Document of

The World Bank

FOR OFFICIAL USE ONLY Public Disclosure Authorized Report No. 52670-XK

INTERNATIONAL DEVELOPMENT ASSOCIATION

PROGRAM DOCUMENT

FOR A PROPOSED IDA CREDIT IN THE AMOUNT OF SDR 4.3 MILLION (US $ EQUIVALENT OF 6.3 MILLION)

FROM PILOT CRISIS RESPONSE WINDOW RESOURCES Public Disclosure Authorized AND A PROPOSED TRUST-FINANCED GRANT IN THE AMOUNT OF EURO 11 MILLION (US$ EQUIVALENT 24.6 MILLION)

TO THE

REPUBLIC OF KOSOVO

FOR A Public Disclosure Authorized FIRST SUSTAINABLE EMPLOYMENT DEVELOPMENT POLICY OPERATION

August 28, 2010

Human Development Sector Unit South East Europe Country Unit Europe and Central Asia Region

This document is being made publicly available prior to Board consideration. This does not imply a presumed outcome. This document may be updated following Board consideration and the updated document will be made publicly available in accordance with the Bank’s Policy on Access to Information. Public Disclosure Authorized REPUBLIC OF KOSOVO

CURRENCY EQUIVALENTS (Exchange Rate Effective as of July 2, 2010)

Currency Unit Euro US$1.00 0.80

ABBREVIATION AND ACRONYMS

ALMP Active Labor Market Programs MYBR Mid-year Budget Review BEEPS Business Environment and Enterprise MTEF Medium-Term Expenditure Framework Performance Survey CAD Current Account Deficit MTI Ministry of Trade and Industry CBK Central Bank of Kosovo NQA National Qualifications Authority CoCs Centers of Competence NQF National Qualifications Framework DFID UK Department for International PES Public Employment Services Development DSA Debt-Sustainability Analysis PEFA Public Expenditure and Financial Accountability EC European Commission PEMTAG Public Expenditure Management Technical Assistance Grant EU European Union PES Public Employment Services GDP Gross Domestic Product PFM Public Financial Management GTZ German Development Agency PFMRAP Public Financial Management Reform Action Plan HBS Household Budget Survey POES Publicly Owned Enterprises HRMIS Human Resources Management SAP European Unions’ Stability and Association Information System Process IBRD International Bank of Reconstruction SBA Stand-By Arrangement and Development IDA International Development Association SEDPP Sustainable Employment Development Policy Program IMF International Monetary Fund SEDPO Sustainable Employment Development Policy Operation IPRR Immovable Property Registration SME Small and Medium Size Enterprise System KAA Kosovo Accreditation Agency SOES State-Owned Enterprises KCA Kosovo Cadastre Agency STM SAP Tracking Mechanism KEK Korporota Energjetike Kosoves TVET Technical and Vocational Education and Training MEF Ministry of Economy and Finance UNDP United Nations Development Program MEST Ministry of Education, Skills, and UNMIK United Nations Interim Administration Mission Training in Kosovo MILES World Bank Framework for Identifying USAID United States Agency for International Factors Leading to Employment Development MLSW Ministry of Labor and Social Welfare VET Vocational Education and Training

Vice President: Philippe Le Houerou Country Director: Jane Armitage Country Manager Ranjit Nayak Acting Sector Director: Mamta Murthi Sector Manager: Jesko S. Hentschel Task Team Leader: Anita M. Schwarz

REPUBLIC OF KOSOVO

FIRST SUSTAINABLE DEVELOPMENT POLICY OPERATION

TABLE OF CONTENTS

I. INTRODUCTION ...... 1 II. COUNTRY CONTEXT ...... 4 A. POLITICAL ENVIRONMENT ...... 4

B. RECENT ECONOMIC DEVELOPMENTS IN KOSOVO ...... 4

C. MACROECONOMIC OUTLOOK AND DEBT SUSTAINABILITY ...... 7

D. PUBLIC FINANCIAL MANAGEMENT ...... 10

E. SUSTAINABLE EMPLOYMENT ...... 13 III. THE GOVERNMENT’S PROGRAM AND PARTICIPATORY PROCESSES .. 25 A. PUBLIC FINANCIAL MANAGEMENT REFORM ACTION PLAN ...... 25

B. EMPLOYMENT STRATEGY ...... 28 IV. WORLD BANK SUPPORT TO THE GOVERNMENT’S PROGRAM ...... 35 A. LINK TO INTERIM STRATEGY NOTE AND IDA FINANCING OF THE OPERATION ...... 35

B. COLLABORATION WITH THE IMF AND OTHER DONORS ...... 35

C. RELATIONSHIP TO OTHER BANK GROUP OPERATIONS ...... 37

D. LESSONS LEARNED ...... 37

E. ANALYTICAL UNDERPINNINGS ...... 41 V. THE PROPOSED OPERATION ...... 42 A. OPERATION DESCRIPTION ...... 42

B. IMPROVEMENTS IN PUBLIC FINANCIAL MANAGEMENT ...... 44

C. LAYING THE FOUNDATION FOR SUSTAINABLE EMPLOYMENT ...... 45 VI. OPERATION IMPLEMENTATION ...... 48 A. POVERTY AND SOCIAL IMPACT ...... 48

B. ENVIRONMENTAL ASPECTS ...... 49

C. CONSULTATIONS WITH STAKEHOLDERS ...... 49

D. IMPLEMENTATION, MONITORING, AND EVALUATION ...... 50

E. FIDUCIARY ASPECTS ...... 52

F. DISBURSEMENT AND AUDITING ...... 53

G. RISKS AND RISK MITIGATION ...... 54

TABLE OF FIGURES

Figure 1: Summary of Kosovo scores in key PEFA indicators, 2007 and 2009 ...... 11 Figure 2: Kosovo’s unemployment remains very high ...... 13 Figure 3: Poverty rates are hgh in Kosovo and showing little sign of decline ...... 14 Figure 4: Poverty rates for unemployed and per diem workers are substantially higher than for the employed ...... 14 Figure 5: BEEPS survey shows significant problems businesses face in a number of areas ...... 17 Figure 6: Poor quality of jobs among those employed ...... 19 Figure 7: Better educated individuals have much higher employment rates than the 29% overall employment rate ...... 21 Figure 8: Reasons why the jobless are not searching for jobs ...... 21 Figure 9: There are as many employed among the poor as there are unemployed ...... 23

TABLE OF TABLES

Table 1 :Kosovo Consolidated Government Budget, 2007-10 ...... 6 Table 2: Selected macroeconomic indicators ...... 8 Table 3: Employment rate in Kosovo is less than half that in EU ...... 13 Table 4: More than 7 of every 10 youth are unemployed ...... 15 Table 5: Employment Strategy Actions included in 2010 Budget ...... 29 Table 6: SEDPP contributing donors and amounts pledged, at and after the Donor’s Conference in 2008 ...... 36 Table 7: Technical assistance being provided to Kosovo in covered areas ...... 39 Table 8: Good principles for Development Policy Operation design ...... 43 Table 9: Objectives and indicators ...... 51

TABLE OF BOXES

Box 1: Industry structure in Kosovo ...... 18 Box 2: Design features of successful ALMPs ...... 20 Box 3: Kosovo experience with ALMPs ...... 20 Box 4: Social protection programs in Kosovo ...... 24 Box 5: Achievements and challenges of public procurement ...... 26 Box 6: Civil service legislation ...... 27 Box 7: Kosovo Cadastre Agency strategy and business plan ...... 30 Box 8: The accreditation process for all higher education institutions ...... 33 Box 9: Lessons from the Public Expenditure Management Technical Assistance Grant ...... 38 Box 10: Development Policy Operations in fragile states ...... 40

ANNEXES

Annex 1: Letter of Development Policy ...... 56

Annex 2: Operation Policy Matrix ...... 61 Annex 3: Fund Relations Note ...... 66 Annex 4: Catalog of existing Active Labor Market Programs ...... 68 Annex 5: Government of Kosovo Employment Strategy and Action Plan Employment Strategy 2010 – 2012 ...... 71 Annex 6 : Country at a Glance ...... 81

This Program Document for the proposed First Sustainable Employment Development Policy Operation was prepared by an IDA team consisting of Anita Schwarz (Task Team Leader, ECSHD), Irina Astrakhan (Lead Private Sector Development Specialist, ECSPF), Diomedes Berroa (Sr. Operation Officer, ECSPS), Agim Demukaj (Research Analyst, ECSPE), William Dillinger (Lead Public Sector Management Specialist), Daniel Dulitzky (Lead Economist, ECSH1), Borko Handjiski (Country Economist, ECSP2), Lewis Hawke (Sr. Financial Management Specialist, ECSPS), Ronald Hood (Lead Economist, ECSP2), Sachiko Kataoka (Education Economist, ECSHD), Flora Kelmendi (Operations Officer, ECSHD), Nejme Kotere (Team Assistant, ECCKO), Caterina Ruggeri Laderchi (Senior Economist, ECSP3), Sachiko Miyata (ET Consultant, ECSP3), Njeri Ida Muhoho (Senior Financial Management Specialist, ECSPS), Kirsten Burghardt Propst (Counsel, LEGEM) , Cristobal Ridao (Sr. Economist, ECSHD), Clelia Rontoyanni (Public Sector Specialist, ECSPE), Cora Shaw (Sr. Agriculture Economist, ECSSD), Kenneth Simler (Sr. Economist, ECSP3), and Sreypov Tep (Program Assistant, ECSHD).

OPERATION AND PROGRAM SUMMARY

REPUBLIC OF KOSOVO

FIRST SUSTAINABLE EMPLOYMENT DEVELOPMENT POLICY OPERATION

Borrower Republic of Kosovo

Implementing Agency MINISTRY OF ECONOMY AND FINANCE

Financing Data The First Sustainable Employment Development Policy Operation (SEDPO1) would be financed from a trust fund which was established with the express purpose of supporting the programmatic series of operations. It consists of funding from FY08 IBRD surplus administered by IDA following the Bank Board decision of July 3, 2008. In addition, SDR4.3 million in IDA funds has become available to Kosovo through the Crisis Response Window and will be added to the amount available for SEDPO 1 as a Credit. The operation is cofinanced by grants arising from contributions by other donors.

Operation Type Programmatic Development Policy Operation; first of three

Main Policy Areas Public financial management; Sustainable employment

Key Outcome Indicators Improved public investment and overall budget preparation and execution: Long-term focus on public financial management with strengthened internal controls and audit, strengthened external audit, strengthened procurement processes, and improved payroll management, as measured by improved performance in the PEFA indicators: PI-1, maintenance of an A score for PI-2, PI-12, and PI-19 during the next PEFA assessment.

Strengthened wage bill management: Unified and rule- based employee payroll management, measured by linking of HRMIS and payroll to Treasury system and improvement in PEFA indicator PI-18 by 2012.

Sustainable employment: Enhanced policy environment conducive to creating more and better jobs, measured by

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budgeting and completion of employment strategy actions in 2010, 2011 and 2012.

Improvements in investment climate: Simplified processes for business licensing, inspection, and regulation, measured by a reduction in percentage of firms indicating problems with business licensing and regulation from 47 percent to 37 percent by 2012; better access to finance, measured by reduction in percentage of firms indicating a problem in access to finance from 55 percent to 45 percent by 2012.

Strengthened labor market institutions, policies and regulations: Retaining labor market flexibility while protecting workers and providing assistance in finding jobs, measured by regular reporting of labor market indicators and maintaining labor taxes at current low levels.

Improvements in education policies: Quality assurance of higher education institutions, measured by accreditation reviews and subsequent actions on higher education institutions; higher quality and more relevant pre-university education, measured by establishing qualification framework and accreditation of vocational training institutions.

More comprehensive social protection program: Increased coverage of the poor through public works programs and increased benefits to cover minimum income support measured by social assistance benefits rising with inflation and at least 2000 beneficiaries in welfare-to-work programs by 2012.

Program Development The Program aims to support the Government of Kosovo in Objective(s) and Contribution to (i) maintaining a stable macroeconomic framework while CAS increasing the transparency, accountability, and management of public expenditures, and (ii) laying the institutional and legislative foundations Kosovo needs for sustainable employment and growth. This Program is the centerpiece of the Interim Strategy which was presented to the World Bank Board in February 2010.

Risks and Risk Mitigation There are significant risks associated with the implementation of the Program, including (i) medium-term macroeconomic instability, (ii) spillover effects of the global financial crisis, (iii) fragility of Kosovo’s governance and political structures, (iv) limited capacity in program implementation, (v) delays in implementation of pay and grading reform of core civil servants, and (vi) difficulties in maintaining a conducive framework for employment generation given political demands for increased benefits. Improved public financial management

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will help mitigate the macroeconomic risks including those related to the financial crisis as well as contribute to improving the overall governance of public policies. Limited implementation capacity will be strengthened through parallel technical assistance activities of the World Bank and other donors. The programmatic approach would allow for flexibility to adapt to potential implementation delays. The World Bank team is also working with the authorities to provide public information on why measures are being taken and on progress in achieving outcomes, which can help mitigate political demands for counterproductive measures.

Operation ID P112227

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IDA PROGRAM DOCUMENT FOR A

PROPOSED FIRST SUSTAINABLE EMPLOYMENT DEVELOPMENT POLICY OPERATION

REPUBLIC OF KOSOVO

I. INTRODUCTION

1. Kosovo today faces important challenges and risks as it moves forward with institution building in a post-conflict environment. Kosovo declared its independence on February 17, 2008, and, to date, has been recognized by less than a third of the world’s countries. The country faces substantial challenges similar to those experienced by other fragile states. Policymakers also have to balance the immediate demands and expectations coming from their constituencies with the need to maintain fiscal prudence and stability and to create a policy and institutional setting conducive to medium and long term growth. In addition, Kosovo is faced with the difficult task of building an inclusive development process that overcomes the ethnic divisions still prevalent in the post-conflict environment with the risk of tensions still high. The substantial, albeit evolving, international presence is reducing these risks with the NATO-led peace-keeping force, the International Civilian Office, the United Nations Interim Administration (UNMIK), and EULEX, the EU-led status-neutral mission, all having played – and continuing to play – important roles.

2. At the heart of Kosovo’s ability to achieve inclusive development and social stability lies the attainment of employment-generating economic growth. Today, only three out of ten Kosovans of working age are employed – by far the lowest employment rate in Europe. This is a result of extremely low levels of labor force participation at 53 percent of the working age population, the lowest in Europe, coupled with an extremely high rate of unemployment, estimated at about 45%. Employment creation will be the main factor in the reduction of poverty which affects over 40 percent of the population: World Bank staff analysis shows that a 10 percent reduction in the prevailing unemployment rate would be associated with a 6 percent reduction in poverty. As this suggests, bringing people into gainful employment is at the heart of Kosovo’s efforts to achieve social, political and economic stability and thereby achieve medium- and long-term development success.

3. Laying the foundation for employment generation in the medium-term will first and foremost require macroeconomic stability, which came under threat through fiscal loosening in 2009. Creating jobs through private-sector led growth will take time but the Government is now laying the foundations for such job creation to be possible in the future. Macroeconomic stability will be a necessary condition for sustained growth to materialize. With the Euro as currency and anchor, fiscal policy assumes a pivotal role for achieving macro-economic stability in Kosovo. Up until independence Kosovo had managed to achieve fiscal surpluses and accumulate a fiscal reserve equal to 12 percent of GDP. In 2009, however, consolidated public expenditures are estimated to have increased by 23 percent, reflecting both initial plans and additional spending decisions at mid-year. The increase in spending was largely concentrated in capital expenditures (by 26 percent), in unplanned energy subsidies (by 5 percent), and in public sector wage increases (by 19 percent). As a consequence, Kosovo’s primary balance turned from a balanced budget in 2008 to a deficit of 6 percent of GDP in 2009. A one-off dividend from the publicly-owned telecom company of 5.2 percent of GDP helped finance this deficit, with the remaining deficit financed by a drawdown in previously accumulated bank balances.

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4. Although the Parliament approved a sound budget for 2010 it was soon followed by the announcement of new spending initiatives. Specifically, in the first half of 2010 the authorities announced new policies that had a significant fiscal impact and increased the overall deficit. The largest, in terms of fiscal impact, was a contract to develop a highway to Albania which was signed in April and was estimated to cost at least 24 percent of 2010 GDP over the four year implementation period. Other initiatives such as expansion of war-related benefits, and pension increases, were also announced, but to be implemented as of 2011 or later.

5. To achieve fiscal stabilization, the authorities agreed on a Stand-By Arrangement with the IMF which was approved by the IMF Board on July 21, 2010. The 18-month Stand-By Arrangement (SBA) aims to restore fiscal stability through a mid-year budget review that will incorporate the new policy initiatives into the budget, identify financing sources and put spending caps on the 2011 budget to ensure medium-term fiscal stability.

6. The proposed programmatic Sustainable Employment Development Policy Program (SEDPP) would support the Government of Kosovo’s multi-year policy framework to strengthen fiscal management and create the foundations for generating sustainable employment. The proposed SEDPP would support the Government of Kosovo to (i) maintain a stable macroeconomic framework while increasing the transparency, accountability, and management of public expenditures, and (ii) lay the institutional and legislative foundations it needs for sustainable employment and growth. The first of three operations would support specific actions taken to strengthen fiscal management, improve the investment climate, and develop the institutions needed for an employment- generating growth process. The Business Environment and Enterprise Performance Survey from 2009 suggests a number of areas where businesses face significant obstacles, and the program will set the institutional foundations for tackling the elements which can be addressed through policy and institutional change. The second and third operations would support further actions to improve fiscal management as well as the implementation of both the public financial management action plan and employment strategy that have been developed over the past months. The Program forms the centerpiece of the IDA Interim Strategy Note which was presented to the World Bank Board in February 2010.

7. This First Sustainable Employment Development Policy Operation (SEDPO1) would support Government actions that have improved fiscal management and have laid the foundation for an employment-generating growth process. Among the actions supported by the proposed SEDPO1 are the (i) completion of the Public Expenditure and Financial Accountability (PEFA) self-assessment in 2009 and the adoption of an action plan to improve Kosovo’s Public Financial Management (PFM) system; (ii) the enactment of a new Civil Service Law which creates uniform pay and grading structures for the public services and represents a major step toward creating a firm basis for the exercise of management and fiscal controls; (iii) the completion and adoption of a cross-sectoral Employment Strategy, a first for Kosovo, and the translation of the financeable elements of the strategy into the 2010 budget; (iv) a number of actions that lay the foundation for spurring private investment into the country, including a new Leasing Law which will allow credit-constrained firms to gain access to machinery and equipment; (v) an accreditation review of the higher education institutions made by the Kosovo Accreditation Agency which will contribute to improve the quality of education and skills much needed for future private sector growth; and (vi) an increase in the budgeted funds for social assistance and pensions as a crisis mitigation measure.

8. At the Kosovo Donors’ Conference in 2008, the Government requested that increasing amounts of donor support be funneled through the budget after agreeing on broader budget priorities with its international partners, allowing donor support to strengthen the credibility and soundness of Kosovan institutions and encouraging donors to coalesce around the Government’s own priorities. The SEDPP is financed in large part as a grant from trust funds

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established in 2008 and 2009 for the sole purpose of assisting the Government of Kosovo through budget support plus some additional funding from the IDA Crisis Response Window. This would allow Kosovan policymakers to move away from the previous patchwork of donor-financed technical assistance. Donors agreed to coordinate and provide budget support which would support the building of institutions during this critical stage in a fragile environment. The trust funds stem from past IBRD surplus set aside to support Kosovo which served as seed money and to which eleven additional donors1 have pledged. The IBRD surplus was set aside to support the proposed program for Kosovo by a Bank Board decision taken on July 3, 2008 when Kosovo had not been a member of the Bank. An additional IDA allocation of USD 7 million (SDR 4.3 million) is available to Kosovo through the Crisis Response Window and is being added to SEDPO 1 as a Credit.

9. The Program would support core structural reforms in Kosovo but with substantial associated risks. There are substantial risks associated with the implementation of the Program as there would be in any postconflict, fragile state, including (i) the dangers of falling into macroeconomic instability, (ii) spillover effects of the global financial crisis, (iii) fragility of Kosovo’s governance and political structures as institutions of government are being developed, (iv) limited capacity in program implementation given the limited experience, (v) delays in implementation of pay and grading reform of core civil servants, and (vi) difficulties in maintaining a conducive framework for employment generation given political demands for increased benefits. Improved public financial management would help mitigate the macroeconomic risks, including those related to the financial crisis, as well as contribute to improving the overall governance of public policies. Limited implementation capacity will be strengthened through parallel technical assistance activities of the World Bank and other donors. The programmatic approach would allow for flexibility to adapt to implementation delays. IDA is also working with the authorities to provide public information on why measures are being taken and on progress in achieving outcomes, which can help mitigate political demands for counterproductive measures.

1 DFID has informed the World Bank that it will not be able to contribute to the Multi-Donor Trust Fund for SEDPP this financial year (to April 2011), but may be in a position to do so in subsequent years. Should its future contributions fail to materialize, the second and third disbursements for SEDPP will by necessity have to be reduced by up to 25%. At the time of Board submission, the EC has also not signed an Administration Agreement with IDA for its pledged contribution, although the Administration Agreement is expected to be completed shortly.

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II. COUNTRY CONTEXT

A. POLITICAL ENVIRONMENT

10. Since its declaration of independence on February 17, 2008, Kosovo has been recognized by 69 countries and became a member of the IMF and the World Bank Group in June 2009. Kosovo has also been granted the status of potential candidate by the status-neutral European Union (EU). A more detailed discussion of the political environment can be found in the Interim Strategy Note presented to the Bank Board on February 4, 2010.2 On July 23, 2010, the International Court of Justice in The Hague found that Kosovo’s 2008 declaration of independence had not violated international law.

11. In the longer-term, Kosovo is looking to deepen its integration with the EU and an agreed mechanism for monitoring progress towards this goal has already been established. While the mechanism to advance toward integration for most Western Balkan countries is the EU’s Stabilization and Association Process (SAP), a parallel mechanism -- the SAP Tracking Mechanism (STM), established in 2002 – has been created for Kosovo, taking into account its disputed status. Between 2002 and 2006, progress towards integration was monitored regularly via an annual report. In 2006, Kosovo adopted a European Partnership Action Plan designed to meet the requirements of the STM and which has also been updated annually. At the end of 2009, the European Commission published a strategy proposal that defined in more detail the future relationship between the EU and Kosovo. The Commission's proposals are due to progress in the area of visas, trade, institutional and policy dialogue, including macro-economic dialogue and the use of financial assistance. The EU’s General Affairs and External Relations Council of December 2010 supported the proposal of the Commission. The STM has been upgraded to the Stabilization and Association Process dialogue (SAP dialogue) implemented as from early 2010.

B. RECENT ECONOMIC DEVELOPMENTS IN KOSOVO

12. Kosovo’s economic growth has been solid since the end of the conflict. Gross domestic product (GDP) growth was double-digit in 2000-2001, reflecting the massive donor-funded reconstruction effort after the end of the conflict in 1999. Growth afterwards was moderate, and driven by continued donor financing, remittances, and a recovery in economic activity. Between 2005 and 2007, growth averaged around 4 percent and was driven by a strong rise in investment and consumption; exports also rose rapidly but from a very low starting base of 5 percent of GDP, so their contribution was more modest.

13. The global economic crisis caused growth to slow down. Growth peaked at 5.5 percent in 2008, just before the spill-over effects of the global crisis began to be felt in the region. In 2009, Kosovo suffered declines in exports, foreign investment and remittances as a result of the global crisis, although the overall impact of the crisis has been less striking than elsewhere in the region due to the limited international integration of Kosovo’s economy. Exports fell by about 20 percent year-on-year, mostly due to a decline in metal prices. Foreign investment flows fell by over 20%, and remittances, the single largest inflow category in the balance of payments, declined by about 10 percent. Output

2 Kosovo Interim Strategy Note, Report No. 49872-XK, December 28, 2009.

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growth slowed moderately to about 4 percent due to the expansionary fiscal policy: public spending rose by 5.6 percentage points in 2009, reaching 30.3 percent of GDP.

14. The spill-over effects on Kosovo’s banking sector were very limited even though local banks are largely foreign-owned. The difficulties of foreign parent banks have not impacted local banking as the local market mostly relies on domestic financing. The impact on the banking sector has also been contained by measures of the central bank to prevent a more substantial transfer of funds from local to parent banks and to ensure that the loan to deposit ratio is kept at a prudent level. However, the reduced external and domestic demand has led to a slight increase in non-performing loans, which could lead to a further constraint in access to finance.

15. Macroeconomic, in particular external, imbalances persist and pose risks to medium- term macroeconomic stability. The use of the euro as legal tender, combined with generally conservative fiscal policy up to 2008, helped keep inflation in check. In fact, inflation has been largely driven by import price developments, and following the spike in 2008 due to rising food and metal prices, it became negative in 2009. In the medium term, the IMF expects inflation to be moderate, between 1.7 and 3.2 percent. External imbalances have not shown signs of improvement: the current account deficit (CAD) reached 25 percent of GDP in 2009 according to the IMF. Official transfers remain high, at about 6.4 percent of GDP in 2009.3 At the same time, a significant part of external financial flows is not captured as balance of payments statistics remain weak. The “Errors and Omissions” category has remained high over the past years, and was about 7 percent of GDP in 2009; these unidentified inflows covered 37% of the 2009 CAD.

16. Fiscal policy loosened in 2009 and 2010. Kosovo achieved early successes in fiscal policy, including reforms in tax policy and administration and the introduction of new taxes and collection methods that contributed to a fivefold increase in domestic revenues between 2000 and 2004. However, deficiencies in fiscal policy and planning have become apparent in recent years. Unrealistic planning and budget adjustments led to a primary surplus of 7 percent of GDP in 2007. The subsequent easing of the government’s cash position led the government to shift towards an expansionary stance and the budget moved to a balance in 2008 and close to 6 percent of GDP deficit in 2009 (not counting the one-off dividend of 5 percent of GDP from the telecom company).

17. The worsening fiscal situation in 2009 was largely due to primary expenditure increases for capital projects, subsidies to the energy company and a rise in public wages. Primary expenditure rose by almost more than half in nominal terms between 2007 and 2009, while tax revenue increased only marginally in terms of share to GDP. Capital expenditure and lending to Publicly Owned Enterprises (POEs), such as the energy company, accounted for the bulk of the increase. Capital expenditure rose from about € 150 million in 2007 to some € 400 million in 2009 as shown in Table 1. Budgeted capital expenditures in the 2009 mid-year budget review were actually much higher (€ 470 mil.). Subsidies and transfers have also increased significantly, primarily to cover the financing gap of the publicly-owned energy company, Korporota Energjetike Kosoves (KEK). Wage expenditures rose from 5.9 percent of GDP in 2008 to 7 percent of GDP in 2009 due to the increase in wages of public workers in early 2009. These expenditures were partly in response to constituent demand in the run-up to the 2009 municipal elections.

18. The fiscal expansion in 2009 has revealed a number of structural weaknesses of Kosovo’s budget process. The fiscal deterioration in 2009 is partly due to lack of clarity on policy priorities and loose management of expenditures. Overall budget ceilings were not always respected and the Kosovo

3 While official transfers have been high, most have been provided outside of the Government’s own budget process.

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authorities did not adopt a budget rectification in line with new realities. In the mid-year budget review of 2009, the government added € 108 million on top of its initial budget even though execution capacity had remained weak. Also, several legislative initiatives had been submitted to parliament without proper costing of their fiscal impact.

Table 1 : Kosovo Consolidated Government Budget, 2007-10 (percent of GDP)

2007 2008 2009 2010 Actual Proj. Total revenue 26.3 24.5 29.7 28.9 Taxes 21.0 20.9 21.1 21.6 Nontax revenue 5.4 3.6 8.5 5.2 of which: PTK dividend 0.0 0.0 5.2 0.0 Grants 0.0 0.0 0.1 2.0

Primary expenditure 19.2 24.7 30.3 32.0 Current expenditure 16.4 17.0 18.6 18.7 Wages and salaries 6.1 5.9 6.8 7.6 Goods and services 4.3 4.1 4.5 4.6 Subsidies and transfers 6.0 7.0 7.3 6.2 Reserve 0.0 0.0 0.0 0.3 Capital expenditure 3.0 7.3 9.7 11.8 of which: highway 0.0 0.0 0.0 3.2 Net lending ‐0.2 0.2 2.0 1.5

Interest payments 0.0 0.0 0.2 0.2

Source: National authorities and IMF

19. The fiscal expansion in 2009 was financed by one-off revenue sources which will not be available on a sustained basis. The 6 percent primary deficit was financed with an extraordinary dividend of 5.2 percent of GDP from the publicly-owned telecom company (from accumulated profits over the last several years). The remaining deficit was financed from drawing down the cash account reserve, which is expected to have been reduced to about € 450 million (still a comfortable level). The government expected to receive budget support in 2009 which would have contributed to deficit financing but this did not materialize due to slower than expected progress in the discussions with the IMF on a program (a precondition for disbursement of funds from the European Commission).

20. The sustainability of fiscal balances continued to weaken in 2010. In December 2009, the Parliament of Kosovo approved the 2010 budget which was endorsed by the IMF and signaled a move towards fiscal stabilization. However, the budget process was undermined soon after the adoption of the budget as the Government introduced several new policy initiatives which had not been included in the budget, the biggest one being a highway project to Albania. Other initiatives, such as expansion of war-related benefits and further increases in pensions were announced but with a delay in implementation until 2011 or later. These policy initiatives were also not included in the Medium-term Expenditure Framework 2011-13 which was endorsed by the Government in April 2010.

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21. The biggest risk to the fiscal position and medium-term fiscal sustainability came from the highway project. In April 2010, the Government signed a contract to construct a highway to the border with Albania, which the World Bank estimates to cost at least 24 percent of 2010 GDP over the four year implementation period. During the preparation of the project the World Bank advised the Kosovan authorities to introduce a transparent and open bidding approach in the contracting as well as to design the project in line with expected traffic and budget limitations. However, not all of these recommendations, which could have reduced the overall cost, were incorporated. The World Bank also raised the issue of critical policy, legal and institutional frameworks that needed to be put in place to address potential adverse environment and human impacts that could arise during the construction and use of the motorway. These suggestions are currently being considered by the Government. Nevertheless, the authorities have reconciled the highway project within the macroeconomic framework agreed with the IMF. The estimated cost of the project was revised upwards based on the recommendations of the World Bank team; however, there is a considerable risk of further cost escalation. To finance this expensive project, the authorities have agreed to constrain other expenditures and to expand revenues in order to maintain fiscal stability.

C. MACROECONOMIC OUTLOOK AND DEBT SUSTAINABILITY

22. Growth is expected to be moderate in the near term. The IMF projects GDP growth to increase to 4.6 percent in 2010 and accelerate further in 2011 and 2012 (Table 2). The acceleration of growth is expected to come from the continued fiscal expansion as a result of the highway project, as well as from a recovery in remittances and rising exports. Preliminary data for the first few months of 2010 show that both exports and remittances have picked up following the decline in 2009. Inflation is expected to increase owing to higher import prices and increases in excise taxes, but to remain moderate (below 3.5 percent). The CAD will remain high, partly given the large import content of the highway construction.

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Table 2: Selected Macroeconomic Indicators

2007 2008 2009 2010 2011 2012 2013 2014 2015 Est. Est. Proj. Proj. Proj. Proj. Proj. Proj.

Real growth rates (percent) GDP 4.0 5.4 4.0 4.6 5.9 5.2 4.9 3.7 4.4 GDP per capita 2.7 3.8 2.5 3.0 4.3 3.7 3.3 2.2 2.9 Consumption 6.1 3.7 2.5 3.1 2.7 2.9 3.0 3.0 2.5 Investment 3.9 15.5 13.1 14.9 12.7 8.9 5.2 0.8 6.6 Exports 11.7 4.2 -1.8 16.0 11.6 11.3 12.1 14.1 13.0 Imports 11.8 6.0 3.5 10.8 5.1 4.8 3.8 4.4 5.8

Price changes (percent) CPI, period average 4.4 9.4 -2.4 1.7 3.2 2.2 1.9 1.7 1.7 CPI, end of period 10.5 0.5 0.1 3.1 2.4 2.1 1.8 1.7 1.7 GDP deflator 5.2 7.0 -3.4 1.7 2.9 1.9 1.4 1.1 1.1

General government budget (percent of GDP) Revenues 1/ 26.3 24.5 29.7 28.9 27.5 27.9 26.5 26.8 27.1 Primary expenditures 19.2 24.7 30.3 32.0 32.8 31.7 30.8 28.7 28.6 Of which Capital and net lending (including the highway) 2.8 7.6 11.7 13.3 14.3 13.2 12.2 9.8 9.5 Capital expenditures on the highway 2/ … … … 3.2 6.1 6.2 5.3 0.6 0.0 Overall balance 7.1 -0.2 -0.8 -3.4 -5.5 -4.0 -4.6 -2.4 -2.0 Overall balance, excluding the highway 7.1 -0.2 -0.8 -0.2 0.6 2.2 0.8 -1.8 -2.0 Debt financing, net … 0.0 -0.2 -0.2 -0.1 2.0 3.4 1.1 1.1 Privatization 0.0 0.0 0.0 0.0 6.7 0.2 0.2 0.4 0.4 Stock of government bank balances 3/ 11.6 10.8 8.8 5.9 7.9 6.4 6.7 7.0 7.4 Financing gap 0.0 0.0 0.0 1.0 1.4 1.0 1.6 1.5 1.4

Savings-investment balances (percent of GDP) 4/ Domestic savings -12.6 -12.6 -10.5 -9.5 -7.0 -5.9 -4.5 -4.5 -3.3 Transfers excluding general government (net) 14.6 13.9 12.8 13.0 13.1 13.2 13.3 13.2 13.2 Net factor income 6.4 4.1 2.4 2.8 2.9 3.4 3.8 3.8 3.9 National savings 8.4 5.4 4.8 6.3 8.9 10.6 12.5 12.5 13.9 Investment 26.0 28.9 29.8 32.5 33.3 32.9 32.0 29.8 29.4 Current account -17.6 -23.4 -25.0 -26.2 -24.4 -22.3 -19.5 -17.3 -15.6

Current account balance (incl. official transfers) -8.8 -16.0 -18.6 -18.5 -18.2 -17.1 -15.8 -13.4 -11.5 Of which : official transfers 1/5/ 8.77.56.47.76.25.23.63.94.0 Net foreign direct investment 12.6 8.9 7.8 8.5 15.6 8.3 8.8 10.3 10.9 Portfolio investment (net) -1.2 1.7 -1.0 -0.6 -1.4 -1.5 -1.5 -1.5 -1.5

Memorandum items: GDP (thousands of euros) 3,411 3,849 3,868 4,113 4,480 4,803 5,110 5,356 5,652 GDP per capita (euros) 1,605 1,784 1,766 1,850 1,985 2,097 2,198 2,270 2,360 GNDI per capita (euros) 1,942 2,105 2,036 2,143 2,303 2,445 2,574 2,657 2,764 Population (thousands) 2,126 2,158 2,190 2,223 2,256 2,290 2,325 2,360 2,395

Sources: Kosovo authorities; and IMF staff estimates. 1/ Assumes budget grants of € 75 million per year in 2010–12. 2/ World Bank estimates. 3/ Starting in 2010, minimum bank balance recommended by staff. 4/ Savings-investment balance of entire economy, including donor sector. 5/ Total foreign assistance excluding capital transfers.

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23. The Government has prepared the 2010 Mid-year Budget Review (MYBR). The MYBR, prepared in accordance with the agreement reached with the IMF, incorporates the new policy initiatives which the Government has decided to implement. These included the highway project, and the increase in war-related invalid pensions. Increases in pensions and expansion of other war-related benefits are planned to be implemented from 2011 onwards. The MYBR aims to limit the impact of these initiatives on the deficit through a fiscal adjustment of 0.6 percent of GDP (excluding the highway). The adjustment will involve both expenditure constraint and revenue measures, i.e. increases in excise taxes on most excise goods. The overall deficit including the highway project is expected to reach 3.4 percent of GDP, and is expected to be financed from the SBA disbursements, bank reserves held by the Government, and donor grants from this operation and from the European Commission.

24. The 18-month SBA puts continued restraint on spending in 2011. The program will require a lower share of current spending in GDP and a further restraint on non-highway capital expenditures. The highway expenditures are expected to be covered by privatization receipts from the telecom company which the Government expects to receive by the first half of 2011. No additional borrowing beyond what is included in the proposed SEDPP program is envisaged for 2010 and 2011, and bank balances are to be maintained at above 6 percent of GDP to safeguard financial sector stability.

25. The SBA not only minimizes some of the fiscal risks, but also involves structural reforms in several areas. On fiscal policy, the SBA calls for reforms to broaden the tax base and improve public financial management. It also aims to reduce fiscal risks by shoring up the financial position of the electricity company, KEK. Finally, the program seeks strengthening of the financial system by bringing the Central Bank Law up to international standards as well as by making improvements to the banking law.

26. Reforms of the energy sector will be the single biggest determinant of the macroeconomic outlook in the medium to long-term. The sector continues to be a major drain on budgetary resources, incurring fiscal costs of at least 3.5 percent of GDP in 2009 (€ 45 million were allocated to cover capital and operating costs in the energy sector, in addition to a loan of € 100 million to KEK which had not been fully disbursed). The World Bank Group, together with other donors, has been working with the Government to address these energy sector issues. The success of fiscal adjustment will hinge on KEK’s reducing technical and commercial losses, improving revenue collection, and allowing the regulator to approve cost-recovery tariffs. These activities will require governance changes in KEK, and commitments to control electricity theft and enforce bill collection through better policing and expeditious court trials. Improving KEK’s operational and financial performance is particularly important as fiscal resources have been substantially strained with the signing of the highway contract. The delay of reforms and investment could have severe repercussions for economic activity and for the budget.

27. Kosovo had no public debt when it declared independence, but subsequently took responsibility for an outstanding Federal Republic of Yugoslavia IBRD loan in the amount of EUR 381.2 million. Kosovo began servicing this debt in September 2009. A multi-donor debt relief trust fund managed by the World Bank has received contributions from the U.S. and the EU in the amounts of USD 125 million and EUR 5 million respectively. In October 2009, the Government of Kosovo prepaid one third of the outstanding IBRD loan using fully the funds available in the trust fund, as well as additional resources from the budget which had been escrowed for debt service. This has reduced the debt stock to 6.4 percent of GDP. An additional contribution of USD 25.7 million has

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been received from the US and the Swiss, which would cover the debt service obligation in September 2010 and March 2011. Kosovo may also face other liabilities from debt undertaken by the former Yugoslavia as the other descendant states have, but discussions on this topic with potential creditors, including the Paris and London Clubs, have not yet begun.

28. Despite the relatively low debt stock (6.4% of GDP), Kosovo’s risk of debt distress is moderate. A Debt Sustainability Analysis (DSA) for Kosovo was approved by the World Bank and the IMF managements in December 2009, which was then updated by the IMF in the preparation of the SBA. The DSA, which takes into consideration the potential additional liabilities arising from the former Yugoslav debt, concludes that all debt indicators remain on a sustainable path, over the next two decades, in the baseline fiscal and external scenarios. However, fiscal and external sustainability is subject to prominent risks, which justifies a “moderate risk” classification. The public debt trajectory becomes unsustainable in the case of a seemingly moderate but permanent increase in the primary deficit. For example, a primary deficit of 2.5 percent of GDP over the DSA projection period would put debt on an unsustainable path. This finding underscores the need for devising an effective fiscal anchor that is consistent with a medium-term macro framework. Moreover, Kosovo’s narrow export base, and high dependence on remittances, magnifies the impact of external shocks. Debt-service to export ratios are expected to be in the 15% range and rising until 2012. This underlines the importance of far reaching structural reforms to improve competitiveness and enhance export sector performance.

29. The uncertainties related to the debt stock, the external vulnerabilities and the limitations to monetary policy call for prudent macroeconomic policies. Servicing the above- mentioned contingent liabilities would also put additional pressure on the budget, when resources are already limited. The Government has limited recourse to borrowing and cannot print money in order to cover any short term liquidity shortfalls (though the public debt law which was adopted in January 2010 would enable the government and municipalities to issue securities). A possible slowdown in foreign aid or remittances could quickly weaken imports which would reduce government revenues through customs revenue (which accounts for almost two thirds of total tax revenues) and require the Government to draw down its accumulated bank balances. Should there be liquidity shortages in the banking sector; the economy also has no lender of last resort, again suggesting caution. Finally, following the privatization of the telecom company, the Government will have no other sources for substantial one-off revenues (the privatization of KEK Distribution is not expected to bring substantial revenue given the poor financial position of the company).

30. On balance, the World Bank finds that the macroeconomic framework in Kosovo is adequate for the proposed budget support operation. The country is, however, in need of budget financing on a grant basis, including from IDA. If the authorities stay on track with the fiscal planning agreed with the IMF, the macroeconomic outlook is positive. Lack of progress on structural reforms contains significant risks. This operation would support the authorities in continuing several structural reforms, including those in public financial management.

D. PUBLIC FINANCIAL MANAGEMENT

31. At the core of the reform agenda for Kosovo are measures to improve public financial management which would contribute significantly to macro stability, growth, and employment creation. The increase in fiscal expenditure in 2009 was directly linked to a large expansion in the capital budget, unrealistically low assumptions about the need for subsidies to the energy company, and an increase in public sector wages. Given that the only tool available to the authorities to maintain macroeconomic stability is fiscal policy, it is crucial that public finances are well managed. While the foundations for an effective public financial management system are now in place, the remaining reform agenda includes: (i) strengthening medium-term fiscal and budgetary planning, (ii) improving

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public procurement processes, and (iii) significantly strengthening payroll management, all of which have added to the fiscal loosening experienced in 2009.

32. In recent years, Kosovo has made some progress toward establishing a functioning public financial management system, but still faces significant challenges. The current government institutions of Kosovo started out as the Provisional Institutions of Self-Government in 2002 and progressively assumed key public financial management (PFM) functions transferred from UNMIK following the adoption of the UN Standards for Kosovo in late 2003. However, many of Kosovo’s governmental Figure 1: Summary of Kosovo scores in key PEFA indicators, 2007 organizations are still at an and 2009 early stage of institutional development, under- resourced, and often dependent on foreign Legislative scrutiny of external audit reports expertise and guidance. Legislative scrutiny of the annual budget law Strengthening the PFM Scope, nature and follow‐up of external audit system will be crucial for Effectiveness of internal controls for non‐salary expenditure the Government to manage Competition, value for money and controls in procurement its fiscal policy in a Effectiveness of payroll controls prudent manner which is Multi‐year perspective in planning and budget Orderliness and participation in budgeting necessary for access to Public access to fiscal information budget support from the Fiscal risk from other public entities international community, Budget information comprehensiveness progress toward the Aggregate expenditure out‐turn strategic goal of integration with the 01234567

European Union, and in 2009 2007 the longer run, to secure access to debt financing. *Note: Scale ranges from 1 to 7 (where 7 represents the maximum score or ‘A’ and 1 represents the minimum score or ‘D’) Source: PEFA (2007; 2009) 33. While substantial improvements have occurred in several areas between 2007 and 2009, realistic multi-year perspective planning and the effectiveness of payroll controls are the remaining two key reform areas. Figure 2 shows the results of the PEFA Assessment for 2007 and 2009, showing improvement in most indicators, but declines in the orderliness of the budgeting process and public access to fiscal information. In both effectiveness of payroll controls and the multi-year perspective in planning and budget, the Government had scored D+ in 2007. While the 2009 score for multi-year budgeting increased to a C, effective payroll controls remained at a D+. In most other areas, there has been substantial improvement as shown in Figure 1.

Budget Preparation and Execution

34. Despite recent improvements, medium-term fiscal and budgetary planning remains the core development area for the PFM system in Kosovo. While the Law on Public Financial Management and Accountability refers to a three-year budget perspective, the fiscal perspective has de facto been annual, as the preparation of the Medium-Term Expenditure Framework (MTEF) and the annual budget process has not been adequately coordinated, while sectoral strategies are not always adequately costed and reflected in the MTEF. Recent efforts to improve the credibility of fiscal projections and the synchronization of the MTEF and annual budget processes seem to be gradually bringing results in terms of a better coordinated budget preparation process. However, new expenditures (e.g. pay increases for health workers) have been awarded without relevant provision in

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the MTEF and – in some cases – outside the budget process altogether. Under-execution remains an issue, partly as a result of over-budgeting, especially for capital investments. As a result, the PFM Reform Action Plan focuses on continued efforts to establish a rolling multi-year budget process that integrates strategic and investment planning and minimizes deviations from budget appropriations during budget execution.

35. In the procurement area, the 2007 legislation on public procurement provides the basic infrastructure, but the lack of institutional capacity in the contracting agencies, limited instruments for monitoring and evaluation, and alleged instances of political interference often compromise the implementation of the law. Improvement can also be noted with regard to transparency of public procurement (e.g. publication of procurement notices on the Internet) and accountability (annual report by the Public Procurement Regulatory Commission with data on all public procurement processes submitted to the Assembly; independent Public Procurement Review Body established). The remaining challenge is to ensure adequate implementation of the current legal framework by building institutional capacity of the contracting authorities, addressing price deviations, and promoting private sector participation in public tenders.

Strengthening wage bill management

36. The second most important reform area to improve fiscal management rests with strengthening wage bill management. The absence of clear pay and grading structures means that there are no criteria for checking payroll data against personnel data, which, in turn, provides opportunities for arbitrary behavior by the leadership of various budget organizations and undermines the effective exercise of central fiscal and management controls. Despite improvements to the payroll database (e.g. unique employee ID), which have all but eliminated inaccuracies such as double positions by civil servants and other public employees, and the Treasury’s efforts to enforce wage bill ceilings on budgetary organizations, additional actions will be necessary to achieve efficient and transparent payroll management. Reported instances of irregular use of other budget lines to top up salaries of selected officials also undermine sound payroll management. The adoption of clear pay and grading structures for the core civil service, as legislated in the recently enacted civil service reform law, and other categories of public employees (e.g. teachers, health workers) will be a major step toward creating a firm basis for the exercise of management and fiscal controls. The purpose of the pay and grading reform is also to address the pay discrepancies, lack of career opportunities, and vulnerability to politically motivated hiring and firing that undermine morale and performance in the core civil service. Likewise, improvements in information technology systems, notably the establishment of a real-time data exchange interface between the payroll and Treasury systems would also facilitate the exercise of effective payroll controls. The weaknesses in both areas should be viewed in the context of overall weak governance rather than as purely technical features of the PFM system.

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E. SUSTAINABLE EMPLOYMENT

37. A very low employment Figure 2: Kosovo’s unemployment remains very high rate presents the largest social and economic challenge, given negative consequences for social cohesion and stability. Kosovo Unemployment rate faces a major social problem with 60 the lowest employment rate (29 57.1 55 50 49.7 percent) and the highest 44.9 43.6 40 39.7 41.4 unemployment rate (45 percent in 30 2008) in Europe. Furthermore, 20 female employment rates are 10 dramatically worse than male, 0 with female employment at only 2001 2002 2003 2004 2005 2006 2007 11 percent of the working age population based on 2008 labor force surveys, compared with 38 percent of working age males being employed.

Table 3: Employment Rate in Kosovo is Less than Half that in EU

Age Group 15-64 Employment Rate Unemployment Rate Labor Force Participation 2003 25.3 52.3 53.0 2004 28.6 39.6 47.4 2005 28.8 41.5 49.3 2006 29.0 44.6 52.3 2007 26.8 44.4 42.9 2008 24.4 47.7 42.5

Source: LFS Surveys

38. Poverty in Kosovo is widespread, at 45 percent or higher, and has not shown significant signs of decline over a decade. While the growth rate in Kosovo was positive in the years before the economic crisis, it did not lead to poverty reduction, with poverty increasing in rural areas, where more than 60% of the population lives. In urban areas, which have benefited the most from donor-financed growth, poverty decreased in the period from 2003 to 2006. However, preliminary results from the 2009 Household Budget Survey (HBS) indicate that urban poverty also increased in the aftermath of the crisis, and estimate that the national poverty rate has risen to 49 percent. According to the 2009 HBS, about 22 percent of the population is estimated to be extremely poor, unable to meet basic nutritional requirements. An additional 17 percent of the population is considered vulnerable to falling into poverty were a 25 percent reduction in income to occur. But poverty is relatively shallow such that a 25 percent increase in income could reduce the poverty rate by approximately one-third.

39. Growth rates achieved so far have been insufficient to raise employment or reduce poverty. The 2007 Poverty Assessment suggested that Kosovo would need to experience at least 6% annual growth in real income in order to make inroads against unemployment and poverty. The

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financial crisis resulted in a drop in growth from the Figure 3: Poverty Rates Are High in Kosovo previous 5.4% to 4%, despite increases in and Showing Little Sign of Decline government spending, resulting in a potential rise in poverty from its already high level of 49%. Even 50 the previous growth, which was largely donor- financed, had been insufficient to reduce poverty. 45 40 40. Poverty is closely related to employment status. Households with an unemployed head of 35 household have poverty rates around 57 percent 30 while those where the household head is employed 25 Absolute with a salary have much lower, but still substantial, poverty rates of 37 percent, according to the 20 Extreme preliminary results from HBS 2009. Furthermore, 15 poverty rates are also high for per diem (temporary) 10 workers at 65 percent, suggesting that in Kosovo, it is not strictly the quantity of jobs which is a poverty 5 correlate, but also the quality of jobs. Figure 4 0 shows the substantially higher poverty rate for the 2003/04 2005/06 unemployed and per diem workers. The World

Bank’s Kosovo Poverty Assessment assessed that a 10 percent reduction in the prevailing Source: Kosovo Poverty Assessment, 2007 unemployment in the population would be associated with a 6 percentage point reduction in poverty. However, the same Report also put the needed growth rate to create jobs that would reduce the unemployment rate by half over a period of 10 years at about 6 percent.

41. Unlike elsewhere in Figure 4: Poverty Rates for Unemployed and Per Diem Europe, Kosovo has a young and Workers are substantially higher than for the Employed growing population, generating a significant increase of new entrants to the labor market 70 annually. Labor force surveys 60 estimate that 20% of the total 50 population in Kosovo consists of 40 individuals aged 15 to 24, 30 compared to roughly 14% in other 20 European countries and that 10 roughly 200,000 people will reach 0 working age in the next 5 years. Youth unemployment is particularly severe with more than 70% unemployed as shown in Table 4. Almost half of these, 44%, have been unemployed for over a year and face the additional difficulties of the long term Source: Household Budget Survey, 2009. unemployed. Many of those who do work do so without employment contracts and in the informal market. This large pool of unemployed youth undermines social cohesion and risks destabilizing an already fragile state.

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Table 4: More than 7 of every 10 youth are unemployed

Age Group 15-24 Employment Rate as Unemployment Rate Labor Force % of working age as % of Labor Force Participation as % of population working age pop 2003 10.7 76.6 45.7 2004 12.7 63.9 35.0 2005 10.6 70.9 46.4 2006 11.5 75.5 2007 8.6 71.5 27.9 2008 7.7 73.9 27.4

Source: LFS surveys

42. Kosovo’s labor market suffers from all the typical transition issues, made substantially worse as a result of events during the conflict years which substantially curtailed education and training opportunities for many youth. The typical transition issues include unemployment arising from the dismantling of overstaffed state owned enterprises, an economy-wide shift to different sectors as countries find their new comparative advantage and workers with inappropriate skills for the new sectors in the economy. Kosovo suffers from all of these, but also faces specific issues related to its history. In the late 1980’s and early 1990's as a result of policies of the Milosevic regime, many ethnic Albanians lost their formal sector jobs. Albanian children were removed from the school system, forcing the Albanian population to set up a parallel education system for their children. Technical and vocational education was at a particular disadvantage since it had to take place in improvised classrooms and houses and on a theoretical basis rather than with practical training. In addition, all the industrial linkages with Serbia ended during the conflict. As a result, a large percentage of the population has been out of the formal labor force for 20 years; the skill set of those in the labor market and those entering the market is mixed, given the uneven quality of the parallel education system; and the conflict severed trade ties with the closest neighbors, throwing the economic system into a standstill.

43. The generation of stable employment through sustainable growth, coupled with effective social and pro-employment policies, will require a sustained and longer-run, multi-sectoral effort in institution building and effective policy reform. Given that it is critically important for the economy to generate more and better jobs, the Government has turned to the MILES framework which identifies the following five elements as key to job creation: (i) Macroeconomic stability, (ii) Investment climate, (iii) Labor market policies, institutions, and regulations, (iv) Education, skills, and training, and (v) Social protection policies which provide a safety net but encourage rather than impede a return to the labor market. It is important to emphasize that these elements lay a foundation for increasing employment in the medium term and long term, but are unlikely to have an immediate short-run impact on employment. The Government will have to rely on providing a better safety net for the working age population in the short run, but in a way that will encourage job search and entry into the labor force as jobs become available. The importance of macroeconomic stability and fiscal prudence, in particular, for growth and employment have already been discussed above. The other elements of the MILES framework are discussed below.

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Improving the investment climate

44. Besides trust in a stable political and economic institutional environment, raising investment levels in the longer run requires a favorable investment climate. Significant progress has been made in Kosovo in putting in place the basic legal framework and institutional structures necessary for a market-oriented economy. Most of the required commercial legislation has been enacted, including laws on companies, bankruptcy, pledges, real property rights, foreign investment, accounting, and mortgages. Simultaneously, substantial international assistance has been provided to the relevant institutions to administer and enforce the laws. Moreover, on a number of business climate indicators, Kosovo seems to be positioned well vis-à-vis its neighbors. For instance, labor markets are relatively flexible with few constraints imposed on businesses to expand or replace their workforce; the trade regime is open and liberal and the banking sector is relatively dynamic-- following the entry of foreign banks and gradually rising depositors’ confidence.

45. The recently completed 2009 Business Environment and Enterprise Performance Survey (BEEPS) highlights the importance of transparent and predictable governance in a post-conflict environment. In addition to the lack of reliable infrastructure, particularly inadequate power supply, the two most common constraints reported by firms are related to the rule of law (Figure 5). The skills and education of workers ranks fourth, with access to financing, unpredictability of the courts, and access to land all highly ranked together with the infrastructure issues of telecommunications and transport. A constantly evolving legal environment is a by-product of transition. This type of uncertainty affects future investment and employment decisions of firms, as investors cannot assess risks and calculate the cost-benefit ratios of possible investments with any degree of confidence. The high degree of regulatory policy uncertainty, complexity and non-transparency also results from the fact that municipalities in Kosovo are responsible for establishing the overall enterprise regulatory regime. This includes development and enforcement of enterprise regulations such as licensing, permits and inspections. This arrangement is based on UNMIK regulations and has been further reinvigorated by the Status Settlement Proposal (Ahtisaari’s package) which gives municipalities broad powers to regulate economic activity within their jurisdiction.

46. This year, Kosovo has also been included in the Doing Business report, ranking 113th out of 183 countries overall. The report highlighted some of the same areas as BEEPS, but also emphasized Kosovo’s problems in dealing with the post-registration phase of starting a business, which includes operational licensing and a variety of permits (ranking 164th), construction permits (176th), and contract enforcement (157th).

47. Business regulatory regimes differ throughout Kosovo, with different functions being spread across various levels of government, making it difficult for businesses to comply. In many cases, regulations are vague, poorly enforced, do not define service delivery standards for administrative bodies, and involve multiple offices or directorates within a given municipality. Central authorities handle some regulatory functions for the enterprise sector, such as industry-specific licensing, business and tax registrations, with little coordination at both central and municipal levels.

48. Property right problems are a direct consequence of the 1999 conflict. A large proportion of land has been locked in state-owned enterprises (SOEs) and public owned enterprises (POEs) with little clarity regarding the rights of new owners to real estate when SOEs are liquidated. Many original land tenure documents were moved to Serbia during the 1999 conflict and have not been returned. As a result, only a fraction of land is currently registered in the Immovable Property Registration System (IPRR) which does not cover registration of apartments, and a substantial portion of real estate registration is out of date. Uncertainty about land use rights particularly affects foreign investors who suffer informational disadvantage in comparison with domestic investors.

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Figure 5: BEEPS survey shows significant problems businesses face in a number of areas

Source: Business Environment and Enterprise Survey

49. With regards to access to finance, reforms of the Central Bank of Kosovo are ongoing which would strengthen much needed access to finance by the private sector. A Financial Sector Fiduciary Assessment conducted in May 2006 highlighted weaknesses in the Central Bank of Kosovo (CBK), many of which have been remedied, particularly with regards to the banking sector. The CBK amended regulations in line with international best practices and encouraged the consolidation of the banking sector. This led to increased foreign participation in the sector and the liquidation of one loss- making bank. But further reforms will be needed in establishing the CBK as a lender of last resort, assuring the autonomy of the CBK, and laying the groundwork for a more diverse financial sector with non-bank financial institutions. Improving access to finance will be especially important for supporting growth of small-and medium sized enterprises which will be core to creating employment in the years to come (see Box 1). Laws to address some of these weaknesses are currently being drafted.

50. Investment promotion will be an important complement to regulatory and policy reform. A regional investors’ survey4 has recently been conducted and found that the perception of Kosovo among potential investors who did not invest in the country but invested elsewhere in the Southeast Europe region is much worse than the perception of those who actually invested in Kosovo. This underlines the importance of combining the two crucial actions of regulatory reform and active investment promotion and outreach.

4 World Bank, “Kosovo: Unlocking Growth Potential: Strategies, Policies, Actions,” Country Economic Memorandum, April 2010.

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Box 1: Industry Structure in Kosovo

The enterprise sector in Kosovo is dominated by Size of Firms Providing Employment to microenterprises which comprise 98% of registered Those Who are Employed businesses. Most firms are organized as sole proprietorships or partnerships, employing less than five workers. In terms of sector distribution, of the 1‐10 employees over 65,000 firms registered, about 60% are engaged in trade, hotels and restaurants, 10% in manufacturing, 25% and 2% in agriculture. The rest are in construction and 11‐19 services. As the accompanying figure shows, of those employed, more than half are working in enterprises 51% 13% 20‐49 employing less than 10 people. Improving the investment climate for small firms will hence be 11% important for employment generation. 50 or more

Source: World Bank, Kosovo – Unlocking Growth Potential: Strategies, Policies Actions, April 2010

51. While the flexibility of the Kosovan labor market is considered positive by business managers, there is also the perception among the population that workers lack the protection provided elsewhere in Europe and that these should be financed by labor taxes. Perhaps not surprisingly, there is periodically demand for legislation that would increase worker protections and benefits--e.g., generous maternity and sick leave benefits, large vacation benefits, restrictions on hours worked, reduced flexibility for employers in hiring and firing decisions, unemployment insurance, pension and health benefits. Indeed, Figure 6 shows that even among those employed many have only temporary jobs. The employment protection framework provides for basic protection of workers through the Essential Labor Law (2001), the Labor Inspectorate Law (2002) and the Occupational Safety, Health and Working Environment Law (2003), but lack of enforcement remains a problem. Moreover, the current legislative framework provides for a flexible labor market in terms of hiring and firing -- the Doing Business employment rigidity index is one of the lowest in the region -- and labor taxes are low. The balancing act in Kosovo is to improve both the quantity and quality of jobs for workers without reducing the nascent labor demand through increased labor taxation.

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52. Recognizing the link Figure 6: Poor Quality of Jobs among Those Employed between labor taxes and employment and given the enormous unemployment rate, the Government has rightly 70 determined that its first priority 60 has to be enabling job creation. 50 As a result, its focus has turned toward enforcement of existing 40 Employed provisions and toward maintaining 30 of or putting into place legislation

% 20 which provides necessary worker protections without reducing labor 10 demand through additional taxes or 0 onerous regulations. This will Part‐time Temporary No contract require capacity-building in both the Ministry of Labor and Social Source: LFS 2008 Welfare and within the Labor Inspectorate.

53. While the major problem facing workers is low labor demand, the Government has been able to provide little in the way of services for job seekers. There is currently no framework for the design, implementation and financing of labor market policies and insufficient capacity in public institutions to implement or regulate employment programs. Neither the role nor the services provided by Public Employment Services (PES) are well-defined, and PES operates with a small budget. The coverage of PES-run programs is very low and the PES staff caseload – the ratio of clients to employment counseling staff – is the highest in the region (1 to 3,200). Active labor market programs (ALMPs) are financed by donors for the most part which has resulted in a proliferation of many small and largely disconnected programs. Providing efficient employment services requires a clear framework (including a legal basis) for public and private providers of labor market services and an adequate capacity of public institutions (the Ministry of Labor and Social Welfare (MLSW) and PES) to program, manage, implement, monitor, and evaluate ALMPs. Once a legal framework has been developed, consolidation of the existing ALMPs can then take place and gaps and needs identified, while overlapping programs are merged or eliminated. Box 2 discusses the experience on successful ALMPs globally and Box 3 discusses Kosovo specific experience. Annex 4 contains an inventory of the ALMPs that have existed in Kosovo.

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Box 2: Design Features of Successful ALMPs

 Effective ALMPs are generally designed through careful piloting and evaluation. There are many different types of evaluations: (i) process evaluations focus on how a program operates and on activities undertaken in delivery; (ii) performance monitoring provides information on the extent to which specific program objectives are achieved (e.g., number of unemployed trained); and (iii) impact evaluations focus on the issue of causality to see whether a program has its intended impact.  ALMPs should come into play early – after a period of unemployment of at most six months;  Job-search assistance programs are found to be the most cost-effective (especially for youth), with wage and employment subsidy programs having a positive short-term impact but a less positive impact on the longer- term employment prospects of participants;  In order to connect training programs to local and national labor market needs, the private sector and local communities need to be mobilized and involved in project design;  Targeting of ALMPs is crucial, distinguishing between teenagers (who should be helped to remain in school and acquire qualifications) and young adults (who need help in acquiring work experience), and focusing on school drop-outs.  ALMPs should insist on tight work-search requirements, in the interests of an early exit from unemployment;  Integration of services into a combined, comprehensive package seems to be more successful than separate provision;  Effectiveness of ALMPs is increased by greater involvement of social partners and of public authorities at all levels.

Source: World Bank (2002), Quintini and Martin (2006); Betcherman et al (2007)

Box 3: Kosovo Experience with ALMPs

 Kosovo has had and continues to have a number of active labor market programs (ALMPs) primarily financed by donors as noted in Annex 4. The experience with these programs is mixed. The most popular programs are focused on vocational education and training, but even in this area, the experience is varied, with some programs showing only a 40 percent placement rate while others show an 80 percent placement rate. These programs when implemented by PES under MLSW do have a positive impact on the institutional capacity of PES.  ALMPs providing on the job-training, through apprenticeships and internships showed similar placement rates to the vocational education ones, approximately 25 to 30 percent. Most training programs in transition countries are able to achieve 70 percent placement. But as noted throughout, labor demand in Kosovo is extremely weak and even a well-designed program may not achieve high placement rates.  Programs focused on financing start-ups and providing entrepreneurial services seem to have been successful in that 80 per cent of the new enterprises remain in operation 2 to 3 years after start-up, but these programs have very high costs per beneficiary and as a result have limited coverage.  Public works programs, by contrast, showed the largest coverage and lowest cost per beneficiary, but the probability of jobseekers finding employment after these programs were completed has not been assessed. While the programs may not have had an appreciable impact on long term employment, they have provided a safety net for households, increasing worker income 28% for the workers involved in the programs.

Source: World Bank (2008) Kosovo: Youth in Jeopardy

Improving Education, Skills, and Training

54. The BEEPS results indicate that 45 percent of businesses feel that the education and training of workers is an obstacle to their businesses. As shown in Figure 5 above, a parallel education system in the 1990’s coupled with an absence of institutional infrastructure after the conflict have led businesses to list poor worker skills as one of the most constraining factors for their

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development. In addition to the limited educational system, Kosovo suffered the inevitable loss of human capital typical of conflict countries and substantial out-migration prior, during, and after the conflict, especially of individuals with high levels of human capital.

55. Employment is significantly Figure 7: Better Educated individuals have much higher higher among those better employment rates than the 29% overall employment rate educated. Figure 7 illustrates that higher education (and upper secondary education to a much lesser extent) is a path to Percentage of Employed at Each Education Level employment. Less than 10 percent of those with lower secondary (or 80 education

70 in less) education are employed, close 60 to 40 percent of those with upper 50 secondary education and 76 percent 40 of those with university education category 30 20 participants are employed. Under circumstances 10 where highly educated people are 0 survey scarce, not only are their employment prospects better, the % return to education is also high. BEEPS 20085 observed that even though the average wage for unskilled labor is below the regional average, the average wage Source: LFS 2008 for highly skilled labor is higher in Kosovo than in South East Europe.

56. The skill mix and Figure 8: Reasons why the Jobless are not searching for Jobs quality of available workers is not always appropriate for the existing jobs, leading to a 60 50 scarcity of relevant skills 40 with an overabundance of 30 other skills. Although the most 20 important cause of joblessness is 10 low labor demand, the lack of 0 relevant skills limits the ability of many people to obtain productive employment and to perform the tasks required by employers well. And lack of appropriate education and skills is cited by Male Female more than 50% of idle men not seeking work as reasons that they cannot even look for Source: LFS 2008 work, as shown in Figure 8.

5 World Bank, 2009, Business Environment Enterprise Performance Survey (BEEPS) 2008 Brief Analysis Kosovo.

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57. Kosovo is now starting to lay the foundations for a National Qualifications System, which would help provide adequate signaling information to potential employers to distinguish between those who are qualified and those who are not. Following the adoption of the Law on Qualifications in November 2008, the Council for Vocational Education and Training has developed the National Qualifications Framework (NQF) in line with the European Qualifications Framework. The NQF defines “the national mechanism for classifying qualifications awarded within the National Qualification System according to a set of criteria defining levels and types of outcomes of learning”. The newly established National Qualifications Authority (NQA) will be responsible for the registering of vocational qualifications and the quality assurance of the processes relevant to the validation, assessment and certification of these qualifications. At the initial phase, the NQA aims to develop standards on qualifications on seven to ten selected occupations that are compatible with the labor market needs. The Ministry of Education, Skills and Training (MEST), with assistance from GTZ, is developing a coherent conceptual approach for the establishment of seven Centers of Competence (CoCs).6 The CoCs are intended to deliver high quality VET according to NQF standards, offer short- term skills upgrading training for the existing workforce and business owners and adult education, and support other Vocational Education and Training (VET) institutions as a leading agent. Closer cooperation between the MEST and Ministry of Labor and Social Welfare is a key for offering effective adult training.

58. To improve the quality and relevance of education to labor market needs, the curriculum and teaching for post-basic education need to offer a mix of general knowledge and practical skills. Although vocational education accounts for more than half of the students at the upper secondary level, it is still perceived as an option for low performers that do not make it into upper secondary school rather than as a real alternative to general education. An improved competency- based curriculum that would provide relevant skills for employment would help mitigate the stigma. The curriculum for vocational education needs to be reformed towards development of thinking skills, higher order behavioral skills such as decision-making, teamwork, and the ability to negotiate conflict and manage risks, specific knowledge applied to real-life situations in practical subjects like science, technology, economics, and foreign languages, and vocational skills. While an IDA-funded education project currently supports the curriculum reforms for general education, the Government’s reform agenda prominently also includes upper secondary education as a whole, covering both general and vocational education.

59. On higher education, the government has recently taken a step to improve quality of higher education institutions and programs. The Kosovo Accreditation Agency (KAA) was established to develop and implement an accreditation system for higher education institutions, and is now operational. At the request of the government, the British Accreditation Council evaluated all 30 private institutions, and concluded that none, except one, of the institutions should retain the status of university. After the accreditation process, many of the remaining institutions were consolidated and became institutes, colleges or faculties. Further strengthening of the external and internal quality assurance mechanisms is the next step to insure the quality of higher education institutions and graduates with better skills (see Box 7).

Providing adequate social protection that encourages participation in the labor force

60. The social protection system in Kosovo has a major role to play particularly in the short run in helping to maintain social cohesion. Improvements in the investment climate and in the skill base are necessary to provide a stronger foundation for generating medium term employment, but they

6 In the fields of commerce and trade, nursing and health care, economics, construction, forestry and wood processing, agriculture and ICT.

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will have little impact in the short run. There are essentially three types of benefits which could be provided to alleviate some of the poverty while the medium term employment measures begin to have effect: (1) unemployment benefits, (2) social assistance, and (3) direct jobs creation programs. Any type of benefit provided would have to be financed without raising labor taxes to avoid stifling the demand for labor. Unemployment insurance currently does not exist in Kosovo and is not recommended for the near future since it typically is financed through labor taxes and the majority of the unemployed do not have the earning or contribution histories typically required for eligibility.

61. A limited social assistance Figure 9: There are as many employed among the poor program does exist but suffers from as there are unemployed limited coverage of the poor and low levels of benefits provided (see box 4). 30 Social assistance reaches only 23% of 25 the poor and 34% of the extremely poor. 20 Poor While the program is well targeted in 15 of that few of the benefits reach the non- 10 % poor, the program is limited to providing 5 benefits to those households in which no 0 … member is deemed capable of work or with

those with a child under the age of 6 and Other farmer worker

disabled

with a single household member capable Employer employed ‐ or

Unemployed 2003/04 Diem of work, but who is registered as Housekeeper

self

Employed

unemployed. The restrictions are in Per 2005/06 Retired place as a rationing mechanism, but the Subsistence Other categorical eligibility criteria do not guarantee that the poorest in Kosovo have access to social assistance. And Source: Kosovo Poverty Assessment, 2007 most importantly, for the issue of employment, they do not provide a bridge from social assistance to employment, penalizing those who find limited work by eliminating the household from eligibility for any social assistance. A significant number of the poor are in fact employed and thus ineligible for any type of social assistance as shown in Figure 9. The level of the benefit is also low and had not been adjusted since its inception until 2009, resulting in an appreciable real decline in value.

62. Direct job creation programs have been limited and financed for finite durations by donors. The most notable of these is the Employment Generation Project which was in operation in 2005 and 2006 and provided short term employment for 3160 low skilled jobseekers, 40 percent of whom were between the ages of 15-24. Thirty-eight public works projects were implemented resulting in a 28% increase in income for those employed. Subsequent programs have focused on issues of youth unemployment and on counseling, advisory, and training, with only limited provision of temporary employment.

63. In the short run, the Government could support the unemployed poor by providing a public works program. There may be scope to incorporate some poor, unskilled workers within the infrastructure projects already budgeted. Alternatively or in addition, the Government would need to free up resources in the budget to support limited public works programs which could provide a social safety net to more of the poor while encouraging them to work. If coupled with job training or training in entrepreneurial skills, the public works program could even lead to some increases in permanent employment although the primary focus would be providing income support to the unemployed.

64. In the medium term, the Government is also considering moving beneficiaries capable of work into a welfare to work program, where the benefits are only provided if the recipient

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fulfills requirements regarding job search and availability to work. The program could also require participation in targeted employment services.

Box 4: Social Protection Programs in Kosovo

The social protection system in Kosovo is at an early stage of development. The main laws that establish its architecture were adopted in the beginning of the 2000s. Most of the existing social protection programs are non-contributory. These comprise four main programs which include: (i) basic pensions; (ii) disability pensions; (iii) war veteran-related benefits; and (iv) a narrowly targeted social assistance scheme / last resort income support benefit. Along with the social assistance transfers, the overall safety net also includes social services for families and individuals at risk, delivered by a network of Centers for Social Work and Departments of Social Welfare in the municipalities. National and international NGOs participate in the delivery, and sometimes also in the financing, of social care services. Informal safety nets such as remittances also play an important role.

Spending on Social Protection in Kosovo, 2009

€ (mill) % of total Total, pensions and social 145.7 100 assistance, o/w PENSIONS, o/w 88.1 60 Basic pension 59.0 40 Contributory pension 24.8 17 Early retirement benefit KPC 1.5 1 Early retirement benefit (Trepca) 2.9 2 LAST-RESORT INCOME 27.3 19 SUPPORT DISABILITY BENEFITS 10.5 7 WAR VETERAN BENEFITS 19.7 14 Source: Ministry of Finance and Economic

The Last Resort Income Support program, which was introduced in 2003 (Law No. 2003/15 On Social Assistance Scheme in Kosovo), is narrowly targeted to two categories of poor families/households. Category I comprises of families/households where all members are qualified as ‘dependent’ / not able to work. These are persons over 65 years of age; adults with permanent incapacity to work; full time care givers of a person(s) with permanent disability, or of a person(s) over the age of 65 needing full-time care, or of a child(ren) under the age of 5; children under the age of 15 or aged 15-18 if in full-time education; single parents with children under 15 years of age and without other adult in the family. Category II comprises of families / households where along with the dependent family members there might be family member(s) who are able to work. Every member of the family who is capable of working is registered with the Department of Labor and Employment of the Ministry of Labor and Social Welfare (MLSW) and is required to actively search for work. Also, families belonging to category 2 should have at least one child aged less than 5 years or should have full custody over an orphan aged less than 15 years.

Source: World Bank, Kosovo Public Expenditure Review, June 2010.

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III. THE GOVERNMENT’S PROGRAM AND PARTICIPATORY PROCESSES

A. PUBLIC FINANCIAL MANAGEMENT REFORM ACTION PLAN

65. Following a Public Expenditure and Financial Accountability (PEFA) assessment in 2007, the Government created a public financial management working group which undertook a PEFA self-assessment in 2009. The working group, chaired by the Deputy Finance Minister, subsequently prepared a PFM Reform Action Plan (PFMRAP), adopted by Government in January 2010, which identifies and prioritizes reform measures designed to address the main weaknesses revealed by the PEFA self-assessment. The PFMRAP sets the relevant targets and timelines within the next three years and identifies the institutions responsible for implementation of the reforms.

Improving public investment and overall budget preparation and execution

66. The PFMRAP prioritizes measures to improve budget credibility both in terms of budget preparation and budget execution with a particular focus on planning and management of capital investment. On the budget preparation side, the PEFA assessment noted certain improvements since 2007, notably the adoption and overall smooth implementation of a new Law on Public Financial Management and Accountability (2008) and the improved synchronization of the Medium-Term Expenditure Framework (MTEF) with the annual budget process. It also identified the following shortcomings, which the PFMRAP seeks to address: insufficient integration between strategic planning (including at the level of line ministries) with budget preparation and investment planning; and over-budgeting, resulting in under-execution of the budget, especially for capital investments. Similarly, on the execution side, the PEFA also finds that poor procurement and project management practices result in capital budget under-spending. (More details on procurement issues can be found in Box 5). Therefore, the PFMRAP prioritizes the following reform measures: improved linkages of strategy and budgeting through the MTEF process; more realistic forward estimates and capital project costing, including associated recurrent costs; more timely provision of information on central grants for municipalities’ budget preparation; in-year monitoring of capital budget implementation by the Ministry of Economy and Finance (MEF); and improved functional classification in the chart of accounts. These are precisely the weaknesses which led to fiscal loosening in 2009.

Improving Payroll Management 67. The lack of a pay and grading system in the civil service has long complicated wage bill management. This has undermined the predictability of wage expenditures, led to wide discrepancies in pay levels for comparable positions in different government bodies, and made management and payroll controls difficult. This problem is highlighted in the PEFA self-assessment as well as in assessments by SIGMA (a European Commission-OECD institution specializing in monitoring and supporting public administration reform in EU candidate and pre-accession countries) as well as in EC Progress Reports.

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Box 5 : Achievements and Challenges of Public Procurement

 Legal framework: The current Law on Public Procurement was adopted in 2007 and comes close to complying with EU norms. Secondary legislation was enacted in 2008. Further amendments to the legislation are currently under consideration with a view to clarifying the responsibilities of procurement bodies and speeding up procurement procedures.

 Institutional arrangements and capacity: Public procurement in Kosovo is decentralized, i.e. each budget organization may conduct its own procurement provided it has a trained and certified procurement officer. There are some 430 trained procurement officers in the Kosovo civil service, but capacity remains low, not least due to high staff turnover. There are three central bodies responsible for public procurement:

o The Public Procurement Agency is a Government agency which monitors procurement plans; may act as a central contracting authority, if requested by the Government; and considers waivers for the use of negotiated procedures. The institutional capacity of the Agency is rather limited, restricting its capacity to act as a central contracting authority for consolidated procurement, which could help increase efficiency.

o The Public Procurement Regulatory Commission is an independent agency reporting to Parliament and is responsible for issuing secondary legislation and guidance on procurement; training standards on procurement; publishing procurement notices and contract awards on its website; and monitoring procurement processes in an annual report (since 2006).

o The Public Procurement Review Body (PPRB) is an independent agency reporting to Parliament that reviews complaints related to procurement. This Body became operational in late 2008.

 Competitiveness and value for money: Competitiveness of public procurement is still limited. According to the 2008 Business Environment and Enterprise Performance Survey only 11 percent of firms surveyed had participated in public procurement tenders. According to the Public Procurement Regulatory Commission report, the number of contracts awarded through competitive procedures has increased in recent years, but these accounted for only 44 percent of total contract value in 2008. Participation in public procurement tenders may be expected to increase as Kosovo makes further steps toward e-procurement (e.g. to allow firms to download tender documents and submit tenders electronically; currently only procurement notices and contract awards are published online).  Value for money: A study conducted by the World Bank in 2008:(Review of the Public Purchasing System and Opportunities for Quick Gains Savings in Kosovo), also found significant price distortions in the prices paid by different contracting authorities for the same product or service. The study recommended specific reforms such as: consolidated procurement methods; using the lowest-price method for civil works; use of reference prices (e.g. for pharmaceuticals) and estimated the potential savings at EUR 12.3-18.3 million annually.

68. The Government has therefore enacted new civil service legislation. The legislation defines the scope of the civil service more narrowly to offer conditional tenure only to personnel engaged in core policy and administrative functions in central government bodies and municipal administrations (thereby excluding public employees directly engaged in public service delivery such as teachers, healthcare staff, and police). The Law on the Civil Service and the Law on Civil Service Remuneration, which were prepared with support from DFID, SIGMA, the World Bank and the IMF, establish a uniform pay and grading system applicable throughout the core civil service and clearly specify the elements of civil servants’ remuneration. The definition of the coefficients of the new pay system has been based on a comprehensive fiscal impact assessment, which was completed in September 2009. The approved, but not yet ratified, Public Sector Modernization Project financed by

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IDA will support the implementation of the pay and grading reform, including the linkage of the new Human Resource Management Information System with the payroll database and the Treasury system.

69. The Law on the Civil Service was enacted in June 2010. The base coefficient which is to be defined in the secondary regulation will ultimately determine the fiscal costs of the legislation. Fiscal costing of the law suggests that it will cost an additional 0.2 percent to 0.4 percent of GDP, depending on the base coefficient chosen. The Government is opting for the lower end of the range. Additional budget of € 5 million has been included in the 2010 budget for implementation of the law, with expected implementation around midyear. Full year implementation of the lower cost option for the base coefficient is estimated to cost € 8.5 million. Box 6 contains details on the Law on the Civil Service.

Box 6: Civil Service Legislation

The new civil service legislation

A package composed of two laws, the Law on the Civil Service and the Law on Civil Service Remuneration, aims to establish the legal framework for the civil service of Kosovo. This legislation replaces UNMIK Regulation 2001/36, which provided for temporary contracts for all public employees and did not include any grading or pay structure.

Law on the Civil Service

 Establishes the scope of the civil service, narrowing the definition to include only administrative, professional, and managerial staff of central government bodies and municipal administrations (core civil service) – and exclude political appointees, non-administrative support staff (e.g. drivers, cleaners, security guards), and categories of employees engaged in service delivery, state security and law enforcement (e.g. teachers, healthcare workers, police, military, judiciary, customs officers). These categories will be covered under the Labor Law and/or specific legislation.  Defines the rights and obligations of civil servants, including tenure of employment conditional on satisfactory performance and continued business need.  Enables career progression for civil servants based on a unified grading structure and meritocratic principles (performance appraisal, promotions) applicable throughout the core civil service.  Empowers a central government authority to oversee civil organizations’ compliance with civil service management procedures, including the maintenance of an electronic personnel registry.

Law on Civil Service Remuneration

 Defines the grading and pay structure composed of categories, grades, and salary steps applicable across civil service organizations. The pay system is a salary grid composed of a base coefficient (to be defined annually in the Budget Law) and multipliers corresponding to grades and horizontal steps. The multipliers are set in the secondary regulation on classification and grading of civil service posts.  Specifies the elements of remuneration and other benefits that civil servants may receive and regulates elements of remuneration other than the basic salary (e.g. quotas on performance-based salary progression; limits on overtime pay for non-professional staff; rules for payment of expenses).

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70. The Public Financial Management Reform Action Plan (PFMRAP) prioritizes linking payroll data with personnel information. Public sector wage bill management is a major weakness in the PFM system as payroll data cannot be checked against personnel information. The PFMRAP therefore prioritizes the linkage of the new Human Resource Management Information System, which will contain personnel data, with the payroll database and the Treasury system to ensure real-time controls of budget availability; and regular personnel and payroll audits.

B. EMPLOYMENT STRATEGY

71. An important step in the nascent institutional development after independence was the creation of the Inter-ministerial Committee for Sustainable Employment in 2009. The committee, headed by a Deputy Prime Minister, includes the Minister of Finance, the Minister of Labor and Social Welfare, the Minister of Trade and Industry, and the Minister of Education, Skills, and Training. Prior to setting up this committee, individual ministries were pursuing largely uncoordinated employment initiatives and policies. The committee is now tasked with ensuring that policies are evaluated and coordinated. In time, additional ministries could be included in this committee.

72. For the first time the Government drafted and adopted an employment strategy, derived a three year action plan, and appropriately budgeted actions to be taken in 2010. Previous employment strategies, largely drafted by donors and consultants, have had little traction. Creating fiscal space for the actionable elements in the 2010 budget – at a time when the Government had to propose a conservative overall budget -- demonstrates the priorities that the Government is placing on employment and on implementing the strategy, which is based on the MILES framework discussed in para 43. The actions from the Employment Strategy already included in the 2010 budget are shown in Table 5. The overall spending envelope assigned to the implementation of the employment strategy is € 8 million or approximately 1 percent of overall expenditures, in addition to spending already included in the ministry budgets and financing provided directly by donors.

73. The employment strategy has also been presented to and discussed with social partners, as well as donors. The Government has established a Performance Framework to evaluate its success in carrying out the Employment Strategy. A meeting with donors was held in July 2009 during which the Employment Strategy was presented to donors, and comments were solicited. A workshop was held in November 2009 to which key social partners, the Chamber of Commerce of Kosovo, the Alliance of Kosovo Businesses, the Union of Independent Trade Unions of Kosovo, and the Confederation of Free Trade Unions of Kosovo, were invited. All attended and were given an opportunity to ask questions after the presentation of the employment strategy and to provide written comments afterwards.

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Table 5: Employment Strategy Actions Included in 2010 Budget

Outcome Objectives Actions Included in 2010 Budget Improve investment climate  Design management program for Industrial Zone  Design and implement a program for operationalization of business incubators  Conduct study to identify most effective schemes to improve SME access to finance  Expand Voucher Counseling and Training Scheme  Provision of technical assistance for the establishment of the “One stop shop” at the central level for investment and export promotion  Develop and implement B2B programs  Provision of training for exporters on quality, marketing, packaging and design  Support local participation in trade fairs  Prepare a report on investment climate measurement indicators  Analyze training needs for Investment Promotion Agency and start providing basic trainings  Complete legislative framework for completion of the quality infrastructure Improve and establish labor market  Upgrade PES software and hardware institutions, regulations and policies  Redistribute the responsibilities of counselors for employment, counseling, and vocational training  Start to increase responsibility of regional and municipal employment offices for job creation programs  Design and support assistance for the establishment of the labor market information system  Define legal framework for ALMP  Review of existing capacities and drafting of a plan for development of labor inspectorate capacities Improve education, skills, and  Implement Centers for Competence training Provide adequate social protection  Draft and initiate implementation of public works projects which encourages participation in  Establish an integrated information system for data comparison the labor force between the social work centers and employment offices  Design of cooperation mechanism between departments of MLSW for the integration of social assistance beneficiaries

Improving the investment climate

74. To improve the investment climate, the Employment Strategy prioritizes easing financing constraints and improving the regulatory framework for businesses. The Government plans to ease financial constraints for businesses by supporting leasing arrangements, improving registration of land and apartments within the IPRR, and promoting effective schemes to improve access to finance for start-ups and existing small and medium size enterprises (SMEs). Leasing allows credit-constrained enterprises to obtain new equipment without borrowing. A new leasing law was passed on June 25, 2009 and has been in force since July 17, 2009, but the Government needs to promote awareness of leasing as a potential alternative to loan financing. Improving the registration of land and apartments within the IPRR (managed by the Kosovo Cadastre Agency –KCA) will allow their owners to use them as collateral to obtain finance (see Box 7). The Government also intends to

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explore the applicability of microfinance schemes to the Kosovan context to increase lending to start- ups.

Box 7: Kosovo Cadastre Agency Strategy and Business Plan

KCA Development Strategy A three year development strategy 2009-2011 was drafted for the Kosovo Cadastre Agency (KCA). The KCA Strategy consists of three main objectives: (i) improvement of the legal and institutional framework for cadastre in Kosovo, (ii) efficient operations and use of advanced information technology, and (iii) improvement of the cadastral services for clients.

KCA Business Plan To implement the strategies, KCA prepared a Business Plan supported by a separate Action Plan. The Business Plan is based on Kosovo Government’s priorities and goals as well as the KCA Development Strategy 2009- 2011. It provides concrete actions for development of KCA and the cadastre sector in Kosovo. The Government approved the Business Plan for 2009-2014 in June 2009.

Implementation of the Business Plan will, by facilitating protection of property rights contribute to economic development, improved governance, i.e. the building of accountable and effective public administration and improved legal framework and business environment. By providing security to real property rights and establishing easy and safe mechanism for real property transactions, the Business Plan will assist Kosovo in the development of the land market.

75. The Ministry of Trade and Industry is reviewing rules and regulations of business licenses, permits and the inspection framework. Recognizing that the current regulatory framework imposes substantial compliance burden on enterprises, the Ministry of Trade and Industry (MTI) is reviewing both the rules and implementation of business licenses, permits, and the inspection framework to develop a more streamlined and transparent framework which harmonizes procedures at central and municipal levels. In addition, the Government plans to establish a one-stop-facility at the municipal level to streamline business regulations and reduce costs. The first of these has already opened in the Municipality of Podujeva and seven more are expected to open by January 2011.

76. The BEEPS survey had identified energy as one of the core constraints for businesses which the Government, together with partners, is addressing outside of the employment strategy. The Government is working closely with the World Bank Group, USAID and the EC to identify a strategy based on lignite power and exploitation of all available hydropower limiting negative environmental impacts while providing more reliable energy supplies to households and businesses. The key elements of the strategy include (i) phased closure of the five outdated and highly-polluting Kosovo A power generation units by the end of 2015; (ii) rehabilitation of Kosovo B to comply with EU environmental standards and privatization of that plant; (iii) immediate development through private participation of the Sibovc SW lignite mine and a state of the art power plant; (iv) privatization of KEK distribution as a key element in the effort to improve efficiency; and (v) development of the country’s limited hydropower resources through public-private partnerships.

Improving and establishing labor market institutions, regulations, and policies 77. The Employment Strategy focuses on issues including strengthening employment services in Kosovo, providing the legal framework and institutional capacity to support active labor market programs, and increasing employment protection. Modernizing employment services in Kosovo includes upgrading PES software and hardware and establishing a reliable labor market information system. PES needs to urgently update the unemployment registry, begin to provide online placement services, and integrate software systems between employment offices, the vocational training system, and social assistance centers. Coordinating with Vocational Training

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Centers will allow the targeted unemployed to receive additional training. The labor market information system would generate, analyze, and regularly disseminate labor market statistics drawn from the employment service and labor market assessments, to determine skill shortages and employer needs.

78. The Government intends to create a comprehensive legal framework for the design, implementation and financing of ALMPs, allowing services to be offered by the private sector as well as the public. These would aim not only to provide a safety net for the unemployed but could provide a bridge to stable future employment. In addition, the capacity of labor market institutions to program, manage, implement, monitor and evaluate these programs needs to be strengthened. The consolidation of redundant or ineffective programs would save financial and management resources.

79. The Government intends to revise the Essential Labor Law which regulates employment and labor relations and to increase compliance by strengthening labor inspection. The Labor Law will be reviewed to provide reasonable protection for workers, while limiting the costs and impediments to employers. There have been periodic demands to increase the level of worker protections and benefits, similar to what existed in the former Yugoslavia. The Government recognizes that in the environment of 45% unemployment, making employment more costly to employers will be counterproductive. On the other hand, workers should not be subjected to exploitation and inhumane conditions. The revised Labor Law will establish minimal protections, but with special attention to minimizing the financial impact on employers. The Government plans to strengthen labor inspection by creating an appropriate structure and organization for labor inspection with appropriate training, by designing an effective enforcement policy that is transparent, coherent, and manageable while not too burdensome for employers, and developing a system for monitoring performance.

Improving education, skills, and training 80. The Employment Strategy focuses on three areas in the area of education which will help expand employment potential. These include (i) improving vocational education, (ii) strengthening vocational training targeted at adults, and (iii) improving the quality of tertiary education.

81. The Ministry of Education, Science, and Technology (MEST) plans to reform vocational education to better bridge the gap between formal education and training. This would be accomplished by introducing niche schools, so-called Centers of Competence, by strengthening the link between school and work, and by reallocating responsibilities for technical and vocational education and training to the schools themselves. The Centers of Competence will each focus on a particular vocational field and will offer practical training with appropriate equipment by teachers trained in programs designed in cooperation with industry and employers’ organizations. The transition from school to work will be facilitated through providing timely career information, job search assistance, and work based training.

82. The key policy measures with regard to vocational training include improving access to adult education and lifelong learning opportunities and designing and implementing the overall framework of qualifications. Vocational schools for adults, outsourced when feasible to external providers, would together with the Centers of Competence provide opportunities for those whose skills do not match current needs to be retrained. The training programs would be designed with the assistance of industry and employers with specific attention to skills they find lacking in the current labor force. These training programs would also be coordinated with the programs and needs of the Public Employment Services under the Ministry of Labor and Social Welfare (MLSW). The quality of training is to be monitored through tracer studies and employer surveys. To provide some signaling to employers of a potential hire’s qualifications, the National Qualification Authority is planning to

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establish a national qualification framework with national competency standards adhering to the European Framework for Qualifications which will provide a system of certification of skills that are recognized and portable across enterprises, industries, and education/training institutions.

83. To improve the quality of tertiary education and move towards compliance with EU standards, the Kosovo Accreditation Agency will continue to accredit and license all providers of higher education (public and private). Accreditation will be in accordance with the quality criteria set forth in the legal provisions and standards envisaged by the Bologna system. As noted previously, the lack of formal educational standards had allowed a number of higher education institutions to open in recent years, which provided uneven education for enrolled students and little signaling information to employers on the skills that a graduating student actually possessed. The Kosovo Accreditation Agency has found that only one of the institutions was fully qualified as a higher education institution and will continue to monitor and license any new institutions which appear (Box 8).

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Box 8: The accreditation process for all higher education institutions

Immediately after the war, a handful of private institutions opened, only to see their numbers to rise to more than two dozen within a few years. The perception persisted that some of the schools were for-profit enterprises which provided degrees without offering quality education an charging fees between Euros 1,000 to 3,000 per year. Consequently, the Law on Higher Education in Kosovo (Law 03/ 2002) and the Administrative Instruction for Licensing Private Providers of Higher Education in Kosovo (AI 14/2003) required all private providers of higher education to be licensed by the Ministry of Education, Science and Technology (MEST). An Administrative Instruction establishing the Kosovo Accreditation Agency (KAA) (AI 11/2004) was issued in February 2004, but the Agency was not established until four years later. As a result, prior to July 2008, licenses had been granted or withheld in a non-transparent manner. Several providers started programs without obtaining a license in the expectation that these would be granted later.

Due to this delay in the establishment of the KAA and the new Government of Kosovo’s need for a thorough review of the Licenses which had been issued between 2003 and 2008, an initial accreditation exercise was undertaken by the British Accreditation Council (BAC) on behalf of the MEST. The BAC Report recommended that the Minister of Education issues a license to none but one institution, i.e., American University of Kosovo (AUK). The recommendation was accepted and endorsed by Government. The most immediate consequence of this decision was not to permit new enrolments in private higher education providers, other than the AUK. All private providers were allowed a period of one year to prepare and apply for accreditation.

Early in the 2008/09 academic year, KAA announced guidelines needed to undertake accreditation reviews. Reviews were undertaken of several Faculties of the University of Prishtina and those private providers that chose to apply for accreditation. A common methodological approach was adopted, involving panels of independent, international experts who had no other connection with the institutions under review as well as extensive documentary scrutiny by KAA staff.

Several private providers engaged in merger discussions with one or larger institutions, hoping that the larger size and wider curriculum scope resulting from their merger would permit them to be accredited as universities. Eventually, applications were received from 13 institutions/groups during the 2008/09 process. Based on KAA’s recommendations, the Government decided that (i) one institution failed to meet the criteria and should not be relicensed, (ii) six institutions were relabeled as colleges (thus permitting them to offer bachelor’s and master’s programs, but not doctoral studies), (iii) three were relabeled as institutes, (iv) two were relabeled as higher professional schools, and (v) one was relabeled as a higher technical school. All had conditions (either in respect of accreditation or in respect of licensing criteria) attached to them. All were permitted to recruit students to their accredited programs with immediate effect. A quota was later determined depending on the nature of the license.

That left the University of Pristina, a public institution, as the only school still able to bear the name of university (and AUK as the only private provider), though the KAA recommended that four departments will have to close because they had not met the criteria for accreditation: psychology, ethnology, pharmacy, and physiotherapy.

The licenses and accreditation of private providers are valid for academic year 2009-10, during which period KAA will undertake on-going monitoring to ensure that accredited institutions comply with standards of accreditation. KAA is working on defining responsibilities with regards to diploma production/recognition and preparing for the re-accreditation process for next academic year. In addition, KAA plans to review other programs of University of Prishtina, together with a greater engagement of the Univeristy’s Quality Assurance Office and the Senate.

Source: BAC Kosovo Accreditation Project Report, July 2008.

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Providing adequate social protection that encourages participation in the labor force 84. To provide increased social protection for the currently unemployed, the Ministry of Labor and Social Welfare plans two main measures. These include (i) changing the criteria for social assistance to provide more incentives for employment, and (ii) expanding labor-intensive public investment and public works programs.

85. Social assistance for households with members capable of work would become conditional on requirements for job search and availability to work, and subject to participation in targeted employment services. Currently, registration as unemployed is an eligibility requirement with no incentive for individuals to move from unemployment toward work. Such a welfare-to-work program would be piloted before being made universal.

86. Public investment programs will be evaluated for their suitability in generating short term jobs while public works programs will focus on building important local level community assets and addressing infrastructural needs. These programs will help provide some immediate safety net to the unemployed and may have a longer term positive impact on employment both through the infrastructure they help create and in the potential for increased skills and training of the participants.

87. Separate from the employment strategy, the Government also raised social assistance benefits in January 2009 to partially compensate for the cumulative inflation since their inception. Social assistance benefits, which are received by approximately 46,000 households, were provided at the rate of € 35 per month for a single person with a maximum of € 75 for a household with 7 or more members. Since the € 35 per month was set at the amount per person needed to achieve the poverty line in 2003, the total size of the benefit did not even cover the poverty line for all members of larger households. Similarly, the collapse of the contributory pension system during the conflict had led the Government to adopt a flat benefit of € 40 per month per elderly, or disabled, person regardless of past income or contribution history. The benefit levels in both programs had been held constant, for social assistance since 2003 and for pensions since 2005. While inflation in general in Kosovo has been low, towards the end of 2007, there was a sharp increase in food prices. The decision in January 2009 was calibrated to cover the cumulative inflation since 2005 for the pensioners and the same € 5 increase per household was provided to social assistance beneficiaries as well. Since the increase was not awarded per person, the increase was not sufficient to bring the entire household to the poverty line, but was limited by budget constraints. This measure helped mitigate the adverse impact from the crisis-related slowdown in growth.

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IV. WORLD BANK SUPPORT TO THE GOVERNMENT’S PROGRAM

A. LINK TO INTERIM STRATEGY NOTE AND IDA FINANCING OF THE OPERATION

88. The proposed SEDPP is the centerpiece of the Bank’s support for Kosovo as described in the Interim Strategy Note for the period FY10-11. The Interim Strategy describes a selective and targeted program focusing on (i) accelerating growth that is broad-based and employment-generating; and (ii) supporting social cohesion through governance reform and the building of transparent, inclusive institutions. The proposed SEDPP cuts across both pillars of the Interim Strategy Note (Report No. 49872-XK, presented to the Board February 4, 2010) and provides a policy and institutional umbrella for the Bank and other donors’ investment activities, both ongoing and planned.

89. The proposed operation follows the Bank Board’s approval on July 3, 2008 of the use of $40 million of the IBRD FY08 surplus to provide grant support for Kosovo. The Board approved the use of such grant funds specifically for a three year programmatic SEDPP operation, to be administered by IDA. At the time of Board approval, Kosovo had declared independence, but had not applied for membership. Subsequently, the Board of Governors voted to establish the trust fund for Kosovo SEDPP (Kosovo Sustainable Employment Development Trust Fund, TF071152). By the time, the Board of Governors voted on the trust fund, Kosovo had submitted its membership application. The Bank donation was expected to serve as seed money for other donor contributions and has done so effectively raising an additional $60 million from 11 external partners who have partnered with the Government and Bank in developing the three-year program contained in this operation.

90. In addition, Kosovo is eligible for SDR 4.3 million on IDA terms from the Crisis Response Window. This amount is being added to the amount provided by SEDPO 1.

B. COLLABORATION WITH THE IMF AND OTHER DONORS 91. Kosovo has a European perspective. As such, all supported legislation and regulations are expected to move forward in the direction of compliance with European standards and legislation.

92. The Bank team and Kosovo’s partners have worked closely with the IMF to support the Government in regaining fiscal control. The Government has now come to agreement with the IMF on a macro framework and has requested a Stand-By Arrangement which has been approved by the IMF Board. The Bank team closely coordinates with the IMF and the other donors in providing support to the Government, such as the work on the energy sector and the recent public expenditure review.

93. The proposed SEDPP is co-financed by pledges from eleven donors, limiting the transactions costs of the Government interacting with each donor separately. Activities of a multitude of donors in Kosovo have led to increased efforts to go beyond coordination per se and seek the identification of joint financing opportunities. The SEDPP is the largest of these joint financing efforts. The eleven pledged donors include the UK, Finland, Switzerland, the European Commission, the Czech Republic, Italy, Sweden, Estonia, Norway, Denmark, and the US. There is also close coordination among donors. In addition, individual donors contributing to the SEDPP are providing additional funds for technical assistance when such needs have arisen. SEDPP financing meetings have resulted in closer coordination between the various donors beyond the immediate actions supported through the program. This coordination has been especially helpful to a new government given the transaction and opportunity costs of interacting with a multiplicity of donors. Details of the donor pledges to SEDPP are shown in Table 6.

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Table 6: SEDPP Contributing Donors and Amounts Pledged, at and after the Donor’s Conference in 2008

Donor Amount Currency Amount in €7 IBRD 40,000,000 US Dollars 33,000,000 UK 8,000,000 UK Pounds 9,784,743* Finland 4,500,000 € 4,500,000 Switzerland 4,800,000 Swiss Francs 2,959,325* EC 5,000,000 € 5,000,000 Italy 3,000,000 € 3,000,000 Czech Republic 2,000,000 € 2,000,000 Sweden 10,000,000 Swedish Kronor 909,960 Estonia 400,000 € 400,000 Denmark 10,000,000 Danish Kroner 1,342,138 Norway 11,000,000 Norwegian Kroner 1,127,696 USA 3,000,000 US Dollars 2,350,821*

94. Technical assistance provided by the donors is critical to the Government’s ability to succeed with program implementation. The complementary technical assistance provided by the World Bank and other donors is shown in Table 7 below. For example, the Employment Strategy received support from both World Bank and DFID funded labor economists. DFID financed a study on investment climate. Land titling and property rights reforms have received assistance from SIDA, Norway, Switzerland, GTZ and the World Bank. The EC and the World Bank have been providing support on business regulation while access to finance issues has been supported by USAID, KfW, Denmark, and the EC. The Ministry of Labor and Social Welfare is to benefit from EC funded capacity building which is partly provided by the European Training Fund (ETF). The EC is also planning to support the review and revision of the employment and social benefits systems. The Bank is providing technical assistance for the revision of the labor law and a feasibility study to improve the impact of ALMPs. The education sector has received support on accreditation of higher education institutions through Austrian Aid and the British Accreditation Council. The National Qualifications Framework for vocational education has received support from GTZ and from the EC. The Swiss and GTZ have also been active in the general field of vocational education while Finland has supported institutional development for inclusive education and Sweden provided support for capacity building and the Education Reform Program. Denmark funds an Employment Promotion Program covering the Horticultural Sector (together with Switzerland), Finance (with EFSE) and in the field of education an “Improving Employability of Youth” component which will assist MEST in enhancing the employability of graduates from upper secondary vocational schools in the fields of agriculture and food processing. Finally, the public financial management reform action plan is being supported by technical assistance from the EC, DFID, USAID, the IMF, GTZ, and IDA.

7 At the time that the contributions are received, they are converted into euro at the current exchange rates. Pledges that have not yet been paid (designated by an asterisk) have been converted to euros at the exchange rate of August 16, 2010.

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C. RELATIONSHIP TO OTHER WORLD BANK GROUP OPERATIONS 95. The Government of Kosovo is currently implementing eight IDA-financed operations, five of which are directly linked to the current program. The Education Project supports improvements in education, skills and training. The Business Environment TA supports improvements in the investment climate through reviewing business regulation, licensing, and inspection. The Financial Sector TA assists by improving the capacity of the Central Bank to supervise banks and non bank financial institutions which will strengthen access to finance. The recently approved Public Sector Modernization Project supports the PFM Reform Action Plan. And the recently approved Real Estate Cadastre Project supports improvements in property rights which also help the investment climate. Two additional operations are planned which will provide social support to vulnerable and poor groups through the Social Inclusion and Local Development Project and the Second Kosovo Youth Development Project.

96. IFC’s ongoing activities in Kosovo have been relatively limited to date – focusing mainly on the financial sector and, to a lesser extent, mining. IFC’s activities are expected to increase significantly now that Kosovo is a member of the World Bank Group. In the financial sector, the main emphasis has been on supporting small enterprise growth by developing a microfinance institution, ProCredit bank as well as by expanding SMEs’ access to credit through the formal banking sector. More recently, IFC has supported Lydian Resources, a base metal company, to enhance exploration of lead and zinc reserves in Trepce. MIGA’s portfolio does not currently include any projects in Kosovo.

D. LESSONS LEARNED

97. The preparation of the SEDPP draws on a number of key lessons learned from work in both Kosovo and other fragile states. These lessons include: (i) the importance of a programmatic approach which allows flexibility while providing a framework for policy development; (ii) the ability of a relatively small budget support operation to generate significant leverage over policy and legislative reforms; (iii) the importance of tying in a budget support operation with technical assistance provided by the Bank or other donors; (iv) the positive boost provided to the Government from a coordinated donor effort to support the Government’s own program; and (v) the importance of ownership by the Government.

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Box 9: Lessons from the Public Expenditure Management Technical Assistance Grant

The Public Expenditure Management Technical Assistance Grant (PEMTAG) was designed to strengthen public expenditure management in key central government institutions. These included the Ministry of Finance and Economy, and the Ministries of Health, Transport, and Labor and Social Welfare. The project’s PFM component had three subcomponents: (a) technical assistance and training in budget formulation for the three line ministries and their counterpart budget analysts in the Ministry of Economy and Finance (MEF); (b) technical support to the MEF’s cash management unit to improve the quality of financial information; and (c) one-on-one mentoring in public procurement to ensure that the recently enacted public procurement law was implemented as intended.

The project objectives were largely met by the closing date of March 31, 2009. This is evidenced in the Government’s recent update of the World Bank 2007 Public Expenditure and Financial Accountability report. The update shows substantial improvements in the areas of the budget formulation, accounting, and reporting. Some improvement in procurement was also reported. The Project also helped lay the basis for policy-based budgeting, as reflected in the most recent Medium Term Expenditure Framework.

Experience in project preparation and implementation nevertheless demonstrated the importance of donor coordination. The components of the project had to be carefully designed to avoid overlaps with the activities of other donors. Project experience also showed the importance of beneficiary commitment and intensive supervision in projects of this kind. Support to the Ministry of Labor and Social Welfare largely failed, due to weak commitment on the part of the beneficiary. Project implementation was substantially delayed due to insufficient supervision (given the counterparts’ unfamiliarity with World Bank procedures) during the project’s first year.

98. Experience from other fragile states emphasized the advantage of development policy operations to consolidate and coordinate external partners around a common, government-led program. The Government of Kosovo requested specifically that donor support be provided in the form of budget support to allow the Government to identify its priorities, and for the donors to provide financial support. In the proposed SEDPP, the Government clearly identified its priorities by drafting and adopting the Employment Strategy and PFM Reform Action Plan. Consequently, the Government requested both budget support and technical assistance specifically targeted toward meeting its objectives. Given the fragility of the institutions in Kosovo, donor support of the Government’s own program strengthens the credibility of these institutions while improving their efficiency by reducing the requirement for close interactions with multiple donors with multiple objectives.

99. In the case of other fragile states it was found that combining development policy operations with other sector projects or capacity-building initiatives help make the reforms easier to implement. In the proposed operation, the areas covered and the disbursement triggers are all in areas in which technical assistance is either provided by the World Bank Group or one of the partner donors, as shown in Table 7.

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Table 7: Technical Assistance Being Provided to Kosovo in Covered Areas

Technical Area IDA Technical Assistance Other Donor Technical Assistance Enhancing Sustainable Employment Improving Investment Climate Business Environment Technical Assistance DFID financing of study on investment climate Real Estate and Cadastre Project SIDA support for land titling and property rights Financial Sector Technical Assistance Norwegian support for land titling and property rights Swiss support on land titling and property rights GTZ support on land titling and property rights EC support on business regulation USAID support on access to finance KfW support on access to finance Danish support on access to finance EC support on access to finance IMF assistance to Central Bank of Kosovo Improving and Establishing Labor Market Technical assistance for revision of labor law EC support for capacity building in Ministry of Labor and Social Welfare and PES. EC support Institutions, Regulations, and Policies for review and revision of employment and social benefit systems Improving Education, Skills, and Training Education Project Austrian Aid support for accreditation of higher education institutions British Accreditation Council support for accreditation of higher education institutions GTZ support for National Qualifications Framework EC support for National Qualifications Framework Swiss support for vocational education GTZ support for vocational education Danish support for Employment Promotion Program in agriculture and food processing focusing on secondary vocational school Swiss support for Employment Promotion Program in agriculture Finn support for institutional development for inclusive education SIDA support for capacity building and Education Reform Program Providing adequate social protection that Technical assistance for feasibility study to EC support for IT system for social benefits encourages participation in the labor force improve the impact of ALMP Public Financial Management Reform Improvements in public investment and overall Public Sector Modernization Project EC project: Improving the quality of public investment and preparing the grounds for EU budget preparation and execution funds UK DFID Functional Review and Institutional Design of Ministries UK DFID support for developing strategic planning UK DFID support to PEFA Secretariat USAID project Economic Management for Stability and Growth IMF Fiscal Affairs Department European Commission Support for further improvement of IA and Public Governance project Strengthening wage bill management Public Sector Modernization Project

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100. A programmatic approach provides the flexibility needed in an uncertain environment like that in Kosovo. Experience in the development engagement with fragile states suggests that there are greater risks that progress will not proceed as smoothly as anticipated. The programmatic approach taken here will allow the budget support to adjust flexibly to emerging priorities.

101. Experience from the earlier budget support provided to Kosovo suggested that a relatively small operation could generate momentum to enact policy and legislative reforms. Particularly in a new and fragile state which is faced with establishing a new legal framework for every sector, new institutions, and new processes, policymakers face a multitude of simultaneous demands. The co-financed budget support operation can help move critical decisions forward, allowing Kosovo to derive the maximum benefit from the technical assistance provided.

102. Ownership by the Government is a crucial element for success. The Government’s drafting and adoption of its own strategies and action plans, including the allocation of sufficient budget to implement these strategies, are signals of the Government’s ownership.

Box 10: Development Policy Operations in Fragile States

The Bank has undertaken successful development policy operations in a number of fragile states, including Afghanistan, Sierra Leone, West-Bank Gaza and Timor-Leste. Experience has shown that the potential benefits of development policy operations during fragile transitions often justify the risks of engagement.

A useful approach has been to combine development policy operations with other sector projects or capacity- building initiatives which help make the reforms easier to implement. The development policy operation can help anchor the overall framework of budget allocations, policy and legislative actions while sector projects help capacity and monitoring of these commitments. Programs can either be broadly focused as in the case of Timor-Leste or more narrowly focused as in the case of West Bank-Gaza. In either case, a programmatic approach is appropriate, allowing flexibility to accommodate uncertainties in implementation capacity while providing a framework for policy development.

Fragile states may also require much more detailed programs than usually seen in other development policy operations. Detailed action planning helps the government and program partners track progress and adjust to delays in program implementation.

Finally, development policy operations provide an opportunity to consolidate and coordinate external partners around a common, government-led program. Design of a common program, backed by a wide range of external partners, can help the government assert its leadership and reduce the risk of policy drift arising from multiple bilateral discussions.

Good Practice Note for Development Policy Lending: Development Policy Operations in Fragile States, OPCS, June 2005.

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E. ANALYTICAL UNDERPINNINGS

103. A significant body of analytical work has supported the Government of Kosovo and informed the SEDPP. This includes (i) poverty assessments in 2007 and earlier; (ii) Human Development policy notes which analyzed education, health, labor markets, and social protection policies (June 2008); (iii) the Kosovo Youth Employment Study (September 2008) (iv) public expenditure reviews in 2007 and 2010; (v) a Country Economic Memorandum in 2010 focusing on the investment climate; (vi) the BEEPS 2009; (vii) Doing Business study; and (viii) the PEFA self- assessment 2009. This body of work supports the Government’s focus on sustainable employment as a major priority and supports the cross-sectoral approach to increasing more and better jobs rather than focusing purely on labor market policy. The PEFA self-assessment similarly has guided the Government’s focus on the areas in public financial management which need immediate attention.

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V. THE PROPOSED OPERATION

A. OPERATION DESCRIPTION

104. The Kosovo SEDPP supports the Government of Kosovo in (i) maintaining a stable macroeconomic framework through strengthened budget/fiscal management as well as increased transparency and, accountability of public expenditures, and (ii) laying the institutional and legislative foundations that Kosovo needs for sustainable employment and growth.

105. The Government has identified improving public financial management as a key priority critical to maintaining macroeconomic stability and generating growth. The Government undertook the PEFA self-assessment to highlight the priority areas for reform. It has since developed a PFM Reform Action Plan which was approved by Government on December 10, 2009 which tackles all of the relevant areas. The first pillar of the proposed SEDPP supports critical elements of the PFM Reform Action Plan to (i) improve budget preparation and execution; and (ii) strengthen wage bill management. A limited number of benchmarks have been selected as evidence that the authorities have made significant progress in achieving the goals. Technical assistance is being provided by the World Bank Group or by other donors in all of the selected areas.

106. The Government has identified laying the institutional and legislative foundations for generating sustainable employment as another of its key priorities. Given the extremely low levels of employment, bringing more Kosovans into good and stable jobs will be a core building block for social cohesion in the medium-term. The Government recognizes that given the low level of labor demand and the many constraints to employment and growth, large increases in employment will not take place in the immediate future. However, policy changes and the building of appropriate institutions will positively impact employment in the medium run, and the Government has developed an employment strategy to lay the course for the medium run, while providing a safety net to those currently unemployed.

107. The second pillar of the proposed SEDPP supports critical elements of this employment strategy. These include (i) improving the investment climate, (ii) improving and establishing labor market institutions, regulations, and policies, (iii) improving education, skills, and training, and (iv) providing adequate social protection that encourages participation in the labor force. A few critical elements have been selected from the broader employment strategy in each of these areas that could potentially become bottlenecks for progress if decisions are not made or could help pilot potentially useful approaches. Technical assistance is being provided to the Kosovan counterparts in all of the selected areas by the World Bank Group and by the bilateral and multilateral partners supporting the SEDPP.

108. As Kosovo’s institutions grow stronger over time, the Government needs to increasingly set its own budget and policy priorities to be supported by donors. The proposed operation helps strengthen government credibility and confidence by providing support to a program that is fully identified and owned by the Kosovo Government rather than outside experts. It also helps coordinate eleven donors and the World Bank around a common set of priorities which were defined by the Government itself. As noted in Table 8, the proposed program follows the recommended good practice principles for selection of prior actions and triggers to assess progress in the implementation of the Government’s sustainable employment program.

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Table 8: Good Practice Principles for Development Policy Operation Design

Good Practice Principles for Selecting Prior Actions and Triggers and Overall Program Design Ownership Harmonization Customization Criticality Transparency and Predictability The Government The policy matrix The Government has Benefiting from The Interministerial has set up a has been discussed requested budget other fragile state Committee on Working Group on with both support from donors experience, the Sustainable PFM reform and Government and to allow it to program has limited Employment will be adopted a PFM donors. With a establish its own the number of monitoring the Reform Action Plan group of 11 donors priorities and critical actions, but results on the after consultations supporting the growing has sought to employment side with civil society operation in addition independence from develop synergies while the PFM and donors and has to IDA, the matrix the donor with technical Working Group will agreed to seek and progress are community. The assistance being be monitoring the financial support monitored jointly Government’s provided by the results on the PFM from the World and technical ability to articulate Bank Group and side. Regular Bank to finance the assistance its priorities, other missions by the Public Sector harmonized around communicating donor/partners. World Bank team Modernization the existing them to both donors With the various and donors will Project. program. and civil society, technical assistance assure that both the and gaining the programs, there is counterparts and the The Government support of both often a critical donors are well has also established donors and civil bottleneck where aware of progress an Interministerial society, is an Government toward each year’s Committee on important step in decisions are disbursement as the Sustainable institution-building required to move program continues. Employment and in this new and forward. The developed its own fragile state. program has sought Employment to identify those Strategy, adopted bottlenecks as by the Government critical actions for after consultations the program. with civil society Conversely, moving and donors and with from one trigger to actions included in another as the the 2010 budget; program progresses will require substantial technical assistance. Areas which may be important, but where technical assistance is not being provided have not been included among critical actions.

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B. IMPROVEMENTS IN PUBLIC FINANCIAL MANAGEMENT

109. Sustainable Employment Development Policy Operation 1 (SEDPO1) would support the Government’s strategy of improving the transparency and accountability of public finances through implementation of the PFM Reform Action Plan. The support specifically addresses (i) improvements in public investment and overall budget preparation and execution and (ii) strengthened wage bill management.

Improvements in public investment management and overall budget preparation and execution 110. The Government’s PFM Reform Action Plan brings a longer-term perspective to budget preparation and execution and strengthens internal controls and audit, external audit, and procurement processes. SEDPO1 would support Government approval of the PFM Reform Action Plan with implementation of the plan and specific benchmarks noted for the second and third operations. Weaknesses in budget planning and execution together with loose procurement processes contributed significantly to the unsustainable fiscal expansion in 2009. The second and third operations are expected to support action on measures included in the PFM Reform Action Plan, specifically a mechanism to strengthen the linkage of strategic planning in the line ministries with the MTEF, a requirement that data on recurrent costs be presented for approval of all new capital projects, submission of a capital budget execution report, establishment of a system of forward estimates, and pilots from the Quick Gains Study on procurement practices. All of these measures will lead to better fiscal management.

Prior Actions for Indicative Triggers for SEDPO 2 Indicative Triggers for SEDPO 3 SEDPO 1 The Recipient’s The Recipient has taken measures as The Recipient has taken measures as specified in government has specified in the PFM Reform Action Plan the PFM Reform Action Plan including: approved the PFMRAP including: in a form and manner  All major capital projects considered in the satisfactory to the  Establishment of strategic planning unit in 2011 budget are included in PIP and MTEF. Association the Office of the Prime Minister to Capital budget plans for 2011 are consistent facilitate linking of strategic planning with approved MTEF ceilings. activities in line Ministries to the MTEF  Pilot implementation of monitoring and  Requirement for incorporation and evaluation framework for selected programs, presentation of the recurrent costs of including tracking of performance targets capital projects in the budget introduced by MEF budget circular Budget expenditure monitoring by line ministries and municipalities (as appropriate) incorporate  MEF submission of monitoring report on explicit budget distribution and expenditure capital budget execution to the monitoring for at least 100 service delivery units Government and Parliament (including schools and primary health care facilities)  System of forward estimates is established by the MEF incorporating three year estimates of receipts and expenditure for bodies funded from the Kosovo budget which are updated annually.  MEF has launched pilots of recommendations from Quick Gains Study reforms in at least two procurement categories

Strengthening wage bill management 111. The PFM Reform Action Plan highlighted the importance of strengthening wage bill management to which the Government has responded with a Civil Service Law for core civil

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servants and a Law on Civil Service Remunerations. The first operation, SEDPO1, would support the enactment of the Civil Service Law and the Law on Civil Service Remunerations. The law will set in place a grading system for core civil servants such that people with equivalent job qualifications and responsibilities across ministries will be graded the same and paid the same. The second and third operations would support progress in pay and grading reform for the core civil service and linkage of the payroll database with the Treasury system in real-time with regular personnel and payroll audits.

Prior Actions for SEDPO1 Indicative Triggers for Indicative Triggers for SEDPO2 SEDPO3 The Recipient has enacted the Law on The Ministry of Public Administration The Ministry of Public Administration the Civil Service No. 03/L-149 and the has assigned newly defined grades for and the MEF have created a real time Law on Civil Service Remuneration 20% of the core civil service link between the payroll database and No. 03/L-147, with a completed the Treasury system; analysis of cost implications, and published such laws in the Official Government has adopted regulation on Gazette dated June 25, 2010, all in a annual personnel and payroll audits form and manner satisfactory to the Association

C. LAYING THE FOUNDATION FOR SUSTAINABLE EMPLOYMENT 112. The proposed SEDPO1 is supporting increased policy coordination in employment issues through: (i) the creation of a permanent inter-ministerial committee on sustainable employment, (ii) approval of its action plan; and (iii) inclusion of 2010 actions in the 2010 budget. The framework for employment generation cuts across ministries and requires coordination to be truly effective. For example, in designing appropriate vocational training programs, MEST needs to closely coordinate with the MTI about employer needs and with the MLSW on how to get the unemployed into the vocational training programs. Triggers for subsequent years include appropriation of funding for each year in the budget for that year.

Prior Actions for SEDPO1 Indicative Triggers for Indicative Triggers for SEDPO2 SEDPO3 The Recipient’s government has (i) The Interministerial Committee The Interministerial Committee established a permanent appropriates funding for action plan in appropriates funding for action plan in Interministerial Committee on 2011 budget 2012 budget sustainable employment; and (ii) approved the employment strategy. The Recipient’s Interministerial Committee on sustainable employment has approved an action plan based on the employment strategy and included actions with budgetary implications for 2010 in the 2010 budget, all in a form and manner satisfactory to the Association

Improving the Investment Climate 113. The program would support three particular areas cited in the BEEPS survey. Several other areas cited in the BEEPS survey will be supported through other instruments of the Bank Group and the donor community. The SEDPP would focus on policy and institutional changes in (i) streamlining of business licensing, inspections, and regulations, (ii) better establishment of property rights, and (iii) improved access to finance.

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114. The action for SEDPO1 supports access to credit by finalizing a strategy and business plan for the Kosovo Cadastre Agency and enactment of the Leasing Law which took place July 17, 2009. Registering real estate property and apartments allows land to be better utilized and permits property to be used as collateral, thereby increasing access to credit. Leasing allows finance- constrained businesses to rent or lease capital equipment rather than buying it, allowing business expansion despite limitations on access to credit.

115. Triggers for the second and third operations will focus on the streamlining of business licensing, inspections, and regulations, and on actions which further improve the access to finance. The second operation would support one-stop provision of business services which help to streamline and reduce business costs and the modernization of the pledge registry which facilitates the use of collateral to obtain finance. The third operation would then support continued streamlining and simplification of business licensing and inspections.

Prior Actions for SEDPO1 Indicative Triggers for Indicative Triggers for SEDPO2 SEDPO3 The Recipient has: (i) approved the The Recipient has established one-stop- The Government has approved Kosovo Cadastre Agency’s strategy shop provision of business services at regulations aimed at simplification and business plan; and (ii) enacted the the municipal level in at least 8 and streamlining of business licensing Law on Leasing No. 03/L-103, dated municipalities. and inspections. July 17, 2009, and published such law in the Official Gazette, dated August The Ministry of Trade and Industry has 10, 2009; both satisfactory to the taken measures to modernize the pledge Association registry

Establishing and improving labor market policies, institutions, and regulations 116. The proposed SEDPP supports the development of new labor legislation that provides a framework for the design, implementation and monitoring of labor market programs without compromising labor mobility or reducing the demand for labor.

117. SEDPO2 and SEDPO3 focus on establishing and strengthening the legislative framework governing employer-employee relations and the design, implementation and financing of labor market programs, without increasing labor costs, and on improvements in labor market information and consolidation of ALMP initiatives.

Prior Actions for SEDPO1 Indicative Triggers for Indicative Triggers for SEDPO2 SEDPO3 The Recipient has revised and enacted The Recipient’s government has put in a new labor law and a law establishing place a regular reporting mechanism the legal framework for the design, for labor market indicators and ALMP implementation, and financing of labor program and has taken some steps market programs, while maintaining towards consolidation of small ALMP current low levels of labor taxes programs, by establishing an annual coordination mechanism for ALMP.

Improving education, skills, and training 118. The program supports improving the quality and relevance of educational programs for producing the skilled workforce necessary for a productive economy, strengthening the links between school and work and increasing the quality assurance of tertiary institutions and secondary vocational schools. SEDPO1 supports review and accreditation of all tertiary institutions while the third operation would supports redefining the curriculum in vocational education to support

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the qualifications framework and to respond to the needs of employers. Employers have noted in the BEEPS survey that low skills are the fourth greatest obstacle to their businesses in Kosovo. In the past, vocational training has not been tied to employers’ needs and the weaknesses in accreditation and quality control have prevented the education system from providing adequate signals to employers on a potential worker’s skill levels.

Prior Actions for SEDPO1 Indicative Triggers for Indicative Triggers for SEDPO2 SEDPO 3 The Recipient, through the KAA, has MEST/MLSW together have developed completed an accreditation review of adult training programs to be offered by all private tertiary education institutions vocational schools or training centers in a form and manner satisfactory to the Association

Providing adequate social protection that encourages participation in the labor force 119. SEDPP would support the expansion of social protection programs, both through increases in benefit levels to reduce extreme poverty and through increases in coverage, but while encouraging rather than discouraging participation in the labor force. Given the medium to long term time frame for many of the labor demand increasing measures to take effect, the Government will need to provide some social benefits for the large percentage of the population in poverty and those especially hurt from the impact of the global economic crisis. However, the social benefits need to be designed to encourage a return to the workforce.

120. The first operation supports increases in social benefits to accommodate the cumulative inflation since 2005, when benefit levels were last changed. The increase in benefit levels is a crisis mitigation response to help the vulnerable cope with an increase in food prices in late 2007 and early 2008 and with the slowdown in growth coming from the financial crisis. Social assistance currently supports only those who are registered as unemployed, with loss of benefits for the household if a family member becomes employed.

121. The second and third operations support expanding coverage of public assistance but in ways that encourage employment. Triggers for the second operation include launching a public works program which would expand the number of households receiving assistance while improving infrastructure in Kosovo. Triggers for the third operation include revision of the social assistance framework toward general targeting rather than unemployment based targeting and including incentives and training to enable beneficiaries to move from assistance to work.

Prior Actions for SEDPO 1 Indicative Triggers for Indicative Triggers for SEDPO2 SEDPO3 The Recipient’s Cabinet has taken The Ministry of Labor and Social The Ministry of Labor has revised decision 02/51, dated January 23, 2009, Welfare has designed and launched an social assistance eligibility to focus on to increase the level of social assistance expanded public works program to general targeting rather than on and pension benefits to cover the provide a safety net to the unemployed registration as unemployed cumulated inflation since calendar year 2005, but without resorting to higher The Ministry of Labor has developed, labor taxes, in a form and manner adopted, and implemented an IT system satisfactory to the Association for monitoring social assistance applications and beneficiaries.

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VI. OPERATION IMPLEMENTATION

A. POVERTY AND SOCIAL IMPACT 122. Overall the actions supported under SEDPO1 are expected to contribute to poverty reduction in Kosovo, especially over the medium term. The majority of Government policies supported under SEDPO1 are geared to lay the foundation for institutional development that would lead, over time, to a rise in investment and labor demand. Such increased levels of employment would then contribute to poverty reduction. The Kosovo Poverty Assessment noted that a 10 percent reduction in the prevailing unemployment rate can expect to reduce poverty also by 6 percentage points.

123. The social protection policies supported by the operation, which directly increase the level of benefits to recipients, will have a small but positive impact on poverty reduction. In 2009, the Government increased the social assistance transfer benefit level for the first time since 2003, increasing the benefit by € 5 per recipient household. It is estimated that this adjustment reduced the poverty headcount (below what it would have been in the absence of the adjustment) by 0.1 percentage point overall, and by 0.8 percentage points among social assistance recipients. Poverty also would have been deeper without the € 5 increase in 2009. The poverty gap measures both the proportion of the population that are below the poverty line and the average amount by which the poor are below the poverty line. Increasing social assistance benefits in 2009 is estimated to have reduced the poverty gap by 0.1 percentage points (1.2 percentage points among social assistance recipients).

124. Increasing pension benefits in 2009 by € 5 per beneficiary, the first increase since 2005, is estimated to have reduced poverty by 0.5 percentage points (1.4 percentage points among pension recipients). Poverty also would have been deeper without the recent €5 per pension beneficiary increase. Increasing pension benefits in 2009 by € 5 per beneficiary is estimated to have reduced the poverty gap by 0.3 percentage points among the overall population, and by 1.1 percentage points among pension recipients. Even though many pension recipients are not poor or near-poor, the pension increase had greater poverty reducing impact for two reasons. First, pensions reach a larger proportion of the poor and near-poor population than targeted social assistance transfers. That is, pensions have higher coverage rates. Second, as the pension increase was € 5 per pensioner, for households with multiple pensioners the increase was larger than the social assistance increase of € 5 per household. The second and third operations will further consolidate poverty reduction by supporting the extension of public works programs and welfare to work programs to a greater number of recipients8 and help move people from reliance on social benefits to higher income work.

125. The other measures supported by this budget support operation do not easily lend themselves to quantitative assessment, but can all be seen to support the institutional environment for employment creation and poverty reduction, even if these effects are likely to materialize over the medium term. In particular:

a. Improvements in the investment climate are all expected to foster employment creation in the medium term and thereby reduce poverty. Simplifying the licensing,

8 For example, it has been estimated that, even before the current increase, extending the coverage of social protection to all the extremely poor households would have resulted in a decrease in poverty of 0.4 percentage points (2.1 percentage points among recipient households.)

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registration, and inspection requirements for businesses should encourage the creation of new businesses. Improving property rights both increases access to finance by allowing individuals to use property as collateral and enhances the purchase and sale of land allowing more efficient allocation of existing land. Finally, access to finance will also enhance the creation of new businesses.

b. Improving the quality of labor policies and institutions will enhance individual ability to find jobs in the medium term. Better employment services will help workers find available jobs more quickly. Better labor market monitoring will allow the Government to make interventions when necessary. The Labor Law will improve the quality of jobs by providing workers with at least minimal protections without significantly adding to employer costs.

c. The education policies supported under the program help to alleviate future poverty by providing a better trained work force for the future. Given the high rate of unemployment among youth, better training and better transition from school to work will help alleviate poverty among this vulnerable group. Improvements in the quality assurance of graduates from general, vocational and higher educational institutions will increase employer confidence in the skills of the workers they hire and will promote increased employment which will ultimately reduce poverty.

d. The public financial management reforms supported under this operation will have a more indirect, but still positive impact on poverty by making Government more efficient. If Government is more efficient, more transparent, and more accountable, it can achieve more with fewer resources, leaving more resources for needed infrastructure investment and for the private sector to invest in growth. Furthermore, maintaining macroeconomic stability is key to both growth and poverty reduction.

e. The submitted civil service law explicitly grandfathers current civil servants so that no current civil servant will face a salary decrease for the next 3 years. The law provides a clear career progression for civil servants and protection against arbitrary dismissal when the government changes party affiliation.

B. ENVIRONMENTAL ASPECTS 126. The specific policies supported by the operation are not likely to have significant effects on Kosovo’s environment and natural resources. The measures supported under the operation are primarily geared toward increasing sustainable employment and improving public financial management. These will cover improvements in business licensing, enhancing of property rights, and access to finance as well as improvements in the education sector, in labor market policies, institutions, and regulations, and in pension and social assistance provision. The public financial management reforms will focus on increasing transparency and accountability in public finances and improved public wage bill management. None of the sectors included in the operation are expected to have any significant links to the environment.

C. CONSULTATIONS WITH STAKEHOLDERS

127. The core strategies underlying SEDPP, the Employment Strategy and the PFM Reform Action Plan, have been presented to and discussed with social partners, as well as donors. For the Employment Strategy, the Government has established a Performance Framework to evaluate its success in carrying out the Strategy in a transparent and open manner. A consultation was held in July 2009 during which the Employment Strategy was presented to donors and comments solicited. Further,

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a workshop was held in November 2009 with key social partners, the Chamber of Commerce of Kosovo, Alliance of Kosovo Businesses, the Union of Independent Trade Unions of Kosovo, and the Confederation of Free Trade Unions of Kosovo. The discussion and exchange, as well as comments received after the workshop, were the basis for revisions to the strategy.

128. Donors and stakeholders were also invited to comment on the PFM Reform Action Plan when it was distributed in July 2009. Extensive intergovernmental consultations took place on the Action Plan given that its implementation will require changes in the processes affecting individual line ministries, budget organizations, and municipalities. The final version prepared in October 2009 takes into account comments from both donors and stakeholders and was presented to donors and stakeholders in early December 2009.

D. IMPLEMENTATION, MONITORING, AND EVALUATION 129. The implementation of the program will require close coordination between the Bank team and the respective institutions responsible for implementation. These include the Ministry of Economy and Finance, the Ministry of Trade and Industry, the Ministry of Local Government Administration, municipalities, the Ministry of Labor and Social Welfare, the Ministry of Education, Science and Technology, the Public Procurement Agency, the Public Procurement Regulatory Committee, the Office of the Prime Minister and the Ministry of Public Service, all of which will provide the requisite baseline data from which to measure outcomes by the end of the program (Table 9). The Office of the Deputy Prime Minister through the Interministerial Committee on Sustainable Employment will assist in the coordination of information reporting on the program’s monitoring indicators. These will be tracked, discussed and assessed among the Bank team and implementing agencies both by staff based in the field and during visits between the three disbursements. The Government’s own monitoring plan for progress in the Employment Strategy is shown in Annex 4.

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Table 9: Objectives and Indicators Long run desired outcomes Indicative output/outcome indicators at end of Long run desired outcomes Indicative output/outcome indicators at end of program (2012) program (2012) Public Financial Management Sustainable Employment Public Investment and Improved performance in the following PEFA Coordinated approach to policymaking Employment strategy actions budgeted and Overall Budget indicators (compared to 2007 and 2009 Enhanced policy environment conducive completed Preparation. Long term- assessments): PI-1 (aggregate expenditure out- to creating more and better jobs focus in public financial turn); maintenance in A score for PI-2 Investment Climate Reduction in percentage of firms indicating management with (composition of expenditure out-turn); PI-12 Simplified processes for business problems with business licensing and regulation strengthened internal controls (multi-year perspective in fiscal planning and licensing, inspection, and regulation from 47% to 37% and audit, strengthened budgeting); PI-19 (procurement) . Capital budget Strengthened property rights Reduction in percentage of firms indicating a external audit, strengthened execution is more than 90% of approved allocation Better access to finance problem in access to finance from 55% to 45% procurement processes, and at the end of the program Labor market institutions, policies and improved payroll regulations Regular reporting of labor market indicators management Maintaining labor market flexibility while Labor taxes maintained at current low levels protecting workers and helping them find Strengthening wage bill HRMIS and payroll are directly linked and also jobs management. Unified and linked with Treasury to ensure data consistency. Education, Skills, and Training rule-based employee payroll PEFA indicator PI-18 (effectiveness of payroll Improvements in education policies that Establish 7 CoCs based on international standards management controls) improves (D+ in 2007 and 2009) allow: and initiate conversion of existing vocational  Higher quality and more relevant schools to CoCs Establish NAQ and initiate accreditation of training pre-university education institutions for vocational training  Quality assurance of higher Finalize evaluation of higher education institutions education institutions  Strengthened connection between school and work Social Protection More comprehensive social protection program including:  Raising of benefits to existing Social assistance benefits keep up with inflation beneficiaries to cover cumulative At least 2000 beneficiaries in welfare-to-work programs inflation since 2005  Public works programs to provide benefits to a larger proportion of the poor  Transition from assistance to work through welfare-to-work programs

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E. FIDUCIARY ASPECTS 130. The Public Financial Management system in Kosovo is judged adequate to support a DPO, and the Government has shown a strong commitment to continued PFM reform. In recent years Kosovo has received substantial external support and made significant progress in establishing a workable Public Financial Management (PFM) system, including support from donor projects (e.g. USAID, EC, DFID, CIDA, and IDA’s PEMTAG). In particular, the EU has provided support in improvement of ICT systems that directly relate to the EU acquis, notably revenue administration, public procurement as well as capacity for internal control and internal and external audit. The main strength of the PFM system is the Single Treasury Account and automated payments system, which is now used by all primary spending units enabling centralized budget execution and production of timely and reliable financial reports. The Treasury system, which was established with support from CIDA and USAID soon after the creation of the Ministry of Finance and Economy, one of the first Provisional Institutions of Self-Government to be set up, is the cornerstone of Kosovo’s PFM system.

131. Kosovo scored highly in some indicators related to budget execution in the first PEFA assessment conducted in 2007. The PEFA exercise has helped build a sense of pride in and ownership of the PFM system by the Kosovo Government. Officials from Kosovo have also participated actively in the communities of practice of the Bank-sponsored PEMPAL (Public Expenditure Management Peer-assisted Learning) program, where they have had the opportunity to exchange good practices with colleagues from other ECA countries. This experience, combined with expectations from international development partners and the prospect of donor assistance being increasingly channeled as budget support, has acted as a strong motivation to further improve the PFM system. Although, like other strands of public sector reform, PFM reform efforts lost some impetus in the aftermath of Kosovo’s declaration of independence, the Government reaffirmed its commitment to further strengthen the PFM system by setting up an inter-ministerial working group supported by a dedicated secretariat in late 2008. The Government chose to conduct a new PEFA assessment specifically to take stock of progress or regress made since the previous assessment and identify priority areas for further improvement. Indeed, the Government conducted the PEFA self-assessment with the explicit purpose of informing the preparation of a PFM Reform Action Plan that would focus on addressing the key weaknesses of the Kosovo PFM system. The recent PEFA self-assessment underlines some improvements in the PFM system (e.g. in budget credibility, budget classification) as well as some areas of deterioration (e.g. tax administration). However, it clearly concurs with the PEFA assessment of 2007 in identifying the key weaknesses of the Kosovo PFM system. The May 2008 SIGMA report on Public Expenditure Management System recommended strengthening and simplifying budget preparation processes and further strengthening the linkages and alignment of the Public Investment Programme (PIP) with budget processes.

132. The main weaknesses of the Kosovo PFM system relate to budget planning and formulation, which – in large part – stem from inadequate strategic planning and central policy coordination capacity. Kosovo still lacks a national strategic plan, which would inform the allocation of budgetary resources among different sectors of government activity. After weak internal cohesion and central coordination capacity led to the previous Government abandoning work on a national plan in 2007, the Medium-Term Expenditure Framework (MTEF) served as the focus of efforts to coordinate various sectoral policies and define overall Government priorities. In the absence of a comprehensive Government strategy, the MEF has had no clear basis for making allocative decisions among sectors. Therefore, despite the relatively strong position of the MEF vis-à-vis line budget organizations, the preparation of the MTEF was an essentially bottom-up process, whereby the MEF would adjust budget organizations’ requests to match the available resource envelope. The MTEF process has also suffered from unreliable forward estimates and insufficient synchronization with the annual budget process, which have remained the focus of budget organizations. The PFM Action Plan addresses many of these issues as noted in paragraph 66.

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133. Budget under-execution has also been a key shortcoming of fiscal management in Kosovo in recent years. Until 2008, overall under-execution was primarily due to difficulties in capital investment. As a Policy Note prepared by the World Bank in 2007 suggests, these difficulties related to weak multi-annual planning, and inefficient procurement and contracting practices (e.g. annual procurement contracts for multi-year projects). An ongoing Bank study indicates that since then the Public Investment Program (PIP) process has improved, notably through a better synchronization of the PIP with the MTEF and annual budget processes as well as through the inclusion of municipal projects. Capacity in some key budget organizations to plan and manage capital investments has also improved.

134. The new Law on Public Financial Management and Accountability, which came into force in June 2008, sets a clear budget calendar, which requires the approval of the MTEF to precede the preparation of the annual budget. On the political side, the incumbent Government, albeit a two- party coalition like its predecessor, has shown a higher level of internal coherence and discipline enforced by a more dominant Prime Minister with a clear electoral mandate. This has enabled the Government to present an identifiable set of policy priorities, primarily transport, education, and energy, which indeed make up the bulk of public expenditure. These sectoral priorities have contributed to the sharp increase in capital investment, notably on account of large roads and school construction programs. At the same time, effective multi-annual budgeting will require significant improvements in the planning and budget formulation capacity of line budget organizations to ensure that the quality of their MTEF and budget submissions allows the MEF to make informed decisions based on Government priorities.

135. Control environment for foreign exchange in the Central Bank of Kosovo. The IMF has conducted a Safeguard Assessment of the CBK and the final report is being prepared. As an alternative, the CBK was requested to submit to IDA the CBK financial statements, audit reports and accompanying management letters, for the years ended December 31, 2006, 2007, and 2008 for review by IDA. The World Bank team reviewed the audit reports and noted the auditors issued unqualified opinion on the CBK financial statements for the three years. No material weaknesses in systems and controls were identified during the audited period. However, the 5 percent ratio of capital and general reserve account to the aggregate amount of credit balances of all accounts maintained on the books of the CBK was not satisfied in the years audited. The Law No. 03/L on the CBK requires the Capital and General Reserve Account of the Central Bank to be at least five percent of the aggregate amount of the credit balances of all accounts maintained on the books of the CBK by account holders shown on the balance sheet of the CBK at the end of each financial year. This 5 percent ratio was not met in years 2006 (3.98 percent), 2007 (3.85 percent) and 2008 (3.31 percent), respectively. Whenever the net profit of CBK for any financial year is insufficient to increase the capital and general reserve accounts of CBK to meet the 5 percent requirement, the Ministry of Finance and Economy is required, within one month after publication of the balance sheet, to make a capital contribution to CBK in such amount or amounts as shall be necessary to remedy this deficit.

F. DISBURSEMENT 136. Legal and Disbursement Arrangements. World Bank Group disbursement procedures for development policy operations will be followed. The operations will be financed from Grant proceeds, comprising of $40.0 million IBRD surplus and cofinanced by grants of approximately $56.0 million from a multi-donor trust fund and financing from USAID. The financing terms and conditions for the IBRD surplus will be reflected through a Trust Fund Grant Agreement between the Republic of Kosovo (as Recipient) and IDA, acting as administrator for the IBRD surplus funds; and separate Grant Agreements between IDA and the Republic of Kosovo in respect of other donor funds. As noted previously, Kosovo is eligible for an additional SDR 4.3 million on IDA credit terms from the Crisis Response Window of IDA. This financing is reflected in the Financing Agreement.

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137. The Grant proceeds will be provided as a three year annual programmatic budget support operation in three roughly equal amounts, for each year of the 3-year program, with the additional IDA funds from the Crisis Response Window added only to the first of these operations, SEDPO 1, rather than being spread over the program. SEDPO 1 will be a single tranche operation. As part of the reform program, specific actions will trigger disbursement of budget support (to be defined in each of the appraisal documents for the respective disbursements). Upon effectiveness of the Trust-Fund Financed Grant Agreement and IDA Financing Agreement, the Republic of Kosovo (the Recipient) will submit to IDA a withdrawal application for the first disbursement. The withdrawal applications for the second and third disbursements will be submitted after the Bank team has assessed compliance with the actions specific to those disbursements. In each case, IDA will disburse the Grant and IDA credit proceeds to a dedicated Government account (deposit account) held at the Central Bank of Kosovo, and which forms part of the official foreign exchange reserves of the country. The deposit account will be available for financing budgeted expenditures. The Recipient will ensure that upon deposit of the net proceeds of the financing into the said account, an equivalent amount will be credited in the Recipient’s budget management system. The Government will confirm to IDA within 30 days, the receipt of each disbursement, by sending a confirmation letter on the Grant amounts deposited in the foreign currency accounts and credited to the budget management system. If any of the proceeds of the financing/grant are used to finance ineligible expenditures as defined in the Financing and Grant Agreements, IDA will require the Recipient to promptly refund the said amount. Amounts refunded to IDA upon such request shall be cancelled.

G. RISKS AND RISK MITIGATION

138. There are several important risks to be noted:

 Kosovo’s recent and unexpected fiscal expansion raises questions about medium-term macroeconomic stability and risks undermining important reforms, including those supported by the SEDPP. Following an estimated budget deficit of 7 percent of GDP for calendar year 2009, the Government now agreed with the IMF on a revised 2010 budget with a deficit of 3.4 percent of GDP, with budget support grants expected to cover 40 percent of the deficit. These deficits can be financed with the Government’s available cash reserves, but there is cause for concern about medium-term macroeconomic stability if fiscal expansion were to continue. The Bank is already working closely with the IMF and other key external partners (e.g., EC and USAID) and has engaged the Government in a constructive dialogue to address fiscal issues and is committed to continuing this effort. The IMF SBA will help mitigate these risks over the next 18 months, as the Government has made commitments on its macroeconomic framework to the IMF.  Spillover effects of the global financial crisis could destabilize the economy and hinder government initiatives in WB-supported areas. While the effects of the crisis on Kosovo were somewhat limited until about mid-2009, recent months have seen a decline in exports and FDI as well as a tightening of credit which could risk lowering domestic consumption and public revenues. Moreover the timeliness of reforms could be adversely affected – e.g., the impact of the crisis on short-listed bidders for the energy project could slow down the comprehensive energy sector reform initiated by Government. While the World Bank cannot have much impact on economic conditions, it can - and is - helping the Government to continue towards identified development goals by adjusting strategies to accommodate changing circumstances.  Kosovo’s governance and political structures are new and fragile and institutions are still being developed. Kosovo’s young and relatively untested institutions render it potentially vulnerable to domestic unrest and political pressures. Moreover, Kosovo’s governance systems still lack full transparency and accountability, although there have been improvements in recent

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years. Governance and political developments will need to be closely followed as related problems could undermine external development support activities.  Kosovo’s limited capacity in program implementation and monitoring and evaluation pose risks to the execution of WB-supported initiatives, including the technical assistance required to complete the ambitious PFM Reform Action Plan and the Employment Strategy. Given Kosovo’s relative unfamiliarity with complex Bank procedures and requirements there is a risk of slow program execution. In addition, the absence of trained staff for monitoring and evaluation of development programs could impede appropriate decision making, thereby delaying timely implementation of development programs, including IDA- financed projects. The recent delay in Parliamentary approval of two technical assistance projects is just an example of the potential delays which can be anticipated. To mitigate these risks, the World Bank is providing Kosovan officials with training in key implementation areas (e.g., procurement and financial management), and other donors are also helping to build necessary capacity. Broad donor coordination will be necessary to support the domestic institutions.  Specific elements of the program, such as the pay and grading of core civil servants, may not progress satisfactorily. Pay and grading reforms for civil service are always politically sensitive and could prove to be so in Kosovo. The flexibility in the programmatic approach will allow the program to accommodate a slower pace of reform if necessary.  Similarly, political demands for more benefits financed by labor taxes may make it difficult for the authorities to balance the need for maintaining a conducive framework for employment generation against the need to satisfy political demands. Working with the authorities to provide ample public information explaining why some actions are being taken and why others are being postponed should help alleviate these issues.

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Annex 1: Letter of Development Policy

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Annex 2: Operation Policy Matrix9

ISSUE/CHALLENGE ACTIONS AND PROGRESS TRIGGERS OUTCOMES Prior Actions DPO I Indicative Triggers Indicative Trigger DPO DPO II III Macroeconomic stability The Recipient has The Recipient has The Recipient has Macroeconomic performance is sound as necessary for sustained achieved a satisfactory continued to maintain continued to maintain a indicated by the status of key economic growth macroeconomic a satisfactory satisfactory indicators framework macroeconomic macroeconomic framework, with no framework Kosovo’s long term fiscal position has been new spending strengthened by improving budgetary initiatives outside the controls agreed macro framework Lack of long-term direction The Recipient has The Recipient has The Recipient has taken Improved performance in the following in public financial approved the PFMRAP, taken measures as measures as specified in PEFA indicators (compared to 2007 and management, coupled with in a form and manner specified in the PFM the PFM Reform Action 2009 assessments): PI-1 (aggregate weaknesses in internal satisfactory to the Reform Action Plan Plan including: expenditure out-turn); maintenance in A controls and audit and Association including: score for PI-2 (composition of expenditure external audit, as well as  All major capital out-turn); PI-12 (multi-year perspective in procurement and payroll  Establishment of projects considered in fiscal planning and budgeting); PI-19 management, as documented strategic planning the 2011budget are (procurement) in PEFA 2007 and PEFA unit in the Office of included in PIP and 2009 the Prime Minister to MTEF. Capital budget Capital budget execution is more than 90% facilitate linking of plans for 2011 are of approved allocation at the end of the strategic planning consistent with program activities in line approved MTEF Ministries to the ceilings. MTEF  Pilot implementation of  Requirement for monitoring and incorporation and evaluation framework presentation of the for selected programs, recurrent costs of including tracking of capital projects in performance targets the budget Budget expenditure introduced by MEF monitoring by line budget circular ministries and

9 All actions included in the matrix should be deemed satisfactory by IDA.

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ISSUE/CHALLENGE ACTIONS AND PROGRESS TRIGGERS OUTCOMES Prior Actions DPO I Indicative Triggers Indicative Trigger DPO DPO II III  MEF submission of municipalities (as monitoring report on appropriate) incorporate capital budget explicit budget execution to the distribution and Government and expenditure monitoring Parliament for at least 100 service delivery units (including  System of forward schools and primary estimates is health care facilities) established by the MEF incorporating three year estimates of receipts and expenditure for bodies funded from the Kosovo budget which are updated annually.  MEF has launched pilots of recommendations from Quick Gains Study reforms in at least two procurement categories Fragmented and discretionary The Recipient has The Ministry of Public The Ministry of Public HRMIS and payroll are directly linked and public employee payroll enacted the Law on the Administration has Administration and the also linked with Treasury to ensure data management Civil Service No. 03/L- assigned newly MEF have created a real consistency 149 and the Law on defined grades for time link between the Score in PEFA indicator PI-18 Civil Service 20% of the core civil payroll database and the (effectiveness of payroll controls) improves Remuneration No. 03/L- service Treasury system; (D+ in 2007 and 2009) 147, with a completed Government has adopted analysis of cost regulation on annual implications, and personnel and payroll published such laws in audits the Official Gazette

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ISSUE/CHALLENGE ACTIONS AND PROGRESS TRIGGERS OUTCOMES Prior Actions DPO I Indicative Triggers Indicative Trigger DPO DPO II III dated June 25, 2010, all in a form and manner satisfactory to the Association Lack of policymaking The Recipient has: (i) The Interministerial The Interministerial Employment strategy and action plan is coordination on the broad established a permanent Committee Committee appropriates reflected in the MTEF; range of cross-sectoral issues inter-ministerial appropriates funding funding for action plan in Elements of the employment strategy and affecting employment committee on for action plan in 2011 2012 budget action plan requiring budgetary allocations sustainable budget are reflected in annual budgets;

employment; and (ii)

approved an Employment strategy and action plan are employment strategy. implemented on the expected timetable. The Recipient’s inter- ministerial committee on sustainable employment has approved an action plan based on the employment strategy and included actions with budgetary implications for 2010 in the 2010 budget, all in a form and manner satisfactory to the Association Weak investment climate due The Recipient has: (i) The Recipient has The Government has Reduction in percentage of firms indicating to many factors, including (i) approved the Kosovo established one-stop- approved regulations a problem in access to finance from 55% to multiple and uncoordinated Cadastre Agency’s shop provision of aimed at simplification 45% requirements for business strategy and business business services at and streamlining of licensing, inspections, and plan; and (ii) enacted the municipal level in business licensing and Reduction in percentage of firms indicating regulations; (ii) uncertain the Law on Leasing No. at least 8 inspections. problems with business licensing and property rights; and (iii) 03/L-103, dated July 17, municipalities. regulation from 47% to 37% limited access to finance. 2009, and published such law in the Official The Ministry of Trade Increase in apartments registered with Gazette, dated August and Industry has Kosovo Cadastre Agency to 1000 10, 2009; both taken measures to

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ISSUE/CHALLENGE ACTIONS AND PROGRESS TRIGGERS OUTCOMES Prior Actions DPO I Indicative Triggers Indicative Trigger DPO DPO II III satisfactory to the modernize the pledge Association registry Weak labor market The Recipient has The Government has put Regular reporting of labor market indicators institutions, regulations, and revised and enacted a in place a regular policies attributable to factors new reporting mechanism for Labor taxes maintained at current low levels including (i) non-compliance labor law and a law labor market indicators with existing labor establishing the legal and ALMP program and legislation; (ii) lack of framework for the has taken some steps general framework for the design, towards consolidation of design, implementation, and implementation, and small ALMP programs, financing of labor market financing of labor by establishing an annual policies; and (iii) limited market programs, coordination mechanism capacity to program, while maintaining for ALMP. implement, monitor, and current low levels of evaluate labor market labor taxes policies. Low quality and relevance of The Recipient, through MEST/MLSW together NQA initiates accreditation of vocational education to produce well- the Kosovo have developed adult training institutions educated and highly-skilled Accreditation Agency, training programs to be workforce which is needed has completed an offered by vocational KAA develops the guidelines for internal for competitive and accreditation review of schools or training centers Quality Assurance for all public and private productive economy; all private tertiary higher education institutions. education institutions, in Weak linkages between a form and manner school and work; satisfactory to the Association Limited quality assurance of tertiary education institutions and secondary vocational schools

Low benefit levels for both The Recipient’s Cabinet The Ministry of Labor The Ministry of Labor has Social assistance benefits keep up with pensions and social assistance has taken decision 02/51, and Social Welfare has revised social assistance inflation with demands for higher dated January 23, 2009, designed and launched eligibility to focus on labor taxes to finance higher to increase the level of an expanded public general targeting rather At least 2000 beneficiaries in welfare-to- benefits social assistance and works program to than on registration as work programs

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ISSUE/CHALLENGE ACTIONS AND PROGRESS TRIGGERS OUTCOMES Prior Actions DPO I Indicative Triggers Indicative Trigger DPO DPO II III pension benefits to cover provide a safety net to unemployed Limited coverage of the poor the cumulated inflation the unemployed The Ministry of Labor has in the social assistance since calendar year developed, adopted, and system and with disincentives 2005, but without implemented an IT for individuals to seek work; resorting to higher labor system for monitoring taxes, in a form and social assistance Lack of reliable data on manner satisfactory to applications and social protection the Association beneficiaries. beneficiaries, leading to high level of fraud.

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Annex 3: Fund Relations Note

IMF Executive Board Approves € 108.9 Million 18-Month Stand-By Arrangement for the Republic of Kosovo Press Release No. 10/300 July 21, 2010 The Executive Board of the International Monetary Fund (IMF) today approved an 18-month Stand-By Arrangement (SBA) for the Republic of Kosovo in a sum equivalent to SDR 92.656 million (about €108.9 million, or US$ 139.6 million), or 157 percent of its quota in the Fund. An initial disbursement equivalent to SDR 18.760 million (about € 22.1 million, or US$ 28.3 million) is available immediately, with subsequent disbursements subject to quarterly reviews. Kosovo became the 186th member of the IMF on June 29, 2009. Prior to that, Fund staff had provided technical assistance and policy advice to the United Nations Mission in Kosovo, and, since 2008, to the Republic of Kosovo. Following the Executive Board’s discussion of Kosovo, Mr. Murilo Portugal, Deputy Managing Director and Acting Chair, made the following statement: “Kosovo’s economic performance has strengthened in recent years, although large fiscal and external imbalances persist, which could be exacerbated by considerable capital spending, including for the country’s first major highway. Against this background, the authorities’ commitment to a comprehensive policy program that aims to lay the foundation for restoring fiscal sustainability and to safeguard financial sector stability is, therefore, most welcome. “The program seeks to raise revenues and restrain current expenditures in order to limit the impact of large capital spending on the fiscal deficit and on the government’s bank balances. To this end, the Assembly recently revised the 2010 budget and raised excise rates. “The authorities are committed to improving tax administration, refraining from unfunded spending initiatives, and ensuring the credibility of the budget process by revising future budgets exclusively in a deficit-neutral fashion. Disciplined implementation of these policies will help ensure sound public finances over the medium term. “An important objective of the Fund-supported program is to shore up the government’s bank balances to a prudent level in order to provide an adequate fiscal reserve and funds for emergency liquidity assistance to the banking system, if this is needed. The timely privatization of PTK, the post and telecom operator, will help replenish bank balances and ensure that deficit financing will not rely on short-term commercial borrowing. “To effectively address quasi-fiscal risks, the authorities intend to devise a strategy to improve energy sector finances in order to phase out the need for continued budget transfers. To further protect against contingent fiscal liabilities, the authorities recognize the importance of safeguarding the fiduciary responsibilities of the pension fund and of avoiding undue exposure by this fund to a single borrower. “Kosovo’s financial system has weathered the global financial crisis relatively well, and will be further strengthened by improving crisis preparedness. In this context, the revised central bank law allows for the extension of emergency liquidity assistance, if needed, and the authorities intend to draw up regulations that will operationalize the provision of such assistance, while limiting moral hazard.” ANNEX Recent Economic Developments A decade after the end of the conflict that led to Kosovo’s unilateral declaration of independence in February 2008, growth prospects continue to be hampered by profound structural impediments. These include poor public and private infrastructure, unreliable electricity supply, and inadequate regional connectivity of transportation routes.

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The economy remains undiversified and dominated by the trade and services sectors that are boosted by the large foreign presence and remittances. The export base is narrow and dominated by low value-added products, and a sector that could drive sustainable growth has yet to emerge. Public expenditure has increased due in part to rising subsidies and net lending to the publicly-owned loss-making electricity company KEK, which remains under severe financial strain as a result of widespread difficulties with billings and collections, and a tariff structure that does not ensure cost recovery. Nevertheless, economic activity appears to be strengthening and the recession in Europe in 2009 had only a modest impact on Kosovo’s economy. Following a contraction last year, exports have been rebounding so far in 2010 and remittances—an essential source of funding for private sector activity—have also been recovering. However, private sector credit growth continues to decelerate. Public spending, especially for capital investments, has supported economic activity. Real growth therefore declined only moderately to 4 percent in 2009, from 5.4 in 2008. Public investment spending is expected to increase in 2010, mainly due to the beginning of the construction of the Route 7 corridor, Kosovo’s first highway. Program Summary The key objective of the authorities’ economic program is to lay the foundation for restoring fiscal sustainability and to safeguard financial stability by: • Exercising restraint in current spending and raise revenues to contain the impact of their large capital investment program on the overall fiscal deficit; • Securing substantial budget financing from privatization to preserve debt sustainability; • Pursuing reforms to broaden the tax base and strengthen public financial management; • Bolstering the government’s bank balances with the Central Bank of the Republic of Kosovo (CBK) to provide scope for emergency liquidity assistance (ELA), if needed; • Providing the CBK with a mandate for ELA, affirm its independence, and further strengthen the banking system; and • Improving the financial position of the energy sector.

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Annex 4: Catalog of Existing Active Labor Market Programs

Description of Program Number of Beneficiaries Outcomes Financed By: Name of Program Active Labor 5 types of measures: (i) on the 1500 jobseekers, all Project placed 300 jobseekers; on UNDP, ILO, MLSW Market Program job training, (ii) pre- below the age of 30 the job training was most valued by employment training, (iii) employers employment subsidies, (iv) internship schemes, and (v) vocational training offered by a private provider Employment 2 components: (i) public works 3160 individuals 38 public works implemented, UNDP, MLSW Generation Project targeted at unemployed with provided with short term generating 28% more income for secondary or lower education, employment and 2200 participating workers; and (ii) employment subsidy jobseekers assisted with 22 of 124 interns became regular longer term employment employees Strengthening Vocational training centers 700 trainees for training Ongoing Lux Development, Vocational provided with (i) skill training, in management and MLSW Training (ii) modernization of obsolete business administration; equipment, (iii) workshop 700 trainees will receive rehabilitation, and (iv) transport on the job training subsidies for poor trainees in rural areas Business Helping young people set up Train 500 young people Ongoing World Bank, MYCS, Development for their own businesses in business development Partner Organizations Youth skills; Support 250 young entrepreneurs Promotion of (i) on the job training, (ii) 10,000 jobseekers Ongoing European Commission, Youth vocational training, (iii) MLSW, MYCS, MEST Employment temporary employment, (iv) Through ALM self-employment opportunities, Measures (v) internships to beneficiaries Regional Projects in specific subsectors: Expect to create 1140 Ongoing CARE-Kosovo, KEP Economic Growth (i) broiler production, (ii) non- jobs by 2010 ICCED in Kosovo, EPI

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and Stability timber forest products, (iii) bee- in Macedonia Project I keeping, (iv) strawberries, and (v) rural tourism KOSVET I Strengthen Kosovo’s VET Training provided for Improvement in teaching and European Agency for system, making it EU- 295 teachers, 55 trainers, learning strategies in VET Reconstruction, compatible and 66 stakeholders providers; 13 schools able to MLSW increase equipment by 25%; training standards developed; new curricula developed; development of assessment and certification procedures; strengthened career guidance; increased capacity of vocational training center at Doljane KOSVET II (i) Supports development of 738 people trained Reviewed laws on adult education European Agency for appropriate legal and and training and VET law; Reconstruction institutional framework for VET materials regarding curriculum and system development, (ii) standards were strengthened; career enhances human resource education and guidance module capacities of identified VET was developed and piloted institutions, (iii) supports the development of career guidance and labor market information system Community Grants used for purchase of 813 direct beneficiaries 800 projects funded; around 80% EAR, IOM Stabilization equipment, machinery, and of enterprises established still Program IV start-up raw materials operating Business Start Up Practical training and direct Train 400 business Ongoing SPARK, MTI, MEST, Center financial assistance to young minded entrepreneurs MYCS, University of people for start ups and establish 30 new Pristina small enterprises A-B-C Project Develop agricultural, cow 235 beneficiaries, all Medica Kosova, Heifer breeding, and bee-keeping women International, BMZ, activities Medica Mondiale Germany Vocational Job-oriented modular training 3000 students expected From phase I, 34-40% of graduates Swisscontact

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Education Support for adults in technical to attend supported are working; Phases II and III are professions such as plumbing schools annually still being evaluated and tailoring, school equipment, and curriculum development in vocational schools Don Bosco Center Private provider of vocational More than 1000 students Ongoing Italian Government, for Vocational training for 8 professions Lux Development, Education German Government, Congregata Salezione Internship Scheme (i) facilitates transition from 50 students Ongoing MTI, Partner university to labor market, (ii) companies familiarizes students with working environment, and (iii) assists in the creation of a more favorable attitude towards student as potential employees Skills (i) Help establish a vocational 850 jobseekers trained in 80% of those with vocational ILO, MLSW Development for training system, (ii) introduction self-employment; 1609 training found work; 60% of those the Reconstruction of pilot programs to enhance the attended competency- who participated in school to work and Recovery of employability of disadvantaged based courses in programs found work Kosovo youth, and (iii) increase capacity vocational training of government and social centers; 600 participated partners in youth employment in school to work policy development programs Shelters for Provides shelters for women Capacity to shelter 101 3 of 4 shelters had programs to help Kosovo Women Women who experience gender based clients at a time women find employment Network violence Summer Seasonal employment in Approximately 100 MLSW, Bundesagentur Employment Germany participants per summer fur Arbeit, Zentralstelle Program fur Arbeitsvermittlung

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Annex 5: Government of Kosovo Employment Strategy and Action Plan Employment Strategy 2010 – 2012

ACTION PLAN - 2010 - RESULTS MONITORING

Investment climate and removal of key constraints on entry and expansion of firms

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Improve overall business Percent of firms indicating one or more In 2007, 65% of firms indicated one or more problems with business By 2012, not more than 55% of infrastructure problems in enterprise surveys with infrastructure firms indicate one or more business infrastructure such as electricity, problems with business transportation, telecommunication infrastructure

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Development of Finalize Business Park in Drenas Completion of all infrastructure Placement of 55 businesses Technical reports of Business Business parks, project in Business Park for (mainly production oriented) Park industrial zones and placement of businesses 1000 jobs generated business incubators Contracts signed with businesses,

At least € 20 million new

investments generated

Construction of the industrial zone (IZ) in Start construction of IZ in Drenas The company hired for Technical reports Drenas construction of IZ

Design management programme for IZ Propose modalities for The proposed modalities are Report on model/modality for management of the IZs in Kosovo approved by competent management of the IZs in Kosovo, based on best practices institutions

Design and implement a programme for Consolidation of four business 80% of space in BI filled out with Report on BI the operationalization of business incubators in conformity to their businesses

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incubators (BI) mission of promoting the creation Professional management Statute on BI network in Kosovo and development of new businesses consolidated in 3 out of 4 BI Advertisement for placement of At least 10 new business created new businesses in IB, as a result of these measures

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Ease financing constraints Percent of firms indicating a problem in In 2007, 55% of firms indicated a problem in access to and cost of finance By 2012, not more than 45% of enterprise surveys with access to and cost firms indicate a problem in access of finance. to and cost of finance.

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Establishment Conduct study to identify the most Identification of the most effective Start developing at least 2 The study conducted (operationalization) effective schemes schemes for improving access to scheme for improving access to of schemes to finance for SMEs finance for SMEs improve SME access to finance

Strengthening of the Finalize KCA strategy and action plan ‐ ‐ ‐ Kosovo Cadastral Agency (KCA)

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Improve market information Number of consultancy assistance vouchers In 2008, 65 vouchers provided to businesses By end of 2012, at least 5000 and consultancy services for provided to businesses vouchers provided to businesses small businesses per year

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

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Provision of training Expand Voucher Counselling and Training Expand the provision of training and 1560 training and counselling Yearly report on CVTS and counselling Scheme (VCTS) counselling services for businesses days offered to new, potential services and existing business based on

their request

30 trainers accredited for VCTS

At least 20 new business created

Information system on beneficiaries created

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Improve legislative and Percentage of firms indicating problems In 2007, 47% of firms indicated one or more problems in relevant areas By 2012, not more than 37% of regulatory framework for with business licensing and permits as well firms indicate one or more businesses as uncertainty about regulatory policies problems in relevant areas

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Completing and Conduct assessment of legal environment Identification of the laws and A proposal for amendments Report improving the legal for businesses development regulations for amendment drafted and submitted to framework – Government Minutes from Government removal of business meetings barriers (both at the local and central level)

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Strengthen institutional Percentage of government spending In 2008, 0.03% of government spending was allocated to SME and By end of 2012, SME and capacities allocated to undertake SME and investment promotion services investment promotion services investment promotion services account for 0.5 % or more of government spending

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MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Operationalization Continuation of the World Bank BETA ‐ ‐ ‐ and development of project for the implementation of the One institutional Stop Shop in municipalities mechanisms (one stop shops) at the local level

Develop and Provision of Technical Assistance for the Concrete proposal for the The creation of “One stop shop” Yearly report from IPAK implement establishment of the “One stop shop” at establishment of the “One stop at the central level for investment and the central level for investment and export shop” at the central level for investment promotion initiated export promotion promotion investment promotion measures Develop and implement B2B programmes Increase joint (venture) investments At least 10 contracts signed with Yearly report from IPAK B2B programmes Technical reports on B2B programmes

Provision of training for exporters on Increase knowledge of businesses for Number of trainings organized Yearly report from IPAK quality, marketing, packaging and design exporting for businesses Technical reports on trainings

Support local fairs and participation of Increase interaction/communication Organization of 4 local fairs Yearly report from IPAK business into international fairs between local and international supported businesses At least 20 company supported to participate into international fairs

Prepare a Report on investment climate Assess investment climate indicators Report on investment climate Report on investment climate measurement indicators by IPAK for annual basis indicators published indicators

Analyse training needs for Investment Increase knowledge of APIK staff Number of trainings offered for Yearly report from IPAK Promotion Agency (IPAK) and start APIK staff providing basic trainings

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Completion of the Complete legislative framework Complement the legislative Laws and administrative Report form legal department quality framework on quality infrastructure instructions drafted infrastructure

Education, skills and training

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Increase quality and relevance Number of CoCs established By end‐June 2009, courses of two CoCs had been identified and By end of 2012, establish 7 CoCs of vocational education evaluation of existing vocational schools initiated. based on international standards and initiate conversion of existing vocational schools to CoCs Number of vocational schools identified to be transformed into CoCs

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Implementation of Construction of 4 schools of competence Centres of Competence (COC) are 2 out of 4 COCs are functioning. Yearly report of Vocational the MEST project for (CoC) functioning Education the establishment of Centres of 5 existing VET schools Competence (CoC) Transformation of Vocational transformed into COC and transformation Education and Training schools into of Vocational CoCs Education and Training schools into CoCs

Equip schools with Assess current situation and equipment Measure the equipment needs of the Assessment completed Report from Pedagogical Institute appropriate facilities needs of schools VET schools of Kosovo (IPK)

Assess existing textbooks and materials Identify potential basic VET Assessment completed Report from IPK textbooks

Assess the qualifications and performance Measure the qualifications and Assessment over qualifications Report from IPK

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of VET teachers performance of VET teachers of VET teaches completed

Decentralization of Undertake necessary legal amendments Review legal framework Law on VET reviewed and Official Gazette authority from administrative directions municipalities to VET drafted schools Define budgetary needs of the VET schools Measure financial needs of the VET New formula for financing of Law on Municipalities schools VET schools is identified

Offer training for managerial staff in Increase managerial capacities of Budget planning and School development plans municipalities and schools on budget schools expenditure reports drafted planning and expenditure reporting methods

Strengthening the Review various assessment of the labour Identification of labour market skills Report about identification of Report link between school market needs/demand requirements for VET schools profiles for VET schools and work;

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Improve responsiveness of Fully functional National Authority for By end‐June 2009, NAQ not established By end of 2012, establish NAQ vocational training to labour Qualifications (NAQ) and initiate accreditation of market needs training institutions for vocational training

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Promote lifelong Support public and private VET institutions Offer adult trainings Number of adults trained Report on adult training. learning (LLL) for offering adult trainings based on key opportunities qualifications

Organize and offer adult trainings

Define and Establishment the National Qualification Completed implement a Authority (NQA) in accordance with the law national on National Qualifications

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qualification Review of the national qualification Regulate qualifications in NQF in 10 key qualifications identified National Qualification Framework framework in framework accordance to labour market needs accordance with and in conformity with the European ISCED and the Qualification Framework European Qualification Framework

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Increase quality of higher Accreditation of higher education By end‐June 2009, second round of evaluation of higher education By end of 2009, finalize education institutions institutions institutions completed evaluation of higher education institutions

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Ongoing quality Implementation of recommendations from assessment and the first accreditation process and accreditation of continuation of next accreditation process higher educational institutions

Development of Review of the law on higher education curricula based on labour market needs

Increase the science Drafting of the science and research and research programmes by the National Council of capacities of higher Science education Establishment of the CITT (Centre for Innovation and Technology Transfer)

Establishment of National Contact Point System for Seventh Framework Programme (FP7)

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Labour institutions, policies and regulations

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Improve effectiveness of Number of placements In 2008, 5845 placements By end of 2012, 11,690 or more Public Employment Services placements (PES)

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Reform and DLE Upgrade PES software and hardware The entire job seekers and All jobseekers’ records kept in Yearly report on employment and modernization of employment information system is software (electronic format), labour market, Public Employment centralized Unemployed registry cleaned, Services Performance report of PES, Access to unemployed registry enabled to jobseekers and employers through internet

Change of administrative procedures so as Increase cooperation between PES Jobseekers referred for training Yearly report on employment and to improve the working relationships and VTCs to VTCs increased by 10% labour market, between the PES and the Vocational (Baseline 3,000; target 3,300) Training Centres Performance report of PES

Review duties and responsibilities of Proposal for redistribution of the Analysis conducted by ILO Report from ILO counsellors for employment, counselling, responsibilities of counsellors for expert and vocational training employment, counselling and vocational training

Start to increase responsibility of Regional Identify areas for increasing Analysis conducted by ILO Report from ILO and Municipal Employment offices for job responsibilities of Regional and Municipal Employment offices

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creation programmes

Establishment of a DLE Identify additional needs for labour market Completed reliable national information labour market Design support assistance for the Design support programme for Support programme designed Report on support programme information system establishment of the labour market extending labour market information information system system

Supporting labour MLS Setting up the institutional structure to Establish institutional structure for Unit created, Organigram migration W deal with labour migration dealing with labour migration issues Personnel hired

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Expand Active Labour Market ALMP expenditures as % of government In 2008, ALMP expenditure accounted for 0.1 % of government spending By end of 2012, ALMP Programs (ALMP)) spending expenditure accounts for 2% or more of government spending

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Expansion of Active DLE Define legal framework for ALMP s Law on (functioning of) PES drafted The law on PES was further Brief from legal department of Labor Market processed to MEF and MLSW Programs Parliament for review and approval

Finalize Action Plan for development of Completed institutional capacities for ALMP

Organize trainings on implementation of Increase knowledge of Employment Number of training organized Technical report on trainings ALMP Offices in implementation of ALMPs for employment counsellors,

Draft and initiate implementation of public Expand implementation of the public About 50 sub‐projects Reports on public works works projects works programme implemented programme

About 2,000 jobseekers engaged for duration of 3

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months

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Strengthen Employment The rate of informal employment In 2008, informal employment rate: 50% By 2012, reduce informal Protection employment rate to 40% or less

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Review of the DL Review of the Essential Labour Law and Completed Essential Labour Law submission to the Assembly

Further review of LI Review of existing capacities and drafting Plan for development of labour Plan is approved by MLSW Report from Labour Inspectorate capacities of the of a plan for development of labour inspectorate capacities drafted labour inspectorate inspectorate capacities in order to ensure the implementation of employment protection legislation

OUTCOMES PERFORMANCE INDICATORS BASELINE SITUATION RESULTS TARGETS

Move individuals from Social Number of social assistance beneficiaries in In 2008, no social assistance beneficiaries in welfare‐to‐work By end of 2012, at least 2,000 Assistance to work welfare‐to‐work programmes programmes beneficiaries in welfare‐to‐work programmes

MEASURES RESP. ACTIONS Expected Results Result/Success Indicators Information Source INST

Establishment of a DLE, Establish an integrated information system Integrate information system with Data is comparable between Information from PES and SWC functional system for DSW for data comparison between the social DLE and DSW the social work centres and the integration of the work centres and employment offices employment offices social assistance beneficiaries into Design of cooperation mechanisms for Mechanism for integration of the Mechanism ready for piloting Yearly reports from DLE and DSW labour market between the two departments of MLSW for social assistance beneficiaries the integration of the social assistance designed beneficiaries

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Annex 6 : Country at a Glance

Europe & Lower- POVERTY and SOCIAL Kosovo Central middle- (est.) Asia income 2007 Population, mid-year (millions) 2.1 445 3,437 GNI per capita 2,550 6,052 1,887 GNI (US$ bllions) 0.00 2,694 6,485

Average annual growth, 2000-06

Population (%) 1.5 0.0 1.1 Labor force (%) .. 0.5 1.5

Most recent estimate (latest year available, 2004-06)

Poverty (% of population below national poverty line) 37 36 .. Urban population (% of total population) 37 36 47 Life expectancy at birth (years) 74 69 71 Infant mortality (per 1,000 live births) 35 28 31 Child malnutrition (% of children under 5) .. 5 13 Access to an improved water source (% of population) .. 92 81 Illiteracy (% of population age 15+) 6 3 11 Gross primary enrollment (% of school-age population) 93 103 112 Male 93 104 113 Female 93 102 110

KEY ECONOMIC RATIOS and LONG-TERM TRENDS

1985 1995 2005 2006 2007 2008 2009

GDP (US$ billions) .. .. 3.8 4.0 4.6 5.6 5.3

Gross capital formation/GDP .. .. 24.5 25.6 26.0 28.9 29.8 Exports of goods and services/GDP .. .. 11.1 14.1 15.1 14.9 14.1 Gross domestic savings/GDP .. .. -12.2 -11.5 -13.0 - - 16.1 15.5 Gross national savings/GDP .. .. 4.3 7.9 8.4 5.4 4.8

Current account balance/GDP .. .. -19.6 -16.9 -17.6 - - 23.4 25.0 Interest payments/GDP .. .. 0.0 0.0 0.0 0.0 0.0 Total debt/GDP .. .. 0.0 0.0 0.0 0.0 6.4 Total debt service/exports ...... 25.1 Present value of debt/GDP ...... Present value of debt/exports ......

1985-95 1995-05 2005 2006 2007 2008 2009 (average annual growth) GDP .. .. 3.8 3.9 4.0 5.4 4.0 GDP per capita .. .. 2.4 2.4 2.7 3.8 2.5 Exports of goods and services .. .. 0.8 33.0 147.2 19.9 - 11.6

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STRUCTURE of the ECONOMY

1985 1995 2005 2006 2007 2008 2009 (% of GDP) Agriculture .. .. 13.1 13.6 ...... Industry .. .. 24.9 25.4 ...... Manufacturing ...... Services .. .. 62.0 61.0 ......

Household final consumption expenditure .. .. 88.4 89.4 92.9 95.2 94.4 General government final consumption expenditure .. .. 11.2 11.1 10.3 10.0 11.3 Imports of goods and services .. .. 47.2 50.8 53.7 56.4 54.4

1985-95 1995-05 2005 2006 2007 2008 2009 (average annual growth) Agriculture ...... Industry ...... Manufacturing ...... Services ......

Household final consumption expenditure .. .. 6.0 5.0 13.6 15.7 -0.4 General government final consumption expenditure .. .. -10.4 2.8 1.9 9.1 13.6 Gross capital formation .. .. 3.0 10.5 11.8 22.6 -1.9 Imports of goods and services .. .. 8.2 11.5 15.7 18.5 -3.1

Note: All data for Kosovo are estimates

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