A WORLD BANK COUNTRY STUDY
Public Expenditure Review of Armenia is part of the World Public Expenditure Review of Armenia Bank Country Study series. These reports are published with Public Expenditure the approval of the subject government to communicate the
results of the Bank’s work on the economic and related condi- Public Disclosure Authorized tions of member countries to governments and to the devel- Review of Armenia opment community.
This, the first full-scale World Bank Public Expenditure Review for Armenia, reviews the main fiscal trends in Armenia for the period of 1997-2001 and develops recommendations with respect to further fiscal adjustment, expenditure prioritization, and budget consolidation. The analysis focuses on the follow- ing core issues: sustainability of fiscal adjustment, fiscal transparency, expenditure priorities, and short-term expenditure management given the existing economy-wide institutional constraints.
This study covers extra-budgetary funds, in-kind external Public Disclosure Authorized grants, subsidies provided by the state-owned companies in the energy and utility sectors, and operations of the Social Insurance Fund, as well as regular budgetary spending. It suggests a medium-term action plan to address identified weaknesses. Sectoral chapters review health, education, and social protection and insurance. The report also analyzes budget support for core public infrastructure, and Armenia’s public investment program.
World Bank Country Studies are available individually or by subscription, both in print and on-line. Public Disclosure Authorized
ISBN 0-8213-5584-8
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Public Expenditure Review of Armenia
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ISBN: 0-8213-5584-8 eISBN: 0-8213-5585-6 ISSN: 0253-2123
Library of Congress Cataloging-in-Publication Data has been requested. CONTENTS
Abstract ...... ix Acknowledgments ...... xi Abbreviation and Acronyms ...... xiii Executive Summary ...... 1 Introduction ...... 13 1. Macroeconomic and Fiscal Environment ...... 15 Recent Economic Trends ...... 15 Major Features of Fiscal Adjustment ...... 17 Revenue Performance: The Challenge Remains Unmet ...... 24 Low Credibility of the Budget ...... 29 Budget Arrears ...... 32 Public Debt ...... 33 2. Main Expenditure Trends ...... 37 Expenditure Trends in Functional Classification ...... 37 Expenditure Trends in Economic Classification and Quality of Budgetary Information . . . .44 Additional Problems with the Quality of Budget Data ...... 48 3. Off-Budget Elements of the Fiscal System ...... 53 Extra-Budgetary Funds ...... 54 Grants ...... 55 Quasi-fiscal Deficits and Losses Generated by State Enterprises ...... 57 Government Guarantees on Commercial Credits ...... 62 4. Strengthening Public Expenditure Management ...... 65 Existing Situation Analysis ...... 66 Structure of the Budget System ...... 71 Budget Formulation ...... 77 Budget Execution ...... 85 5. Public Expenditure in the Education Sector ...... 89 Financing of Education ...... 89 Efficiency of Education ...... 93 Equity of Education ...... 102 6. Public Expenditure in the Health Sector ...... 109 Health Sector in Armenia: Outcomes, Resources, and Utilization ...... 109 Public Health Policies and the Reform Process ...... 113 Public Financing of Health Care ...... 116 Equity Impact of Public Health Expenditures: The Role of Out-of-pocket Payments . . . . .119 7. Social Protection and Insurance ...... 125 Social Assistance ...... 126 Social Insurance ...... 131 Other Social Insurance and Non-insurance Benefits ...... 139
iii IV CONTENTS
8. Main Financial Requirements in Public Infrastructure ...... 141 9. Public Investments: Trends, Structure and Sources of Financing ...... 149 Annexes Annex 1 Assessment and Recommendations on Budget Management System ...... 157 Annex 2 MTEF Action Plan Matrix ...... 163 Annex 3 Fiscal and Quasi-fiscal Subsidies: Sources of Financing and Recipients,1999–2000 ...... 169 Annex 4 Directions for Re-classification of Non-classified Budget Expenditures under the GDF 2001 ...... 173 Annex 5 Revised Demographic Estimates ...... 177 References ...... 181
TABLES Table A. The Pace of Fiscal Adjustment ...... 2 Table B. Main Recommendations ...... 3 Table 1.1. Selected Macroeconomic Indicators ...... 16 Table 1.2. Consolidated Government Budget, Percent of GDP ...... 17 Table 1.3. Armenia’s Indicators of Fiscal Adjustment, 1995–2001 ...... 20 Table 1.4. Sources of Deficit Financing, State Budget, 1997–2001, Percent of GDP, Cash Basis ...... 23 Table 1.5. Various Indicators of the State Budget Deficit in 1997–2001, Percent of GDP, Cash Basis ...... 24 Table 1.6. Total Government Tax Revenues in Transition Economies, Percent of GDP . . . .25 Table 1.7. Tax Arrears, Stocks by the Year End, Million Dram ...... 27 Table 1.8. The Level of State Budget Execution: Budget Expenditures ...... 30 Table 1.9. Budget Execution Across Various Sectors, Percent of the Approved State Budget Allocations, 1998–2001 ...... 30 Table 1.10. Contribution of Delays in External Disbursements to the Overall Expenditure Cuts. 2000 State Budget, Million Drams ...... 31 Table 1.11. Budget Arrears, Including the Pension Fund, Million Dram ...... 32 Table 1.12. Treasury Bills: Contribution to Deficit Financing and Service Costs, Percent of GDP ...... 34 Table 1.13. Treasury Bills: Average Maturity and Yields ...... 34 Table 2.1. State Budget in Functional Classification, 1997–2001, Percent of Total (cash based) ...... 38 Table 2.2. Consolidated Budget Expenditures, Percent of GDP ...... 38 Table 2.3. Main Expenditure Categories of the Consolidated Budget, Percent of GDP . . .38 Table 2.4. Structure of the Consolidated Budget: Main Expenditure Categories ...... 39 Table 2.5. Public Spending on Education and Health, Percent of GDP ...... 40 Table 2.6. Expenditure Ratios in Selected Economies ...... 41 Table 2.7. Social Spending in the Consolidated Budget, 1997–2001 ...... 42 CONTENTS V
Table 2.8. Budget Expenditures on the Real Sector, Percent of Total ...... 43 Table 2.9. Consolidated Budget Expenditures in Economic Classification, Percent of Total ...... 44 Table 2.10. Budget Subsidies and Direct Budget Credits to Large SOEs ...... 45 Table 2.11. Budget Lending ...... 46 Table 2.12. Budget Expenditures on Other Sectors ...... 49 Table 2.13. Budget Arrears and Total Spending in Social Sectors in 2001, Million Dram . . .49 Table 3.1. Consolidated Balance of Armenia’s Extra-budgetary Funds in 2000–01, Million Dram ...... 54 Table 3.2. Extra-budgetary Fund of the Ministry of State Revenues, including the Customs Committee, Million Dram ...... 54 Table 3.3. Off-budget Donor Assistance in the Health Sector, US$ thousands ...... 56 Table 3.4. Off-budget Grant Assistance, US$ million ...... 56 Table 3.5. Budgeted Subsidies, Quasi-Fiscal Subsidies and Tax Arrears, Percent of GDP . . .58 Table 3.6. Commercial Debts Accumulated by SOEs in the Power Sector, Million Dram, at the Year End ...... 60 Table 3.7. Financial Performance of the Consolidated Sector of State Enterprises, Million Dram ...... 61 Table 3.8. Government Guarantees Issued for Banking Credits Granted to Commercial Entities. Annual flow. US$ million ...... 62 Table 3.9. Illustrative Enlarged Budget for the Public Sector that Reflects Main Off-budget Activities, 2000, Percent of GDP ...... 63 Table 5.1. Public and Total Education Expenditures as Percent of GDP and of Total Public Expenditures ...... 90 Table 5.2. Distribution of Public Education Expenditure among Levels and Types of Education, percent ...... 91 Table 5.3. Average Private Household Expenditures on Education by Consumption Quintile, Dram per Month ...... 92 Table 5.4. Trends in Fee-Based Places in State Colleges and Universities ...... 92 Table 5.5. Student/Teacher Ratios by Level and Type of Education ...... 94 Table 5.6. Non-Teaching and Total Staff Ratios by Level and Type of Education ...... 95 Table 5.7. Teachers’ Salaries as a Percent of Per Capita GDP for Armenia and OECD . . .96 Table 5.8. Distribution of General Education Schools by Size and Resource Use in 2001 ...... 97 Table 5.9. Rank Order of ECA Participants for PISA, Relative to 31 Countries ...... 99 Table 5.10. Armenia’s Gross Enrolment Rates and OECD Net Enrolment Rates ...... 101 Table 5.11. Gross Enrolment Rates by Age and Consumption Quintile ...... 102 Table 5.12. Distribution of Public Expenditures on Education by Consumption Quintiles . .103 Table 5.13. Tertiary Enrolments by Type of Financing Arrangement and Consumption Quintile ...... 104 Table 6.1. Health Indicators for Armenia and Comparable Countries ...... 110 Table 6.2. Armenia: Inpatient Utilization and Health Care Personnel ...... 112 Table 6.3. Change in Health Care Utilization, 1995–2000 (per 1,000 individuals) . . . . .113 VI CONTENTS
Table 6.4. Armenia Public Expenditures in Health, Million Dram ...... 116 Table 6.5. Budgetary Expenditure in the Health Sector, Million Dram ...... 117 Table 6.6. Insufficient Financing and Arrears, 2000, Thousand Dram ...... 118 Table 6.7. Armenia National Expenditures on Health ...... 120 Table 6.8. Percent of Patients that Paid for Services ...... 121 Table 6.9. Distribution of Public Expenditures on Health, 1999, Million Dram ...... 122 Table 7.1. Public Spending on Social Protection and Insurance, Million Dram ...... 126 Table 7.2. Poverty Family Benefit, 1999–2002 ...... 127 Table 7.3. Changes in Distribution of Cash Social Assistance, 1998–1999 ...... 129 Table 7.4. Resources Needed for the Extreme Poverty Alleviation—Three Scenarios . . .131 Table 7.5. Pensions, 1996–2001 ...... 132 Table 7.6. Average Monthly Pensions and Wages in CIS Countries in 2000 ...... 134 Table 8.1. Financing Requirements for Adequate Maintenance and Operations in Five Infrastructure Sectors for 2003–05, US$ million ...... 142 Table 8.2. Efficiency in Water Delivery: Comparison of Yerevan with Budapest, 2000 . . .146 Table 9.1. The Levels and Structure of Public Investment Financing, 1998–2001, Million Dram ...... 150 Table 9.2. Capital Expenditures of the Consolidated Budget, 1997–2001, as Percent of GDP ...... 150 Table 9.3. Capital Construction and Capital Repair, Shares of the Total Budget Expenditures and GDP, 1997–2001 ...... 150 Table 9.4. Capital Expenditures Financed from Domestic and External Sources, 1997–2001 ...... 151 Table 9.5. Domestically Financed Capital Expenditures (1999–2001) in the Earthquake Zone from all Sources, Million Dram ...... 152 Table 9.6. Sectoral Allocation of Budget Investments in 1999–2001, Million Dram . . . .153 Table 9.7. Public Sector’s Need in Investments and Actual Provision in FY 2001, US$ Million ...... 154 Table 9.8. Arrears on Counterpart Funding for only IDA Funded Projects, Million Dram, Year End ...... 155
FIGURES Figure 1.1. Budget Dependence on Local Taxes and External Financing, Percent of Total Spending in the Consolidated Budget ...... 18 Figure 1.2. Conventional Budget Deficit and Actuarial Deficit of the Government Sector, Percent of GDP ...... 21 Figure 1.3. Moldova, Fiscal Adjustment, 1995–2000, Percent of GDP ...... 22 Figure 1.4. Planned and Actual Cash Deficit of the State Budget, Percent of GDP ...... 23 Figure 1.5. Overall Levy Ratio and Tax Ratio, 1996–2001, Percent of GDP ...... 26 Figure 1.6. Quarterly Budget Spending on Education and Health in 1998–99, Million Dram ...... 30 Figure 2.1. Expenditure Growth in Real Terms Between 1997 and 2001, Percent ...... 39 CONTENTS VII
Figure 2.2. Sectoral Shares in the Total Increase of the Budget Expenditure, 1997–2001,Percent ...... 40 Figure 2.3. The Government’s Adjusted Budget Plans. Comparisons of Budget Targets for the State Budget, Adopted in 1999 (MTEF) and in 2001 (2002 Budget Law) ...... 41 Figure 2.4. Ratio Between the Average Government Wage and GDP Per Capita. Second Half of 1990s ...... 47 Figure 2.5. Average Monthly Wages in Budgetary and Private Sector, US Dollars, Year End ...... 48 Figure 6.1. Incidence of Malaria ...... 111 Figure 6.2. Number of TB Cases Notified ...... 111 Figure 6.3. Health Care Utilization ...... 121 Figure 6.4. Health Care Providers by Quintiles ...... 121 Figure 9.1. Dynamics of Investment Allocations by Sector in 1999–2001, Percent of Total ...... 153
BOXES Box 1.1. Aid Dependency, Accountability and Capacity Building ...... 28 Box 2.1. Budget Support of Basic Research ...... 42 Box 3.1. UMCOR: NGO’s Participation in Delivery of Social Assistance ...... 57 Box 3.2. A Forgotten Budgetary Credit to the Irrigation Sector ...... 60 Box 4.1. IGR Recommendations on Budget Management and Control ...... 67 Box 4.2. Overview of Public Expenditure Reform Measures Undertaken, 1991–2002 . . . .69 Box 4.3. Recommendations for the Annual Budget Calendar ...... 74 Box 4.4. GFS Classification and the Budget ...... 77 Box 4.5. The Problem with Norms and an Alternative Approach ...... 78 Box 4.6. The Importance of Sectoral Ceilings ...... 80 Box 4.7. Budget Presentation by Program ...... 81 Box 4.8. Example of Programs in the Health Sector ...... 82 Box 7.1. Recent Steps to Improve Targeting of Poverty Benefit ...... 130 Box 9.1. Programs for Rehabilitation of the Earthquake Zone ...... 152
ABSTRACT
his is the first full scale World Bank Public Expenditure Review (PER) for Armenia, which Treviews the main fiscal trends in Armenia for the period of 1997–2001 and develop recom- mendations with respect to further fiscal adjustment, expenditure prioritization, and budget consolidation. The analysis in the Report is focused on the following core issues: