road project begins with calibration of data from the base year given O/D and network data. This work refers to building a model of existing transport patterns within the margin of error, and the calibration is considered completed if the deviation is small enough between the results of network traffic assignment within the traffic analysis zone (TAZ) and observed traffic volume. Once the data of the base year is calibrated, future transport patterns are forecast in accordance with O/D and network changes based on the assumption that the traffic assignment pattern of the base year continues. This forecast is compared with the transport patterns of the year when the project is implemented to predict any shift in transport patterns resulting from project implementation, such as changes in traffic volume and speed (KDI, 2008: p.23).

Content of Analysis of Water Supply and Demand

Analysis Items Description

··Estimate demand for water for residential purposes considering population, penetration rate, and per-unit water supply (including water for other purposes) Water Demand ··Estimate demand for industrial water in national, regional, and Estimation agricultural industrial complexes in impact area ··Estimate demand for irrigation water ··Estimate demand for water to preserve rivers & improve environment

Water Supply ··Examine supply facilities & plans to expand them in impact area & Estimation estimate possible volume of future supply

Analysis of Water ··Predict future water supply & demand & compare excess or deficiency Supply & Demand before & after development

Source: KDI (2008), p. 27,

.

For water resource projects subject to the PFS, analysis of water supply and demand is essential for determining project feasibility and choosing the optimal scale. So more rational and objective methods should be used for such analysis, and much focus should go toward it at the step of the PFS to ensure precise estimation (KDI, 2008: pp.26-27).

Details that should go into the analysis of water supply and demand are indicated in

: (1) estimation of water demand that considers future uncertainty; (2)

116 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 117 estimation of water supply that considers the conditions of water resource supply; and (3) analysis of water supply and demand that considers all of these mentioned above (KDI, 2008: p.27).

Demand for water consists of water for residential, industrial and agricultural purposes, water to preserve rivers and water to improve the environment as categorized in

.

Water Demand by Purpose

Purposes Description

··Water for household, commercial (including small-volume industrial Residential use), bathhouse, specific industrial, public, temporary & other uses (tourism, port maintenance, military)

Industrial ··Water for raw materials, product processing, boilers & other uses

Agricultural ··Water for rice paddies, dry fields, stockbreeding & other such uses

··Water to discharge to maintain three functions of rivers: irrigation, Preserve Rivers water control & environmental function.

Improve ··Water needed for sections of rivers to improve living environment, Environment provided when requested by beneficiary group.

Source: KDI (2008), p. 29,

.

Projects to build complexes of industry, culture and tourism, sports and science and technology generate direct effects but not as great as assumed. Because such projects mostly have indirect effects, demand arising from indirect effects must be higher than direct demand for projects. If an industrial complex is planned to enhance the competitiveness of an industry, the most important thing is to accurately estimate the demand to be created by the project in industry. As demand estimation can be extremely difficult, estimation of demand for both the best- and worst-case scenarios is recommended (KDI, 2008: p.32).

The standards to reflect development plans are divided largely into those of cities and provinces and of the central government. Development plans include those for housing sites, industrial complexes, and tourist resorts and resort complexes. As the reflection of standards in development plans can greatly influence project feasibility, such standards should be carefully approached (KDI, 2008: p.33).

The PFS has reflected development plans when their detailed implementation plans are approved in order to exclude uncertain plans from analysis, ensure precise demand estimation, and prevent excessive and overlapping investment (KDI, 2008:

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 117 p.33). By studying the rate of project implementation, mainly for development plans of housing sites and industrial complexes, the PFS sets the standards on when to reflect development plans as shown in

.

Standards to Reflect Development Plans

Classification Standards to Reflect

Housing site Detailed implementation plan approved development plan

Industrial complex Development & detailed implementation plans approved development plan

Tourist resort & resort Formation plan approved complex development project

Step corresponding to detailed implementation plan being Other development plans approved

Source: adopted and modified from KDI (2008), p.33,

.

3.2.1.2. Benefit Estimation

Benefit estimation starts with identifying benefit items. Since the benefit items of a specific project can greatly vary by type, content and characteristics, they should be itemized based on the project proposal submitted by line ministries.

Once the benefit items are identified, the benefit can be estimated using the per- unit value or opportunity cost and demand estimates. For example, if the per-unit

value of the benefit item i is Pi and the demand estimate at time t is Dit , then the

benefit estimate at time t , Bit is calculated as follows:

The benefit estimate at time t , Bi , is then obtained as

Finally, the present value of the total benefit estimate is calculated by the

discounted sum of all Bi ’s using the predetermined social discount rate.

For roads and railroads, the benefit items identified and acknowledged are shown

118 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 119 in

. For each value of these items, demand is multiplied to estimate the benefit. In so doing, the PFS uses the demand estimates provided by an independent institution that secures public confidence as stated above.

Benefits of Road and Railroad Projects

Classification Benefits

··Vehicle operating cost savings ··Travel time savings Common Benefits ··Fewer traffic accidents ··Pollution & noise cost savings

··Parking cost savings Benefits Specific ··Negative benefit of increased traffic congestion during construction to Projects ··Negative benefit of reduced road space due to railroad projects

Source: KDI (2008), p. 37,

.

In other cases, a benefit is often calculated as the sum of earnings from the main facility’s admission fee and annex sales. In so doing, the analyst should be careful to consider consumer willingness to pay rather than the price itself. In other words, the economic analysis is not to calculate the “financial” benefit, i.e. revenue or profit, but to obtain the “social” benefit.

In this regard, the “non-use value” of a public investment project should be sometimes considered. Non-use value means an increase in consumer utility though they do not directly use a facility because they feel its existence itself is valuable, or they value the fact that their descendants might use it sometime, among others. To estimate the non-use value generated by a cultural, sport or tourism facility, the PFS adopts the contingent valuation method, the most widely used (survey-based) stated-preference methodology (Refer to Smith, 2006 for overview and Arrow et al., 1993 for guiding principles in application).

3.2.1.3. Cost Estimation

The costs associated with the project are divided into two parts: that incurred in the construction phase, namely the total project cost (TPC), and that incurred over the operation period, namely operation and management (O&M) costs.

The TPC is further divided into the construction, incidental and land acquisition cost and contingencies. The composition of the TPC is shown in

.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 119

Composition of Total Project Cost

Category Sub-category Note

e.g. Roads: Earthwork, Bridges, A1. Construction Tunnels, Entrance Facilities, Tollgates, A. Construction Cost Rest Areas

A2. VAT 10% of A1

B1. Basic Design A1 × rate (%)

B2. Detailed Design A1 × rate (%)

B. Incidental Cost B3. Supervision A1 × rate (%) B4. Research and A1 × rate (%) Survey

B5. VAT 10% of B1-B4

C. Land Acquisition Cost No VAT applied

D. Contingencies 10% of (A+B+C)

E. Other Type-specific Cost e.g. Railroad: Initial car purchasing cost

F. Total Project Cost A+B+C+D+E

It is noteworthy that the contingencies are set as 10 percent of the sum of construction, incidental and lot purchasing costs. Consideration is given to the leeway of cost overruns due to a number of uncertainties since the scale of the target project is huge and the timing of appraisal is sufficiently ahead of project implementation.

The O&M costs include not only those of initial investment but also ordinary operating costs that even consider those of the lifecycle to maintain the functions of fixed assets like land, buildings and facilities (KDI, 2008: p.41).

In estimating costs, a standard to estimate salvage value is needed. Salvage value depends on the duration of the concerned facility and the supposed period of economic analysis. For example, a road needs to be repaved some 15 years after completion. Excluding repaving, only ordinary maintenance and operation costs are incurred each year. What the PFS considers salvage value in a road project is thus land acquisition costs. The study team should set the land acquisition cost as salvage value in a road project and deduct it from the cost of the final year of analysis (KDI, 2008: p.67).

120 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 121 Unlike roads, railroads require a great deal of reinvestment. Additional train cars are needed as demand increases and reinvestment is required to replace fully depreciated cars and facilities. Items that can be considered as having salvage value 30 years after the start of service are the acquisition costs of land, cars, facilities and equipment in which reinvestment is made. The PFS for railroad projects should consider the salvage value of both acquisition costs of land and items in which reinvestment is made. In projects other than road and railroad projects, salvage value shall be reflected based on durability life (KDI, 2008: p.67-68).

Finally, the value-added tax (VAT) should be carefully treated in estimating costs. When estimating the TPC, VAT is applied to construction and incidental costs but not to land acquisition cost to elicit the opportunity cost of land use. The purpose of this is to figure out the scale of budget needed by estimating the TPC. In economic analysis, i.e. CBA, on the other hand, all VATs are excluded in cost estimation because the CBA clings again to the “social” viewpoint of eliciting opportunity cost.

3.2.1.4. Evaluation Criteria

A benefit-cost ratio (BCR) is first calculated to evaluate economic feasibility. The BCR is the ratio of benefits to costs in which both benefits and costs are expressed as discounted present values. In other words, costs and benefits set to occur in the future are converted into present values, and the present value of benefits is divided by that of costs such that

where Bt and Ct are benefits and costs at the timet , respectively, r is the social discount rate, and n is the duration of the concerned facility, i.e. the period subject to analysis (KDI, 2008: p.58).

In the PFS, a project is considered economically feasible when the BCR is at least 1.0. Of course, determining that a public investment project is economically feasible merely because the BCR is under 1.0 is inappropriate. For example, the Special Guidance for Public Investment Analysis stipulated by the U.S. Office of Management and Budget (OMB) suggests that the BCR should exceed 1.25 for a public investment to be economically feasible, since taxes generally distort relative prices and accordingly impose a burden in excess of the revenues they raise (U.S. OMB, 1992: p.13). In Korea, under the same reasoning, the theoretical threshold BCR is estimated from 1.10 to 1.15 to secure economic feasibility for public investment projects. Nevertheless, Korea is still a developing country and thus cannot be said to have

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 121 sufficient social overhead capital. Furthermore, confusion can arise if the minimum BCR of 1.10 to 1.15 at the PFS step is applied since other studies use a ratio of 1.0. In comprehensive consideration of the above, the figure of 1.0 is used as the minimum BCR instead of the theoretically estimated BCR (KDI, 2008: p.58).

Second, calculation of net present value (NPV) is important. The NPV is total benefits minus total costs incurred by a project (both benefits and costs expressed in discounted present values of the base year):

An NPV of at least zero means the project is economically feasible (KDI, 2008: p.58-59).

Lastly, the internal rate of return (IRR) should also be calculated. The discount rate R is calculated in which the values of benefits and costs converted into present values become equivalent. The discount rate reduces the NPV of the project to zero:

If the IRR is higher than the social discount rate, this is supposed to signify economic feasibility (KDI, 2008: p.59).

Determination of feasibility is not always identical in BCR, NPV, and IRR calculations. First, the NPV approach calculates the flow of net benefits evaluated at the starting epoch of a project, but does not consider project scale. For example, when both benefits and costs are doubled ceteris paribus, the NPV mechanically doubles. So comparing the economic feasibility of two different projects having similar characteristics only based on their NPVs is inappropriate. Second, the IRR approach does not depend on project scale unlike that of the NPV, but an IRR is not obtained according to the structure of profit generation. Third, a BCR value differs according to which items are classified as benefits or costs, but this figure is generally used as an investment evaluation standard (KDI, 2008: p.59). The merits and demerits of all three evaluation criteria are compared in

.

122 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 123

Comparison of Evaluation Criteria in Economic Analysis

Evaluation Critical Merits Demerits Criterion Value

··Easy to understand ··Error of choosing mutually BCR B/C ≥ 1 exclusive alternatives could ··Can consider project scale occur

··Suggests clear standards when selecting alternative ··Difficult to understand ··Suggests present values of NPV NPV ≥ 0 ··Error could occur when benefits to occur in future determining order of priority ··Considers marginal NPV among alternatives ··Can be used in other analyses

··Can measure project profitability ··Does not consider absolute ··Allows easy comparison with project scale IRR IRR ≥ r other alternatives ··Multiple IRRs may ··Allows easy understanding of simultaneously be deducted process & results of evaluation

Source: KDI (2008), p. 60,

.

The PFS calculates the BCR, NPV and IRR without exception to evaluate economic feasibility, compare priority among projects and serve other purposes (KDI, 2008: p.59).

3.2.2. Parameters in Economic Analysis

Assumptions or calculations of parameters needed in economic analysis are necessary in the PFS to secure consistency in the projects evaluated. First, all benefits and costs should be discounted to the same epoch since they arise at different times. The PFS set the base date of economic analysis as the end of the previous year of the inception date of the analysis. So if a PFS begins in May 2016, the base date is the end of 2015.

Second, the period subject to analysis should be properly determined for consistency between projects again. The construction period is set by reviewing the proposed construction plan. Since line ministries use their expertise in preparing a sufficiently realistic plan, their proposed construction plan is usually accepted except a few details. The operation period, on the other hand, is assumed equally as 30 years in general. The only exception is water resource projects like multipurpose dams, in which the operation period is set at 50 years considering their relatively long lifespans.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 123 Third, the annual payment schedule should also be standardized. For example, 30 percent of the total cost of land acquisition or lot purchasing in road projects are assumed to be spent in the first year and 70 percent in the second. Moreover, if the construction period is five years, the construction cost is divided as 5, 15, 35 and 20 percent of total cost in each year.

• Social Discount Rate

One of the most important parameters used in the economic feasibility appraisal of public investment projects is the social discount rate. Discounted benefits and cost values are determined by the social discount rate, and as a result, the BCR and NPV. Determination of the social discount rate is an absolute determinant of economic feasibility (KDI, 2008: p.60).

In the inception of the institution, the PFS determined the social discount rate based on the shadow price of capital. A real rate of 7.5 percent was applied to all projects except those of water resources, and a real rate of 6.0 percent was applied to water resource projects since they need longer consideration than other projects (KDI, 2008: p.60).

In 2004, the need to adjust the social discount rate was recognized due to a prolonged period of low interest rates and low growth. The social discount rate was re-estimated at 6.5 percent in real terms. For water resource projects, whose analysis period is relatively long, a real rate of 6.5 percent was applied for the first 30 years of operation and 5.0 percent for 20 years afterwards (KDI, 2008: p.60).

After studying the basic interest rate, social rate of time preference, financial discount rate and others to estimate an appropriate social discount rate, the PFS uses the social rate of time preference for estimation as it can calculate an appropriate rate with a relatively small number of parameters, and the value estimated as such can be considered the lowest limit of the social discount rate (KDI, 2008: p.62). The social rate of time preference (SRTP) can be calculated as

SRTP = p + µ· g

where p refers to a discount rate of future consumption under the assumption that per-capita consumption does not change, g is an annual rate of per-capita consumption increase, and µ is the elasticity of marginal utility of consumption. Finally, the term µ· g is to reflect the diminishing effect of marginal utility due to consumption change.

124 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 125 Calculation of this social time preference rate using the formula showed that the appropriate range is 5-5.5 percent. The basic interest rate based on the real interest rate of five-year government bonds and long-term premiums over the last five years also falls within this range. Moreover, estimation of a real weighted average cost of capital as part of financial feasibility analysis found that 5.5 percent is the proper level for a real discount rate used in financial feasibility analysis, as the spread between the interest rates of three-year corporate and government bonds narrowed from 2 percent to no more than 1 percent. Thus the cost of debt capital decreased (KDI, 2008: p.62).

But the latest economic analysis does not fully review a project’s risks except for sensitivity analysis, which can require a higher discount rate. Also, the tendency to evade a sudden adjustment of the discount rate should be considered in determining actual values to apply. As a result, the real social discount rate in the PFS is set at 5.5 percent (KDI, 2008: pp.62-63).

Since the analysis period for water resource projects is 50 years, longer than for other projects, a lower social discount rate has been applied to them: 5.5 percent for the first 30 years of operations and 4.5 percent for the remaining 20. This is based on the theoretical background that the social discount rate decreases over time if it comprises uncertainty or if future growth is uncertain (Weitzman, 1998 and Gollier, 2002).

3.3. Policy Analysis

Policy analysis includes elements not included in economic analysis but should be considered to evaluate project feasibility. As introduced above, economic analysis quantifies the effects a project has on the national economy using the CBA framework. Policy analysis is for elements among social benefits or costs resulting from projects that cannot be quantified by the CBA framework, but should still be evaluated to determine if a project should proceed (KDI, 2008: p.97).

Evaluation of policy analysis consists of basic and project-specific evaluation items. While the latter can only be applied optionally to a certain circumstance, the former includes items commonly applied in evaluating any project subject to a PFS regardless of its characteristics. Predefining basic evaluation items is especially important in that common matters should be generally considered when inputting the limited funds of the central government into projects subject to the PFS regardless of their characteristics, and a modicum of uniformity among evaluation items is needed to ensure consistency in the evaluation of different projects (KDI, 2008: p.97).

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 125 Basic evaluation items considered in policy analysis of PFS are consistency with higher-level relevant plans and/or policy directions, willingness to pursue as well as preference for projects, possibility of financing, and environmental impact analysis. On the other hand, project-specific evaluation items are special items to consider in the evaluation of the concerned project, and subsequently, they can differ depending on project type like national defense, culture and urban development (KDI, 2008: pp.97-98).

Policy analysis initially examines if the project plan is in line with higher-level plans and policy directions. For large-scale public investment projects to qualify for the PFS, they already went through multiple steps of planning at the central or regional/local governments’ level. How systematically a line ministry pursues and implements a project can only be evaluated after a concrete plan is mapped out. A series of preparations until a concrete project plan is produced is reflected in high- level or relevant plans. As such, analysis of whether the concerned project is reflected in higher-level or relevant plans can help determine if the project has been pursued consistently through government policy (KDI, 2008: p.153).

At the same time, checking if the project is in line with the line ministry’s own policy direction should also be made. Even when an explicit plan for a specific project is in place, a broader policy goal already set by the ministry is significant and material in determining whether to prioritize or push ahead with individual projects. On the contrary, the effectiveness of an existing long-term plan can decrease as the policy direction can change over time. Through comprehensive consideration of this situation, consistency with relevant plans and policy directions is to be reviewed (KDI, 2008: p.153).

Second, the attitude of the line ministry and residents toward the project should be considered for the following reasons. All public investment projects have a spatial position where they are located, and the magnitude of ripple effects induced by a project’s implementation can vary due to geographical proximity, connectivity and other factors. Even when a project is necessary from the central government’s perspective, it occasionally might prove unfavorable or even unacceptable to area residents. On the contrary, even a project that has been the long-held hope of residents might be low priority to the central government, which has to conduct policy for the nation (KDI, 2008: p.154).

Third, the level of preparedness needs checking since it is closely related to the concreteness of a project. This step reviews the depth of a project plan’s details. Considering the construction of national roads, once a plan decides to lay a specific section, there is little to change about the content. In such a case, the level of preparedness might not be an important evaluation item. A concrete project plan is

126 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 127 necessary, however, in specific projects like the construction of a cultural facility or industrial complex (KDI, 2008: p.155).

A project plan needs to suggest the project’s location, purpose, expected effects, strategy for implementation, estimated project cost and ripple effects. A higher level of preparedness can be interpreted as an indication that the project’s purpose and such are well aligned with policy and that the willingness to pursue is strong (KDI, 2008: p.155).

Fourth, the willingness and capacity (fiscal space) of financing should be checked. Public investment projects are typically funded with public money via issuing bonds or, if needed, attracting private investment. When the government can and is willing to provide sufficient funds, the responsible party can issue bonds on the market or a private party willing to participate in the project can be found. So financing poses no significant concern (KDI, 2008: p.155).

For projects where local governments put up part of the necessary funds and projects are either partially or wholly financed by a private party, the possibility of financing should be closely reviewed to ascertain if the projects can proceed as planned (KDI, 2008, pp.155-156). If projects impose a substantial fiscal strain on local governments compared to their fiscal spaces, they are likely to face delay, suspension or other problems. In projects of public-private partnerships (PPP), in which profitability is expected to be low, selecting a private investor by tendering and negotiating with the preferred bidder can be time consuming. Even for state- funded projects, the possibility of raising the necessary funds should be confirmed if the project costs are much higher than the allotted budget (KDI, 2008: p.156).

The evaluation of financing plans excludes an analysis of the suitability of state support previously conducted. This is because, in most projects subject to the PFS, the line ministry requesting the study provides a legal and administrative basis to pursue them that fulfills the justification for government support. For projects in which the suitability of state support is an issue due to their nature, this should be set as a project-specific evaluation item and analyzed separately from a financing plan (KDI, 2008: p.156).

Fifth, the environmental impact analysis roughly evaluates such an impact from project implementation. This analysis is not required for every project. In the PFS, this analysis is to ascertain in advance whether an environmental issue will occur at any step after the PFS, and decide whether to pursue a project accordingly while at the same time raise the possibility of an environmental issue in the following steps and encourage more in-depth analysis (KDI, 2008: p.156).

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 127 For projects with potential environmental issues, the impact of project implementation is to be qualitatively and quantitatively evaluated through separate consultations with specialists and prior discussions. Also, as mentioned above, the possibility of civil complaints due to an environmental issue when a project is implemented should be analyzed not for the “willingness to pursue and preference for projects” but for the “environmental impact analysis (KDI, 2008: pp.156-157).”

3.4. Balanced Regional Development Analysis

As discussed above, regional imbalance can get exacerbated if the feasibility of large-scale public investment projects is evaluated only by the results of the economic analysis. To avoid this undesirable outcome and fulfill the national agenda of balanced regional development, the PFS considers inequality separately in evaluating project feasibility.

The balanced regional development analysis consists of two parts: (1) granting additional points to relatively underdeveloped regions using a specially designed regional development index and (2) calculating the regional ripple effects using the multi-regional input-output model.

First, the regional development index is composed of the weighted sum of eight indicators as shown in

. Since the measure of each indicator is different from others, the magnitudes of all indicators are normalized using the unit normal scaling for fair comparisons. Noticeably, the aging index can be interpreted as the greater the value, the less potential a region has to be developed further. Hence, the values in the aging index are multiplied by -1 when applied to the regional development index.

The weight assigned to each indicator is determined by the survey per members of relevant academic societies and think tanks, and the experts who previously conducted the PFS. The resulting weights are shown in

.

Second, the ripple effects on a regional economy are quantified measures of production, added value and employment induced by the implementation of a public investment project. A standardized multi-regional input-output model is applied to projects for securing consistency in recurrent analyses and enhancing efficiency by ignoring the possibility of building up an ad hoc model for each project.

128 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 129

Indicators Used in Calculation of Regional Development Index

Area Index Measurement Method

Population Population Annual average rise in population over last 5 years increase rate

Ratio of Industry people in (No. of people in manufacturing/population)×100 manufacturing

Local (Length of legal roads/area of administrative Road ratio Infrastructure district)×100

No. of registered Transportation (No. of registered passenger cars/population)×100 passenger cars

No. of doctors (No. of doctors/population)×100 Health & per population Social Welfare (Population of senior citizens age 65 or older/ Aging index population of ages 0-14)×100

Degree of (Local taxes+non-tax revenue/total tax revenue under financial self- general accounting)×100; Gov’t reliance average of last three years Administration & Finance Urban land use Land category (building lot+factory lot+school lot) / ratio area of administrative district×100

Source: selected from KDI (2008), p. 100,

.

Weights for Indicators to Calculate Regional Development Index

Index Weight (%) Index Weight (%)

Population increase rate 8.9 No. of registered passenger cars 12.4

Aging index 4.4 Road ratio 11.7

Degree of financial 29.1 No. of doctors per population 6.3 self-reliance

Ratio of people in 13.1 Urban land use ratio 14.2 manufacturing

Source: selected from KDI (2008), p. 101,

.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 129 3.5. Comprehensive Evaluation: Analytic Hierarchy Process

As discussed above, overall appraisal of feasibility uses the AHP, which effectively helps decision making by combining the quantitative results of economic and balanced regional development analyses, and the qualitative results of the policy analysis (refer to Saaty, 1980, for details on AHP implementation).

Once evaluation items for comprehensive evaluation are finalized, the PFS research team gathers items of varying levels of importance, divides them into homogeneous groups and stratifies them at appropriate levels. In general, the low-level items become detailed evaluation standards that make high-level items concrete. At the highest stratum is a comprehensive evaluation of preliminary feasibility, the final goal of decision making (KDI, 2008: p.166).

The basic structure of AHP analysis in the PFS is drawn in [Figure 3-4]. The first stratum consists of economic, policy and balanced regional development analyses. The second stratum comprises consistency with policy and willingness to pursue projects; risk factors in doing so; and evaluation of the special characteristics (mid- level classification) of projects in policy analysis. The third stratum comprises detailed evaluation items under the mid-level classification of policy analysis, and those under analysis of balanced regional development (KDI, 2008: p.166).

130 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 131 [Figure 3-4] Structure of AHP in PFS

Preliminary Feasibility

Balanced regional 1st Economic analysis Policy analysis Stratum development analysis

Evaluation of Consistency with Risk factors in projects’ special 2nd policy & willingness pursuing Stratum characteristics to pursue project project (optional) Willingness to pursue projects Relevancy with high-level plans Project’s preparedness Additional evaluation items (optional) Possibility of financing Environmental impact analysis Additional evaluation items (optional) Evaluation item 1 (optional) Evaluation item 2 (optional) Level of regional development Ripple effects on the regional economy Additional evaluation items (optional)

3rd Stratum

Evaluation Non-implementation of Implementation of project Alternative project

Source: selected from KDI (2008), p. 167,

.

Participants in the AHP include members of the PFS research team, managers (typically the executive director and director of the PFS division) from the Public and Private Infrastructure Investment Management Center (PIMAC), and external experts. By collecting a wide range of opinions, the PFS attempts to secure neutrality and consistency. Each evaluator assigns the weights on the evaluation components within the predetermined ranges as shown in

.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 131

Weights in Each Evaluation Area in Preliminary Feasibility Studies

Evaluation Area Project Type Balanced Regional Economic Analysis Policy Analysis Development Analysis

Construction 40–50 25–35 15–30

50–70 R&D, 30–50 (Analysis of - Informatization technical & policy nature)

50–75 Other Non- investment 25–50 (Analysis of - Finance Projects technical & policy nature)

Source: selected from KDI (2008), p. 102,

.

The final step of the AHP application is to choose between implementing and not implementing the project using the weighted sums drawn from each evaluation item and feedback on it. The outcome from the AHP analysis is two scores: one for an alternative to ”implement the project” and the other for an alternative ”not to implement the project.” Finally, the project is considered feasible overall if the ”project implementation” alternative obtains a higher score (higher than 0.5 in the range of 0 to 1) than the status quo alternative meaning ”not to implement the project.” This mechanical way of drawing a conclusion was instituted because the final results of a PFS are basic data to be used for a binary decision on whether to allocate a budget for a project (KDI, 2008: p.176).

Certain limitations, however, merit attention in the course of judging whether to implement the target project based on the results of the AHP analysis. First, the final decision should be carefully made when the opinions of evaluators are split, e.g. five evaluators grant higher scores to the ”project implementation” alternative and the other five see it the other way. Second, the difference between the score of the project implementation alternative and that of the status quo alternative must be carefully determined if the number is insignificant, e.g. 0.498 for the project implementation and 0.502 for the status quo alternative. In both cases, the robustness in decision-making is not sufficiently secured. In consideration of this, the PFS sets a grey area as “0.45 < AHP weighted sum < 0.55” to ensure a cautious approach in making a final decision. The grey area refers to where the weighted sum can change if the researchers change. If the AHP score falls in a grey area, the researchers need a cautious approach in making a comprehensive conclusion through AHP analysis (KDI, 2008: p.177).

132 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 133 4. Lessons from Korea and Policy Suggestions for Kuwait

Based on the lessons learned from the methodological settings and their progress for the PFS in Korea, this section concludes with policy suggestions for Kuwait on the establishment of a methodological framework for ex ante project appraisal.

[Figure 3-5] shows the evolution of Korean practices in PFS implementation. The items are particularly related to the policy suggestions discussed below in more detail. When the PFS was introduced in 1999, the CBA was required under the Framework Act on Fund Management and the Enforcement Decree of the Budget and Accounting Act. At the same time, the Public Investment Management Center (PIMA) was set up exclusively for implementing the PFS. (Later, PIMA changed its name to PIMAC when it started to conduct value-for-money tests on PPP projects as well in 2005.) The first PFS guidelines were prepared shortly afterwards and contained the methodologies with the required data and parameters.

[Figure 3-5] Evolution of Korean Practices in PFS Implementation

Requirement strengthened by law Requirement of CBA (Nat’l Finance Act)

Designation of dedicated organization: PIMAC

Standardization of parameters

Accumulation of data Disclosure of full information

Accommodation of multi-criteria decision-making model: AHP

1999 2001 2005 2014

The multi-criteria decision-making process using the AHP was introduced in 2001 and the PFS requirement was strengthened by the National Finance Act in 2005, including the expansion of project types subject to the PFS. From 2014, the final reports of the PFS were publicly released for enhancing assessment transparency, while only a summary of the results had been disclosed beforehand.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 133 4.1. Requiring Ex Ante Project Appraisal Using Cost-Benefit Analysis

Though not specifically a methodological issue, the Kuwaiti government is strongly recommended to require ex ante project appraisal that accommodates the quantitative CBA. Without this requirement, the existing practice of relying on qualitative or quantified measures, which is hardly reliable since information is derived simply from precedents, will not be easily reformed.

Considering the Korean practice of requiring the PFS for all large-scale public investment projects above a certain financial threshold, the quantified ex ante project appraisal, PFS, has contributed to enhancing fiscal efficiency by preventing non- feasible projects from getting launched. The track records show that only around 60 percent of proposed projects were evaluated as feasible.

Moreover, the PFS in Korea emphasizes the importance of project conception and ex ante appraisal in the public investment management (PIM) system. The PFS, in both the screening and research processes, requires a more concrete plan for appraisal purposes, which leads to elaboration of the project proposal in a more concrete and economic way. For example, certain proposals for museums right after the inception of the PFS included only a building plan without one for exhibition, a core requirement for museums. As PFS rules and standards evolve and the institution gains authority, the practice of incomplete planning has faded even in the early stage among line ministries.

Looking back on the Korean experience, the PFS was initially applied to transport infrastructure only, like roads and railroads, since it was easy to secure data and conduct analyses for its formalized structure. Based on its successful implementation, the PFS has been extended to other types of infrastructure and even non-infrastructure programs such as R&D and social welfare programs. The evolution of the PFS in Korea suggests that Kuwait might consider requiring ex ante project appraisal on transportation infrastructure first. Subsequently, knowledge and experience accumulated in this area can be applied to other types of public investment projects in Kuwait as well.

4.2. Standardization of Parameters

To require the quantitative CBA in ex ante project appraisal, standardization of parameters is needed to calculate the BCR, NPV and IRR. Korean practices can provide guidelines on the parameters. Most importantly, the operating period is set at 30 years for most types of projects except those of water resources (50 years), and

134 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 135 the contingency in TPC is assumed to be 10 percent of all other costs. The base year of analysis is set at the end of the year before the PFS is requested, and the social discount rate is set at 5.5 percent in real terms. When setting the parameter values, however, following Korean practices is not necessarily required, but the values must fit the circumstances in Kuwait including its economic situation and prospects, high dependence on the oil industry, needs and priorities among types of public investment projects, and the exclusion of VAT in the process of cost estimation.

For example, the social discount rate has to be carefully determined. To help figure out the possible ranges,

displays the social discount rates in selected countries.

The countries use different approaches in calculating the social discount rate. First, the social rate of time preference (SRTP) approach, as discussed above, is used in countries including Korea, France, Italy, Spain, and the U.K. and institutions in the U.S. Second, the marginal social opportunity cost (MSOC) approach reflects the rate of return from private investment projects crowded out by those of public investment. Developing economies that have adopted this approach include India, Pakistan and the Philippines. Third, the weighted average (WA) approach considers the sources of funding, both domestic and overseas, and takes the weighted average of two funding sources. In practice, the social discount rate using the WA approach is considered unrealistically high, and thus use of the approach is limited. Fourth, the approach using the capital asset pricing model (CAPM) applies the cost of ”systematic risk” to public investment projects, considering them hypothetically as private investment projects. For discussions on the theory and practice of choosing the social discount rate for CBA, refer to Zhuang et al (2007).

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 135

Social Discount Rates Used in Cost-Benefit Analyses

Country Social Discount Rate Background

OECD Countries Varies by state/type Australia e.g. 7% (NSW), 4%, 7%, or MSOC or CAPM market rate of return (VIC) Canada 10% (1998) → 8% (2007) MSOC

France 8% (1985) → 4% (2005) SRTP

Germany 4% (1999) → 3% (2004) Federal refinancing rate

Italy 5% SRTP 7.5% (1999) → 6.5% Korea SRTP (2004) → 5.5% (2008) 8% (base), 5% New Zealand (construction), 7% (SOC), CAPM (SRTP) 9% (technology) 7% (1978) → 3.5% (1998) risk-free rate + premium Norway → 4% (2005) (CAPM) 6% (transportation), 5% Spain (environment), 4% (water SRTP management) 8% (1967) → 10% (1969) U.K. → 5% (1978) → 6% (1989) MSOC (until 1980s) → SRTP → 3.5% (2003) U.S. (Office of Management Before 1992: 10% Mostly MSOC & Budget) After 1992: 7% “the interest rate for U.S. (Congressional Budget marketable Treasury debt Office & General Accounting with maturity comparable SRTP Office) to the program being evaluated” 2010: 3% (when all costs U.S. (Environmental & benefits are incurred by SRTP, MSOC Protection Agency) consumption flow) Non-OECD Countries 8% (short- & mid-term) and China WA <8% (long term) India 12% MSOC Pakistan 12% MSOC Philippines 15% MSOC

Source: adopted and augmented from KDI (2015), p. 33,

.

136 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 137 4.3. Data Collection and Management for Appraisals

To ensure reliability of the results of ex ante project appraisal, accuracy of each assessment and consistency across assessments are musts. So, collecting and managing data is critical in the appraisal process. Moreover, since the same or similar methodologies are applied not only within an ex ante project appraisal recursively but to other forms in the public inquiry process, it is critical to manage a database for securing consistency. The Korean experience, as discussed in the previous chapters, shows that the PFS was a stepping stone toward an integrated PIM system in the country.

The data to be collected and managed are that needed for analyses of the PFS and that created by each PFS. The former includes the reference unit cost and unit value of each cost or benefit item, demand estimates from a macro perspective or real data on similar facilities, divided area plans (scale) and a number of operating personnel of similar facilities. The PFS in Korea, as discussed above more in detail, requires all data used in analyses to have as much public confidence as possible to secure accuracy and neutrality in the assessment. The requirements for data sets are specified in the general and sectoral guidelines for the PFS, such as the construction cost to be estimated using the real data provided by the Public Procurement Service. To obtain reliable relevant data in project appraisal, close coordination is crucial with related organizations such as the procuring agency and statistical bureau.

For the latter, based on the data accumulated over the PFS period, PIMAC has conducted performance evaluations on the PFS to overcome challenges and improve the institution. Consequently, the analyses and meta-analyses tracking previous PFS cases have resulted in many significant implications for better implementation of the PFS, e.g. the trends of various PFS results, the amount and trend of budget savings through the PFS, whether the PFS was politically influenced, and if a specific methodology was favorable or unfavorable to project feasibility. The way of collecting and managing data obtained from the PFS in Korea is computerized and standardized to enhance efficiency in managing data. The list of computerized data to submit to the PFS managing team is as shown in

.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 137

List of Required Data to be Submitted for PFS

Category Content Format

1) Annual cost-benefit flow MS Excel

2) Table of financial feasibility analysis MS Excel

3) AHP analysis results

3-1) Weights by evaluator & evaluation item MS Excel

3-2) AHP scores by evaluator MS Excel

4) Survey results to review possibility of attracting private MS Word Data investment & financial feasibility analysis

5) Project region & alternative line map: in image file format *.bmp, *.jpg, usable on PC *.png, etc.

6) Raw data to estimate total project cost MS Excel

7) Raw data for transportation analysis

*.in, *.out, 7-1) O/D and network data *.txt

7-2) Bank file INRO Emme

8) Presentations, review opinions & comparison tables at MS Word progress reporting

9) Presentations, review opinions & comparison tables for MS Word interim reporting to PIMAC

Meeting 10) Presentations, review opinions & comparison tables for MS Word Log interim reporting to MOSF

11) Presentations, review opinions & comparison tables for final MS Word reporting to PIMAC

12) Presentations, review opinions & comparison tables for final MS Word reporting to MOSF

13) Interim report MS Word

Report 14) Final report MS Word

15) Comprehensive summary table MS Word

Source: adopted and augmented from KDI (2008), pp. 184-185.

138 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 139 4.4. Establishment/Designation of Dedicated Organization for Analysis

Establishing or designating an organization specifically for ex ante appraisal of public investment projects might not be always necessary, but will enhance the operating efficiency of the institution in practice. The PFS in Korea settled quickly during its infancy and has since flourished partly due to the formation of a dedicated organization, PIMAC, under Korea Development Institute (KDI).

With its renowned expertise in economic analyses (in a more general sense than those in the PFS), KDI had already accumulated academic and technical reliance over almost three decades by the time the PFS was introduced. Furthermore, PIMAC has conducted assessments based on the three PFS pillars of objectivity, transparency and consistency. Consequently, the PIMAC-managed PFS has the following advantages.

First, as an organization under an independent state-run think tank, PIMAC has been able to assess projects objectively. The PFS has provided a buffer from political pressure and other influence over projects by obtaining respect from line ministries, regional/local governments, public agencies and the National Assembly.

Second, since the description of PIMAC’s mission is clear and its accountability is tractable, transparency has been maintained throughout the PFS process.

Third, the PFS mitigates information asymmetry between the budget authority and line ministries in promoting better decision-making. The PFS report includes information not just for binary decisions (feasible or non-feasible) but provides policy suggestions to implement the project and other information. Through a single organization that accumulates knowledge and experience, the quantity and quality of information provided by PFS reports have steadily grown more substantial and higher. For the same reason, checks for consistency across projects have been efficiently performed.

However, setting up a dedicated organization like PIMAC takes a significant amount of time and requires sufficient human resources equipped with the proper knowledge and experience. So an effective interim alternative is to utilize international organizations or consulting companies with established credibility for their accumulated knowledge and experience in project appraisal. In so doing, training experts in rigorous quantitative CBA and such should ultimately help prepare the way for setting up a public agency devoted to ex ante appraisal of public investment projects in Kuwait.

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 139 4.5. Considering Introduction of Multi-Criteria Decision Making

Finally, once the CBA is required and settled, it is worthwhile to consider introducing the multi-criteria decision making process for ex ante project appraisals. The use of the AHP in Korean practice will serve as a nice reference in setting up the multi-criteria decision making process. However, it should also be noticed that most countries have not adopted such a process as discussed above.

One of the merits of using the multi-criteria decision making process within ex ante project appraisal is that an investment decision can be made in a comprehensive manner by considering the various aspects surrounding the proposed project at the stage of ex ante appraisal. The PFS in Korea improved the quality of decision making by explicitly incorporating the social values shared by people in the appraisal process. For example, policy analysis allows non-economic and qualitative factors to be formally incorporated into the appraisal. The balanced regional development analysis is a unique component accommodated in the PFS that considers the effects of regional redistribution.

However, to incorporate non-economic and qualitative factors at the stage of ex ante appraisal, a strong CBA must precede it, and the quantitative results from the CBA should be considered as core criteria in determining project feasibility. If not, the effectiveness of the scientific approach in securing technical efficiency will be severely limited. Moreover, investment decisions will easily fall prey to political influence that potentially hinders technical efficiency in budgetary decisions.

Finally, the timeline and magnitudes of the necessity of the policy suggestions are depicted in [Figure 3-6], where the horizontal axis represents the timeline (can consider/introduce in the more distant future as it moves toward the right-hand side) and the vertical axis denotes the degree of necessity of each item (more necessary as it moves upward).

140 • 2015/16 Knowledge Sharing Program with Kuwait Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 141 [Figure 3-6] Timeline of Policy Suggestions for Kuwait

Requirement Standardization of CBA of parameters Necessary Management of database

Designation of dedicated organization Optional Introduction of multi-criteria decision making

Short-term Long-run

Chapter 3 _ Methodological Framework to Evaluate Public Investment Projects • 141 References

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2015/16 Knowledge Sharing Program with Kuwait

.go.kr www. ksp ity 30149, Korea Center for International Development, KDI cid.kdi.re.kr Knowledge Sharing Program www.ksp.go.kr (set) www.mosf.go.kr www.kdi.re.kr 94320 321320 ISBN 979-11-5932-132-0 ISBN 979-11-5932-117-7 791159 9 Korea Development Institute 263 Namsejong-ro, Sejong Special Self-Governing C Ministry of Strategy and Finance Korea Government Complex-Sejong, 477, Galmae-ro, Sejong Special Self-Governing City 30109, Tel. 82-44-215-7762 Tel. 82-44-550-4114