Report and Recommendation of the President to the Board of Directors
Sri Lanka Project Number: 41180 November 2008
Proposed Asian Development Fund Grant Tuvalu: Improved Financial Management Program
CURRENCY EQUIVALENTS (as of 10 November 2008)
Currency Unit – Australian dollar (A$) A$1.00 = $0.67 $1.00 = A$1.48
ABBREVIATIONS
ADB – Asian Development Bank AusAID – Australian Agency for International Development CIF – Consolidated Investment Fund CPS – country partnership strategy DBT – Development Bank of Tuvalu GDP – gross domestic product MFEP – Ministry of Finance and Economic Planning MTFF – medium-term fiscal framework NAFICOT – National Fishing Corporation of Tuvalu NBT – National Bank of Tuvalu NPL – nonperforming loan NZAID – New Zealand Agency for International Development OIASA – outer islands agency suspense account PBI – performance benchmark indicator PFTAC – Pacific Financial Technical Assistance Centre TA – technical assistance TEC – Tuvalu Electricity Commission TMC – Tuvalu Media Corporation TMTI – Tuvalu Maritime Training Institute TNPF – Tuvalu National Provident Fund TTC – Tuvalu Telecommunications Corporation TTF – Tuvalu Trust Fund TTFAC – Tuvalu Trust Fund Advisory Committee VLH – Vaiaku Lagi Hotel
GLOSSARY
corporation – Government-owned entity that has been recognized as an independent entity under legislation enterprise – any area of government operations that has businesslike characteristics, inclusive of corporations and units within ministries Falekaupule – local island council Te Kakeega II – National Strategy for Sustainable Development 2005–2015
NOTES
(i) The fiscal year (FY) of the Government and its agencies ends on 31 December.
(ii) In this report, “$” refers to US dollars unless otherwise stated.
Vice-President C. Lawrence Greenwood, Jr., Operations 2 Director General S. Hafeez Rahman, Pacific Department (PARD) Regional Director R. Keith Leonard, Pacific Subregional Office, PARD
Team leader E. Ferguson, Country Specialist, PARD Team members T. Gloerfelt-Tarp, Principal Portfolio Management Specialist, PARD L. Nazarbekova, Senior Counsel, Office of the General Counsel C. Png, Counsel, Office of the General Counsel
CONTENTS
Page
GRANT AND PROGRAM SUMMARY i MAP I. THE PROPOSAL 1 II. THE MACROECONOMIC CONTEXT 1 III. THE PUBLIC FINANCE SECTOR 3 A. Sector Description and Performance 3 B. Issues and Opportunities 10 IV. THE PROPOSED PROGRAM 13 A. Impact and Outcome 13 B. Policy Framework and Actions 14 C. Financing Plan 20 D. Implementation Arrangements 21 V. PROGRAM BENEFITS, IMPACTS, AND RISKS 23 A. Benefits and Impacts 23 B. Risks 25 VI. ASSURANCES 27 A. Special Assurances 27 B. Condition to Grant Effectiveness 27
VII. RECOMMENDATION 28
APPENDIXES
1. Design and Monitoring Framework 29 2. Analysis of the National Bank of Tuvalu 32 3. Public Finance Sector Analysis 34 4. Problem and Constraints Analysis 43 5. Technical Assistance 46 6. Development Policy Letter and Policy Matrix 49 7. Description of Ineligible Items 58 8. Development Coordination Matrix 59 9. Summary Poverty Reduction and Social Strategy 62
GRANT AND PROGRAM SUMMARY
Recipient Tuvalu
Classification Targeting classification: General intervention Sector: Law, economic management, and public policy Subsector: Public finance and expenditure management Themes: Capacity development, sustainable economic growth, private sector development Subthemes: Institutional development, promoting macroeconomic stability, private sector investment
Environment Category C. Environmental implications of the proposed policy and Assessment institutional reforms were reviewed, and environmental interventions have been incorporated, as required.
Program The Program will provide for the development of a strengthened Description governance framework for the oversight of public enterprises in Tuvalu, improved capacity for oversight on the part of the Government, the capacity to respond positively to such oversight on the part of public corporations, strengthened capacity to manage debt, and a reduction in government debt to the National Bank of Tuvalu (NBT).
Rationale Tuvalu’s economy is strongly dependent on external earnings, the level of which is determined by global economic forces. In recent years, external earnings have fallen, placing fiscal pressure on the Government, and highlighting the need to reduce the domestic economy’s reliance on the public sector as the driver of growth and instead create opportunities for private sector development to build insurance against volatility.
Impact The intended impact of the Program will be sustained economic growth and fiscal stability as prioritized in Tuvalu’s national plan objectives. Indicators of success will be the Government’s performance benchmark indicators.
Outcome The outcome of the Program will be improved government capacity for fiscal planning and management. The policy matrix is structured around three outputs: (i) improved public debt management capacity, (ii) strengthened oversight of public enterprises, and (iii) strengthened management capacity in public enterprises. The outputs are designed to directly address the core of the Asian Development Bank’s (ADB) country partnership strategy, which focuses on effective fiscal management. The salient features of the policy matrix include (i) passing of taxation reform legislation; (ii) endorsement of a public enterprise strategic policy; (iii) development of a public corporations act and its tabling in Parliament; (iv) repayment of the outer islands agency suspense account held with NBT; (v) endorsement of a debt risk management and mitigation policy and strategy; (vi) analysis of private sector growth potential; (vii) adoption of a legal framework for the licensing and ongoing supervision and regulation of banking institutions; and (viii) NBT board-approved policies for the timely collection of past due loans and advances of credit; and for measuring, monitoring, and maintaining adequate liquidity by NBT.
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Financing Plan ADB will support the Program by providing a grant of $3.24 million from ADB’s Special Funds resources. Tuvalu is classified as country with high risk of debt distress and is therefore eligible to receive 100% grant assistance. The grant will be provided in two tranches. The first tranche of $1.24 million will be available upon satisfaction of the first tranche conditions and grant effectiveness, estimated at around December 2008. The second tranche of $2 million will be available upon satisfaction of the second tranche conditions, estimated at around November 2009.
Counterpart Counterpart funds generated from the grant will be applied to the Funds repayment of the Government’s estimated A$3,795,610 overdraft in the outer islands agency suspense account with NBT, with any remaining funds to be directed toward other outstanding debt to NBT.
Program Period The Program is from 1 November 2008 to 31 March 2010. Policy, legislative, organizational, and operational changes agreed upon with the Government and set out in the policy matrix are to be put in place from 1 November 2008 to 30 November 2009.
Executing Agency Ministry of Finance and Economic Planning (MFEP)
Implementation MFEP will coordinate policy, legal, and regulatory actions and ensure that Arrangements the reforms as agreed to by the Government and ADB are duly carried out on time. A program steering committee, chaired by the secretary of MFEP and including representatives of the Office of the Attorney General and MFEP’s budget and public enterprise oversight areas, will be established to monitor and coordinate the Program and support technical assistance from ADB and other agencies.
Program Benefits The Program is anticipated to provide benefits to society in terms of fiscal and Beneficiaries stability, improvement in enterprise performance, and business and public confidence.
Risks and Risks are the continued political will required to implement a robust policy Assumptions framework for enterprise performance improvement and support for needed institutional structures, and the ongoing availability of appropriate technical capacity. The Government’s adoption of the performance benchmark indicators is seen as a statement of political will to initiate change in financial management, and the financial incentive provided by Australia and New Zealand to achieve these targets will also support continued political will and allow for retention of capacity.
Procurement The proceeds of the program grant will be disbursed against a broad range of imports, subject to a negative list.
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I. THE PROPOSAL
1. I submit for your approval the following report and recommendation on a proposed grant to Tuvalu for the Improved Financial Management Program. The design and monitoring framework is in Appendix 1.
II. THE MACROECONOMIC CONTEXT
2. Tuvalu is small and isolated. It has a land area of only 26 square kilometers (km2) covering nine coral atolls and reef islands spread across more than 900,000 km2 of the Pacific Ocean. Of the total population of approximately 11,000 persons, more than half live on the 2.8 km2 island of Fongafale in the Funafuti atoll. The small size and isolation lead to a high-cost environment for most business activities. Productivity is impaired by capacity constraints that arise from difficulties faced in generating appropriate competencies and performance and in retaining highly skilled individuals.
3. Tuvalu’s future growth strategy is set out in its national plan, Te Kakeega II, which was developed using an extensive consultative and participatory process.1 Eight strategic areas are prioritized including good governance, macroeconomic growth and stability, and employment and private sector development. The expected outcomes are more employment opportunities, higher economic growth, better health care, better education, better basic infrastructure, and continued social stability. In May 2007, the Government adopted five performance benchmark indicators (PBIs) to track the achievement of the stated social sector outcomes through a focus on improved financial management. These are discussed further in paras. 12–15.
4. The Asian Development Bank’s (ADB) country partnership strategy (CPS) supports implementation of Te Kakeega II.2 In the micro-sized economy of Tuvalu, poor decisions about expenditure allocation have significant opportunity costs. For this reason, effective fiscal management will make the greatest contribution to meeting government priorities and is the focus of the CPS.
5. Tuvalu’s economy is strongly dependent on external earnings, which are around twice the gross domestic product (GDP). Sources include remittances from seafarers, fishing licenses, the .tv domain name,3 and return on the Tuvalu Trust Fund (TTF) and Falekaupule (local island council) Trust Fund.4 The level of these earnings is determined by global economic forces, and in recent years external earnings have fallen, placing fiscal pressure on the Government. The TTF is further discussed in Box 1.
6. The public sector contributes about 70% of GDP and has a direct crowding-out effect on the private sector, undertaking jobs that could be done by private business. In 2005, general government employees formed 57% of formal sector employees, with the employees of public enterprises accounting for a further 12%. Public sector pay rates are above private sector rates, and public sector productivity is low. Agriculture and fishing are the principal private sector activities, but they provide less than 20% of GDP and about 40% of employment.
1 Government of Tuvalu. 2005. Te Kakeega II National Strategy for Sustainable Development 2005–2015. Funafuti. 2 ADB. 2008. Country Partnership Strategy (2008–2012): Tuvalu. Manila. 3 Revenues arising from the lease of Tuvalu’s internet dot.tv domain name. 4 The Island Development Program was designed to complement the Falekaupule Act 1997, for which the Falekaupule Trust Fund (FTF) was established in 1999 as a method for funding community-selected projects, while strengthening each island’s capacity to steward its own development under ADB. 1999. Proposed Loan and Technical Assistance Grant to Tuvalu for Island Development Program. Manila (approved on 13 July 1999 for $4 million).
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7. In 2002, GDP per capita was about $2,100.5 The Tuvalu economy grew at a real rate of 7.3% per annum from 1996 to 2002 on the back of an expansion in public construction and public business activities, and growth in the civil service wage bill. The external conditions supporting high public expenditure have fallen away recently. GDP growth in 2007 was estimated at 2%–3%, supported by an 18% increase in public spending. The TTF distribution to the budget fell by 16%, and .tv domain name receipts were down by 20%. Overall revenue levels were sustained by a 34% rise in fishing license fees and a 14% rise in external grants. Tuvalu is now being confronted by rising average annual inflation. Measured in the 2nd quarter of 2008, this had reached 4.6% per annum, and the quarterly rise was a substantial 11.4%.
Box 1: Tuvalu Trust Fund
The TTF was established in 1987 through a multilateral agreement among Tuvalu, New Zealand, United Kingdom (UK), and Australia. Its purpose is to contribute to the long-term financial viability of Tuvalu by providing an additional source of revenue for the recurrent expenses of the Government of Tuvalu.
The TTF was initially capitalized with A$27.1 million in contributions from UK (A$8.5 million), New Zealand (A$8.282 million), Australia (A$8 million), Tuvalu (A$1.6 million), Japan (A$0.695 million), and the Republic of Korea (A$0.031 million). The maintained value of the TTF grew to A$103.9 million as of March 2008. At about 2.5 times GDP, the TTF has contributed roughly 11% of the annual government budget each year since 1990. This provides an important cushion for Tuvalu's highly variable external income.
The TTF is governed by a board of directors consisting of one representative each from Tuvalu (chair), Australia, and New Zealand. The UK was initially represented on the board but withdrew following a review in 2003, as a part of a brorader process in which UK withdrew from the Pacific region as a bilateral donor. A separate advisory committee consisting of government and donor representatives provides additional advice and input to trustees’ decision making. The advisory committee is more widely beneficial to Tuvalu through its reviews of the Government’s budget and through provision of advice on macro- and microeconomic issues on a twice yearly basis. The TTF is subject to parliamentary scrutiny. Although governance of the TTF is multinational, Tuvalu has significant autonomy over investment decisions and the use of fund proceeds.
Trust fund proceeds are invested primarily in Australia in a diversified portfolio of assets reflecting the requirements to (i) maintain real purchasing power of the TTF, and (ii) provide a regular stream of income to the Government of Tuvalu. The TTF is managed by professional fund managers, currently based in Australia, and is monitored by the fund monitor (consultant actuaries who report to the board on a three-monthly basis concerning investment performance). However, since the recent collapse in the major stock markets, the total value of the TTF has seen a decline of about 20%.
In 1991, to provide a mechanism for holding distributions from the TTF until they were required to be drawndown into the budget, the Government of Tuvalu established a second fund, the Consolidated Investment Fund (CIF), into which TTF earnings would be deposited. The CIF greatly benefits planning by reducing the volatility of drawdowns and allowing the Government to continue making them during years when the primary trust fund earnings are zero or negative. Unlike the primary trust fund, governance of the CIF falls entirely upon the Government of Tuvalu. The CIF can be used by the Government as it sees fit, subject to parliamentary appropriation. The CIF also serves as a repository for other intermittent income. Withdrawals from the CIF include drawdowns into the recurrent budget as well as capital reinvestments that are back-transferred into the primary trust fund. Tuvalu has devised a unique, binary structure, with a primary true trust fund operating alongside a secondary revolving fund.
Sources: Graham, B. 2005. Trust Funds in the Pacific: Their Role and Future. ADB Pacific Studies Series. Manila; Tuvalu Trust Fund Board. 2007. Tuvalu Trust Fund 20th Anniversary Profile 1987–2007. Vaiaku, Tuvalu.
8. Issues of political economy greatly affect the way Tuvalu’s economy is performing. This was clearly recognized during the public meetings held in preparing Te Kakeega II. This reality underlies the priorities set out in that document. Tuvalu is an egalitarian society, which acts as a disincentive to individual effort and achievement. Tuvalu’s small size means that the population
5 2002 is the latest year of GDP measurement. The lack of recent key economic statistics in Tuvalu results from a small statistics office with limited technical capacity and a decision to focus efforts on the consumer price index and social statistics. Tuvalu has relied on external experts to irregularly update economic statistics.
3 is bound by close ties. Preserving these relationships is prioritized, and any form of conflict is avoided, often at substantial cost. There is also an entrenched public perception of government as the provider of jobs and services. The expectations with regard to free health care and to heavily subsidized education and utility services are deeply entrenched but unsustainable.
9. The private sector is affected by cultural constraints on trade in land. Access to land can be problematic, and land cannot be used as collateral when seeking finance. Cultural norms presume that when a Tuvaluan enters into business, profits will be shared, and there can also be difficulties in charging kin for goods and services. Such factors reduce the returns and incentive for private sector activity.
10. The development challenges Tuvalu faces are addressed in Te Kakeega II, but a more targeted approach dealing with identified priorities is required. Tuvalu requires enhanced public financial management, a downsizing of the public sector, and improvements in the business regulatory environment to provide a platform for private sector growth so as to build insurance against volatility. Innovative policies and a willingness to embrace economic and structural reforms are needed to achieve economic and employment growth and to ensure that the outer islands receive a reasonable share of the benefits of development.
III. THE PUBLIC FINANCE SECTOR
A. Sector Description and Performance
1. Fiscal Issues
11. Tuvalu’s public financial management is impacted by the volatility of its external earnings. The TTF and the Consolidated Investment Fund (CIF) have been designed to alleviate some of the uncertainty this volatility creates. The degree to which the TTF and drawdowns from the CIF supplement the budget is dependent on the level of TTF returns and is constrained by the size of CIF drawdown (4% of TTF maintained value is a sustainable level). This situation does not guarantee that the resultant adjusted recurrent budget is in surplus or even balanced. Indeed, in 2003 through 2005 and again in 2007, adjusted recurrent budget deficits were recorded. Tuvalu is projecting adjusted recurrent budget deficits for 2008 through 2011. The global economic outlook indicates the likelihood that the TTF will not provide a return in the next 2–3 years and with the projected recurrent deficits, the CIF reserves will be depleted by around 2011. In accordance with the projections of the TTF advisory committee that reviews the performance of the Fund twice yearly, the current global conditions, the recent decline in the major stock markets, particularly in Australia, where the assets of the TTF are predominatly invested, are likely to affect the investment returns negatively leaving the Fund without dividends in the next 2-3 years. In addition, the recent hikes in the food and fuel prices built fiscal pressures that are still working their way through the Pacific economies, including in Tuvalu, with the projected fiscal deficits in Tuvalu likely to result in a total drawdown of the balance of about A$12 million currently available in the CIF by 2011.
12. Revenue growth, expenditure control, and debt reduction all have an important role to play in lessening volatility. The Government is committed to a program of fiscal restraint. This is most clearly demonstrated by its adoption of a set of five PBIs, which were developed jointly by the Government, ADB, the Australian Agency for International Development (AusAID), and the New Zealand Agency for International Development (NZAID). The PBIs track the achievement of the stated social sector outcomes through a focus on improved financial management and fiscal consolidation. The PBIs are updated annually as required in consultation with aid agencies to reflect broader fiscal conditions and affordability. The PBIs are as follows:
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(i) Benchmark 1.1. The Government’s recurrent expenditure each year should not exceed the total of its recurrent revenue plus a sustainable TTF distribution (CIF drawdown). (ii) Benchmark 1.2. The target minimum value of funds retained in the CIF should be not less than 16% of the maintained value of the TTF at the beginning of the TTF year so as to ensure that a sustainable distribution is available to help finance annual budgets. (iii) Benchmark 1.3. The Government’s total debt liability (both domestic and external) at any time should not exceed 60% of GDP, as specified in Te Kakeega II. (iv) Benchmark 2.1.6 In 2008, the Government will increase its budgeted nonsalary expenditure on basic education by at least 5%. (v) Benchmark 2.2. In 2008, the Government will increase its budgeted nonsalary expenditure on primary and preventive health services by at least 5%.
Figure 1: Trends in Expenditure and Revenue
A$million 60 Estimates 50 40
30
20 10 0 -10
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 -20
Expenditure and net lending Budget balance
Source: Tuvalu Central Statistics Department, Government audited accounts and budget papers, various years.
13. Fiscal performance against the PBIs is monitored by the Tuvalu Trust Fund Advisory Committee (TTFAC), which ensures impartiality, and watched closely by the Government and by international aid agencies. Assessment in April 2008 by TTFAC against the 2007 budget outturn found that the Government had met benchmarks 1.3, 2.1, and 2.2. Against benchmark 1.1, TTFAC found that the recurrent budget, when added to the grants’ balance outturn for 2007, was in deficit of A$2.06 million, which was then reduced to a A$1.04 million deficit after
6 More specifically, benchmarks 2.1 and 2.2 set clear targets for a specific year (the 5% targets for 2008 being the first such annual targets) with the intent that these be reset annually in consultation with development partners. It is notable that monitoring of Tuvalu’s performance against benchmark 2.1 (education) against the 2007 budget outturn showed that the proportion of the education budget spent on primary education and vocational training (excluding salaries, allowances, and scholarships) had increased significantly to 15% (compared with 7% in 2006). For benchmark 2.2 (health) the proportion of the health budget spent on primary and preventive health care increased slightly in 2007 to 18%. The evolving nature of these last two PBIs allows appropriate and agreed upon adjustments to be made to the targets, which ensures that these continue to promote fiscally responsible actions supportive of social sector objectives.
5 deducting the Government’s A$1.02 million contribution to the TTF. As such, the 2007 budget outturn did not meet benchmark 1.1. TTFAC stated that benchmark 1.1 was arguably the most important one. Box 1 provides details about the function and operation of the CIF. TTFAC further noted against benchmark 1.2 that there was a marked improvement in government efforts to achieve the targeted minimum balance.
14. Both AusAID and NZAID are already supporting activities that target PBI achievement through their country programs. AusAID will channel at least 50% of its A$3 million yearly program allocation for Tuvalu to directly support the PBIs through the TTF. Similarly, NZAID contributes on average 15%–20% of its annual allocation of around $1.5 million to the TTF toward achievement of the PBIs. In addition to this support, the AusAID and NZAID programs provide a 10% incentive payment of their respective country allocations upon achievement of the PBIs, which will be directed to support Tuvalu’s recurrent budget. This approximately A$0.4 million potential incentive payment is significant and may add as much as 3% to the annual budget.
15. In response to Tuvalu’s adoption of the PBIs in mid-2007, incentive payments were made to Tuvalu by Australia (A$200,000) and New Zealand (A$90,080). Following TTFAC’s April 2008 assessment that Tuvalu had met three of the five PBIs in 2007, prorated payments were made to Tuvalu by Australia (A$100,000, or 50% of the funds that would have been available if all PBIs had been met) and New Zealand (A$112,000, or 60%) in June 2008.
16. In terms of supporting revenue growth, ADB has been assisting the Government of Tuvalu in the area of taxation reform. Currently, Tuvalu’s tax system suffers from an extensive array of exemptions, deductions, and allowances that shift the incidence of taxation to particular segments of the community. The situation affects collection, which becomes inequitable and inefficient to administer. Furthermore, compliance problems exist, and the Inland Revenue Department lacks the necessary administrative powers or appropriate sanctions to deal with noncompliance. External pressure to improve the taxation system comes from the potential loss of revenue under the Pacific Island Countries Trade Agreement, which requires a commitment to customs tariff reduction, and its eventual elimination, among parties. Ratification of this agreement by Tuvalu is estimated to create a potential revenue loss on imports in the order of more than 14% of current import duty by the time the agreement is fully implemented.7 Alternate revenue sources need to be identified to replace these losses.
17. ADB technical assistance (TA) has supported the development of three draft laws (an income tax act amendment, a customs act amendment, and a consumption tax bill) that were referred to Parliament in June 2008. This package of legal amendments is designed to reform and update the tax and customs systems in Tuvalu so as to provide the Government with sufficient revenues to compensate for the customs duty reductions required by the Government’s ratification of the Pacific Island Countries Trade Agreement. The package is designed to be fiscally neutral. The consumption tax bill will bring in a broad-based consumption tax (or value-added tax) to counter the anticipated loss of revenue likely to arise from the signature by Tuvalu of certain international agreements, and over a period of time will reduce Tuvalu’s reliance upon trade taxes. The proposed changes were initially recommended in a Pacific Financial Technical Assistance Centre (PFTAC) consultant’s report in 2004, have been reviewed and updated by revenue experts, and reflect input received from public and private sector representatives.
7 Tuvalu’s cabinet ratified the Pacific Island Countries Trade Agreement on 16 April 2008, and this became effective on 16 May 2008.
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18. The key amendments contained within the package are
(i) revamping the income tax to create a fairer system with more progressive rates that will be easier to administer for small businesses; (ii) introducing a broad-based consumption tax; (iii) removing the sales tax on imports; (iv) eventually removing the room tax; (v) removing the requirement for the Taxation Office to assess every individual employee’s tax each year, with the tax paid by employers deemed to be their final tax unless the taxpayer submits a tax return because he or she believes he or she is entitled to a refund; (vi) introducing more effective enforcement provisions to enable the Taxation Office to better deal with persistent noncompliers rather than having to take action through the courts; (vii) introducing a “cost–insurance–freight” basis of valuation for calculation of customs duties; (viii) adopting a valuation regime for imports for customs duty purposes that is consistent with World Trade Organization requirements; and (ix) updating the monetary values of penalties and fines that apply in respect of customs offenses.
19. Public enterprises have a significant impact on the budget and, more broadly, on fiscal position. In 2005, about 13% of budgeted expenditure was allocated to funding the shortfall in operating revenues of public enterprises and the business-like units of ministries. This percentage is considered likely to have risen. In addition to providing operating subsidies, the capital of almost all public enterprises is provided through government grants that often are supported by funding agencies. The Government has also guaranteed National Bank of Tuvalu (NBT) loans of A$1.35 million for corporations that have no capacity to repay these debts and is guaranteeing further loans and overdrafts for other public enterprises. Extra-budgetary expenditure in support of public enterprises is considered significant, although it is not well tracked. Thus, focused efforts to improve public enterprise performance can be expected to provide a measurable budget saving, freeing government resources for priority areas and/or decreasing the budget deficit. This would variously contribute to meeting PBIs 1.1, 1.2, 2.1, and 2.2.
20. Public debt has reached significant levels, and steps to reduce this debt will ease the budget deficit. They would also directly contribute to the achievement of PBI 1.3. The Government has given a practical indication of its commitment to tackling debt and promoting the commercial operations of NBT by repaying A$1.0 million to the outer islands agency suspense account (OIASA) overdraft in May 2008.8 The Government had an OIASA debt of A$3.796 million as of 30 September 2008, with NBT. This is discussed further below; elimination of this debt would provide significant benefits to NBT and, more broadly, to the private sector. It would also, at least partially, put in place necessary conditions for consideration of alternate ownership options, should the Government decide that some form of divestment meets its broader development and other policy objectives.
8 NBT in 2004 appointed the Falekaupule (local council) treasurer as official agent for NBT to receive deposits and lend money. All transactions were recorded daily and sent by facsimile to NBT in Funafuti. The treasurer was allowed a maximum cash holding, and any excess was to be transported back to NBT and deposited into the individual accounts. It appears that the money was instead deposited into the Government’s general account and NBT instead recorded the outstanding amount as a government overdraft. However, the Government had stipulated that this overdraft would be non-interest bearing, but with an overdraft at its peak of around A$5.024 million at the end of 2006, NBT has a foregone income of about A$500,000 per year.
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21. Tuvalu does not utilize a medium-term fiscal framework. Formulation of a medium-term fiscal policy framework (including a multiyear budget framework) to guide budgetary performance and to attain balanced budgets has been included in Te Kakeega II but has not yet been realized. Such a framework would enhance the ability of the Government to better understand, plan for, and manage volatility in revenues and expenditure.
2. Public Enterprises
22. The Government of Tuvalu currently owns 11 public corporations, each operating under individual enabling legislation:
(i) NBT established as the sole commercial bank; (ii) the Development Bank of Tuvalu (DBT), to provide concessional finance to business; (iii) the Tuvalu National Provident Fund (TNPF), the country’s compulsory superannuation scheme; (iv) the National Fishing Corporation of Tuvalu (NAFICOT), to develop export and local sales of fish by Tuvaluans; (v) the Tuvalu Electricity Corporation (TEC), to provide electrical power on all of the island groups; it is illegal to compete with TEC; (vi) the Tuvalu Telecommunications Corporation (TTC), which provides phone, mobile phone, internet, and other telecommunications services on Funafuti and, to a lesser extent, on the outer islands; it is illegal to compete with TTC without its consent; (vii) the Tuvalu Maritime Training Institute (TMTI), to train seafarers; (viii) the Tuvalu Philatelic Bureau, to produce and sell stamps for mailing and for collectors; (ix) the Vaiaku Lagi Hotel (VLH), to run a hotel, restaurant, and bar on Funafuti; (x) the Copra Trading Corporation, to purchase and export copra produced domestically; and (xi) the Tuvalu Media Corporation (TMC), to operate the only radio station; competition is permitted but unlikely owing to the small size of the economy. 9
23. The Government does not have an overall policy for public enterprises that clearly defines their purposes and objectives, sets agreed upon levels of operation, provides the necessary funding for community service obligations, and sets out clear accountability for operational and financial matters. Instead, enterprises each operate under their individual enabling legislation, and government involvement is dispersed across a number of ministries. The Government had assumed that, once corporatized, the enterprises could be left to their own devices and would operate profitably. This has not proved to be the case.
24. Enterprises have budgets, but most do not have business plans. Budgets tend to be based on a traditional government vote-type structure. That is, the budgets are presentations of line item expenditure intent, without any link to intended outputs or outcomes. The lack of budgeting against plans is a major limitation in performance management. There generally are no targets by which to measure performance. Continuation of the current approach will lead to corporations becoming insolvent and reliant upon growing subsidies and guarantees from the Government. This is completely the antithesis of why the corporations were established.
9 TMC was decorporatized in 2007 and is now part of the Ministry of Communications and Transport.
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25. The Report of the Auditor General 2006 (released in June 2008) indicates a high level of debt across all enterprises, and that several of the enterprises were operating on overdraft, several had questionable financial viability, and most did not prepare their own accounts–– hence the actual financial situation would likely not be known until the enterprise received an audit report.10 Issues of profitability are facing many of the corporations:
(i) NAFICOT, TEC, and TTC have each accumulated losses of more than A$1 million. NAFICOT has faced commercial difficulties since its inception, and the Government is now servicing a A$1.23 million loan secured by NAFICOT in 2003 to purchase fishing vessels. A temporary suspension of the corporation was issued in February 2006.
(ii) The setting of tariffs by the cabinet at a level below cost and non- or partial payment of bills by the Government are key factors behind the poor financial performance of TEC and TTC. Debts owed by the Government to TTC had accumulated over a number of years, and in 2007 TTC accepted A$1.2 million from the Government as full and final payment. Payments owed to TEC by the Government were estimated to stand at A$0.4 million in 2006, while a payment of A$0.1 million toward this was made in 2007. TTC moved to a prepaid service system in 2004 but subsequently moved away from this system. TEC is considering such a move although it has concerns about the high upfront capital cost.
(iii) TMTI does not charge trainees for its services, and TMC has few of its own revenue sources. Both TMTI and TMC are reliant on government subsidies to meet day-to-day expenses.
(iv) The Tuvalu Philatelic Bureau now only operates on a small scale and has limited commercial value.
(v) VLH has been unprofitable over a considerable period, although recently there have been adjustments to the pricing structure and staffing that may engender improved financial performance. Service quality is not generally considered commensurate with tariffs. There have been periodic discussions of moving to a management contract for VLH. However, issues of preservation of jobs and government maintenance of the assets have proved problematic.
26. A number of government businesses are also embedded in individual ministries. These are not producing the financial and management reports needed to assess their revenue- earning potential. These additional businesses include the main port, stevedoring operations, a travel agency, two interisland vessels, housing, repair shops, outer islands fisheries centers, and an internet facility.
27. NBT, TNPF, and DBT can lend money, a responsibility that brings with it a wider set of concerns in regard to corporate performance. Only NBT and TNPF are profitable. The lack of a financial institutions act in Tuvalu means that banking institutions (defined as those institutions that take deposits—in the case of Tuvalu only NBT) are unregulated and unsupervised. The results of this situation are presented below:
(i) NBT’s pretax rate of return on assets was 41% in 2007 and 27% in 2006. The high profits are indicative of market share. NBT’s profitability had previously attracted private sector investment interest, although this interest may have been
10 Office of the Auditor General. 2008. Report of the Auditor General 2006. Funafuti.
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lessened by the lack of banking regulations in Tuvalu together with current liquidity issues. A recent assessment by PFTAC (July 2008) notes that, while capital is strong, this is needed to support NBT’s less than satisfactory asset quality.11 Earnings performance is considered satisfactory, although it appears overstated. Earnings potential is hindered by the large volume (about $5 million) of non-earning government assets, and this would need to be resolved ahead of any consideration of private interest involvement in NBT. Further, NBT’s liquidity position is exposed because of the Government’s and public enterprises’ large and unexpected withdrawals. Liquidity problems are further and most significantly compounded at present by the large interest-free OIASA overdraft with NBT. The government overdraft is currently costing NBT in the order of at least A$190,000 annually in foregone returns. This is significant in comparison with estimated profits in 2008 (using industry best practice measures for its calculation) of less than A$400,000. Further analysis of NBT is provided in Appendix 2.
(ii) TNPF holds most of its funds offshore, and this investment strategy has underpinned good commercial performance over time. TNPF has entered into lending operations, allowing members to borrow against their contributions. The implications of this for performance, and sustained operations as an effective provider of superannuation benefits, are substantial but have not been widely investigated.
(iii) DBT has at times reported a profit but typically operates at a loss, and it was required to write down more than A$1 million in bad debts in 2003.
28. The problems faced by public enterprises with regard to operating profitably are not new; they have plagued enterprises since corporatization. The Government has remained concerned but has not had a clear vision for addressing and remedying the problems. Te Kakeega II identified a number of priorities to improve public enterprise management, all of which are still to be implemented: (i) Strengthen management and staff. (ii) Produce annual reports and audited accounts in accordance with legislation, with both available to the public. (iii) Clearly define, cost out, and better target government subsidies. (iv) Assess the viability of privatizing selected public enterprises. (v) Improve the selection process of boards of directors of public enterprises, and broaden membership. (vi) Establish clear guidelines on the roles and responsibilities of ministers, boards, and management of public enterprises.
29. Each of these issues is important. However, what is lacking is the substance that binds the individual issues into a clear framework and provides for the necessary prioritization and sequencing of activities in support of improved public enterprise governance and performance. The establishment of the policy, planning, and legal frameworks to support government decision making with regard to corporations is a priority need. The intermittent and inconclusive discussions regarding various ownership and management options for NBT and VLH, the continued losses by NAFICOT, and the lack of discussion regarding ownership of TTC are symptomatic of the lack of an overarching approach to public corporation performance and to consideration of the role of the public sector in the provision of goods and services. Implementation of specific reforms (including ownership and management arrangements) to
11 PFTAC. 2008. Bank Supervision in Tuvalu. Aide-Mémoire to Government of Tuvalu. 1–7 July. Funafuti.
10 individual public corporations under the proposed guiding framework would be an ongoing and iterative process over many years. Sector analysis is in Appendix 3.
B. Issues and Opportunities
30. Fiscal and public enterprise reform has been under way in the Pacific since the early 1990s. Yet the Pacific is littered with more stories of failure than success. The ADB-funded program loans in the Pacific during the 1990s mostly fell short of intended impacts. Lessons from success or failure are inherent in both the technical designs of the reform programs as well as the frameworks within which the reforms have been implemented. Lessons from this experience have been summarized by Saldanha and Knapman, as follows:12
(i) Insufficient attention was paid to the need for political commitment, ownership, and participation in design and in implementation. (ii) Design needs to more carefully consider sequencing, scoping, and phasing, and to be more pragmatic. (iii) A much longer-term perspective is needed. (iv) Inputs, process, outputs, and impacts should be more carefully distinguished. (v) Timeliness can be key, e.g., reforms were put in place in the case of the Cook Islands following a debt crisis. (vi) Island cultures, traditions, and the political economy influence outcomes. (vii) Other lessons relate to the need for appropriate staffing, consultants, and staff engagement in design and implementation.
31. Government willingness and commitment to implementation have also often not been evident with sufficient robustness to sustain improvements after external assistance has ended. The reasons for nonsustainability differ, some being associated with the social and political implications of the activities. Other reasons are that there was no real depth of understanding of either the rationale or the application, such that the activities simply faded away.
32. A further lesson is the benefits to implementation and sustainability of the appropriate use of consultative and participatory processes. For example, the program completion report on the fiscal and financial reform program included as major lessons the “need for prior, transparent, and participatory assessment of the social and political feasibility and sustainability of reforms; … A more participatory assessment could, of course, determine that no reform program is feasible.”13 The inclusion of appropriate outreach activities to support stakeholder education and public awareness and to strengthen implementation has been successfully used in the ongoing technical assistance for capacity building for taxation reform.14 Indeed, the Government employed extensive consultation and participation in the development of Te Kakeega II. The use of consultation and participation methodology in the TA supporting the proposed Program grant will be essential to successful program implementation and sustainability of impact. The lessons of Pacific experience provide valuable guidance to the design of a reform Program to address factors behind Tuvalu’s weak fiscal performance.
33. The Tuvalu CPS 2008–2012 notes a number of lessons from the relatively limited number of ADB loans and grants provided to the country (footnote 2). It is recognized that, in the past, development partners’ programs have been spread thinly over a number of sectors
12 Knapman B, and C. Saldanha. 1999. Reforms in the Pacific. Manila: Asian Development Bank. 13 ADB. 2003. Program Completion Report on the Fiscal and Financial Reform Program to Nauru. Manila (Loan 1661-NAU). 14 ADB. 2006. Technical Assistance to Tuvalu for Capacity Building for Taxation Reform. Manila (TA 4902-TUV, approved 18 December).
11 and delivered, with the exception of the TTF and Falekaupule Trust Fund, with benefits often ending upon activity completion. Implementation has often been resource-intensive for all partners, and aid coordination was poor until recently. TA operations have not been well aligned with the Government’s priorities and have often created dependency. Although there has been ongoing support for the TTF, little attention has been paid to fiscal management. As a result, TA assistance to Tuvalu has not produced sustainable improvements in capacity and in operations, and maintenance costs of infrastructure projects have rarely been met. The most relevant lessons include (i) the need to integrate assistance within government frameworks and systems; (ii) the importance of focus; (iii) the need to ensure that TA operations are well defined, well designed, and well managed by Tuvalu; (iv) the importance of good fiscal management; and, above all (v) much better coordination and collaboration with development partners, starting with the Government’s full disclosure of planned and approved interventions.
34. Import-dependent Tuvalu is open to global economic forces and has been negatively affected by poor global market performance and rising fuel and food prices. The current, and expected ongoing, budget deficit is creating an unsustainable fiscal situation. The deficits being experienced have been increased by the lack of fiscal restraint in previous years, as a result of which recurrent financial commitments have been allowed to build up. The Government has not taken a medium-term approach to budgeting and does not use a medium-term fiscal framework (MTFF), which would assist in planning and reallocation of resources against priorities. The Government must improve its capacity to control expenditure and generate revenue to address the deficit. In many countries, the private sector makes a substantial contribution to government revenue. However, in Tuvalu the opportunities for private sector growth are very limited. Current liquidity problems in the financial system further reduce incentives for private business development.
35. The Government of Tuvalu holds domestic and external debt, and in 2007 debt service costs were estimated to amount to 7% of recurrent expenditure. The debt is a drain on limited government resources, and weak monitoring of the debt is indicative that the drain on the budget will continue. While the external debt is on concessional terms, the domestic debt is having a negative impact on the performance of NBT, which is the provider of funds. Several of the domestic debtors (NAFICOT, TMC) are not making payments, which restricts the liquidity of NBT and reduces its return on assets. This reduces NBT’s effectiveness as a financier to the private sector.
36. Government-owned public corporations place a further call on government expenditure. Rising global commodity prices have necessitated increased subsidies to offset the rising cost of all imported items such as fuel and food. Government subsidies (untied, generally nonrepayable and non-interest bearing) to public enterprises are often unplanned and unbudgeted, placing a further burden on the Government. Nine of the 11 corporations are always loss incurring, with subsidies given to enable them to continue operating. Tariff setting by the cabinet at a level below cost and non- or partial payment of bills by the Government contribute to the nonprofitability of several corporations. Some, like the Tuvalu Philatelic Bureau, Tuvalu Copra Trading Corporation, and NAFICOT, have not submitted financial reports for a number of years, and therefore no audited accounts can be prepared.
37. There appears to be no clear understanding, by the Government or the corporate entities of the changes in roles and responsibilities required under corporatization. The expectation was that corporate entities would become profitable simply by being corporatized. TMC has recently been decorporatized, although the legal basis for so doing is unclear. The thinking in doing this was that providing closer government control would address financial performance issues.
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38. Discussion of potential privatization of enterprises has polarized enterprise staff and the Government, and has confused the public in the absence of information on options or implications. A private sector investor expressed interest in NBT, but discussions were not successfully concluded. Similarly, there have been various expressions of interest in VLH, but no meaningful talks have taken place. These have all been instances wherein the private sector has approached the Government, rather than being a response to government action to specifically seek out interest. Thus, while it cannot be definitively said that the previously considered changes would have improved service provision and reduced the demands on the government budget, a government policy position on public corporation ownership and a framework within which to consider options would have better placed the Government to make transparent decisions in regard to the approaches received.
39. The corporations are each governed under their own act of Incorporation, but there is no overarching legislation that sets out the requirements of a corporation, or government responsibilities with respect to the corporations. While corporations are allocated to ministerial oversight, no formal regulation or monitoring occurs. Corporations generally do not prepare corporate plans and have few if any performance targets, and many neither prepare nor submit annual reports. While most have boards, board members say they have never had a clear statement of their role or legal responsibilities, and even if they knew, in the absence of plans and performance targets, their capacity to assist and monitor the performance of the general manager is negligible.
40. Political representation on boards and the shortage of competent directors without conflicts of interest are further problems. All public corporations are chaired by a government representative (Appendix 3), which creates the potential for political pressure to be placed on boards and hence on public corporations. This risk is increased when directors, as a group, lack expertise in areas such as accounting, human resource management, and/or the technical functions undertaken by the public corporation.
41. Staff skills within public enterprises are generally weak, especially in planning and accounting. A few general managers are considered to be performing very well, and in these instances the performance of the corporation has improved. However, corporate performance is generally contingent on the willingness of the person to stay in the role. No succession planning is in place, and education scholarships do not appear to be tied to the commercial, professional, and technical requirements of the country.
42. Three corporations (NBT, TNPF, and DBT) are able to lend money, while NBT also takes deposits. However, there is no overarching financial sector legislation binding NBT’s deposit-taking activities. This greatly increases the risk being faced by the corporatized entity as well as by borrowers and depositors.
43. Detailed analysis of the problems and constraints identified is in Appendix 4.
44. The following opportunities have been identified as priorities:
(i) improved debt risk management planning and debt repayment by the Government to NBT; (ii) putting in place a strong governance framework to guide government thinking on the performance of corporations and public enterprises; (iii) improved corporation performance and oversight through improving the selection process of boards and broadening board membership, as well as establishing
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clear guidelines on the roles and responsibilities of ministers in relation to public corporations; (iv) provision of the legal means to ensure compliance of lending institutions with internationally agreed upon standards; (v) examination of the level of subsidies, and means by which these are currently being provided to public corporations with a view to reducing the volume of subsidies and targeting these to cover the cost of providing for clearly identified community service obligations; (vi) review of tariffs and tariff-setting practices; (vii) an MTFF, already committed to by the Government through Te Kakeega II, which will enable Te Kakeega II requirements to be sequenced according to what is financially achievable and to identify the necessary groundwork for longer-term achievement of objectives, thus contributing to a continuous planning and revision process; and (viii) further strengthening of development partner cooperation.
45. The timing is good to address these opportunities. Recent actions by the Government indicate a commitment to change. For example, adoption of the PBIs provides progress measures and incentives for more thorough planning and budgeting. It also enables development partners to align their assistance to PBI achievements, thus reducing the likelihood of a fiscal crisis. The Government’s demonstrated commitment to reducing its debt with NBT through repayment of A$1 million in May 2008 is another indicator of its commitment to reform.
46. Further, tax reforms planned for introduction in mid-2009 will improve the equity of tax application as well as tax revenue. The development of these reforms has been supported through ADB TA (footnote 14).
47. ADB’s assistance has been designed to create understanding and commitment and will be supported by the depth of skill transfer to enable sustainability to support an ongoing program of reform. In setting out the proposed Program below, consideration has been given to the lessons of past policy-based program loans in the Pacific as well as to the issues and opportunities presented above. These have been used to formulate actions for tranche conditions to provide for a practical demonstration of the Government’s commitment to program implementation. Specifically, tranche conditions have been carefully sequenced to (i) test and secure government commitment to improved fiscal and enterprise management; (ii) ensure that the Government undertakes some of the technical pre-Program preparation ahead of TA support, particularly with regard to a short review of private sector opportunities and successes; and (iii) ensure that the Government understands the implications of key components of the Program, based on the issues above, through extensive discussions on issues, opportunities, and their implications before committing to the conditionalities.
IV. THE PROPOSED PROGRAM
A. Impact and Outcome
48. The intended impact of the Program, as set out in the design and monitoring framework (Appendix 1) and to be supported by the Program grant and TA, is sustained economic growth and fiscal stability as prioritized in the objectives of Te Kakeega II. Indicators of success are the PBIs. The expected outcome is improved fiscal planning and management capacity.
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B. Policy Framework and Actions
49. The proposed Program is structured around three outputs supporting (i) improved public debt management capacity, (ii) strengthened oversight of public enterprises, and (iii) strengthened management capacity in public enterprises. The outputs are designed to directly address the core of ADB’s country partnership, which focuses on effective fiscal management. The Program will place under an integrated framework for effective government decision making a number of areas where the Government has indicated priority issues to be addressed and has even initiated some actions. In this way, coordination and coherence among efforts to promote fiscal stability and improve public enterprise performance can be achieved.
50. The Program will take a two-pronged approach by focusing at the macro level of government to improve public debt management capacity and by creating the policy and legislative environment for improved performance of all public enterprises. The Program will simultaneously require that all enterprises put in place management and planning tools that will better enable the enterprises to understand and improve their performance and enable the boards of directors for public corporations and the Government to monitor performance and intervene, if necessary. The Program will support the introduction of appropriate corporate planning, budgeting, and financial forecasting and improved management skills and systems for enterprises; and, therefore, the strengthened capacity of enterprises to manage, report, and comply with requirements under a new public corporations act and so work toward profitability.
51. The Program will assist the Government in putting in place a policy and legislative framework that will support sound decision making regarding public corporations and government business enterprises. Instead of focusing directly on privatization, the Program will aim to get the governance framework right to put the Government in the best position to make sound ownership decisions. Further, political will for privatization needs time to develop. The Program will help create this pro-reform environment, and it is expected that the Government will then commence making decisions regarding appropriate ownership options for specific public corporations. Decisions surrounding the ownership and management of public corporations will, by their very nature, be ongoing and will continue beyond the time period of the Program. At the same time, ensuring that the tools and skills for improved performance have been put in place within corporations and within areas of the Government responsible for their oversight is necessary to enable the corporations to respond to the improved policy and legislative environment. Reform requires continuous attention so that adjustments can be made to reap the opportunities provided by changing internal and external conditions. The Program will start Tuvalu on the path to heightened corporation performance, private sector development, and strengthened fiscal management.
52. Output 1—Improved Public Debt Management Capacity. The Program will support the development and implementation of a debt risk management and mitigation policy and strategy. The intent is to help the Government move to a more sustainable debt level and to ensure that financial risks are at prudent levels. The policy and strategy will build the Government’s capacity to manage its commitment to meeting PBI 1.3 (para. 12). The policy and strategy will be based on risk analysis undertaken by the Ministry of Finance and Economic Planning (MFEP) and will utilize the valuable debt information provided biannually by TTFAC. The policy and strategy can also be potentially used to facilitate dialogue on the use and scope of debt management tools and their capacity for integration with other financial planning and management tools.
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53. The policy and strategy will be inclusive of (i) processes by which guarantees and debt are analyzed ahead of being entered into; (ii) processes and responsibilities for approval of new debt; (iii) consideration of interest rate and foreign currency risks of existing and proposed new debt; (iv) clear presentation of debt and planned debt payments in the annual budget; (v) strengthened coordination between MFEP and other stakeholders in the issue of public debt; (vi) debt repayment priorities; (vii) processes for scheduling debt repayment; (viii) a mechanism to support the Government’s entry into discussions regarding government debts that are not subject to a payment schedule and for which rescheduling would be beneficial; (ix) a schedule of timely and standardized reporting on the Government’s debt portfolio; and (x) regular updating of the debt strategy for fiscal results and its alignment with the fiscal and macroeconomic forecasts in the budget and in an MTFF as this is developed.
54. The counterpart funds generated from the grant will allow for the Government’s full repayment of the OIASA overdraft to NBT. The total amount of the overdraft is estimated at A$3,795,610.15 Any remaining counterpart funds will be directed by the Government toward other outstanding debt to NBT. Such repayments will directly facilitate the Government’s achievement of PBI 1.3 (para. 12) by reducing its total debt liability. The overdraft repayment will support the intended outcome of the Program set out in the policy matrix through improving the Government’s debt position while simultaneously improving the performance indicators for NBT. This should improve the flow of capital to the private sector by alleviating the liquidity constraints on NBT. In this way, the private sector can be encouraged to take up new and emerging opportunities, particularly those generated as the Government makes decisions regarding its business enterprises.
55. The taxation reforms, as detailed in paras. 16–18, are anticipated to support more efficient delivery of government services and greater pro-growth public investment in infrastructure by directly improving government taxation services and providing the resources to support the Government’s overall expenditure decision making in line with Tuvalu's national plan. This will also improve the capacity of the Government to manage its debt risk. The longer- term impact of the reforms will contribute to the creation of a more supportive business environment (through a more equitable taxation system, improved infrastructure, and more efficient government services supported by enhanced revenue management), which will increase the potential for private sector activity and investment. The enabling legislation for taxation reform is expected to be approved in the parliamentary session commencing 17 November 2008. The intended implementation date is 1 July 2009. ADB considers the elements of the taxation reform package listed in para. 18 as being essential to its success and requires these components to be included in the legislation approved by Parliament to ensure that the related tranche 1 condition is achieved.
56. Output 2—Strengthened Oversight of Public Enterprises. The Government will review and restructure its public enterprise oversight arrangements to improve management of the enterprise monitoring process and performance outcomes. To date, the Government does
15 Government of Tuvalu. 2008. Information Brief. Funafuti. Provided to AusAID, NZAID, and ADB, 22 September.
16 not have a strategic or policy-based approach; hence public enterprise performance issues are being approached very differently across and within ministries on an ad hoc basis (without an understanding of underlying causes).
57. Improved oversight will include changes to institutional arrangements through the establishment of a public enterprise reform steering committee that is representative of Tuvaluan society, given the focus on public corporations and public goods. The composition of the steering committee should adequately reflect its tasks––hence the need for it to (i) be chaired by a senior official (secretary of MFEP); (ii) have representatives from the Government; and (iii) have representatives from the public (who are end users of these public goods), including women and the disadvantaged. An important role of the steering committee will also be to review lessons in enterprise ownership and management, and to facilitate the application of lessons to ongoing activities. A public enterprises unit (comprising two professional staff plus a secretary) will be established, through consolidating currently dispersed oversight roles, and it will become the interface between public enterprises and the Government. Through these structures, a detailed and time-bound action plan to address issues underlying underperformance of corporations and government businesses will be developed.
58. An important element of the Program will be the development and implementation of a cabinet-approved public enterprise governance reform strategic policy to assist government thinking on the performance of corporations and public enterprises. The strategic policy will be inclusive of (i) Government’s service delivery priorities and requirements; (ii) identification of strategic assets and why these are classified as such; (iii) position on ownership of enterprises; (iv) consideration of options for ownership and divestment in relation to each enterprise; (v) a process for, and scope of, review of the social and sustainability implications of changes in ownership of government assets; and (vi) identification of small government business-like activities for possible transfer to the private sector, either through sale or contracting out.
59. The strategic policy will promote understanding of the issues that arise in changing ownership and/or management of public corporations. Given Tuvalu’s starting point of no policy to guide decisions on ownership and management, and no overall legislation on performance oversight of public corporations, specific decisions on ownership are not expected within the program period but would be viewed positively should they occur. The Program will be flexible to support specific changes wherein the Government proves willing to move ahead. Future ADB support is contemplated (footnote 2).16 The intent of this Program grant is to help the Government reach a point at which reform decisions can be taken from a position of understanding.
60. The Program will support the implementation of the public enterprise governance reform strategic policy through the preparation of a draft public corporations act. The draft act will provide a legal framework for the establishment and divestment of public enterprises, including reporting requirements for public enterprises and related monitoring by the Government. In particular, the draft public corporations act will include (i) establishment of public enterprises as bodies corporate;
16 Page 68 of the CPS states, “depending on the outcome of the 2008 grant program, another grant and/or lending program will be considered for 2009–2010 with the focus to more broadly address the inefficiencies of the public enterprises and thereby reinforce ADB’s focus on improved financial management.”
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(ii) role of the board of directors and management, and the procedure and criteria for appointment and dismissal of directors and managers; (iii) requirement for periodic disclosure of information and filing of audited accounts; (iv) procedure for decorporatization (if any) and the implications thereof;17 (v) roles of the relevant minister and the auditor general; (vi) provision for the introduction of performance contracts for management based on agreed upon outputs; and (vii) penalties for noncompliance with the public corporations act.
61. The provision of such a clear regulatory framework is particularly important in a small society with close kinship links such as Tuvalu. Clarity in regulatory requirements will reduce the potential for discretion by individuals in the application of policies and so will reduce the ability of interest groups to place inappropriate pressures on decision makers and bureaucrats with regulatory functions. Appendix 4 (problems and constraints analysis) contains further assessment of social and cultural constraints in Tuvalu.
62. Pursuant to the enactment of the public corporations act, revisions will be made in the governing acts of each public enterprise to reflect changes introduced by the public corporations act. A framework for relationships and powers of authority of the relevant ministers of corporatized entities will also be developed. The Program will also consider the legal status, under the proposed new bill, of the Tuvalu Copra Trading Corporation, NAFICOT, and the Tuvalu Philatelic Bureau (which currently are considered by the auditor general to be corporations, although they do not have their own legal framework).
63. The Program will support an assessment of the trends and level of current subsidies including the management issues that form the basis for the subsidy or overdraft request and will develop clear plans to reduce and eliminate these within a defined time frame. This assessment will include review of the extent (if any) to which subsidies are required to cover costs of essential but nonprofitable services. The assessment will review the merits of introducing community service obligation contracts and payments based on negotiation of fees and services between the corporation and the Government.
64. More specifically, the Program will also address the financial sustainability issue being faced by TEC and TTC by reviewing existing studies and assessing the current tariff levels as a basis for providing options as to how the financial requirements of these public enterprises could be balanced with the cost of the community service obligations required of them by the Government. The intent is to move TTC and TEC to a financially sustainable basis wherein nonprofitable social services are transparently funded by the Government.
65. The scope of the Program will also extend to assessing the viability of improving the performance of the small business-like activities that are embedded in ministry functions, including through the contracting out of these services to the private sector. The capacity and potential of government noncorporatized businesses will be assessed, and planning and reporting frameworks based on the templates for enterprises will be introduced and built as found beneficial.
66. The Government does not have a detailed understanding of the scope of private sector opportunities in Tuvalu (and reflecting differing opportunities on Funafuti and on the outer
17 In Tuvalu, decorporatization has involved bringing a public corporation back within the structure and direct control of a ministry as opposed to being apart from ministries and being overseen by a board. There will need to be specific consideration of the legal status of the decorporatized Tuvalu Media Corporation.
18 islands). While Tuvalu’s small population, dispersed geographical nature, and currently limited transportation linkages place natural barriers upon the scope for private sector development, an analysis of patterns in private sector lending, business licensing, and human resource capacities in the private sector would allow the Government to identify potential areas for growth and niche markets. The Program will carry out this analysis. This will be of particular use when looking at government business activities currently embedded within ministries but that could be contracted out. This understanding will help the Government when approached by foreign investors.
67. Output 2 is expected to impact on Tuvalu’s budgetary position by facilitating the ability of the Government to control the level of subsidies being demanded by, and directed to, public corporations and by improving the financial performance of public enterprises. This will alleviate expenditure demands and so assist the Government in achieving PBI 1.1 (para. 12). PBIs 1.3, 2.1, and 2.2 will be indirectly assisted, as better expenditure management will free funds that the Government can direct to support achievement of these other PBIs.
68. Output 3—Strengthened Management Capacity in Public Enterprises. The Program will facilitate a review of the role of the board of directors in public enterprises and of its membership. The intended result will be a series of recommendations to strengthen board performance. These should include a clear understanding of the relationship between the board and the general manager and the requirement for role separation, and the coverage to the degree possible of all major roles and skill requirements (financial, human resource development, technical, etc.) by board members.
69. At the micro level, the Program will work with general managers and boards of public enterprises to develop and implement a corporate plan and an action plan for each enterprise to assist them to meet the requirements of the public corporations act, based on the Government’s public enterprise governance reform strategic policy. The capacity of boards and general managers will be improved in preparation, management, and monitoring. Auditor control issues will be incorporated into the corporate plans, with quarterly and annual progress reports prepared to address issues raised by the auditor general. Templates will be prepared for corporate plans, annual reports, and quarterly reports to the board.
70. The Program will support improvements in accounting and human resource management in public enterprises. Accounting will be improved through the introduction of basic accounting skills as required, allowing accounts to be prepared and submitted to the board (and then to the Public Enterprise Unit) in standardized formats and on time. Priority will be accorded to the development or recruitment of financial management expertise for all enterprises. Job descriptions will be developed for use by enterprises, together with a performance appraisal format. The merits of introducing performance contracts for general managers (initially) based on achievement of corporate plan targets will be considered. This will also act as a mechanism for the board to control excesses in salary increases and employment conditions without commensurate performance improvement.
71. The Program will make a specific target of NBT, reflecting its vital role as a provider of finance to the private sector. Improved NBT performance can reduce lending costs for borrowers. The intent is to recognize NBT’s status as Tuvalu’s most profitable public enterprise, to ensure that the conditions that have supported this profitability are sustained, and to further address issues concerning performance. The required actions will also improve NBT’s operating policies and remove constraints to private sector investor interest in NBT.
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72. The Program will support specific changes in NBT policy and practice directed at improved performance. Board-approved revisions in NBT’s policies for the timely collection of past due loans and advances of credit are needed to comply with international best practices. The written collection policy should include specific and increasingly more stringent actions (comprising telephone contact, personal visits with the borrower, and demand letters) to be taken for the collection of past due loans, and the time lines for each action. The adoption of a written and board-approved liquidity policy is needed to better measure, monitor, and maintain adequate liquidity. This policy should (i) provide for the establishment of an asset–liability management committee and determine its responsibilities; (ii) determine authorities to make liquidity and funds management decisions, and require reporting on these; (iii) set loan–deposit ratios; (iv) set liquidity target parameters; (v) require maturity gap analysis reports of realizable earning assets (excluding nonperforming loans) and liabilities; and (vi) require regular reviews of NBT’s deposit structure.
73. Further, the Program will promote the adoption and implementation of a legal framework for the licensing and ongoing supervision and regulation of banking institutions that provides for implementation of, and adherence to, the Basel core principles for effective banking supervision.18 Financial supervision will be conducted to enhance the stability, reliability, transparency, and efficiency of the financial sector to reduce systemic risks and to prevent the abuse of the financial sector for criminal purposes, with a view to protecting the interests of clients and investors by safeguarding their financial resources, and thereby supporting financial stability.
74. This component of the Program will be directly supported by PFTAC, and is reflective of strong fiscal and financial sector aid coordination in Tuvalu. NBT undertakes both deposit-taking and lending and so will be immediately covered by the legal framework developed. DBT and TNPF are both currently providing only lending services so will not be included in the coverage of the legal framework until such time as they embark upon deposit-taking.
75. Output 3 will support achievement of the PBIs both directly and indirectly. Output 3 will support the Government in ensuring that public corporations generate less fiscal demand and may support the move of some to a positive financial outcome and hence the Government’s earning of dividends. This will alleviate expenditure demands and so assist the Government in achieving PBI 1.1 (para. 12). PBIs 1.3, 2.1, and 2.2 will be indirectly assisted, as better expenditure management will free funds that the Government can use to support achievement of these other PBIs.
76. Leveraging Change. The Program will set Tuvalu on a path of reform, with the tranche conditions playing an important role in leveraging needed changes. The tranche conditions will develop the Government’s understanding of the need for reforms and will act to create an environment in which reformist actions can be taken.
77. The first set of tranche conditions will act to demonstrate both the Government’s commitment to reform and broader parliamentary support for priority reforms. This will be done through, first, requiring Parliament to pass legislation reforming the taxation system (para. 16– 18). Passing of the taxation reform legislation will be the outcome of a considerable process of public consultation and parliamentary scrutiny through three readings of the proposed legislation. The first tranche conditions will also elicit government commitment to move forward with the reforms through cabinet approval for the development of a public enterprise
18 Bank for International Settlements. 2006. Core Principles for Effective Banking Supervision. Basel Committee on Banking Supervision. Basel, Switzerland.
20 governance reform strategic policy, a public corporations act, and a debt risk management and mitigation policy and strategy. Achieving cabinet commitment to this work will require cabinet discussion and understanding of the scope and intent of these proposed policies, strategies, and legislation. Finally, the first set of tranche conditions will require the Government (MFEP) to undertake preliminary analysis of the private sector’s growth potential, and in so doing a better understanding of the potential longer-term benefits flowing out of reforms will be generated.
78. The second set of tranche conditions will require firm reformist actions on the part of the Government. The cabinet will need to put in place policies and strategies to guide them in reform implementation—through cabinet approval of the public enterprise governance reform strategic policy and the debt risk management and mitigation policy and strategy. Parliament’s commitment to reform will also be leveraged through the second tranche conditions. Tabling of a public corporations act will be required, as will the adoption of a legal framework for the licensing and ongoing supervision and regulation of banking institutions. Second tranche conditions will require the Government to cause the operational policies of one public corporation to be strengthened—NBT should have in place written and board-approved policies for the timely collection of past due loans and advances of credit and for measuring, monitoring, and maintaining adequate liquidity. The second tranche will also require government action to reduce its debt level (through repayment of the OIASA and other debt held with NBT) and in so doing will remove some of the financial constraint under which NBT is operating. Finally, the second tranche will require the Government (MFEP) to prepare a detailed report on the private sector’s growth potential inclusive of market capacity and sustainability. Together, these actions will create an environment supportive of further and more specific reform actions.
79. Harmonization. The principles of harmonization and coordination with other development partners’ activities will underlie the success of the Program. The Program will support the Government in its achievement of the PBIs, which were developed in concert with ADB, AusAID, and NZAID. Tuvalu’s receipt of financial support from AusAID and NZAID for the recurrent budget through incentive payments, over the usual country allocation, for achievement of the PBIs will be facilitated by ADB’s program grant.
80. Capacity Development. Capacity development is a further principle that will underlie the success of the Program. Capacity development will be supported by the standalone TA detailed in Appendix 5 and is essential to the Program at both the individual and organizational levels to ensure continuous skill development, competence, and confidence of MFEP, the public enterprise reform steering committee, the public enterprises unit, boards, and general managers. Capacity building through the development of high-level policy and legislation and its implementation will require attention to the capacity of the institutional and political environment, which will be supported by the approved TA, in particular through the inclusion of a local facilitator in the consultant team, who will bring an understanding of issues of political economy to specific activities under the TA. The TA will provide for capacity development of individuals through formal and informal training and mentoring, with emphasis on on-the-job development and learning by doing, with a team approach taken to all activities and issues. Consultative and participatory public and stakeholder activities will also be undertaken in regard to the proposed reforms and specific public enterprise performance issues, which will contribute to broader capacity development promoted through the program grant by allowing the effective engagement of these groups in the reform process.
C. Financing Plan
81. Asian Development Fund IX Grant. A policy paper on Revising the Framework for Asian Development Fund Grants was approved by the ADB Board on 26 September 2007. According
21 to the policy paper, Tuvalu is classified as country with high risk of debt distress and is therefore eligible to receive 100% grant assistance.
82. ADB will support the Program through a grant of $3.24 million provided from ADB’s Special Funds resources to support the Government’s implementation of the policy, institutional, and legal reforms for strengthened financial management. The framework put in place will support the government in sound decision making regarding public corporations and government business enterprises. The resultant decisions can be expected to have social and political impacts. The policy framework guiding these decisions will support Government's analysis of the impacts of its decisions and provide tools to ameliorate negative social impacts, as well as setting out processes for broad-based consultation to generate the required political support for change. The counterpart funds generated from the grant will allow for the Government’s full repayment of the OIASA overdraft to NBT. The total amount of the overdraft is estimated at A$3,795,610. Any remaining counterpart funds will be directed by the Government toward other outstanding debt to NBT. The overdraft repayment will support the intended outcome of the Program set out in the policy matrix through improving the Government’s debt position while simultaneously improving the performance indicators for NBT. There are significant potential savings to the Government from improved public enterprise performance. Annual on-budget expenditure by the Government in support of public enterprises has been estimated to exceed A$6 million (with further off-budget expenditure), compared with total annual government on-budget expenditure, which has ranged between A$16.2 million and A$32.9 million during the past decade. The size of the grant is based on the importance of the reforms, the state of public finances, and the level of government debt.
D. Implementation Arrangements
83. Program Management. MFEP will be the Executing Agency and will coordinate policy, legal, and regulatory actions. MFEP will also ensure that the policy reforms, as agreed to by ADB and the Government and as described in the development policy letter and set forth in the policy matrix (Appendix 6), are duly carried out in a timely manner. In particular, MFEP will ensure that provisions for reporting, monitoring, auditing, and other administrative requirements will be strictly followed. A program steering committee, chaired by the secretary of MFEP and including representatives of the Office of the Attorney General and MFEP’s budget and public enterprise oversight areas, will be established to monitor and coordinate the Program and supporting TA from ADB and others.
84. Implementation Period. The Program period is from 1 November 2008 to 31 March 2010. Policy, legislative, organizational, and operational changes agreed upon with the Government and set out in the policy matrix are to be put in place from 1 November 2008 to 30 November 2009.
85. Procurement and Disbursement. The proceeds of the grant will be disbursed to Tuvalu as the recipient in accordance with ADB’s simplified disbursement procedures and related requirements for programs loans.19 The proceeds will be used to finance the foreign exchange cost of items produced and procured in ADB member countries, excluding items included in a list of ineligible items (Appendix 7) and imports financed by other bilateral and multilateral sources. Grant proceeds disbursed against imports will require a certificate from the Government stipulating that the value of the total imports of Tuvalu, minus its imports from nonmember countries, ineligible imports, and imports financed under other official development assistance, is equal to or greater than the amount of the grant expected to be disbursed during
19 ADB. 1998. Simplification of Disbursement Procedures and Related Requirements for Program Loans. Manila.
22 a particular year. ADB will have the right to audit the use of the grant proceeds, and to verify the accuracy of the Government’s certification.
86. Tranches. The grant will be provided in two tranches. The first tranche of $1.24 million will be available upon satisfaction of the first tranche conditions and grant effectiveness, estimated at around November 2008. The second tranche of $2 million will be available upon satisfaction of the second tranche conditions, estimated at around October 2009. In addition, the Government must complete the nontranche release policy actions set out in the policy matrix during the implementation period. While these policy actions are not conditions for the release of the first or second tranches, they are essential steps for achieving the program outcome.
87. Counterpart Funds. Local currency generated from the grant will be directed to repayment of the Government’s overdraft in the OIASA with NBT. The overdraft totals A$3,795,610, and the local currency generated from the grant will eliminate this overdraft. In particular, $1.24 million equivalent from the first tranche and $2 million equivalent from the second tranche will be applied for the complete repayment of the A$3.796 million OIASA overdraft. Any remaining counterpart funds will be directed by the Government toward other outstanding debt to NBT.
88. Program Performance Monitoring and Evaluation. MFEP will (i) within 3 months from grant effectiveness, establish and maintain a performance evaluation system for the Program, which will include the policy actions from the policy matrix; and (ii) monitor and report to ADB, on a semiannual basis, the implementation of policy actions and their impact on budget outcomes and public enterprise performance (including financial and performance indictors), in line with the program impact and outcome indicators agreed upon with the Government. As the outcomes and impacts of the Program will be most clearly felt beyond the period of its implementation, the monitoring of these will continue to be undertaken by MFEP. Monitoring of outcomes and impacts will be useful to the Government’s own processes and decision making and as such is not an onerous requirement. A review of the progress of the Program will be undertaken jointly by ADB and PFTAC in consultation with the Government before the end of the third quarter of 2009 to ensure that the second tranche conditions (and other policy actions), as specified in the development policy letter and the program matrix (Appendix 6), are met.
89. Program Review. Apart from the joint review with PFTAC mentioned in para. 88, program reviews will be carried out in conjunction with associated TA reviews.
90. Anticorruption. ADB’s Anticorruption Policy (1998, as amended to date) was explained to and discussed with the Government and the Executing Agency. Consistent with its commitment to good governance, accountability, and transparency, ADB reserves the right to investigate, directly or through its agents, any alleged corrupt, fraudulent, collusive, or coercive practices relating to the Program. To support these efforts, relevant provisions of ADB’s Anticorruption Policy are included in the grant regulations. In particular, all contracts financed by ADB in connection with the Program will include provisions specifying the right of ADB to audit and examine the records and accounts of the Executing Agency and all contractors, suppliers, consultants, and other service providers as they relate to the Program.
91. Technical Assistance. On 3 November 2008, ADB approved TA for capacity development for public financial management to the Government of Tuvalu (Appendix 5).20 The
20 ADB. 2008. Technical Assistance to Tuvalu for Capacity Development for Public Financial Management. Manila. The TA, while related to the Program, was processed separately to allow the diagnostic analysis of MFEP capacity to be undertaken promptly to provide ADB and other development partners with a better understanding of where capacity gaps are and how to better manage for these.
23
TA will enhance fiscal stability through (i) providing for a broad diagnostic analysis of MFEP’s capacity, (ii) supporting government preparation of an MTFF, and (iii) creating the policy and legislative environment for improving the performance of public enterprises. The TA will be implemented over a 3-year period to enable the progress achieved under the Program to be built upon through continued support to the implementation of government decisions regarding reform of specific public corporations. The TA will not provide for the assessment of program policy actions.
92. The MTFF and the capacity assessment of MFEP will both provide important support to program activities. The MTFF will assist in strengthening planning and reallocation of government resources against priorities, thereby acting to reinforce program actions regarding appropriate assessment of subsidies and costs of community service obligations. The MTFF will also provide an anchor for the debt risk management and mitigation policy and strategy. The findings of the MFEP capacity assessment will allow for identification of priority areas for strengthening and will provide a mechanism to attract additional development partners’ support for capacity building. Clearly, a stronger MFEP will be of benefit to program implementation.
93. Other Assistance. PFTAC will provide support as required for the development and implementation of the financial institutions act through its banking supervision advisor or through peripatetic advisors. PFTAC did, in 2002, provide model legislation to Tuvalu that had undergone some development in-country but was not completed. PFTAC will seek to reinvigorate this process with the intention of enabling the Government to meet second tranche conditions.
94. A range of other development partner assistance is also relevant to the sustainability of the program grant outcome and impact. The current and planned assistance from Australia and New Zealand directed toward strengthened financial management creates a sound continuing environment for program grant implementation. For example, AusAID has funded a budget adviser in Tuvalu since 2005, with this position providing support for the development and implementation of an MTFF. AusAID is also funding an advisor to the auditor general, with improved functioning of this office supporting the oversight of public enterprises. ADB’s own future program of assistance, set out in the Tuvalu CPS 2008–2012, provides for a second phase of TA to support capacity development for financial management, which is indicative of ADB’s ongoing commitment to this sector (footnote 2). Thus this TA is situated within a larger and ongoing program of development partner support for strengthened financial management. Appendix 8 contains a matrix of current and planned external assistance to Tuvalu.
V. PROGRAM BENEFITS, IMPACTS, AND RISKS
A. Benefits and Impacts
95. The major benefits of the Program will be long-term fiscal stability and improved enterprise performance. These benefits will act to reinforce the political will to implement change.
96. Fiscal. A reduction in the demand on the budget by public enterprises will create fiscal space and allow for allocation of expenditures to priority areas, thus improving Tuvalu’s fiscal performance. A 2005 estimate suggested that 13% of on-budget expenditure (about $6 million in 2005) was directed to supporting the shortfall in operating revenues of public enterprises. There are also clear indications that a significant level of off-budget expenditure is also directed to supporting public enterprises.
24
97. The longer-term impact of the actions supported by the Program will be to reduce the Government’s responsibility for such support to that of providing for contracted community service obligations. Thus the longer-term fiscal implications of the Program could be savings in the order of 7%–8% of on-budget expenditure. The support this level of funds could provide to meeting the fiscal PBIs would facilitate Tuvalu’s access to incentive payments from both AusAID and NZAID and so further leverage the benefits of the Program.
98. Greater transparency in transfers to public enterprises and the provision of these in exchange for services will contribute to greater budget clarity. This will also be served by strengthened financial understanding on the part of both public enterprise employees and board members.
99. Utilization of the fiscal space created by the grant to repay the OIASA overdraft will have benefits both for the Government, in terms of a reduced debt level and improved financial position, and also for NBT, placing NBT in an improved financial position, freeing capital for lending and/or investment, thus enabling greater private sector access to funds. Fiscal stability, as well as improved NBT liquidity, is likely to engender increased business confidence and the interest of the private sector in new and existing business development, and therefore to contribute to improvements in social impact including better access to education and health services through reduced household financial pressure.
100. Strengthened Government Decision Making. With the adoption of the public enterprise governance reform strategic policy, the Government will be well placed to consider and assess alternate ownership and management options for its public corporations and government businesses.
101. Government Oversight of Public Corporations. Ministries with responsibilities to public enterprises will need to develop a new working relationship with the public enterprises, moving away from a master–servant interaction to a client–provider relationship. Ministries will initially need to work closely with public enterprises to identify community service obligations, set these at appropriate levels, and cost them. Ministries will benefit from such a process in that the required supplements to public enterprise budgets will be transparent and related to the quality and quantity of services received.
102. The establishment of a public enterprise unit will consolidate efforts to improve government revenue through establishing profitable enterprises by establishing the unit as the vehicle for encouraging performance, providing skill development to enterprise managers and boards, and monitoring performance against agreed upon indicators.
103. Improved public enterprise efficiency and performance, including returning a profit, will consolidate the value of fiscal discipline and performance measures. Improved service delivery (the way in which services are delivered as well as what is delivered) will both enhance political commitment and consolidate the public perception of political commitment to better fiscal management as well as effect enterprises.
104. Public Enterprise Management. The impact of the Program will be felt most immediately by general managers and staff of the public enterprises. Efficiency and performance will be elevated in importance, and mechanisms will be put in place to monitor indicators of these. Current reliance on family and communal connections to overlook poor work effort will be reduced through the development of job descriptions and clear performance targets. New and enforced requirements for financial and performance reporting will enforce fiscal transparency and promote fiscal discipline within public enterprises.
25
105. Within public enterprises, capacities will be developed to support performance-focused management and strengthened financial management. This is one of the benefits of undertaking a holistic approach to the improvement of public enterprise performance outside of a situation of fiscal crisis, when the urgency of change would be paramount and capacity development a lesser priority.
B. Risks
106. Risks relate mainly to continued political will to establish and carry out a robust policy framework for improvement of enterprise performance, availability and sustainability of appropriate technical capacity, appropriateness of institutional requirements and government commitment to establish a public enterprise unit, and commitment to capacity development success and sustainability. Because external economic factors may affect the willingness of the public and the private sector to take on risk—and therefore may affect lending and business development—they must be included in risk assessment and in management strategies.
107. Economic. World economic volatility leaves import-reliant Tuvalu vulnerable to price escalation. National, Pacific regional, and international economic indicators will need to be monitored as an aid to fiscal management. The recent increase in import prices, such as has been the case for fuel and food, has left a significant impact on both customers and the Government. While the global commodity prices, particularly fuel are declining, the impacts of the increases are experienced by Tuvalu with a significant lag as the prices flow through the supply contracts through Fiji Islands, from where supply channels finally transfer the prices to Tuvalu. This translates to built budgetary pressures that will continue to reduce Tuvalu’s fiscal space in 2009.
108. Political Will. The current Government has indicted commitment to the five fiscal PBIs. The commitment to working toward achievement of the PBIs is fundamental to program success. A change in the Government or its leadership may weaken this commitment. The impacts of the Program will take time to manifest themselves, but the costs will occur earlier. The Government must be confident and present publicly the benefits of the fiscal reforms on macroeconomic stability and how this will benefit all. Mitigation efforts will be supported by the TA, which provides for a local project facilitator who will have the role of developing public and stakeholder awareness and understanding of the objectives of the reforms being implemented. This is expected to promote broad-based support for the reforms and will be complemented by similar educational activities for members of Parliament and public enterprise staff. Mitigation measures for those who may be negatively affected by the Government’s subsequent actions in relation to public corporation ownership, management, and operations will need to be developed by the Government.
109. The Program will likely increase the workload of board members, as they will have improved information to consider at their meetings and increased skills to apply to their task as directors. The board will also be expected to play a role in setting the strategic direction of the public enterprise during corporate planning activities. There is a risk that board members will not rise to this challenge, although this will be mitigated through capacity development and improved board selection criteria and processes.
110. Capacity Development. Embarking on fiscal and enterprise improvement of this magnitude requires both skills and an understanding of the ongoing and iterative nature of the process. It signifies a commitment to ongoing fiscal improvement. Public servants will require ongoing capacity development to enable them to have the competence and confidence to participate fully and take ownership of this process. The low skill base constitutes a significant
26 risk. This risk will be mitigated through the TA, which ties TA input closely to tranche conditions. The TA will also provide for a local facilitator to assist the technical specialists in increasing understanding of the issues the program grant and TA are designed to address; and to support consultation, participation, and awareness-raising directed at members of Parliament, relevant government and public enterprise staff, as well as the public. This position will further enhance the incorporation of an understanding of issues of political economy in specific activity design.
111. Capacity development is both an underlying risk management factor and a risk. Capacity development of a cadre of staff with the critical mass to manage the process of fiscal reform through to measurable impacts is essential. However, Tuvalu, like the rest of the Pacific, is vulnerable to the loss of human resources to the enticement of greater financial rewards and career opportunities available only in a larger economy.
112. Government Oversight of Public Corporations. Ministries and government agencies will be placed under greater pressure to meet their obligations to public enterprises for service provision. The Government has a poor track record in paying its electricity and telecommunications bills, although this seems to have been largely addressed recently. It will need to continue to make adequate provision to pay its bills, as in a more performance-focused operating environment, TEC and TTC will need to treat the Government in a similar manner to all their other customers when it comes to delinquency. Support provided to the Government through the TA, and by other development partners, to improve annual budget development and management will act to further mitigate this concern.
113. Social Impact. The public and private sector may also feel the impacts of the Program in terms of changes in quality and costs of services. Given the degree of subsidization of services to the consumer, both directly (through artificially low tariffs) and indirectly (through general subsidies to public enterprise budgets), there will likely have to be some upward adjustment of prices of services by some public enterprises. It is also expected that an improved quality of service will be provided. Again, planning of these adjustments can allow them to be stepped over time and also allow for development of programs of assistance to target the neediest in society to ensure that their basic service needs are met.
114. Rationalization seems a likely path for at least one public enterprise, and such a decision may have social impacts should the Government chose to cut jobs rather than to reposition staff, with reductions being made through natural attrition. Again, making this decision in a less pressured environment that allows time for analysis and consideration of options means that steps can be taken, in terms of retraining or compensation, to avert the worst social impacts and to avoid imposing hardship on those families directly involved. Appendix 9 contains the Summary Poverty Reduction and Social Strategy.
115. Overall. Achievement of the potential benefits to the Government in terms of fiscal stability, and improvements in enterprise performance and in business and public confidence through supporting the Program far outweigh the risks. Indeed, the cost of no action would be borne by the Government through ballooning subsidies to public corporations, and by the people of Tuvalu through declining public services. The overall benefits of the program grant considerably outweigh the costs and the risks.
27
VI. ASSURANCES
A. Special Assurances
116. In addition to the standard assurances, the Government has given the following assurances, which will be incorporated in the legal documents:
(i) The Government will (a) ensure that the policies adopted and actions taken as described in the development policy letter, including the policy matrix, continue in effect for the duration of the program period and subsequently; and (b) promptly adopt all other policies and take all other actions indicated in the development policy letter, including the policy matrix, and ensure that such policies and actions continue in effect for the duration of the program period and subsequently.
(ii) The Government will keep ADB informed of policy discussions with other multilateral or bilateral aid agencies that have implications for implementation of the Program, keep ADB informed of the progress made in carrying out the policies and actions set out in the development policy letter and the policy matrix, and provide ADB with an opportunity to comment on any resulting policy proposals. The Government will continue timely policy dialogue with ADB on problems and constraints encountered during implementation of the Program and on desirable changes to overcome or mitigate such problems and constraints.
(iii) Throughout the implementation of the Program, the Government will ensure that adequate resources are allocated and released in a timely manner in order to ensure proper implementation of the Program as described in the development policy letter. The Government will ensure that the counterpart funds generated out of the grant proceeds are directed, first, to the repayment of its overdraft in the OIASA with NBT, and, second, toward the repayment of any outstanding debt of the Government to NBT.
(iv) The Government will undertake necessary measures to create and sustain a corruption-free environment; ensure that its anticorruption law and regulations and ADB’s Anticorruption Policy (1998, as amended to date) are strictly enforced and complied with during the program implementation; and facilitate ADB’s exercising its right to investigate, directly or through its agents, any alleged corrupt, fraudulent, collusive, or coercive practices relating to the Program.
(v) The Government will establish, by 31 January 2009, a program steering committee chaired by the Secretary of MFEP and comprised of representatives of the Office of the Attorney General and MFEP’s budget and public enterprise oversight areas to monitor and coordinate the Program and supporting technical assistance from ADB and other agencies.
B. Condition to Grant Effectiveness
117. The Government will have fulfilled all conditions for the release of the first tranche.
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VII. RECOMMENDATION
118. I am satisfied that the proposed grant would comply with the Articles of Agreement of the Asian Development Bank (ADB), and acting in the absence of the President, under the provisions of Article 35.1 of the Articles of Agreement of ADB, I recommend that the Board approve the grant not exceeding $3,240,000 to Tuvalu from ADB’s Special Funds resources for the Improved Financial Management Program, on terms and conditions that are substantially in accordance with those set forth in the draft Grant Agreement presented to the Board.
C. Lawrence Greenwood, Jr. Vice President
19 November 2008
Appendix 1 29
DESIGN AND MONITORING FRAMEWORK
Design Performance Data Sources/Reporting Assumptions and Summary Targets/Indicators Mechanisms Risks Impact Assumptions Sustained economic Meeting of annual Budget papers Private sector growth and fiscal targets agreed upon with opportunities exist stability development partners Tuvalu Trust Fund Government for performance Advisory Committee maintains its benchmark indicators (TTFAC) reports commitment to PBIs (PBIs) relating to budget balance, debt level, Economy will sustain primary education, and continued demand for basic health care current or greater expenditure levels of service
Lending for business Reports from National purposes by domestic Bank of Tuvalu (NBT) Risks financial institutions Long lag before fiscal increased above 2008 improvement levels Economy not sufficiently buoyant to enable significant private sector growth Expenditure inconsistent with budgets High turnover of trained staff in Ministry of Finance and Economic Planning and public enterprises Outcome Assumptions Improved government Annual budget aligned FY2010 budget papers Government fiscal planning and with medium-term fiscal Medium-term fiscal commitment to fiscal management capacity objectives, including framework reforms, containment PBIs of public expenditure, Budget papers and reform of public Transparent monitoring enterprises continues of and reporting on Public enterprise Continuing assistance Government’s financial management and from Public support to public performance reports Enterprise Unit and enterprises good quality advice Auditor general’s reports All public enterprises in compliance with all Program grant monitoring Risks aspects of Public reports A credible budget will Corporations Act not be produced
By end-2009 Staff changes reduce improvements in key continuity and quality of planning financial indicators as reported by public Skilled senior staff
30 Appendix 1
Design Performance Data Sources/Reporting Assumptions and Summary Targets/Indicators Mechanisms Risks enterprises already have high workloads Limited capacity of the Public Enterprise Unit to monitor and ensure compliance Outputs Assumptions 1. Improved public debt Debt Risk Management Associated Ministry of Government meets its management capacity and Mitigation Policy Finance and Economic commitment to settle and Strategy Planning reports OIASA overdraft implemented Government
maintains its Timely and accurate commitment to raising tracking and reporting of Budget papers performance of public debt selected public
enterprises Achievement of PBI 1.3 TTFAC reports
Outer islands agency Budget reports and data suspense account (OIASA) overdraft Annual reports of NBT account at NBT settled
Parliamentary approval of taxation reforms
2. Strengthened Public Enterprise Program grant monitoring oversight of public Governance Reform report enterprises Strategic Policy and Public Corporations Act implemented
3. Strengthened By end-2009, NBT Annual reports of NBT management capacity in financial performance public enterprises (as measured by liquidity, value of assets, nonperforming loans, and profits) strengthened from end-2007 position
More regular and higher Annual reports of public quality financial and enterprises performance reports from public enterprises
Appendix 1 31
Activities with Milestones Inputs Asian Development 1. Tranche 1 (December 2008) Bank—grant of 1.1 Cabinet approval for the development of a public enterprise governance $3.24 million reform strategic policy (2 tranches— 1.2 Cabinet approval for the development of a public corporations act December 2008 and 1.3 Cabinet approval for the development of a debt risk management and November 2009) mitigation policy and strategy Government— 1.4 Prepare a preliminary analysis of private sector growth potential meeting of tranche 1.5 Parliament passing of taxation reform legislation conditions and
settlement of OIASA 2. Tranche 2 (November 2009) overdraft (about 2.1 Use of the grant’s first tranche of $1.24 million to repay OIASA held with A$3.79 million) NBT 2.2 Public enterprise governance reform strategic policy approved by cabinet Pacific Financial 2.3 Tabling in Parliament of a public corporations act Technical Assistance 2.4 Prepare a detailed analysis of private sector growth potential inclusive of Centre—technical market capacity and sustainability assistance to develop 2.5 Debt risk management and mitigation policy and strategy approved by a legal framework for cabinet licensing, supervision, 2.6 Adoption and implementation of a legal framework for the licensing and on- and regulation of going supervision and regulation of banking institutions banking institutions 2.7 Cause NBT to have in place written and board-approved policies for timely Australian Agency for collection of past due loans and advances of credit; and for measuring, monitoring, and maintaining adequate liquidity International Development— Tuvalu-based budget 3. Nontranche policy actions (30 March 2010) 3.1 Nontranche policy actions set out in the policy matrix will be taken prior to advisor will provide program end support as appropriate . NBT = National Bank of Tuvalu, PBI = performance benchmark indicators, OIASA = outer islands agency suspense account, TTFAC = Tuvalu Trust Fund Advisory Committee.
32 Appendix 2
ANALYSIS OF THE NATIONAL BANK OF TUVALU
1. The National Bank of Tuvalu (NBT) commenced operations as a government bank, went through a period in which ownership was shared with a succession of foreign commercial banks, and since 1995 has again been wholly owned by the Government. There is interest in privatization on the part of the Government with some talks with a foreign bank regarding complete divestiture having taken place intermittently between 2004 and 2006. However, this did not eventuate. There has also been a suggestion of the issuance of shares to the public, though again this would be dependent on reduced government involvement.
2. At least two issues proved problematic in moving to private ownership. These included concerns regarding NBT’s level of liquidity and the lack of appropriate banking regulations. The Government initiated the development of a financial supervisory act; however, this was not completed.1 Regardless of whether NBT is privatized, dealing with its monopoly position as the dominant commercial bank in Tuvalu is also important. The high historical rates of return on investment suggest this market power has already been exploited.
3. NBT’s biggest customer is the Government, which has accumulated a large overdraft stemming from budget support coupled with a considerable debt (A$3.796 million at 30 June 2008) from its involvement in the outer islands agency suspense account (OIASA), where personal deposits made by people in the outer islands were remitted back into the consolidated revenues instead of back to NBT in a period when the Government was acting as an agent for NBT in the outer islands.
4. This, combined with a spate of poor quality lending to local businesses and households, contributed to a liquidity crisis. The financial statements contained in the 2003 annual report states: “As at 31 December 2003, the Bank’s liquidity position had been severely depleted resulting in material uncertainty as to whether the Bank will be able to meet its obligations to depositors and discharge its short-term liabilities in the normal course of business.”2 The financial statements showed the alarming growth in lending and drop in deposits, offset by a 90% reduction of term deposits with overseas banks during 2003. This trend continued until a change of management recognized the problem and took steps to address it. Outstanding loans, at 93% of deposits as of October 2005, subsequently reached well in excess of 100%. As a result NBT entered into very little new lending.
5. For a long time NBT was the only institution in Tuvalu that accepted deposits (the Development Bank of Tuvalu [DBT] is now able to do so), offering a normal array of savings and checking accounts, currency exchange, money transfers, and loans. For years, it was the only business in the country that accepted credit cards (for cash advances), but in 2005 it stopped providing this service. This has caused concern in the tourist industry and allied businesses catering to international travelers.
6. The NBT loan portfolio is dominated by personal borrowing, with only about 30% lent for business purposes. Only a few well-established, long-time customers are still receiving new business credit; all others are referred to DBT. Housing loans—previously an important component of the business portfolio since most were for rental units—have stopped completely.
1 The reasons behind the draft FIA as prepared with PFTAC assistance never moving to the stage of parliamentary tabling are unknown. All the key players (minister and secretary of finance, attorney general, and NBT general manager) have changed in the intervening period. 2 National Bank of Tuvalu. 2004. National Bank of Tuvalu: Annual Report 2003. Funafuti.
Appendix 2 33
Security to date has been limited to automatic payroll deductions from individuals employed by the Government or liens on individual accounts in Tuvalu National Provident Fund.
7. Given the NBT’s status as Tuvalu’s only profitable public corporation and the previous expression of private sector interest in involvement in NBT, the Asian Development Bank (ADB) invited Pacific Financial Technical Assistance Centre’s (PFTAC) financial sector supervision advisor to join the fact-finding mission to Tuvalu to provide advice to ADB regarding appropriate tranche release conditions to support the financial sector, and improve NBT performance in particular. This was done through a review of the general operating condition and performance of the NBT and the adequacy of operating policies to determine what factors, if any, may be hindering the performance of NBT or which may otherwise deter private sector investor interest in NBT. The summary report is presented in Box A2, with a detailed report having been provided to both NBT and the Government (as owner).
Box A2: Summary Report by Financial Sector Supervision Advisor, PFTAC on the National Bank of Tuvalu
Overall, the condition and performance of NBT appears to be generally satisfactory based on a review of the 2006 audited financial statements and unaudited financial statements for the year ending 31 December 2007 and for the 6 months to 30 June 2008. Capital is strong, despite the lack of accruals for income taxes on the profits for the year December 2007 and for the 6 months ending 30 June 2008 and the need to increase provisions for bad debts. After adjusting for these items, the bank’s leverage capital ratios (total capital to total assets) are estimated at 19.38% as of 31 December 2007 and 20.42% as of 30 June 2008. This high capital position is, however, needed to support the bank’s expanding and high-risk loan portfolio.
Asset quality is less than satisfactory with a high proportion of loans identified by the bank as being nonperforming (NPL). The bank’s identification of NPLs, however, is believed to be understated. The bank defines a NPL as any loan past due 180 days or more while the more generally accepted practice is to recognize loans past due 90 days or more as NPL. The bank’s more liberal definition of NPL also raises questions as the quality of reported earnings and income. Management was unable to provide a complete aging of past loans due as of 30 June 2008 to assess the volume and severity of NPLs. Weaknesses have also been identified in the bank’s lending and loan grading policies. Earnings performance, as noted above, appears to be overstated but is generally satisfactory. Improvement, however, is needed in the budgeting process. Earnings performance is, however, being hindered by several large interest-free loans to government (i.e., the OIASA and long-standing NPLs to Tuvalu Media Corporation and the National Fishing Corporation). Liquidity is satisfactory; however, improvement is needed in planning and management of liquid assets.
Operations of the bank are generally satisfactory and no major impediments, beyond resolution of the large volume of nonearning government borrowings and the need for a banking law, have been identified, which would discourage outside investor interest in the bank. Lending is guided by a written lending policy, a policy for categorizing loans by risk has been adopted and management prepares an annual earnings budget. Revisions to these policies are needed to comply with international best practices and the adoption of a written liquidity policy is needed to better manage and assure the maintenance of adequate liquidity. Resolution of the large volume of nonearning government borrowings totaling about A$5 million as of 30 June 2008 would likely be required if outside investors were to be attracted to the bank.
NBT = National Bank of Tuvalu, NPL = nonperforming loan, OIASA = outer Islands agency suspense account. Source: PFTAC. 2008. Bank Supervision in Tuvalu. Aide-Mémoire to the Government of Tuvalu. 1–7 July. Funafuti.
34 Appendix 3
PUBLIC FINANCE SECTOR ANALYSIS
A. Fiscal Stance
1. Government expenditure is very high in Tuvalu; the ratio of expenditure and net lending to gross domestic product (GDP) ranged from 150% to 220% in 1999–2003 and is likely to have remained close to 100% subsequently. Hence, government expenditure is the main driver of economic activity, and the fiscal position is a critical dimension of economic management.
2. During 2000–2002, there was a surge in external revenue from fishing licenses and the international marketing of the .tv domain name. Grants and revenue from offshore investments held in the Tuvalu Trust Fund (TTF) were also relatively high during the period. Revenue from these sources then declined in 2003–2005, averaging A$9 million per annum compared with the annual average of A$35 million during 2000–2002. These earnings have not increased significantly since then, and forward projections indicate declining offshore earnings through 2010.
3. Expenditure grew quickly as offshore revenue rose (Figure A3). Much of the additional expenditure was allocated to one-off items such as the sealing of the road network on Funafuti (2002), an outer islands electrification project (2000), and grants to the Falekaupule Trust Fund established to assist outer islands development. Some of the expanding expenditure items were recurrent in nature or incurred some level of recurrent costs, and proved difficult to reduce as the revenue position weakened. This resulted in considerable fiscal pressure. The value of the budget was equivalent to 30% of GDP in 2003, 10% in 2004, and 20% in 2005.
Figure A3: Expenditure and Revenue Balance A$ million 60 Estimates 50
40
30
20
10 0
-10 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 -20
Expenditure and net lending Budget balance
Source: Tuvalu Central Statistics Department, Government audited accounts and budget papers, various years.
4. The large deficits quickly drew down the Government’s liquid financial reserves. In net terms, liquid financial resources stood at 59% of GDP at the end of 2002, but they were exhausted by the end of 2005. The downturn in revenue resulted in very tight expenditure restraints and the compression of capital expenditures, particularly on maintenance and on goods and services. Financial relief was provided over 2006 by strengthening in the Australian capital market. This allowed a A$12 million distribution from the Tuvalu Trust Fund (TTF) in 2006 and a further distribution of A$7 million in 2007, replenishing the Government’s cash
Appendix 3 35 reserves held in the Consolidated Investment Fund (CIF).1 The budget surplus was approximately 32% of GDP in 2006; however, a deficit of A$1.04 million was recorded for 2007. Tuvalu is projecting budget deficits for 2008 through 2011 (but the reliability of such projections is unclear, given the volatility in key revenue items).
5. The Government is taking steps to address the fiscal situation, and is committed to a program of fiscal restraint. This is most clearly demonstrated by its adoption of a set of five performance benchmark indicators (PBIs), which was formulated by the Government, the Asian Development Bank, the Australian Agency for International Development (AusAID), and the New Zealand Agency for International Development (NZAID) to track achievement of the stated social sector outcomes through a focus on improved financial management and fiscal consolidation. The PBIs are as follows: (i) Benchmark 1.1. The Government’s recurrent expenditure each year should not exceed the total of its recurrent revenue plus a sustainable TTF distribution (CIF drawdown). (ii) Benchmark 1.2. The target minimum value of funds retained in the CIF should be not less than 16% of the maintained value of the TTF at the beginning of the TTF year so as to ensure that a sustainable distribution is available to help finance annual budgets. (iii) Benchmark 1.3. The Government’s total debt liability (both domestic and external) at any time should not exceed 60% of GDP, as specified in Te Kakeega II. (iv) Benchmark 2.1. In 2008, the Government will increase its budgeted nonsalary expenditure on basic education by at least 5%. (v) Benchmark 2.2. In 2008, the Government will increase its budgeted nonsalary expenditure on primary and preventive health services by at least 5%.
6. Fiscal performance against the PBIs is being monitored by the Government, by the Tuvalu Trust Fund Advisory Committee (TTFAC), and by international aid agencies. Assessment in April 2008 by TTFAC against the 2007 budget outturn found that the Government had met only benchmarks 1.3, 2.1, and 2.2, although TTFAC noted against benchmark 1.2 that there was a marked improvement in the Government’s efforts to achieve the target minimum balance. The performance against the PBIs is looked to by AusAID and NZAID as a basis to assess the Government’s eligibility for incentive payments to support the recurrent budget.
B. Revenue Collection Systems
7. The key challenge facing the revenue system is the high degree of volatility in external revenue. For 2000–2005, annual external revenue ranged from A$13 million to A$47 million. In addition to being volatile, the future year’s revenue is difficult to forecast, and payment of one of the single largest revenue items (viz., fishing licenses) is received very late in the financial year. Expenditure decisions are thus made in the face of considerable uncertainty as to how they will be funded. The length and depth of periods of low revenue are difficult to forecast, as they depend on a range of factors outside Tuvalu’s control. Also, considerable uncertainty prevails
1 The Tuvalu Trust Fund (TTF) provides budget support from its distribution over and above its maintained value, but fluctuates with the performance in the financial markets in Australia. The existence of the TTF has created a financial asset for current and future generations, provided funding for the budget (at around 10% of recurrent expenditure in 2007), and strengthened external perceptions of Tuvalu’s finances and governance structure. However, it also has created some complacency in the Government budget planning and a certain level of moral hazard, particularly in years of good financial performance.
36 Appendix 3 with respect to the volatility in the value of the US dollar, as fishing licenses and income from the domain name are both paid in that currency. These factors greatly complicate fiscal management and have contributed to the emergence of fiscal difficulties.
8. The most immediate issue facing the internal revenue system is the potential loss of revenue under the Pacific Island Countries Trade Agreement, which became effective in May 2008 following ratification in April 2008. Implementation of this by Tuvalu requires that duties on imports from other Pacific Island countries will be progressively reduced over a 10-year period. The current import duty system comprises a large range of ad valorem and specific rates applied to free-on-board values, with the weighted average import duty estimated at 15% in 2005. The main concern to Tuvalu is the potential loss of revenue on imports from Fiji, which accounted for 14% of import duty or A$0.36 million in 2005. As import duties will only be reduced progressively, the loss of revenue will tend to be small initially. Relatively simple revenue measures have been identified that could readily correct for the revenue loss in the foreseeable future.
9. Nonetheless, more extensive import duty reforms are warranted. The intent is to reduce the reliance on import duties through adoption of a broad-based consumption tax, with legislation to be approved in November 2008. There are also grounds for raising charges for electricity, telecommunications, and shipping. Cost recovery initiatives could also be justified for medical and education services, notably for overseas scholarships (with support provided for the disadvantaged), to better spread the benefits of these services through the community.
10. Revisions to the charges of government businesses would be most helpful if accompanied by reforms in the management regime, such as the establishment of service operating agreements for public enterprises and revisions to their board structures. While elements of such reforms have been considered, there has been no progress in implementation. There has been a substantial investment in infrastructure recently, but the potential gains are impaired by operating inefficiencies, including shortfalls in funding operating costs and the higher maintenance now required.
C. Public Expenditure Program
11. High staff costs are a key source of fiscal pressure for the medium term. They now account for 40% of on-budget expenditure, well up from the 24% share of 1996. In 1994, the public sector reform program became a core component of the national plan, and a civil service downsizing was proposed. But by 2005, the number of established posts had grown by 37% above the 1994 level, although the population had grown by less than 10%. Average rates of pay also increased substantially during the period. A recent wage restraint has been lifted with a wage rise for public employees included in the FY2009 budget considered by Parliament in November 2008. Staff costs have risen to such high levels that they are now an ongoing source of fiscal pressure and compression of nonstaff expenditure.
12. The national development plan, Te Kakeega II, identifies the expenditure priorities as basic education and health care and vocational education. These items receive a very low share of the budget and are largely supported through external inputs. Shifting funds to these priorities requires making savings by stopping or cutting back some activities. Candidates for savings include overseas scholarships (at 7.2% of 2004 on-budget expenditure), travel expenses (2.7%), and subsidies to government businesses. Public expenditure could also be improved through the adoption of a targeted approach to meeting the needs of the disadvantaged rather than the current broad-brush approach.
Appendix 3 37
D. Public Financial Management System and Budgeting
13. Despite improvements in the quality of financial management, the fiscal position remains difficult to track. Changes in the net cash position (which equals the fiscal balance) are not reported publicly and are obscured by the Government’s use of multiple sources of cash. Gaining a clear interpretation of the Government’s fiscal management is complicated by the presence of a range of estimates of expenditure and revenue and the budget balance. The budget papers themselves present more than one estimate of some of the key aggregates (e.g., recurrent expenditure, the wage and salary bill), and historical data presented in the budget papers differ significantly from that presented in the audited accounts. This situation appears to be a reflection of the use of multiple accounting systems to prepare the budget as well as a general weakness in the accounting systems. A recent review further identified significant weaknesses in public financial management including the lack of a medium-term fiscal framework (MTFF).2 Issues identified in this review have been built into the technical assistance (TA) components.
14. Public sector record keeping has generally been in a poor state. Information on the debt position of the public sector and the value of investment and performance of the offshore assets are generally not disclosed to the public. The extent of government guarantees is difficult to determine, even though the policy is for such guarantees to receive parliamentary approval. The recent rundown (now corrected) in the Government’s net cash holdings is still poorly understood within and outside the Government despite its seriousness.
15. Accountability and transparency are impaired by the limited information available on government operations and mechanisms for civil society to engage in government decision making. The main source of information on the Government’s operations is the budget papers. These papers identify the activities of the main sections within each ministry, performance indicators, and expenditure by item and revenue. However, there are inconsistencies within the budget papers, and performance measures are often unrealistic.
16. The Government is committed to setting the economy and fiscal position right, and improvement in public expenditure and financial management are accorded highest priority. Reforms are been guided by Te Kakeega II. The strength of the plan is its highly participatory formulation. A key weakness is its ambitious scope and lack of prioritization.
E. Debt Sustainability
17. The gross value of public debt was estimated as A$24 million as of the end of 2005. Taking into account the Government’s cash holdings, the net debt was estimated at 72% of GDP, or 45% of GDP in net present value terms. Such debt levels were substantially above desirable levels. Yet the improvement in returns from the Tuvalu Trust Fund meant that by the end of 2006 gross debt stood at A$21 million (about 70% of GDP), net debt stood at A$10 million (35%), and the net present value of net debt was about A$3 million (11%).
2 The National Bank of Tuvalu (NBT) in 2004 appointed the Falekaupule (local council) treasurer as official agent for the bank to receive deposits and lend money. All transactions were recorded daily and sent by facsimile to the bank. The treasurer was allowed a maximum cash holding, and any excess was to be transported back to NBT and deposited into the individual accounts. It appears that the money was instead deposited into the Government’s general account, and NBT instead recorded the outstanding amount as a government overdraft. However, the Government had stipulated that this overdraft would be non-interest bearing, but with an overdraft at its peak of around A$5.024 million at the end of 2006, NBT has foregone income of approximately A$500,000 per year.
38 Appendix 3
Estimates by TTFAC using 2007 data indicated that at year end-2007, the Government’s gross debt was equivalent to 51.6% of estimated GDP.
18. The Government has a considerable domestic debt owed to the National Bank of Tuvalu (NBT). This is from the outer islands agency suspense account overdraft (A$3.796 million as of 30 September 2008), a guaranteed loan for the refurbishment of two longline fishing vessels to the government-owned National Fisheries Corporation (NAFICOT) (A$1.23 million as at 30 June 2008), and debt incurred by the recently decorporatized Tuvalu Media Corporation (TMC) ($121,500 as at 30 June 2008). These loans, and the Government’s failure to make repayments on them, are hindering the earnings performance of NBT.
19. In considering Tuvalu’s debt sustainability, it is important to recognize country-specific factors. One is the presence of the TTF, the maintained value of which was calculated to be A$103,907,772 as of 31 March 2008. The TTF is held in trust and is not directly owned by or under the control of the Government; thus it is not recorded as an asset when calculating the level of government net debt.
20. A second country-specific factor is that about A$5 million of the external debt has not been spent. It has instead been held in the Falekaupule Trust Fund—a trust fund that also includes contributions from local communities to provide a long-term funding source for outer islands development. The market value of the Falekaupule Trust Fund stood at A$24.7 million as of 31 March 2007. All funds are invested offshore.
21. The third and most important country-specific factor is the very high volatility in revenue. Tuvalu has allowed the trend level of expenditure and net lending to rise above the trend level of revenue and grants. This has given rise to an underlying budget deficit. This is a trend projection, not the immediate position. Tuvalu will probably be free of fiscal difficulties in favorable years—that is, when offshore revenue is relatively high. This was the case over 2006 and 2007 and is likely to remain the case as long as Australian capital markets remain strong. But based on past experience, the trend will be for fiscal problems to reemerge in the absence of substantial correction of the underlying fiscal pressures.
22. Financial buffers need to be built up in good years so they can be used in poor years. The financial buffers are the Government’s holdings of liquid assets in the Consolidated Investment Fund (CIF) and the cash deposits in bank accounts. Action is required on both the expenditure and revenue side of the budget to build these buffers, and some progress has been made. The Government also utilizes an overdraft facility with NBT for its cash management needs, so as to have access to cash throughout the year, since earnings occur predominantly late in the financial year. This practice results in NBT being exposed to large and unexpected withdrawals by the Government.
23. While the Government is aware of the problems––but to a lesser degree how they have occurred––concerns still remain that there is some potential for the Government to again run up further debt.3 An integrated and operational MTFF will limit this possibility, but decision-making processes themselves must be reviewed so that implications of decisions, especially regarding debt, are clear before a decision is made.
3 Though debt cannot be incurred again through the OIASA.
Appendix 3 39
F. Public Finance and Public Corporations
24. The Government of Tuvalu currently owns 11 public corporations (their details and performance status are outlined in Table A3.1), each operating under individual enabling legislation: (i) NBT, established as the sole commercial bank; (ii) Development Bank of Tuvalu (DBT), to provide concessional finance to business; (iii) Tuvalu National Provident Fund (TNPF), the country’s compulsory superannuation scheme; (iv) NAFICOT, to develop export and local sales of fish by Tuvaluans; (v) Tuvalu Electricity Corporation (TEC), to provide electrical power on all of the island groups; it is illegal to compete with TEC; (vi) Tuvalu Telecommunications Corporation (TTC), which provides phone, mobile phone, internet, and other telecommunications services on Funafuti and, to a lesser extent, the outer islands; it is illegal to compete with TTC without its consent; (vii) Tuvalu Maritime Training Institute (TMTI), to train seafarers; (viii) Tuvalu Philatelic Bureau, to produce and sell stamps for mailing and for collectors; (ix) Vaiaku Lagi Hotel (VLH), to run a hotel, restaurant ,and bar on Funafuti; (x) Copra Trading Corporation, to purchase and export copra produced domestically; and (xi) TMC, to operate the only radio station; competition is permitted but unlikely owing to the small size of the economy.4
25. The Government does not have an overall policy for public corporations that (i) clearly defines their purpose and objectives, (ii) sets agreed-upon levels of service operation and performance targets, (iii) provides the mechanism for agreement on the necessary funding for its community service obligations, and (iv) sets out clear accountability for operational and financial matters. Instead, corporations each operate under their individual enabling legislation, without cohesion, and government involvement is dispersed across a number of ministries. The Government had assumed that, once corporatized, the enterprises could be left to their own devices and would operate profitably. This has not proved to be the case. The lack of a clear policy is a fundamental weakness in government management of its enterprises.
4 TMC was decorporatized in 2007 and is now part of the Ministry of Communications and Transport.
40 Appendix 3
Table A3: Status of Tuvalu’s Corporations Enabling Latest 2006 Number Legislation Audit Profit Employed Corporation Acronym (year) Chair Year ($’000) (2005) National Bank of NBT 1982 Secretary, MFEP 2006 410 42 Tuvalu Development Bank of DBT 1990 Government 2006 (153) 19 Tuvalu Accountant, MFEP Tuvalu National TNPF 1984 Director of Planning, 2006 245 11 Provident Fund MFEP Tuvalu Electricity TEC 1990 Secretary, Ministry of 2006 (777) 86 Corporation Public Works and Utilities Tuvalu TTC 2003 Secretary, Ministry of 2006 (536) 64 Telecommunications Commerce Corporation National Fishing NAFICOT Not given Ministry of Natural 2006 (223.4) 4 Corporation Resources Vaiaku Lagi Hotel VLH 1988 MFEP 2006 (889) 35 Tuvalu Maritime TMTI 2000 Ministry of Education 2000 (39) – Training Institute Tuvalu Philatelic TPB Not given MFEP 2002 (65.9) – Bureau Tuvalu Copra Trading TCT Not given Ministry of Public 2002 (22.9) 1 Corporation Works and Utilities MFEP = Ministry of Finance and Economic Planning. Source: Office of the Auditor General. 2008. Report of the Auditor General 2006. Funafuti.
26. The Report of the Auditor General 2006 (released in June 2008) indicated a high level of debt across all enterprises.3 Several of the enterprises were operating on overdraft, several had questionable financial sustainability, and most did not prepare their own accounts––hence, the actual financial situation was likely not known until the enterprise received an audit report. The corporations have budgets, but do not have business plans. ADB-funded TA revealed that available funding is often inadequate to support the planned level of operations of these public enterprises.5 Continuation of the current approach will lead to corporations becoming insolvent and reliant upon growing subsidies and guarantees from the Government.
27. A number of government businesses are also embedded in individual ministries and are not producing financial and management reports to assess their revenue-earning potential. These additional businesses include the main port, stevedoring operations, a travel agency, two interisland vessels, housing, repair shops, outer islands fisheries centers, and an internet facility. The Government is also a (minority) shareholder in Air Fiji.
28. Of the public enterprises, only NBT and TNPF are profitable in a normal commercial sense.
29. NBT’s pretax rate of return on assets was 13.2% in 2005 and 27.1% in 2006, with an estimate of 41.3% for 2007. NBT’s high profits are suggestive of market domination as well as good management. However, the lack of a financial institutions act in Tuvalu means regulatory oversight is nonexistent.
3 Office of the Auditor General. 2008. Report of the Auditor General 2006. Funafuti. 5 ADB. 2003. Technical Assistance to Tuvalu for Improving Public Expenditure Management and Accountability. Manila.
Appendix 3 41
30. NBT’s profitability has attracted private sector investment interest. An assessment by the Pacific Financial Technical Assistance Centre (Appendix 2) notes that (i) overall the condition and performance of NBT appears to be generally satisfactory; (ii) capital is strong, but a high capital position is required to support NBT’s expanding and high-risk loan portfolio; (iii) asset quality is less than satisfactory, with nonperforming loans over 10% of total loans; (iv) earnings performance appears to be overstated but is generally satisfactory, although hindered by the high level of nonperforming loans and by large interest- free loans to the Government; and (v) operations of NBT are generally satisfactory, and no major impediments, beyond resolution of the large volume of non-earning government assets and the need for a bank law, were identified that would discourage outside investor interest in NBT.
31. TNPF holds most of its funds offshore, an investment strategy that has underpinned good commercial performance over time. TNPF has entered into lending operations, allowing members to borrow against their contributions. The implications of this for performance, and for sustained operations as an effective provider of superannuation benefits, are substantial but have not been widely considered.
32. DBT, NAFICOT, TEC, and TTC have each accumulated losses of more than A$1 million. DBT has at times reported a profit, but typically operates at a loss and was required to write down more than A$1 million in bad debts in 2003. NAFICOT has faced commercial difficulties since its inception, and the Government is now servicing a A$1 million loan secured by NAFICOT in 2003 to purchase fishing vessels.
33. The setting of tariffs by cabinet at a level below cost and partial payment of bills by the Government are key factors behind the poor financial performance of TEC and TTC. Debts owed by the Government to TTC had accumulated over a number of years, and in 2007 TTC accepted A$1.2 million from the Government as full and final payment. Payments owed to TEC by the Government were estimated to stand at A$0.4 million in 2006, while a payment of A$0.1 million toward this was made in 2007.6 TTC moved to a prepaid service system in 2004 but subsequently moved away from it. TEC is also considering a system of prepayment, although it holds concerns about the high upfront capital cost of such a move.
34. TMTI does not charge trainees for its service, and TMC has few of its own revenue sources. Both TMTI and TMC are reliant on government subsidies to meet day-to-day expenses. The Tuvalu Philatelic Bureau now only operates on a small scale. VLH has been unprofitable over a considerable period, although recently there have been adjustments to the pricing structure and staffing that may flow through to improved financial performance. There have also been periodic discussions of moving to a management contract for VLH; however, issues of preservation of jobs and government maintenance of the assets have proved problematic, and no framework has been developed for the introduction of such a scheme.
6 2006 is the most recent year for which audited accounts of TEC are available.
42 Appendix 3
35. Te Kakeega II identified a number of priorities to improve public enterprise management, all of which are still to be implemented: (i) Strengthen management and staff. (ii) Produce annual reports and audited accounts in accordance with legislation, with both available to the public. (iii) Clearly define, cost out, and better target government subsidies. (iv) Assess the viability of privatizing selected public enterprises. (v) Improve the selection process of boards of directors of public enterprises and broaden membership. (vi) Establish clear guidelines on the roles and responsibilities of ministers, boards, and management of public enterprises. In the absence of a strategic plan and operational policies that encompass all enterprises, these individual interventions will have little impact.
36. The benefits of strengthened public enterprise performance in terms of achievement of the fiscal PBIs are clear. Improving the performance of public enterprises would reduce their financial call on the Government and so reduce recurrent expenditure and/or allow the redirection of this expenditure to basic health and education priority areas. Reduced financial demands by public enterprises would reduce the need to draw down from the CIF. Improving the performance of corporations would also reduce the debt risk to the Government of the guarantees it has provided for public enterprises as well as requests to the Government for subsidies to continue service provision.
37. However, improved enterprise performance is contingent upon the Government putting into place overarching policies and regulatory mechanisms—the lack of which has led to consistent underperformance.
Appendix 4 43
PROBLEM AND CONSTRAINTS ANALYSIS
1. Tuvalu faces difficulties in fiscal management––both through external factors such as high external debt and volatility of external revenue and through internal issues such as weak management and planning procedures and controls. Internal factors include the large and increasing size of the public sector, and placing an extreme drain on financial resources—which is not commensurate with performance, tariffs, service quality, or overall revenue from its public sector workforce.
2. As fiscal management is weak, it is difficult for the Government to accurately determine its financial position, and there are inconsistencies between budget papers and audited accounts. Record keeping is poor both within the Government and as supplied by public enterprises. The Government does not use a medium-term fiscal framework (MTFF) for planning and monitoring expenditures, and decisions are often unrelated to its current financial position. This is particularly the case with regard to the provision of subsidies for underperforming enterprises or those with cash flow problems.
3. The private sector is very weak, and there are limited opportunities for growth without oversaturation. The Government manages business-like operations that could be tendered or taken up by the private sector under management contracts, but this has not yet occurred.
4. Only 2 of the 11 public corporations are operating profitably. There is no overarching legislation that defines the obligations of the corporations, and many do not prepare corporate plans or state performance targets. Many do not submit annual reports, and some corporations have not been audited for several years due to lack of financial records.
5. The economy is fragile and highly dependent on external assistance as well as on trust funds. Options for improving the internal revenue base have been identified but not yet fully implemented. These include tax reforms, tariff reviews, and mechanisms to improve enterprise performance and profitability.
6. The key constraints to addressing the broad problem of fiscal sustainability being faced by Tuvalu are considered below.
A. Political Constraints
7. While Tuvalu has had stable government for some years now, the political will for long- term commitment to reforms has been unclear. The policy intent set down in Te Kakeega II has not been followed through with key elements such as development of a MTFF, and public enterprise reform is still outstanding. Steps had been taken toward at least partial privatization of the National Bank of Tuvalu and at looking at private sector involvement in the Vaiaku Lagi Hotel, but this had not been followed through to completion. At the same time, an opposing message was sent regarding the Government’s policy stance through decorporatization of the Tuvalu Media Corporation.
B. Institutional Constraints
8. The Government’s ability to manage fiscal pressures and promote fiscal sustainability is constrained by the institutional environment. The Government lacks many key fiscal management tools and disciplines, including utilization of a MTFF. This hampers effective priority setting and budget control.
44 Appendix 4
9. The legislative environment, which guides government actions, is also lacking is some key aspects. There is no overarching legal framework to guide public corporations. Nor is there an act to allow for the oversight of financial institutions to ensure that they meet international standards.
10. The policy environment is a further constraint. There are no policies on government ownership and divestment despite there having been a range of decisions entered into in these areas. The lack of a policy means there is no guiding principle behind decisions, and decisions can even be conflicting or counterproductive.
C. Organizational Constraints
11. Key oversight organizations, such as the offices of the attorney general and the auditor general, have failed to take an assertive approach to institutional issues. There has been no effort to address the lack of overarching policies that could be applied uniformly, especially to (i) enterprise reporting and performance, (ii) wages and staffing of enterprises, (iii) banking practices, (iv) ownership, and (v) divestment.
D. Social and Cultural Constraints
12. Tuvalu has a very strong community outlook. This has a number of positive impacts in terms of welfare, but some negative ones that impact on the level of public sector performance as well as the development of the private sector in particular. In such a community-focused society, it is difficult for competent individuals to stand out, as resources and earnings are considered the property of the extended family. Because there is no individual reward for effort, the incentives for individual performance are not present. Further, law enforcement and enforcement of tariffs and bills are difficult due to the constraints imposed by family structures and personal relationships.
13. Tuvalu is still relatively new to the cash economy, and much of the population remains subsistence-based. Subsistence lifestyle tends to promote a relatively short-term outlook; long- term planning and intergenerational planning concepts, such as wealth creation, are not easily assimilated. Monetary trade can sometimes be inconsistent with traditional values and systems. The interplay between traditional systems and market forces can result in second-best outcomes.
14. The Government, or the public sector, is the driver of Tuvalu’s domestic economy and as such is seen as the provider, considered to have infinite capacity to generate and disperse funds. As the population grows and their needs become more sophisticated, the fiscal pressure generated by growing government expenditure cannot be sustained.
E. Implications of Constraints
15. The constraints described above directly impact on the provision of public services. There are no mechanisms in place to monitor enterprise performance and quality of service delivery. There is no link between performance and remuneration. There are no consequences for general managers or boards for underperformance and nonprofitability of public corporations. Government responsibility for public corporations is shared by control being dispersed across various ministries, without a policy framework or tradition of enforcement.
Appendix 4 45
16. The constraints also affect the management of public enterprises. The Government is holding down prices for electricity, telecommunications, and shipping below cost. The Tuvalu Maritime Training Institute does not charge individuals for training and is reliant on external assistance for service provision. The Government has run up substantial debts to public corporations, and there have been limited attempts to redress this situation. There has been no identification of community service obligations and cost apportionment. Under these circumstances, sound financial management of public corporations is hampered.
17. From a wider development perspective, the poor fiscal management of Tuvalu, in combination with the poor performance of public corporations, has contributed to the lack of opportunities for real private sector development other than through private management of government businesses.
46 Appendix 5
TECHNICAL ASSISTANCE
1. The Asian Development Bank (ADB) has approved technical assistance (TA) to Tuvalu for Capacity Development for Public Financial Management.1 The intended impact of the TA is sustained economic growth and fiscal stability, as prioritized in Tuvalu’s national plan, Te Kakeega II. The expected outcome is improved government fiscal planning and management capacity. The achievement of the expected outcome will be reflected in the Government’s capacity to achieve the policy, legislative, and institutional changes to which it has committed under the proposed grant for the Improved Financial Management Program. The TA will go further by improving the management of finances and government enterprises while considering issues of strategy and ownership.
A. Methodology and Key Activities
2. The TA will develop a medium-term fiscal framework (MTFF) and create the policy and legislative environment for improving the performance of public enterprises. It will simultaneously work with enterprises to put in place management and planning tools to help them understand and improve their performance and enable the Government and its enterprises to monitor and manage performance. The TA will provide capacity development and support through four components:
1. Component 1: Management Services
3. The TA will be supported by augmented management services from the consultant firm, which will provide ongoing management, liaison, and mentoring, as well as the coordination of inputs, to ensure that inputs are directed toward the agreed upon objectives rather than fragmented. The expected output will be effective capacity development and management of public enterprise reforms.
4. The main activities will be to (i) support the establishment of a mechanism through which the Government can better manage enterprise monitoring, including a steering committee and a public enterprise unit; (ii) develop an overall strategy and implementation plan for the TA; (iii) coordinate all TA inputs, including coordination with other development partner-funded activities; (iv) help the Government review lessons in enterprise ownership and management, and facilitate their application; (v) promote positive and productive relationships with government, enterprises, development partners, and ADB; and (vi) provide quarterly and annual monitoring of TA progress and associated reporting.
2. Component 2: Strengthening Fiscal and Enterprise Management
5. This component will provide stronger and more coherent oversight of fiscal and public enterprise performance. The main activities will be to (i) help Ministry of Finance and Economic Planning (MFEP) develop and implement an MTFF; (ii) provide training for staff of the public enterprise unit on its role; (iii) develop and implement a strategic policy on public enterprise governance reform, outlining the Government’s position on enterprise ownership and options for divestment; (iv) prepare the public corporations act as overarching legislation that sets out
1 ADB. 2008. Technical Assistance to Tuvalu for Capacity Development for Public Financial Management. Manila (3 November). The TA, while related to the Program, was processed separately to allow the diagnostic analysis of the capacity of the Ministry of Finance and Economic Planning (MFEP) to be undertaken promptly to provide ADB and other development partners with a better understanding of where capacity gaps are and how to better manage for these.
Appendix 5 47 government monitoring requirements and management and reporting requirements for all enterprises; (v) develop a regulatory framework for monitoring enterprises and a legal framework for both establishing and divesting enterprises; (vi) coordinate with the Pacific Financial Technical Assistance Centre regarding assistance to develop a financial institutions bill; and (vii) assess the tariffs required for the financial sustainability of the Tuvalu Electricity Corporation and the Tuvalu Telecommunications Corporation, and provide options for how the financial requirements of these public enterprises can be balanced with the community services required of them by the Government.
3. Component 3: Results-Based Planning and Management Assistance for Enterprise Performance Improvement
6. The output of this component will be strengthened management capacity in public enterprises. The main activities will be to (i) work with general managers and boards of directors to develop and implement a corporate plan and an action plan for each enterprise, based on the Government’s overarching public enterprise strategic policy and plan, and help them meet the requirements of the public corporations act; (ii) improve accounting and management by introducing basic accounting skills and disciplines to allow standardized and timely accounts to be submitted to boards and then to the public enterprise unit; (iii) provide assistance to support specific National Bank of Tuvalu policy and practice changes to improve performance; (iv) develop job descriptions for use in all enterprises, together with a performance appraisal format; and (v) support the Government’s assessment of the private sector development potential in Tuvalu as a basis for decisions on appropriate private sector involvement in public enterprises.
4. Component 4: Capacity Building
7. This component will strengthen the capacity in MFEP and public enterprises to provide sustainable fiscal management, planning and monitoring, and public enterprise monitoring and management. The main activities will be (i) a diagnostic analysis of MFEP capacity, building on the results of the 2007 public expenditure and financial accountability review, and developing a framework to measure planned interventions to remedy budgeting and financial management problems (to be financed by the Government of Australia); (ii) formal training, informal on-the- job development and learning by doing, and mentoring for MFEP, the Public Enterprise Unit, boards, and general managers; and (iii) raising public and stakeholder awareness undertaken in regard to specific issues.
B. Cost and Financing
8. The TA is estimated to cost $982,750, of which $57,750 will be financed on a grant basis by the Government of Australia1 and administered by ADB, and $800,000 will be financed on a grant basis by ADB’s TA funding program. The Government of Tuvalu will finance $125,000 equivalent by providing office space and facilities, legal services, counterpart staff, support services, and office supplies.
C. Implementation Arrangements
9. MFEP will be the Executing Agency and will, with TA support, establish a public enterprise unit comprising two professional staff and a secretary. This unit will be the focal point for the TA and will remain as the interface between enterprises and the Government after TA completion. The secretary for finance will provide guidance for TA implementation with the support of a steering committee comprising government representatives.
48 Appendix 5
10. The TA will finance 25.5 person-months of intermittent international consulting services and 8 person-months of national consulting services. ADB will recruit a firm based on a simplified technical proposal under the quality- and cost-based selection process, using an 80:20 weighting for quality and cost. The consultant team will have a (i) team leader and advisor on institutional strengthening and public enterprise development (international, 12 person- months), (ii) specialist in developing public financial management capacity (international, 2.5 person-months), (iii) public financial management advisor (international, 8 person-months), (iv) planning and human resource development advisor (international, 3 person-months), and (v) project facilitator (national, 8 person-months). International advisors will be very senior technical specialists in their field, with extensive experience in small island states, as well as skilled trainers committed to capacity building.
11. TA implementation will be supported with augmented management services from a project manager working approximately 3 person-months and provided by the firm for a lump sum. The management and administrative input of the project manager will be provided intermittently but according to an agreed upon plan throughout TA implementation. The project manager will be responsible for developing the detailed terms of reference for the advisors and the national consultant. The consultants will be engaged in accordance with ADB’s Guidelines on the Use of Consultants (2007, as amended from time to time).
12. The TA will be implemented intermittently over 38 months starting in December 2008 and ending in December 2011. TA implementation will commence with a diagnostic analysis of MFEP capacity. The implementation of remaining activities will commence with an inception report prepared for ADB and the Government by the team leader within 4 weeks of the start of field activities, which will include an overall work plan for the full period and a detailed work plan for the first year. Brief quarterly progress reports will be prepared in consultation with the public enterprise unit and provided to ADB. Semiannual progress reports will be submitted throughout the TA, and a draft final report will be submitted by 30 October 2011. The final report will be submitted within a month of the incorporation of ADB and Government comments on the draft final report. The outcomes of the diagnostic analysis will be the subject of a separate report. ADB will help the Government share all reports with other development partners.
Appendix 6 49
DEVELOPMENT POLICY LETTER AND POLICY MATRIX
50 Appendix 6
Appendix 6 51
52 Appendix 6
Table A6: Policy Matrix for Improved Financial Management Program
Focus of the Policy Actions to be Taken Prior to First Policy Actions to be Taken Prior to Policy Actions to be Taken Prior to Program Reforms Tranche Release December 2008 Second Tranche Release November End ,i.e., by 30 March 2010 (Non-tranche policy 2009 actions) Achieving Performance Benchmark Indicator 1.3: In 2009, Government’s Total Debt Liability (both domestic and external) at any time should not exceed 60% of GDP, as specified in Te Kakeega II. Output 1: 1.1 Parliament to pass taxation reform Improved Public legislation (an income tax act amendment, Debt a customs act amendment, and a Management consumption tax bill). Capacity (MFEP to provide copy of the enacted legislation)
1.2 Cabinet to approve the development of 2.1 Cabinet to approve the debt risk MFEP to put in place mechanisms and risk a Debt Risk Management and Mitigation management and mitigation policy and management measures identified in the debt risk Policy and Strategy, which shall include: strategy, which shall include: management and mitigation policy and strategy to (i) the processes and responsibilities for (i) processes and responsibilities for the ensure continued improvement of debt the analysis and approval of proposed analysis and approval of proposed management. new guarantees and debt; new guarantees and debt; (MFEP report on implementation of the debt risk (ii) processes for prioritizing and (ii) processes for prioritizing and management and mitigation policy and strategy) scheduling debt repayment including scheduling debt repayment including debt which is currently not being repaid; debt which is currently not being and repaid; and (iii) a schedule of timely and standardized (iii) a schedule of timely and reporting on Government’s debt standardized reporting on portfolio. Government’s debt portfolio. (Recorded in cabinet minutes, copy of (Recorded in cabinet minutes, copies the minutes to be provided to ADB) of the approved policy and strategy, minutes, and cabinet paper supporting the decision to be provided to ADB)
2.2 Part of the outer islands agency Balance of the outer islands agency suspense suspense account overdraft is repaid account overdraft is repaid using counterpart funds using the counterpart funds generated generated from the proceeds of tranche 2 ($2.0 from the proceeds of the first tranche million). ($1.24 million) (TTFAC and/or NBT reports)
(Recorded in Tuvalu Trust Fund A Advisory Committee (TTFAC) and/or pp NBT reports) 6 endix
Achieving Performance Benchmark Indicator 1.1: The Government’s recurrent expenditure each year should not exceed the total of its recurrent revenue plus a sustainable TTF distribution (Consolidated Investment Fund [CIF] drawdown). Output 2: 1.3 Cabinet to approve the preparation of a 2.3 Cabinet to approve the public Create a public enterprise reform steering
Strengthened public enterprise governance reform enterprise governance reform strategic committee to provide overall guidance on reforms; 53
Focus of the Policy Actions to be Taken Prior to First Policy Actions to be Taken Prior to Policy Actions to be Taken Prior to Program 54 Reforms Tranche Release December 2008 Second Tranche Release November End ,i.e., by 30 March 2010 (Non-tranche policy 2009 actions)
6 Appendix Oversight of strategic policy, which shall include policy, which shall include: to identify lessons learned during implementation Public Enterprises (i) Government’s service delivery priorities (i) service delivery priorities and and to discuss and then incorporate these in to and requirements; requirements; subsequent planning and review.
(ii) identification of strategic assets and (ii) identification of strategic assets and (Copies of terms of reference, committee position on ownership of each position on ownership of each membership, and first meeting agenda for the enterprise; enterprise; committee to be provided to ADB) (iii) a process for review of the social and (iii) a process for review of the social and sustainability implications of changes in sustainability implications of changes ownership of government assets; and in ownership of government assets; (iv) identification of small government and business-like activities for possible (iv) identification of small government transfer to the private sector. business-like activities for possible (Recorded in cabinet minutes, copy of transfer to the private sector. the minutes to be provided to ADB) (copies of the approved policy and strategy, minutes, and cabinet paper supporting the decision to be provided to ADB)
1.4 Cabinet to approve the preparation of a 2.4 Cabinet to submit to Parliament a Create a public enterprises unit within MFEP staffed public corporations act, which shall include draft public corporations act, which shall by 2 professional staff and a secretary. (i) the roles of the board of directors and include (MFEP organizational structure documents to management of a public corporation, (i) roles of the board of directors and be provided to ADB) and procedures and criteria for their management of a public corporation, appointment and dismissal; and procedures and criteria for their (ii) the requirement for periodic disclosure appointment and dismissal; of information and filing of audited (ii) requirements for periodic disclosure accounts; of information and filing of audited (iii) a procedure for decorporatization; accounts; (iv) the roles of the relevant ministers and (iii) a procedure for decorporatization; the auditor general; and (iv) the roles of relevant ministers and (v) a provision for the introduction of the auditor general; and performance contracts for (v) a provision for the introduction of management. performance contracts for (Recorded in cabinet minutes, copy of management. the minutes to be provided to ADB) (Recorded in parliamentary record, copies of the draft policy, cabinet paper supporting the submission and parliamentary record to be provided to ADB)
The preparation of necessary revisions to the governing acts of each enterprise reflecting implications of the public corporations act for
Focus of the Policy Actions to be Taken Prior to First Policy Actions to be Taken Prior to Policy Actions to be Taken Prior to Program Reforms Tranche Release December 2008 Second Tranche Release November End ,i.e., by 30 March 2010 (Non-tranche policy 2009 actions) submission to Parliament. (Recorded in parliamentary record)
MFEP to assess trends in, and issues behind, the current level of subsidies or overdraft request, and develop clear plans to reduce and eliminate subsidies within a defined time frame. (MFEP report on subsidies to public corporations)
MFEP to review existing studies and assess the current tariff levels as a basis for providing options as to how the financial requirements of TEC and TTC could be balanced with the cost of the community service obligations required of them by the Government. The MFEP to develop a plan to move TTC and TEC to a financial sustainable basis where nonprofitable social services are transparently funded by the Government. (MFEP’s public enterprises unit reports on TEC and TTC, to be submitted to ADB)
Achieving Performance Benchmark Indicator 1.1: The Government’s recurrent expenditure each year should not exceed the total of its recurrent revenue plus a sustainable TTF distribution (Consolidated Investment Fund [CIF] drawdown). Output 3: 2.5 The National Bank of Tuvalu to have Strengthened adopted written and board-approved Management policies, as proposed in PFTAC report of Capacity in Public July 2008, for Enterprises (i) the timely collection of past due loans and advances of credit; and (ii) measuring, monitoring and maintaining adequate liquidity. (NBT reports submitted to ADB)
2.6 The Parliament to adopt a legal framework for the licensing and on-going supervision and regulation of banking A pp
institutions, which shall provide for 6 endix implementation and adherence to the Basel core principles for effective banking supervision. 55
Focus of the Policy Actions to be Taken Prior to First Policy Actions to be Taken Prior to Policy Actions to be Taken Prior to Program 56 Reforms Tranche Release December 2008 Second Tranche Release November End ,i.e., by 30 March 2010 (Non-tranche policy 2009 actions)
(Recorded in parliamentary record, 6 Appendix copies of parliament record and relevant legislation adopted are to be submitted to ADB)
1.5 MFEP to undertake a short assessment 2.7 MFEP to prepare a detailed report on MFEP to assess the viability of improving of private sector business potential based private sector potential, which shall performance of the small business-like activities on analysis of sector lending and loan reflect the results of community that are embedded in relevant ministries’ functions, repayment trends, collation of informal consultation. The report shall cover: through contracting out of services. information through sources such as the (i) private sector capacity to undertake (MFEP’s public enterprises unit assessment of chamber of commerce, as well as small-scale management contracts; government business-like activities, to be identification of successful small (ii) additional upstream and submitted to ADB) businesses and a brief analysis of why they downstream business potential as a are successful. result of management contracts, as (Paper prepared by MFEP and reviewed well as untapped business potential by relevant secretaries, a copy of the from existing businesses, paper to be submitted to ADB) (iii) identification of new business niches; (iv) assessment of business support requirements including business and accounting services, and (v) assessment of outer islands business opportunities. (Report prepared by MFEP and reviewed by relevant secretaries, a copy of the paper to be submitted to ADB)
Assess the capacity and potential of Government noncorporatized businesses and develop planning and reporting frame works based on MFEP’s templates for corporations. (MFEP report on Government noncorporatized businesses)
MFEP to review board membership to ensure to the degree possible that all major roles and skill requirements are covered by board members. (Public enterprises unit report on skills assessment of current public corporation board membership and plan to fill skills gaps, to be provided to ADB) MFEP to provide capacity building for boards and general managers in preparation, management,
Focus of the Policy Actions to be Taken Prior to First Policy Actions to be Taken Prior to Policy Actions to be Taken Prior to Program Reforms Tranche Release December 2008 Second Tranche Release November End ,i.e., by 30 March 2010 (Non-tranche policy 2009 actions) and monitoring of the corporate plan against its targets as well as the relationship between the board and the general manager and the requirement for role separation. (Public enterprises unit report on implementation of its training program for public enterprise boards and general managers, to be provided to ADB)
MFEP to develop a proposal for introducing performance contracts for general managers (initially) based on achievement of the corporate plan targets. (Public enterprises unit report on performance contracts for public corporation managers, to be provided to ADB)
Ensure auditor control issues are incorporated into the corporate plans and progress to implementation of corporate plans are reported quarterly and annually to the board. (Public corporation quarterly and annual reports, to be provided to ADB)
Public corporations to develop or recruit Financial management expertise and ensure internal accounts are prepared internally and not through external auditors. (Public corporation quarterly and annual reports, to be provided to ADB)
MFEP = Ministry of Finance and Economic Planning, MTFF = medium-term fiscal framework, PFTAC = Pacific Financial Technical Assistance Centre.
A pp ni 6 endix 57
58 Appendix 7
DESCRIPTION OF INELIGIBLE ITEMS
No withdrawals will be made for the following:
(i) expenditures for goods included in the following groups or sub-groups of the United Nations Standard International Trade Classification, Revision 3 (SITC, Rev. 3) or any successor groups or sub-groups under future revisions to the SITC, as designated by ADB by notice to the Recipient:
Ineligible Items
Chapter Heading Description of Items 112 Alcoholic beverages 121 Tobacco, unmanufactured; tobacco refuse 122 Tobacco, manufactured (whether or not containing tobacco substitute 525 Radioactive and associated materials 667 Pearls, precious and semiprecious stones, unworked or worked 718 718.7 Nuclear reactors, and parts thereof, fuel elements (cartridges), nonirradiated for nuclear reactors 728 728.43 Tobacco processing machinery 897 897.3 Jewelry of gold, silver or platinum-group metals (except watches and watch cases) and goldsmiths’ or silversmiths’ wares (including set gems) 971 Gold, nonmonetary (excluding gold ore and concentrates) Source: United Nations.
(ii) expenditures in the currency of the Recipient or of goods supplied from the territory of the Recipient;
(iii) expenditures for goods supplied under a contract that any national or international financing institution or agency will have financed or has agreed to finance, including any contract financed under any loan or grant from the ADB;
(iv) expenditures for goods intended for a military or paramilitary purpose or for luxury consumption;
(v) expenditures for narcotics;
(vi) expenditures for environmentally hazardous goods, the manufacture, use or import of which is prohibited under the laws of the Recipient or international agreements to which the Recipient is a party; and
(vii) expenditures on account of any payment prohibited by the Recipient in compliance with a decision of the United Nations Security Council taken under Chapter VII of the Charter of the United Nations.
DEVELOPMENT COORDINATION MATRIX
Alignment with Current ADB Other Development Partners’ Strategies and/or Main Activities Sectors and Te Kakeega II Strategy/ Themes Priorities Activities Multilateral Institutions and the UN System Bilateral Aid Coordination (i) Development partners agreement under preparation (ii) Half-yearly donors meetings around TTF meetings (iii) Efforts to promote joint programming and missions (e.g., ADB, Australia, and New Zealand have had joint programming missions) Education Goal 6: Human Upgrade of TMTI EU Science equipment for primary and Taipei, Support to TMTI Resource secondary schools China Development AusAID School supplies Outer islands primary school projects Tuvalu education support program Textbooks for secondary schools Development school intakes Health, Nutrition Goal 3: Social UNDP Support women's health programme NZAID Operation and management of health and Social Development services—NZMTS Protection Social development policy project AusAID Health (fiscal management reform) HIV/AIDS prevention campaign PIFS Sector planning—AusAID India Establishment of the open learning center Japan Outer islands medical facility upgrade Law, Economic Goal 1: Good Law Revisions – UNDP Improving capacities of Parliament Taipei, General elections Management, Governance Leadership Code China and Public Policy UNESCO Support to strengthening local Council of chiefs Goal 2: Demography and governance Health Survey Kakeega II matrix Macroeconomic PIFS Computer—aid management Growth and (jointly with Australia defense program AusAID) Stability SPC Board of Governors meeting—ADB Support for ministers’ travel Taxation Reform Capacity development—statistics Support for UN mission to New York department Land reforms microfilming
Office maintenance—prisons and police Appendix 8 Appendix Turkey Travel document (passports) AusAID Advisors to auditor general and attorney general Demography and health survey
People’s lawyer 59
60 Alignment with Current ADB Other Development Partners’ Strategies and/or Main Activities Sectors and Te Kakeega II Strategy/ Themes Priorities Activities Multilateral Institutions and the UN System Bilateral NZAID Staff attachment—Auditor General’s 8 Appendix
Office
India Auditor General’s Office—office
equipment
Japan Advisor for Prime Minister (development policy) Water Supply, Goal 8: EU Waste management—Funafuiti and Japan Some initiatives on stable water
Sanitation and Infrastructure and Nanumea supply Waste Support Services AusAID Construction of Rotamould water Water sanitation Management tanks UNDP Implementing sustainable integrated and water resource and wastewater UNEP management Transportation Goal 8: Japan Nivaga II—fuel and Infrastructure and Communication Support Services Manufolau—fuel Upgrading Funafuti port Improvement of AM broadcasting system Taipei, Nanumea Meapu bridge China Niutao Olioli causeway Nukufeatu jetty Mataili slipping ICT development activities Funafuti high-speed wireless internet Government network enterprise internet ICT spare parts Queens warehouse maintenance Energy Goal 8: UNDP Assistance toward accessing affordable Japan TEC fuel provision Infrastructure and renewable energy Support Services Establishment of Japanese counterpart fund Solar photovoltaic introduction
Alignment with Current ADB Other Development Partners’ Strategies and/or Main Activities Sectors and Te Kakeega II Strategy/ Themes Priorities Activities Multilateral Institutions and the UN System Bilateral Environmental Goal 7: Natural Country SOPAC Environmental awareness program Taipei, Renovation of Niulakita meteorological Sustainability Resources: Environment China station Agriculture, Assessment Tuvalu energy policy Recycling plastics and other solid Fisheries, Tourism, Tuvalu topographical update and Environmental wastes Management Land marketing SPREP Survey to assess EIA capacities and and capacity needs Japan Feasibility study for environmental NZAID protection GEF GEF grant Italy Outer islands solar power Pacific adaptation to climate change—
Tuvalu included. UNDP National adaptation program of action and (NAPA) implementation UNEP Establish environmental database UNEP Persistent organic pollutants Capacity development to sustain global environmental benefits Accelerating the use of renewable energy technologies AusAID Phase II of Pacific island climate prediction project Governance Goal 2: Fiscal UNESCO Computer India Vehicle Macroeconomic Governance Growth and (Modernization of AusAID Support tax reforms Stability Customs Act) Private Sector Goal 4: Taipei, Support SMEs Development Employment and China Private Sector Development
ADB = Asian Development Bank; AusAID = Australian Agency for International Development; EU = European Union; GEF = Global Environment Facility; ICT = Information and 8 Appendix Communication Technology; NZAID = New Zealand Agency for International Development; NZMTS = New Zealand Medical Treatment Scheme; PIFS = Pacific Islands Forum Secretariat; SME = Small and medium enterprises; SOPAC = Pacific Islands Applied Geoscience Commission; SPC = Secretariat of the Pacific Community; SPREP = Secretariat of the Pacific Regional Environment Programme; TEC = Tuvalu Electricity Corporation; TMTI = Tuvalu Maritime Training Institute; UNDP = United Nations Development Programme; UNEP = United Nations Environment Programme; UNESCO = United Nations Educational, Scientific and Cultural Organization. Source: Government of Tuvalu. 61
62 Appendix 9
SUMMARY POVERTY REDUCTION AND SOCIAL STRATEGY
Country and Project Title: Tuvalu Improved Financial Management Program
Lending/Financing Department/ Pacific Department/Pacific Program Grant Modality: Division: Subregional Office
I. POVERTY ANALYSIS AND STRATEGY A. Link to the National Poverty Reduction Strategy and Country Partnership Strategy 1. Based on the country poverty assessment, the country partnership strategy, and the sector analysis, describe how the project would directly or indirectly contribute to poverty reduction and how it is linked to the poverty reduction strategy of the partner country.
Tuvalu has experienced poor economic growth over the last 5 years. Real gross domestic product grew at only around 2%–3% per annum. Economic growth is mainly driven by offshore earnings, public sector expenditure, and construction. Broadening of economic activity and private sector development are key strategies for improving economic growth rates and reducing poverty.
The Government’s Te Kakeega II 2004–2010 lays the foundation for sustainable and broad-based economic growth supported by continued reforms and private sector development to improve the quality of life for all people in Tuvalu. In the micro-sized economy of Tuvalu, poor expenditure allocation decisions have significant opportunity costs. For this reason, effective fiscal management will make the greatest contribution to meeting Government priorities and is the focus of the CPS. Poor people are disproportionately affected by shifts in government expenditure and also by poor reliability and quality of utility services (power, water), and by inefficiencies in public utilities
B. Poverty Analysis Targeting Classification: General intervention 1. Key Issues During implementation of the public enterprise governance reform strategic policy included in the policy matrix poverty analysis will be required in relation to changes made to public service providing public corporations and government business enterprises—these may include providers of power, water, telecommunications and banking services. This should include both analysis of impact of any changes (including in tariffs and service quality) on current clients and also on potential clients where access to services is increased. This analysis should inform the design of community service obligations and allow for better targeting of safety nets to ensure the access of the poorest to basic levels of services.
2. Design Features. There are no specific pro-poor design features.
II. SOCIAL ANALYSIS AND STRATEGY A. Findings of Social Analysis Key Issues. The impact of the program on the budget should provide benefits to the Tuvalu economy and the Tuvaluan people. The specific areas of impact ans scale of impact will be dependent on the decisions government makes once a strengthened policy and legislative environment is put in place and so is unable to be assessed at this point. The potential impacts of resultant government decisions will be assessed and analyzed under the supporting TA. B. Consultation and Participation 1. Provide a summary of the consultation and participation process during the project preparation. Stakeholder analysis will be undertaken as part of the reform process to fully understand and take into account the views of, and interests of, and impacts on all stakeholder groups. This analysis will be supported through the technical assistance (TA) for Capacity Development for Public Financial Management.
2. What level of consultation and participation (C&P) is envisaged during the project implementation and monitoring? Information sharing Consultation Collaborative decision making Empowerment
3. Was a C&P plan prepared? Yes No If a C&P plan was prepared, describe key features and resources provided to implement the plan (including budget, consultant input, etc.). If no, explain why.
Appendix 9 63
Stakeholder analysis will be undertaken as part of the reform process to fully understand and take into account the views of, and interests of, and impacts on all stakeholder groups. This analysis will be supported through the technical assistance (TA) for Capacity Development for Public Financial Management.
The TA for Capacity Development for Public Financial Management which supports the implementation of the policy matrix includes provision for a local project facilitator, the TOR for which focus on consultation and participation activities to be undertaken under the guidance of the technical specialists and advisors. These activities will be directed at client groups and public enterprise workers, as well as government officials and parliamentarians. The TA for Capacity Development for Public Financial Management incorporates the preparation and implementation of stakeholder participation and consultations into the reform process. C. Gender and Development 1. Key Issues. Currently, no specific adverse impacts on women are foreseen.
2. Key Actions. Measures included in the design to promote gender equality and women’s empowerment—access to and use of relevant services, resources, assets, or opportunities and participation in decision-making process: Gender plan Other actions/measures No action/measure
Summarize key design features of the gender plan or other gender-related actions/measures, including performance targets, monitorable indicators, resource allocation, and implementation arrangements.
The activities supported under the policy matrix will actively encourage representation by women on the boards of public corporations. III. SOCIAL SAFEGUARD ISSUES AND OTHER SOCIAL RISKS
Issue Significant/Limited/ Strategy to Address Plan or Other Measures No Impact Issue Included in Design No impact The Program is not Involuntary envisioned to require any Full Plan Resettlement resettlement Short Plan Resettlement Framework No Action No impact The Program is not Indigenous Peoples envisaged to have any Plan impacts on indigenous Other Action people. Indigenous Peoples Framework No Action Limited In the medium term the Labor Program is expected to Employment create new private sector Plan opportunities job opportunities as Other Action Labor retrenchment contracting out of No Action Core labor standards government services is considered. In the longer term more efficient public corporations should reduce the costs of doing business and promote private sector development, hence, create private sector job opportunities. Limited Government is currently Affordability ensuring affordability of Action utility services (power No Action telecom, water, etc.) by controlling tariffs. This, however, does not specifically target the neediest, and has become unaffordable to Government. The review of
64 Appendix 9
tariffs and development of processes for identifying and funding community service obligations will provide affordable services for targeted groups in a manner that is financially sustainable for Government. Other Risks and/or No impact No other social risks of the Vulnerabilities Program have been Plan HIV/AIDS identified. Other Action Human trafficking No Action Others(conflict, political instability, etc), please specify IV. MONITORING AND EVALUATION Are social indicators included in the design and monitoring framework to facilitate monitoring of social development activities and/or social impacts during project implementation? Yes No
Given the expected positive impact of the program on Tuvalu’s budget the Performance Benchmark indicators relating to primary education and primary health expenditure as a proportion of total budget expenditure will be monitored.