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Implementation Completion Report (ICR) Review - Laos PDR FMAC


  
1. Project Data:   
ES Date Posted:
07/27/2005   
PROJ ID:
P068069
Appraisal
Actual
Project Name:
Laos PDR FMAC
Project Costs(US $M)
 17  17
Country:
Laos
Loan/Credit (US $M)
 17  17
Sector, Major Sect.:
Forestry, Central government administration, Banking, Power, General industry and trade sector,
Agriculture fishing and forestry; Law and justice and public administration; Finance; Energy and mining; Industry and trade
Cofinancing (US $M)
   
L/C Number:
C3677      
   
Board Approval (FY)
  2
Partners involved
 
Closing Date
05/31/2003 05/31/2004
         
Prepared by: Reviewed by: Group Manager: Group:  
Elliott Hurwitz
Fareed M. A. Hassan Laurie Effron OEDCR

2. Project Objectives and Components:

a. Objectives
Increase transparency and accountability in budgetary management and in the management of state-owned enterprises (SOEs) and state-owned commercial banks (SCBs), to stem the accumulation of contingent liabilities in SOEs and SCBs and move them towards commercial viability, and to strengthen management of public expenditure management [sic] in particular and public resources in general.

Note: This statement of the project objectives is taken from the PSR. The statement of the objectives in the project documents and the ICR differ from this formulation as well as from each other.

b. Components
Macroeconomic Performance Maintain satisfactory macroeconomic framework.
Public Sector Reform
Budget planning, accounting, and control: 1. Public Investment Plan submissions for new projects to include estimates of associated recurrent costs; 2. Adopt new Regulation on Public Accounting.
Budget transparency: 3. Gazette FY2000/01 budget outcome and FY2001/02 budget with classification by ministry/province and service and provincial expenditures by sector and expenditure category; 4. Establish Procurement Monitoring Office.
Natural resources management: 5. Principles of Village Participation in Sustainable Management of Production Forests, and Decree on Sustainable Management of Production Forest Area to be issued; 6. Implementing regulations on biodiversity, zoning and land use, and provisions to enable local community involvement in production forest management to be issued.
SOE Reform
Strengthen oversight of financial and operational performance of SOEs: 7. Financial and operational performance of all SOEs at all levels regularly reported to Ministry of Finance (MOF); new SOEs to be specifically approved by Prime Minister; 8. Ownership of largest loss-making SOE transferred to MOF for restructuring; 9. SOE performance assessments to be prepared that identify non-performing firms and, as required, plans for performance improvement or preparation for sale.
Tariff Reform: 10. New electricity tariff policies and structures incorporating cost recovery principles and directed and transparent subsidies, if any, for potable water supply, telecommunications, and Lao Aviation; timebound action plan for implementing these tariffs.
Enterprise restructuring: 11. MOF issues memoranda of understanding (MOU) for execution of time-bound restructuring plans for four largest loss-making SOEs; 12. Financial restructuring of Electricite du Laos (EdL) completed.
Financial Sector Reform:
Non-performing Loans (NPLs): 13. Instruction issued to stop growth of SCBs' portfolio of NPLs; 14. Non-commercial lending to SOEs, and all lending to SOEs with outstanding NPLs prohibited; 15. Centralize credit decisions in SCB headquarters; 16. Notice issued to SCBs requiring that all future lending be subject to commercial criteria; 17. Notice promulgated to SCBs to allow them to freely set interest rates; 18. Resolve total of Kip 100 billion equivalent of SCBs non-performing loans of at least ten accounts through: liquidation of non-viable companies; restructuring of viable companies such that their debts can be fully serviced; seizure and sale of assets; or exchange of the loan for cash or marketable assets.
Institutional restructuring
19. MOU signed with SCBs on: (i) phased capital build-up based on improved operational performance; (ii) temporary management support to SCBs in the form of international advisors; (iii) action plan in case SCBs do not reach performance indicators; 20. Assessment of measures undertaken to: (i) avoid deterioration of SCBs' risk portfolio; (ii) implement risk diversification rules; and (iii) effectuate autonomy of SCBs; Audit CY 2001 SCB accounts.
Increasing access to financial services by the poor
21. Policy statement and timebound plan to address implementation of rural and microfinance reform program.

c. Comments on Project Cost, Financing and Dates
The credit disbursed in 2 tranches, the first of US$7 million upon effectiveness in December, 2002, and the second of US$10 million in May, 2004, 14 months later than envisioned. Implementation delays reflected: weak capacity of the relevant ministries; reluctance of the government to borrow for TA; ambivalence among the leadership on the specifics and the pace of reforms; lack of coordination among ministries responsible for implementation of reforms.


3. Achievement of Relevant Objectives:

Macroeconomic performance Partially achieved. The Lao PDR fully met 3 of the 7 specified macro performance indicators, while in the other 4 cases reached an unsatisfactory or ambiguous outcome.
Public Sector Reform
Budget planning, accounting, and control: Achieved.
Budget transparency: Achieved.
Natural resources management: Partially achieved. Local participation was less than envisioned, in part due to capacity limitations and political resistance.
SOE Reform
Strengthen oversight of financial and operational performance of SOEs: Achieved.
Tariff Reform: Not achieved (see sec. 5).
Enterprise restructuring: Partially achieved (see sec. 5)
Financial Sector Reform:
Non-Performing Loans (NPLs) Not achieved. Instructions and notices were issued, but compliance was less than envisioned (as documented in ICR, Annex I, section III), leading to shortcomings in meeting project objectives.
Institutional restructuring Not Achieved. As acknowledged by the ICR (sec 4.5.4 and IDI rating of modest), institutional strengthening--both of SCBs and the BOL-- was less than envisioned.
Increasing access to financial services by the poor The modest goals in this area were achieved.

The extent to which the credit objectives in the financial sector were not achieved is underlined by the extent to which efforts under the Poverty Reduction Support Operation (3/05) overlap with what was undertaken in the FMAC, e.g., SCB staff capacity remains weak, directed lending continues, potential for new NPLs is high, and "the potential for future NPLs is a threat to the banking system and to fiscal stability." Also, it should be noted that project design was flawed (see sec 6).

4. Significant Outcomes/Impacts:

Banks resolved more than ten accounts with NPLs amounting to more than kip 100 billion, largely through cash collections and sale of collateral.
  • SOE borrowing, including that from SCBs, has fallen significantly.

5. Significant Shortcomings (include non-compliance with safeguard features):

Restructuring of SOEs to facilitate their movement toward commercial viability was modest (ICR, sec. 4.2.8).
  • Tariff reform was overall unsuccessful, and did not improve the financial situation of the power, water, or transport enterprises (PRSO Program Document, paras. 117-120).
  • The government's inability to increase electricity tariffs in real terms has resulted in an acute financial crisis in the power sector.
  • The accumulation of NPLs in SCBs did not decline during the term of the FMAC (ICR, Annex I, section III).
  • During 2002 and 2003, audit reports showed that SCBs continued to grant new noncommercial loans and letters of credit to borrowers, including nonperforming borrowers that did not appear to have sufficient cash flow to repay obligations (in contravention of a BOL instruction).
  • Overall, the government complied with nearly all instructions, decrees, and notices required by FMAC, but enforcement was weak.
  • The fiscal deficit did not improve during the project period (ICR, Table 1).
    Regional Comments: The Region responded that it disagreed with the ratings for this project. The reasons are well stated in the ICR and there is nothing in the ICR Review to change the region's own assessment.

  • 6. Ratings:ICROED ReviewReason for Disagreement/Comments
    Outcome:
    SatisfactoryUnsatisfactoryWhile benefits were achieved in public sector reform, the achievement of tariff and SOE reform fell well short of what was envisioned (ICR, sec. 4.2.8). Progress in the financial sector was highly unsatisfactory (sec. 3 and 5).

    Further, design flaws reduced the relevance of the project:
    • The credit supported recapitalization of SCBs without a sufficient plan to change their incentives or behavior toward reducing their propensity to engage in directed lending and making new NPLs.
    • The measures specified for SOEs were insufficient to materially contribute to moving these firms toward commercial viability.
    Institutional Dev.:
    ModestModest
    Sustainability:
    LikelyNon-evaluableSignificant uncertainties with regard to program implementation and compliance, and political resistance to some reforms (ICR, sec. 6.1.4), indicate an insufficient basis to assess sustainability.
    Bank Performance:
    SatisfactoryUnsatisfactoryQuality at Entry was unsatisfactory. In addition to the design flaws specified above under "Outcome," many provisions of the FMAC were substantially similar to those of SAC II, approved 10 years earlier: monitoring SOE financial performance, SOE privatization, higher electricity and telecom tariffs, fiscal transparency, accounting legislation, and expenditure controls.
    Borrower Perf.:
    SatisfactorySatisfactory
    Quality of ICR:
    Satisfactory

    7. Lessons of Broad Applicablity:

    In a project involving the recapitalization of state banks, it is critical to take sufficient action to change the culture and incentives of the banks to reduce the likelihood of, e.g., further directed lending or NPLs. In the absence of a significant change in culture, there is a strong possibility that the banks will have to be recapitalized again.
    • While the FMAC laid the foundation for reform across a number of areas, it would have been desirable to place a greater emphasis on compliance, or at least to indicate a framework for compliance under subsequent operations.
    • In an operation such as the FMAC which involves numerous agencies, a PIU that is the secretariat of an inter-ministerial committee is preferable to one contained within a single ministry.
    • The FMAC's clear and meaningful performance indicators facilitated evaluation.

    8. Audit Recommended?  Yes

              Why?  Given the country's checkered history of reform, it would be valuable to revisit the project in several years to assess progress within the framework laid down by the FMAC, in conjunction with the associated TA project.

    9. Comments on Quality of ICR:

    The ICR is good. It presents considerable evidence on FMAC achievement, and is balanced in its assessments. Annex I, in particular, is valuable. The evaluation would have been stronger if it had been more concise and had provided context on the overlap of FMAC with PRSO.

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