Documentof The World Bank FOROFFICIAL USEONLY ReportNo. 32700-TP INTERNATIONALDEVELOPMENTASSOCIATION COUNTRY ASSISTANCESTRATEGY FORTHE DEMOCRATIC REPUBLICOFTIMOR-LESTE FORTHE PERIODFY06-FY08 June 22,2005 Timor-LesteCountry ManagementUnit East Asia andthe PacificRegion This document has a restricteddistribution and may be usedby recipients only inthe performanceof their official duties. Its contentsmav not otherwise be disclosedwithout World Bank authorization. CURRENCY EQUIVALENT Currency Unit = US Dollar (as of June 22,2005) WEIGHTS AND MEASURES: Metric System FISCAL YEAR: January 1- December 31 ABBREVIATIONSAND ACRONYMS AAA Analytical and Advisory Activities JSAN Joint Staff Advisory Note AAP Annual Action Plan LNG Liquefied Natural Gas ADB Asian Development Bank MAFF Ministry of Agriculture, Forestry, and Fisheries ARP Agriculture Rehabilitation Project MDG Millennium Development Goal BCF Bio Carbon Fund MECYS Ministry of Education, Culture, Youth, and Sports BNU Banco Nacional Ultramarino MPF Ministry of Planningand Finance BPA Banking and Payments Authority NDP National Development Plan CAS Country Assistance Strategy NGO Non-Governmental Organization CDCF Community Development Carbon Fund OECD Organisation for Economic Co-ordination and Development CEP Community Empowerment Project PCF Post-Conflict Fund CFET Consolidated Fund for East Timor PEDF Pacific Enterprise Development Facility CFP Country Financing Parameters PFM Public FinancialManagement CSP Consolidation Support Program PFMCBP Planning & FinancialManagement Capacity Building Program DDLC DiliDistance LearningCenter PMU Project Management Unit DHS Demographic and Health Survey PNTL National Police of Timor-Leste DFID Department for International Development PPIAF Public-Private Infrastructure Advisory Facility EC European Commission PSPIP Power Sector Priority Investments Project EFA-FTI Education for All Fast Track Initiative SEP Small Enterprises Project EICBP Economic Institutions Capacity Building Project sIP Sector Investment Program EITI Extractive Industries Transparency Initiative SME Small and MediumEnterprise ESDP Energy Service Delivery Program SP Stability Program ESMAP Energy Sector Management AssistanceProgram SWG Sector Working Group F A 0 Food and Agricultural Organization TA Technical Assistance FIAS ForeignInvestment Advisory Service TFET Trust Fund for East Timor FIRST Financial Reform and Strengthening Initiative TLDPM Timor-Leste and Development PartnersMeeting FSQP Fundamental School Quality Project TSP Transition Support Program GDP Gross Domestic Product TSS Transition Support Strategy GEF Global Environment Facility UN United Nations GNI Gross National Income UNDP United Nations Development Programme HIPC Highly IndebtedPoor Countries UNFCCC United Nations Framework Convention on Climate Change HRSDP Health Sector Rehabilitationand Development Project UNICEF United Nations Children's Education Fund IDA International Development Association UNMISETUnitedNations Mission of Support inEast Timor IDF Institutional Development Fund UNOTIL UnitedNations Office in Timor-Leste JAM Joint Assessment Mission UNTAET UnitedNations Transitional Administration inEast Timor JICA Japan International Cooperation Agency U SAID UnitedStates Agency for International Development JPDA Joint Petroleum Development Area WSS Water and Sanitation Service Country Director: Xian Zhu, EACNQ Task Team Leader: Elisabeth Huybens FOROFFICIAL USEONLY TABLE OF CONTENTS EXECUTIVESUMMARY ............................................................................................................. i IINTRODUCTION...................................................................................................................... . 1 I1. COUNTRY CONTEXT............................................................................................................. 3 3 B.Governance .......................................................................................................................... 5 A. PoliticalTransition............................................................................................................... D.Planning,Budgeting,BudgetExecutionandthe Medium-TermFiscalFramework...........9 C.GovernmentPerformanceandMacro-EconomicManagement........................................... 6 E. EconomicOutlook andSources of Growth........................................................................ 12 F. Private andFinancialSector............................................................................................... 15 16 H.Youth.................................................................................................................................. G.PovertyProfile ................................................................................................................... 19 20 111.TIMOR-LESTE'SDEVELOPMENTVISION...................................................................... I.Gender................................................................................................................................. IV.LESSONS OFEXPERIENCE............................................................................................... 21 23 B.LessonsLearnedfor the CAS ............................................................................................ A. StrongPartnershipsfor a Whole-of-Government,Results-OrientedApproach ................23 V. BANK ASSISTANCESTRATEGY:CREATINGCONDITIONSFOR SUSTAINABLE 24 GROWTHAND POVERTYREDUCTION................................................................................. 29 B. ResultsFramework............................................................................................................. A. Overview............................................................................................................................ 29 32 C. DonorCoordinationandPortfolioManagement................................................................ 32 VI.D 34 RISKSAND MITIGATIONMEASURES............................................................................ . Strategic Pillars................................................................................................................. 45 Attachments Attachment A .BudgetExecution................................................................................................ 47 AttachmentB .Environment........................................................................................................ 51 Attachment C .Achievements under the 2000 TransitionSupportStrategy................................ 55 Attachment D.CountryFinancingParameters............................................................................ 61 Annexes Annex A 1:Timor-LesteKey Economic& ProgramIndicators. from Last CAS ........65 Change Annex A 2: Timor-Lesteat a Glance............................................................................................ 66 Annex B 2:Timor-LesteSelectedIndicators*of BankPortfolio PerformanceandManagement ....................................................................................................................................................... 69 Annex B 3 1:ProposedIBRD/IDA Base-CaseProgram.............................................................. 70 Annex B 3 2:Timor-Leste- IFC andMIGA Program................................................................. 71 Annex B 4: Timor-Leste- Summary of NonlendingServices ..................................................... 72 Annex B 5: Timor-LesteSocial Indicators................................................................................... 73 Annex B 6 1: Timor-Leste-Key EconomicIndicators.............................................................. 74 Annex B 6 2: Timor-Leste-Country SelectedIndicatorsTable ................................................. 77 Annex B 7: Timor-LesteKey ExposureIndicators...................................................................... 79 This document has a restricted distribution and may be used by recipients only in the performance of their official duties I t s contents may not be otherwise disclosed without World Bank authorization . . Annex B 8: Timor-Leste Operations Portfolio (IBRD/IDA and Grants) ..................................... 80 Annex B 9: Timor-Leste: FY2006-2008 CAS Results Matrix ..................................................... 81 Figures Figure 1:Post-conflict Performance Indicators. 2004 .................................................................... 7 Figure 2: Combined Sources Spending ........................................................................................ 11 Figure 3: IntegratingExpenditures into the .................................................................................. 11 Figure4: GNIi s Risingwhile GDP Stagnates ............................................................................. 12 Figure5: Timor-Leste andRegionalProgress Toward MDGs..................................................... 18 Text Boxes Box 1: Cost Recovery inthe Power Sector..................................................................................... 7 Box 2: EnsuringPrudent Governance of Petroleum Revenues ...................................................... 8 Box 3: Creating Jobs through Implementation of the Capital Development Budget ..................14 Box 4: Timor-Leste's NDP- Our National Vision for 2020........................................................ 21 Box 5: Lafaek - Improving Education through Creative Partnerships ......................................... 26 Box 6: Enhancing the Impact of Analytical Work through Consultation - The National Education Congress ...................................................................................................................... 27 Box 7:CAS Consultations ............................................................................................................ 29 Box 8: Harnessing the Power of Gas Seeps.................................................................................. 36 Box 9: BuildingCapacity for Planning and Financial Management ............................................ 43 Box 10: Principles of Engagement for the CAS ........................................................................... 44 Tables Table 1: ConsolidatedFundFinancing. USD millions unless specified ...................................... 11 Table 2: Indicators of Well-being by Region ............................................................................... 17 Table 3: Agency Achievements .................................................................................................... 25 31 Table 5: Proposed GrantLending Program and Partnerships, FY06-08 ...................................... Table 4: CAS Programs ................................................................................................................ 33 Table A 1: Timor-Leste' s Performance against HIPC Public Expenditure Management Indicators Table A 2: Budget Execution by Expenditurecategory ............................................................... ....................................................................................................................................................... 47 48 48 Table B 1: Achievements under TFET ......................................................................................... Table A 3: Budget Execution in Goods and Services................................................................... 56 Table D 1: Country Financing Parameters for Timor-Leste......................................................... 61 EXECUTIVESUMMARY 1. Timor-Leste, the world's newest nation, was created out of ashes. In 1999 the population voted overwhelmingly for the restoration of independence from Indonesia, but the outcome of the referendum was met with an orchestrated campaign of violence and destruction in which more than a thousand people lost their lives and the country's infrastructure was left in ruins. An estimated 70 percent of private homes and public buildings were burned to the ground. Bridges and power lines were demolished, and the telecommunications system was rendered inoperable. Valuable files, including land and property titles, civil registry, and education records were destroyed. Following the ballot, most Indonesian citizens left the territory, resulting in a severe shortage of qualified and experienced professionals, The country was left with only two power engineers, 20 percent of its secondary school teachers, 23 medical doctors of which one surgeon, and not a single qualified pharmacist. 2. Given that the country started from scratch both physically and institutionally, Timor- Leste has done remarkably well. Major steps have been taken to build the nation, and the country has maintained peace and political stability. Free and fair elections were held and a Constitution adopted, with almost all the institutions it mandated now created. A National Development Plan (NDP), a Stability Program (SP), and Sector Investment Programs (SIPS) guide the use of Government and donor resources, and have recently been presented to the World Bank and International Monetary Fund Boards as a Poverty Reduction Strategy. Since the restoration of independence, the Government has focused squarely on the implementation of the NDP and SP. The Government has adopted a legal framework for petroleum production, taxation, and revenue management that i s considered international best-practice and i s consistent with the principles endorsed by the Extractive Industries Transparency Initiative. It has brought about macro-economic stability and made solid progress in restoring public services. Health indicators have improved gradually, and today more children-including poor children and girls-are in school than under the Indonesianoccupation. Around-the-clock access to electricity has been re-established in the capital, together with a cost-recovery system. All district capitals have access to telephone services. The financial sector i s growing rapidly. Overall, the new nation's performance has been considerably better than that of other post-conflict countries. 3. Yet Timor-Leste is at a cross-road, and progress remains fragile. Establishing a well- functioning state will take years, if not decades. The country has made great strides in a short time, but much remains to be done. Timor-Leste i s among the world's poorest countries, and lags behind the region in achieving the Millennium Development Goals. While petroleum production and associated Government revenue have risen rapidly, non-petroleum production, fuelled b y a large international presence, has decreased as this presence winds down. With a population growth rate that i s among the highest in the world, per-capita income has declined and poverty has most likely increased. Unemployment in urban areas i s high, especially for youth. The private sector faces formidable constraints, and farmers are only slowly adjusting to the elimination of the heavily subsidized Indonesian marketing system. Capacity-building initiatives have not yet met with desired success, leaving institutional capacity very thin and with considerable variation across agencies, as witnessed b y the Government's slow, incomplete and uneven budget execution. Governance and corruption problems are beginning to emerge. Communication between the Government and the population i s inadequate and often ineffective, resultingin limited mutual understanding. Timor-Leste i s at ajuncture where it can consolidate Executive Summary 11 gains and create conditions for sustained growth and poverty reduction, or descend down a path of poor governance, continuously increasing poverty and inequality and, possibly, renewed conflict. As a petroleum-rich country, Timor-Leste needs to be particularly vigilant in maintaining good governance and promoting employment outside the petroleum sector, to avoid the resource curse and Dutch disease prevalent in many resource-rich countries. 4. Over the pastfive years, strong partnership with donors around a whole-of-Govemment, results-oriented framework firmly anchored in the NDP and the SP has been key to Timor- Leste 's successful nation-building process. Despite being a small financial contributor, the Bank has played a central role by assisting the Government in forging these partnerships. Accordingly, the Bank's business model has evolved around coordination, sustained by analytical and advisory activities (AAA) and multi-donor grant funds, rather than lending. The backbone of this approach has been the Transition Support Program (TSP), now known as the Consolidation Support Program (CSP), a budget support operation financed by ten partners and supported by several others as observers. The TSP/CSP has focused on an annual, cross-Government results matrix and has been the principal instrument for policy dialogue between the Government and its development partners. The Government has praised this instrument for respecting ownership, building capacity in prioritizing interventions, sharing lessons from across the world, exploiting the synergies among development partners, and providing a framework for international accountability. 5. The Bank aims to support Timor-Leste in consolidating its early progress, and moving from a focus on post-conflict issues to creating the conditions for growth outside the petroleum sector and for poverty reduction. To achieve this, the three-year Country Assistance Strategy (CAS) will support the NDP and SP objectives of delivering sustainable services, creating productive employment, and strengthening governance, while mainstreaming gender and youth across these three strategic pillars. Taking into account the lessons learned, the CAS adopts four principles of engagement: building institutional capacity, deepening the results orientation, strengthening transparency and communication, and consolidating and extending the strong international partnerships. The CAS presents a results framework around the three strategic pillars, which will be sustained through partnership with a host of donors, not just Bank interventions. The results framework will be translated annually into a results matrix for continued multi-donor budget support through the CSP, and the CSP will remain the principal forum for dialogue between the Government and its development partners while emerging Sector Working Groups gain strength. The Bank recognizes that the CAS objectives are ambitious, but considers them achievable given the commitment of the Government and the strength of partnerships. 6. To achieve the proposed results, the Bank Group will deploy a mix of multi-sector and sector grants and AAA. The annual, single-tranche, multi-donor CSP will underpin the three- pillar approach to the CAS. The Bank will contribute a small amount of funding to the CSP to support the gradual shift of non-budget donor expenditures onto the Government budget. If and when Government budget execution improves considerably, the Bank would consider channeling a higher proportion of its assistance through the CSP and recommend the same to other development partners. Incomplement to the CSP, and with a view to improving the effective and efficient implementation of the Government's budget, the CAS will support the Planning and Financial Management Capacity Building Program, a multi-donor initiative targeted at the Executive Summary ... 111 Ministry of Planning and Finance, line agencies, and districts. Improved execution of the growing budget with a focus on labor-intensive programs is, in the short run, the most effective way to increase non-petroleum GDP and to create jobs. On the basis of the SIPS, the Bank will also continue sector support to health, education, agriculture, and private sector development, and considerably extend its involvement in energy. This will be pursued in concert with other donors, through new operations and the ongoing portfolio. Economic and sector work and technical assistance are key elements of the CAS. 7. The implementation of Timor-Leste'sNDP and the CAS is subject to a number of risks. Given the whole-of-Government character of the CAS, risks faced by the Government and the Bank are largely the same. They include fragile Government implementation capacity, increased dissatisfaction with Government performance and associated emergence of civil unrest and violence, worsening governance and entrenchment of corruption, and fragmentation of donor assistance. Both the CAS pillars and principles of engagement are crafted to mitigate these risks. 8. Given the above, Board members may wish to discuss the following: 0 I s it appropriate to adopt a broad-based approach that aims to create the conditions for sustainable growth and poverty reduction underpinned by a results matrix that relies not only on the Bank's interventions but on broad partnerships with a host of donors? 0 Are the pillars and principles of engagement appropriate for creating the conditions for growth outside the petroleum sector and for poverty reduction? 0 I s the mix of instruments and activities adequate? I s it appropriate to maintain a small budget support program to assist the shifting on budget of donor expenditures that are currently financed outside the budget and to recommend broader use of this instrument as budget execution improves? I.INTRODUCTION 1. This Country Assistance Strategy (CAS) presents the World Bank's strategy for Timor- Leste for FY06-FY08. It i s the first full CAS for Timor-Leste, following the 2000 Transition Support Strategy (TSS). The Bank began to prepare the CAS in 2003 but, at the request of the Government, postponed its finalization pending the completion of the Government's Sector Investment Programs (SIPS). In line with the strong partnerships that have been forged among the Government and donors, this CAS has been agreed by all development partners and the Government. It represents notjust the Bank's efforts, but the wider efforts of Government and all donors, what i s known as the "whole-of-Government approach." This refers to the highly collaborative way in which nation building has been pursuedin the world's newest country. 2. The CAS incorporates a three-year results matrix. A CAS Progress Report will be prepared in FY07. The three-year timeframe of the CAS covers the remainder of the current Government's mandate, which runs through 2007, as well as the first year of the incoming Government's tenure, pending the articulation of its vision and strategy. The CAS i s structured as follows: (a) background on the country context, to give an understanding of the unique situation in Timor-Leste, progress to date, and remaining challenges; (b) Timor-Leste's development vision and strategy, as set out in its National Development Plan (NDP), Stability Program (SP), and SIPs, which together were recently presented to the Board as a Poverty Reduction Strategy; (c) lessons learned under the TSS and in general since the Bank has been involved in Timor-Leste; (d) the Bank's strategy and program of activities, including three strategic pillars and four principles of engagement; and (e) risks and mitigation measures. 11. COUNTRY CONTEXT A. PoliticalTransition 3. Occupying the mountainous eastern half of the island of Timor, Timor-Leste was a Portuguese colony for 400 years. Following a brief civil war, the country unilaterally declared its independence on November 28, 1975. Within days it was invaded and illegally occupied by neighboring Indonesia. For 24 years the population of Timor-Leste maintained a staunch resistance against the invasion, characterized by near universal popular support and effective coordination between the armed wing of the resistance, Falintil,' an elaborate and active network of civilian supporters, "clandestinos", and representatives in the diaspora. One-third of the population i s estimated to have died as a result of the occupation. Following the fall of President Suharto in 1998, Indonesia offered to hold a referendum allowing the territory a choice between autonomous status or an independent state. An overwhelming majority of Timorese voted for independence. Tragically, the referendum was accompanied by a well-planned campaign of violence led by armed militia. The violence left over 1,000 people dead, the majority of the population displaced, and most of the private and public physical infrastructure inruins. 4. Following the intervention of a multi-lateral peacekeeping force, the United Nations Transitional Administration in East Timor (UNTAET) was established with supreme executive, judicial, and legislative authority. At its height, UNTAET included almost 9,000 uniformed and civilian personnel. To ensure Timorese participation early on, the National Council, a quasi- parliamentary body representing different segments of Timorese society, was created in 2000, as well as the first transitional Government consisting of four Timorese and four international cabinet members. In 2001, elections were held for a Constituent Assembly. The elections were won b y Fretilin,2 which gained 55 of the 88 seats in the Assembly, short of an absolute majority, and all in all 11parties won representation. A second transitional Government was formed, now composed entirely of Timorese. Following the adoption of the Constitution, presidential elections were held in April 2002 and won by independence leader and Falintil Commander Jose Alexandre (Xanana) Gusmao. The Democratic Republic of Timor-Leste fully restored its independence on May 20, 2002. The Constituent Assembly became the National Parliament, and the current Government, formed by Fretilin, was sworn in under the leadership of Prime Minister Mari Bim Amude Alkatiri. A 900-person United Nations Mission of Support in East Timor (UNMISET) was created, focused primarily on peace-keeping, training and support to the Timor-Leste police force, and the deployment of advisers to Government and other State institutions. On May 20, 2005 UNMISET was succeeded by the UnitedNations Office in Timor- Leste (UNOTIL), now reduced to about 120 civilian andpolice advisers. 5. Since the restoration of independence, Timor-Leste has maintained peace and political stability, and established security. Most countries emerging from conflict, especially new countries, relapse into violence within five years. Timor-Leste has avoided that fate, maintained peace and political stability, and established security. Despite differences in opinion and style, the President, Government, and security forces have consistently worked together toward these `ForGas Armadas de LibertapTo Nacional de Timor-Leste, Armed Forces of National Liberationof Timor-Leste. Frente Revolucionaria do Timor-Leste Independente, Revolutionary Front for an Independent Timor-Leste. Country Context 4 goals. The country's stability has been seriously disrupted only once, by riots in Dili in December 2002 following the shooting and killing of two demonstrating students by police. Stability was tested again during a three-week demonstration organized by church leaders in April/May 2005, yet the demonstration remained largely peaceful and showed the police forces capable of restraint and professionalism. Elections for village councils started in January 2005, and early reports suggest high levels of participation. The upcoming presidential and parliamentary elections to be held in 2006 or 2007 will be Timor-Leste's first in the absence of UNsupport, andwill constitute atest ofthe leadership's ability to manage apoliticaltransition. 6. Recognizing the fragility of political unity and the necessity of healing past divisions, the leadership and communities have taken important steps to foster dialogue and reconciliation. The Commission on Reception, Truth, and Reconciliation has used customary mechanisms to bring about community re-integration of perpetrators of low-level violence during the 1999 events. The National Dialogue, initiated by the President, has involved a series of local and national- level public meetings on the role of the UN in an independent Timor-Leste, local government, justice, and veterans. The leadership has also taken important steps to recognize and honor veterans of the resistance as called for in the Constitution. Acknowledging the potentially destabilizing effect of disillusionment among veterans and the broad community demand for their recognition, the President appointed three commissions to register veterans of the armed and civilian resistance. On the basis of the work of the commissions, Parliament i s inthe process of drafting a veterans law that will establish recognition measures. 7. Civil society and media play a constructive and increasingly important role. Much like political leaders and Government, civil society has had to make the difficult transition from resistance against the Indonesian occupation to effective participation in nation building. A number of non-governmental organizations (NGOs) undertake useful monitoring, advocacy, education, and advisory services in the areas of human rights (Associacao HAK), justice (Judicial System Monitoring Program), gender awareness (Fokupers, Rede Feto), the environment (Haburas), and international assistance (Lao Hamutuk). As 98 percent of Timor- Leste's population i s Catholic, the Church i s very influential and plays an active role in conflict mitigation and service provision. The print media in Timor-Leste have grown from non-existent under Indonesian times to several daily and weekly newspapers, but only a small proportion of the population has access to them. National and community radio, on the other hand, reaches a wide audience and provides a popular forum for interactive debate. 8. Despite considerable progress, the current stability in Timor-Leste i s fragile, and the country remains vulnerable to conflict. While limitedin number, the hard-core militia remaining in West Timor pose a real, if small, risk of externally generated conflict. Since 2002, there have been several incursions by militia in which Timorese villagers have been killed. More significant than external factors are internal fault lines contributing to the risk of renewed violence, including declining income, increasing poverty, high unemployment, and emerging corruption. Rapidly expanding youth cohorts and high youth unemployment have fuelled an expansion in martial arts groups. There are a number of relatively small, but vocal groups who reject the legitimacy of the Government and some former members of the resistance continue to feel disenfranchised. While steady improvements have been made, the security forces still lack professionalism and experience. There have also been several serious altercations between the Country Context 5 forces themselves, causing significant public concern. While no one of these factors i s likely to ignite serious conflict, their combined effect remains unpredictable. 9. Poor outreach on the part of Government may contribute to Timor-Leste's vulnerability. Effective communication and genuine participation are critical to shoring up popular support for the national development process, and for avoiding conflict. Many of the positive and necessary development outputs of the last three years, such as policies, laws, and the completion of institutions, are largely invisible to the electorate. At the same time, service delivery results are mixed. Expectations of prosperity following the restoration of independence are high, but the Government neither has the resources nor the intention to re-establish the paternalistic State maintained by the Indonesian occupation. Yet the Government i s hesitant to collaborate with civil society and maintains a statist style. It has not yet succeeded in engaging constructive critics or in maintaining an effective dialogue with communities. While both Portuguese and Tetun are national languages, critical documents are often only published in Portuguese, which only a small fraction of the population understands. Government i s increasingly recognizing the importance of consultation and information dissemination and has, for example, established a public information office and recently undertaken extensive public consultations on the petroleum revenue savings policy and the associated Petroleum Fund. B. Governance 10. There has been significant progress in the creation of the architecture of governance and the associated legal and institutional frameworks. Timor-Leste's Constitution provides for separation of powers, essential checks and balances, and safeguards of citizens rights. At the restoration of independence, the organs of the State, including the Executive, Parliament, Judiciary, and, particularly, the Office of the President, existed notionally, but in some instances without the appropriate legal framework, staff, or even offices and equipment. Since the restoration of independence, the Government has completed policy and legislation for these entities and endowed them with human resources as well as physical infrastructure. Guided by a weekly Council of Ministers meeting, the public administration has gradually gained capacity, albeit with uneven results across sectors. Administrations with representatives from some ministries have been established in each of the 13 districts, and the 65 sub-districts have been assigned a sub-district administrator and an economic and social development officer. 11. Steps are being taken to provide for the effective checks and balances foreseen in the Constitution. The Executive i s the strongest arm of the State and needs to exercise care in exerting its power with respect to the independence of other state institutions and the media. Parliament i s gradually enhancing its ability to oversee the work of Government. The justice sector has been hampered by inexperienced staff and weak systems, leading to an unwieldy backlog of cases. The Provedor dos Direitos Humanos e da JustiCa, which combines the functions of human rights commissioner, ombudsman, and anti-comption agency, i s about to become operational. Currently the audit of Government accounts i s contracted out by the Ministry of Planning and Finance (MPF), although the Constitution allots the task of the independent audit to the Court of Appeals, pending the creation - in the long term - of a High Tax, Administrative, and Audit Court. While there has been significant progress in creating a body of law, many laws were more or less copied from other jurisdictions, and were not Country Context 6 subjected to consultation. Hence, legislation often fails to reflect the cultural and administrative realities of the country and may prove difficult to implement. 12. Thefunctioning of both the private and the public sectors is impeded by the extremely low levels of education and professional experience. Only 50 percent of adults are literate, while less than one-third of adults have some secondary education. The lack of capacity i s reflective of both the relatively low levels of skills and experience achieved in Timor-Leste under the Indonesian administration and the weaknesses of international capacity-building efforts. Under the Indonesian administration, most mid- and high-level positions were occupied by Indonesians. Their departure in 1999 left a dearth of teachers, managers, administrators, engineers, accountants, doctors, nurses, plumbers, electricians, and other professionals. Under the UNTAET administration, internationals occupied most key positions and were only slowly replaced by Timorese, often with little skills transfer, training, or even overlap. 13. Corruption is an area of growing concern. Although no systematic surveys have been carried out to ascertain how widespread the problem is, corruption i s perceived by the Timorese public to be a serious and growing problem. Cases of corruption have emerged, particularly in procurement, customs, the justice system, and the private sector. The Office of the Inspector General has actively pursued a program of investigations since its establishment in 2000, including 13 investigations in 2004. Government has referred ten cases to prosecution, but to date none have proceeded. Additionally, discipline within the civil service regarding attendance and use of public resources i s lax. Understanding of key governance principles i s scant, and there i s an absence of a spirit of public service. A civil service statute and associated code of ethics have been promulgated, but effective implementation will demand further regulation and a proactive campaign of information and education. 14. While the incidence of corruption may be increasing, there is also signifcant and growing demand for good governance. There i s widespread awareness of the effects of poor governance, particularly corruption, based on experience under the Indonesian administration. Media, civil society, and Parliament have all become outspoken on governance issues and have displayed keen interest in safeguarding petroleum revenues. Associacao HAK has publicized cases of corruption in the justice sector. During the budget review in 2004, members of Parliament voiced their dissatisfaction with a review process that was deemed too short and that does not allow dialogue with line Ministers. Professional groupings have also begun to act to protect professional and public interests. In 2004, lawyers lodged a complaint regarding the lack of consultation on the draft criminal code. In early 2005, over 50 journalists signed a statement condemning Government's boycott of the leading daily newspaper. C. Government Performance and Macro-Economic Management 15. Despite the overwhelming challenges, Timor-Leste has performed well when compared with other post-conflict countries. In a group of nine post-conflict countries, Timor-Leste scores highest overall on the Post-Conflict Performance Indicators, and well above average in most areas (Figure 1). Country Context 7 Figure 1: Post-conflict Performance Indicators, 2004 Public Security Transparency, Accountability, Corruption in the Public Sector Reestablishing Public Administration and Rule-BasedGovernance Disammnt,Dembilization, ReintegI`dtiOn Budgetary and Financial Managemnt, Managemnt of Inflation, EaiemalDebt, Efficiency of RevenueMobilization Budget Adequacy rade Policy, Foreign Exchange,Price R e g h s agemnt and Sustainability ofPost- Conflict Reconstruction Program Reintegrationof Displaced Populations -Timer-Leste -Madmum -Average I 16. The Govemment has shown strong leadership in prudent mucro-economic management. Guided by the NDP and the SP, the Government has displayed strong commitment to promoting sustainable growth and reducing poverty, as evidenced by the elaboration and execution of the annual budget with a focus on basic economic and social services. Over 35 percent of Government recurrent spending i s on health and education, whereas less than 25 percent goes to the security forces. Less than 40 percent of the health recurrent budget i s spent on hospitals, while within the education recurrent budget, 45 percent goes to primary schooling. Government has maintained strict fiscal discipline by, for example, implementing cost recovery measures in the electricity sector (Box 1). Inflation has remained moderate, falling to 1.8 percent in December 2004. Box 1: Cost Recovery inthe Power Sector Government demonstrated resolve and dexterity in taking the politically difficult step of dramatically reducing subsidies to the power sector since 2002. Under the Indonesian administration electricity was highly subsidized, priced at USD 0.02 to USD O.OS/Kwh, and under UNTAET it was free. To address this, the Government implemented a program to install pre-paid power meters for electricity consumers in Dili. Between July 2003 and January 2005, 19,500 pre-paid meters were installed. This has contributed to a reduction in power subsidies from 13 percent of budget expenditures in FY02 to 7.5 percent in W 0 5 . After a slow start to the installation program, Government strengthened its public outreach efforts. These included sponsoring community meetings led by customary authorities (chefes de suco and chefes de aldeia) to familiarize the public with the need for the meters and the process of their installation. Additionally, the Prime Minister, the Minister of Transport, Communication, and Public Works, and the Secretary of State for Water and Electricity waged a systematic media campaign with a consistent message of enforcement: "Twenty-four hour power generation can only return when every consumer pays their bill, with the help of the pre-paid meter." The reduction in power subsidies and the associated restoration of 24-hour power supply in Dili represent a major accomplishment for Government. Implementing cost recovery after nearly four years of free electricity i s a challenge under any circumstances. In the context of high electricity prices (USD 0.18 to 0.20/Kwh) and difficult economic circumstances, including a high urban unemployment rate, it could have been destabilizing. Government's strategic use of consultation and communication were crucial in smoothing the process. Country Context 8 17. Timor-Leste has appropriately focused on the legal framework for petroleum production and revenues. Shortly after the restoration of independence, the Government secured the launching of production in the Bayu Undan petroleum field by signing the Timor Sea Treaty with Australia, which governs the sharing of revenue from the field between the two countries. It has adopted a state-of-the-art legal framework for on- and off-shore petroleum production and taxation and a draft savings policy and associated Petroleum Fund Act consistent with the Extractive Industries Transparency Initiative (EITI), for which Timor-Leste i s a pilot country, having embraced transparency principles even before EITI existed. Consultations over these policies and laws have been broad-based, both externally and internally, creating a national consensus over principles that will determine Timor-Leste's future. True to stated principles, the Government has adhered to a provisional savings policy for petroleum revenues ahead of the adoption of the permanent savings policy. It has thus demonstrated its capacity to implement a savings rule. Timor-Leste's new savings policy aims to preserve the real wealth of petroleum resources for current and future generations of Timorese (Box 2). Box 2: EnsuringPrudentGovernanceof PetroleumRevenues Over the next few decades, Timor-Leste stands to gain significant oil and gas revenues, including over USD 1 billion from FY05-09. Though this expected windfall will provide much needed resources for the implementation of the NDP, it poses an important set of governance challenges. Internationalexperience suggests that countries rich in natural resources are particularly susceptible to wasteful spending and corruption, as evidenced by consistently lower performance in growth and poverty reduction than inresource-poor nations. In response to this challenge, Timor-Leste is poised to adopt arrangements for prudent management of petroleum revenues for the benefit of current and future generations. Building upon the successful Norwegian model, the Government has developed a savings policy and draft Petroleum Fund Act laying out a framework for sustainable management of petroleum revenues over the long term. The policy and draft Act have been subject to broad public consultations, both locally and abroad, and are expected to become effective early in FY06. These arrangements are consistent with principles of international good practice: a) A savings policy has been adopted to preserve the real value of petroleum wealth by spreading expenditures over an infinite time horizon, safeguarding a sustainable budget inperpetuity. The conditions under which the Government can withdraw funds above the estimated sustainable income will be restricted. The lheory of the Savings Policy b) A Petroleum Fund will be established to collect all revenues emanating directly or indirectly 250 , from petroleum resources. All revenues will flow into 200 an earmarked receipts account, including those revenues accumulated under the provisionary savings 150 policy of the transition period. 100 c) Expenditures funded from petroleum Ikpenditure revenues will be integrated into the budget process. 50 Transfers from the Fund can only be made to a 0 designated Government account, and total transfers in 0 5 10 15 20 25 30 a fiscal year cannot exceed a ceiling set by Parliament Year as part of the approval of the regular Government budget. Expenditures are executed through the Treasury and recorded as part of the Government's consolidated reporting. Revenue and expenditure figures are publicly available, and the Budget Law and regular external audits guard against the misappropriation of funds. d) Assets are managed prudently in safe, offshore investments that are sheltered from domestic economic risks. Though overall Fund management i s the responsibility of the Minister of Planning and Finance, anc operational management is the responsibility o f the Banking and Payments Authority (BPA), it i s envisaged tha one or more professional investment managers will be appointed to oversee Petroleum Fund investments. Ar Investment Advisory Board comprising the Director of Treasury, Head of the BPA, two individuals witk Country Context 9 demonstrated expertise in investment management, and one other person appointed by the Minister, will be established to advise the Government on Fundinvestments. e) Governance mechanisms have been put in place to ensure transparency and accountability in the use of funds. The draft Act requires the timely publication of quarterly reports and annual financial statements and the public release of non-confidential information. An independent Consultative Council will be established to advise Parliament on issues related to the Fund. This council i s expected to comprise former senior Government officials and members appointed by Parliament, Government, civil society, the private sector, and religious organizations. Independent external audits will be carried out by an internationally recognized accounting firm, and audit reports will be adapted into a format accessible to the public. The Government has established transparency as a fundamental principle in the draft Act, requiring the publication of aggregate information on company payments. The arrangements set out in the savings policy and draft Petroleum Fund Act are key to safeguarding Timor-Leste's petroleum wealth. Yet their success will depend critically on the effective implementation of all checks and balances set out in the Constitution. Recognizing the complexity of the sector and the critical importance of "getting things right," the Government and development partners are working to ensure necessary international advisory support combined with capacity building for Timorese counterparts. D.Planning,Budgeting,BudgetExecutionandtheMedium-TermFiscalFramework 18. Since the restoration of independence, Timor-Leste has greatly improved planning and budgeting skills. In the transition period, recurrent expenditures were budgeted and executed by UNTAET, through the Consolidated Fund for East Timor (CFET). The urgent need for reconstruction and rehabilitation was addressed through the multi-donor Trust Fund for East Timor (TFET)3-with investment expenditures implemented through Project Management Units (PMUs) that followed Bank procurement and financial management procedures. Since the restoration of independence, Government has developed tools to link budgeting to the NDP. To this effect, every agency prepares an Annual Action Plan (AAP), which constitutes the basis for budgeting. In support of this effort, and recognizing Timor-Leste's inability to collect sufficient revenues ahead of Bayu Undan petroleum production, the Bank and Timor-Leste's other development partners began to provide budget assistance to CFET immediately after the restoration of independence. The first Transition Support Program (TSP I) provided a total of USD 32 million from ten partners for the Government's FY03 budget. TSP Iwas accompanied by an action matrix distilled from the AAPs, and TSP I1(USD 35 million) and TSP I11(USD 31 million) continued this process. While this i s no small accomplishment, AAPs are still at an early stage, and the Government struggles with the links between them, the budget, and especially budget execution and outcomes. 19. Timor-Leste performs well on fiduciary accountability, but this comes at a high cost to service delivery. Timor-Leste meets 12 out of 15 HIPC tracking benchmarks. However, budget execution i s very slow. Though commitment levels are reasonably high across all expenditure categories, with total expenditures (cash plus commitments) averaging 93 percent in aggregate terms in FY04, budget execution reached only 75 percent on a cash basis in that same year. Slow budget execution i s due to heavy centralization of expenditure management, tight expenditure TFET i s a multi-donor trust fund that has supported reconstruction and development activities in Timor-Leste since early 2000. TFET donors are Australia, the European Commission, Finland, Ireland, Italy, Japan, New Zealand, Portugal, the United Kingdom, the United States, and the World Bank. The World Bank serves as Trustee, and TFET projects are administered by the World Bank and the Asian Development Bank (ADB). Country Context 10 and procurement controls, weak capacity in ministries, and poor communication between the MPF and line ministries. There is no effective disbursement system to send funds to the districts, so that district staff hold no funds for supporting national programs or local service delivery, Improving budget execution while maintaining accountability poses an essential challenge. A more extensive discussion of budget execution issues i s provided in Attachment A. 20. The Government has begun to implement important measures to improve budget execution. An inter-ministerial commission was established in April 2004 to address this issue. The MPF has conducted a study on budget execution processes and causes of spending bottlenecks, the results of which are eagerly awaited. For FY06, the Government has defined the capital development budgets for several ministries in great detail, thus allowing for increased transparency and monitoring in an attempt to address the need for proper checks and balances over the use of funds. In some ministries, the Government has begun to assign responsibility for execution of capital development budgets to staff and advisers who have developed capacity in processing capital expenditures through implementation of TFET-funded projects. This allows for short-term improvements in budget execution while longer-term capacity in planning and financial management i s being built. Other initiatives, such as enhancing coordination between the MPF, line ministries, and districts, devolving spending responsibilities, and shifting from ex- ante spendingcontrols to ex-post audits may ease budget execution and guard against misuse of funds. Contracting out the delivery of services in some sectors and seeking creative partnerships with non-government actors may also ease the burden on Government staff while capacity i s still being developed. Finally, if pilot programs on local block grant budgeting are successful, the Government may want to consider expanding them to other districts through increasing budget allocations. 21. Following the launch of Bayu Undan petroleum production, the Govemment will no longer face the budget deficit experienced in thefirst three years of its existence and will be able to fund a sizable budget in perpetuity. Initially, from FY02 to the beginning of FY05, the Government faced a financing gap of approximately USD 30 million annually out of a total budget of about USD 75 million. This gap was filled by the TSP. Now that Bayu Undan i s in full production, Timor-Leste's budget can grow gradually - in accordance with the savings policy - to the sustainable income level of USD 130-170 million. Approximately two-thirds of this will come from petroleum revenues while the remaining one-third will come from non-petroleum revenues. At the same time, petroleum savings are expected to accumulate rapidly in the Petroleum Fund.4In keeping with best practice, the accumulating balance will safeguard the provision of essential public services for future generations. Infact, consistent with the provisional savings policy, the balance of petroleum revenues has grown throughout the transition period, and the pace of growth has accelerated since the launch of Bayu Undan. Country Context 11 Table 1:Consolidated FundFinancing, USDmillions unless specified FYOl FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 Total Component Actual Actual Actual Actual DraftFY06 Budget FY06-09 Revenues 58.8 54.0 81.3 105.4 306.6 205.6 234.8 232.5 262.7 935.6 DomesticRevenues 14.1 20.5 19.3 29.2 33.2 36.4 38.6 40.8 43.6 159.4 Timor Sea Revenues 13.1 10.8 29.5 41.4 242.6 158.7 185.7 181.2 218.6 744.2 Grants 31.6 22.7 32.5 34.8 30.8 10.5 10.5 10.5 0.5 32.0 CFET Expenditures 51.3 52.6 70.8 72.2 78.7 119.5 106.2 112.0 109.6 447.3 Overall Balance (-deficit) 7.5 1.4 10.5 33.2 227.9 86.1 128.6 120.5 153.1 488.3 Memorandum:Balancesend of period CentralGovemment Cash Balances 8.9 6.3 26.5 62.5 247 0 0 0 0 0 CumulativeOiYGas Savings 3.1 7.4 10.5 13.9 63 153 291 424 591 534 Source: Ministry of Planning and Finance. Notes: FY06 expenditures include capitalization of the Banking and Payments Authority. Data on Central Government Cash Balances include cash in provision of commitments that have been made but not spent during the course of thefiscal year. Under the transitory savings policy, the Government allocated only royalties and the corresponding investment income to oil/gas savings, while petroleum tax revenues were channeled to the budget. Given unusually high petroleum prices, this resulted in the accumulation of large central government cash balances in FY05. Together with the interim oillgas savings from royalties, these are expected to be largely transferred to the Petroleum Fund once it is established. 22. In order to eflectively plan combined sources spending and shift a greater proportion on budget, the Govemment has asked development partners to support such a shift by continuing whole-of-Government budget support for three more years. CFET spending (Table 1) accounts for less than 50 percent of the so-called Combined Sources Budget, which amounted to about USD 200 million in FY05. Combined sources spending includes several off-budget sources: the undisbursed balance of TFET, bilateral donor funding, and UN assistance (Figure 2). Many of the bilateral and multilateral programs encompass expenditures that constitute core government functions and are ultimately long-term liabilities, such as pharmaceuticals, educational materials, and maintenance. Shifting these expenditures on budget will allow the Government to address the long-term sustainability issues of combined sources spending, while focusing on strengthening its own systems and procedures rather than on complying with multiple donor procedures. At the Government's request, the proposed budget support program for FY06-08 will henceforth be known as the Consolidation Support Program (CSP I- reflecting the move 111), from a period of transition to the consolidation of gains achieved so far (Figure 3). The CSP can only become an attractive means of channeling donor assistance if budget execution capacity improves. Figure2: CombinedSources Spending Figure 3: IntegratingExpendituresinto the USDmillions CFET Budget FY03-FY05 FY06 FY08 - mn CFET Non-budget Non-budget 200 150 100 50 0 F Y O1 FY02 FY03 FY04 ConsolidatedFund E! TrustFundfor EastTimor ~ United Nations Bilateral Country Context 12 E.Economic OutlookandSourcesof Growth 23. With the initiation of petroleum production, GNI is rising rapidly while per-capita GDP is actually declining (Figure 4). Production in the Bayu Undan petroleum field began in early 2004, resulting in a sharp increase in GNI. In 1999, owing to the violence, non-petroleum GDP dropped 35 percent. Growth recovered to reach 15 percent in 2000 and 17 percent in 2001, but then fell by about 6 percent in both 2002 and 2003. In 2004, GDP grew only modestly at under 2 percent. Given that the population i s growing at well over 3 percent, per-capita GDP has declined steadily to USD 366 in 2004, which indicates that poverty has most likely increased. The recovery in the early years of the transition was fuelled by high public expenditures, supported by unprecedented levels of aid and a large international presence. Aid peaked at USD 300 per capita in FY02, but has since tapered off to USD 175 per capita in FY04 and i s expected to remain at a similar level for the foreseeable future. Given the emergency character of the aid interventions and the particularly low level of local capacity, a sizeable share of development assistance, probably upward of 50 percent, has been spent on international salaries and fees, much of which does not benefit the local economy. Figure 4: GNI is Risingwhile GDP Stagnates I 1 500 I I 450 400 350 300 250 ~ 200 1998 1999 2000 2001 2002 2003 2004 -A- GNI(US$millions) +GDP (US$millions) --e- GDP per capita(US$) 24. Urban areas suffer from high unemployment. In2001, unemployment reached 20 percent in Dili and Baucau, compared to 5 percent nationwide. Unemployment has most probably increased since then. More than 10,000 youngsters join the labor market every year. With the restoration of independence, the role of the public sector as a source of employment has decreased significantly. The Indonesian public service had 26,000 employees in the territory, excluding the military, while the Government of Timor-Leste has only 17,000 public service posts, including the armed forces. 25. In rural areas productivity is very low. Agriculture, livestock, fisheries, and forestry make up 80 percent of all self-employment, but only 30 percent of non-petroleum GDP. Thirty- three percent of households rely on subsistence agriculture alone. Since the restoration of independence, farmers have had to adjust to a sea change in the role of the public sector, including the loss of subsidies, extension services, and markets. Guaranteed purchases of Country Context 13 essential commodities at subsidized prices were eliminated, and public sector staff devoted to agriculture, livestock, fisheries, and forestry declined from 6,000 under the Indonesian administration to an estimated 400 in FY06. Before the restoration of independence, the presence of thousands of Indonesian soldiers and civil servants constituted a large and reliable market for agricultural and other goods throughout the territory, which has since dissipated. Environmental degradation i s a significant problem, which will have an increasing impact on agricultural productivity in coming years. The rapidly growing and dispersing population puts tremendous pressure on agricultural land, much of which i s situated on steep slopes. This i s exacerbated by accelerated deforestation following the substitution of kerosene by firewood, the latter now being the most important energy source for 98 percent of households. Attachment B provides more detail on environmental issues in Timor-Leste. 26. Petroleum is Timor-Leste's most prominent source of growth. Timor-Leste and its surrounding waters harbor considerable petroleum reserves. Their exploitation i s affected b y the absence of a permanent border demarcation between Timor-Leste and Australia, commonly referred to as the "Timor Gap." As a temporary measure, the two countries continue to respect the Joint Petroleum Development Area (JPDA) previously established between Indonesia and Australia. The terms of the associated Timor Sea Treaty were re-negotiated, allocating 90 percent of the public revenues generated by the JPDA to Timor-Leste. Under these arrangements, Timor-Leste will earn an estimated USD 5.8 billion in public revenue over the next 20 years. The JPDA covers the entire Bayu Undan field, which i s in production, but only part of the Greater Sunrise fields, and none of the several smaller fields in the Timor Sea. Timor- Leste claims much of the territory containing these fields, and the two countries have launched negotiations with a view to drawing permanent boundaries or otherwise finding a satisfactory temporary solution to the dispute. Finally, it i s expected that there are considerable reserves in non-disputedterritory. Licensing for onshore and offshore reserves along Timor-Leste's southern coast i s expected to begin in early 2006. Timor-Leste thus stands to gain several billion dollars in additional future petroleum revenue. 27. Timor-Leste hopes to attract industry associated with petroleum production, but this will not be a sustained source of large-scale employment. Timor-Leste would like to see Greater Sunrise developed b y routing a pipeline from the field to the southern coast of Timor-Leste, rather than to Australia's northern coast. This routing would result in the development of port facilities, a liquefied natural gas (LNG) processing plant, and power-generating infrastructure on Timorese soil, and would bring about additional tax benefits from these downstream activities. This development would also make Timor-Leste an attractive location for methanol and fertilizer production. The construction activities associated with this option would generate substantial short-term employment. Yet neither the petroleum exploitation nor the associated chemical industry will be significant long-term sources of employment, as both are intensive in technology and capital rather than labor. 28. It will be critical in both the short and long term to focus on non-petroleum sector growth. In the coming years, the main source of non-oil growth i s likely to be the public sector, and appropriate fiscal policy with a view to aggregate demand management will be an important tool of Government policy. The most effective way to increase non-petroleum GDP and to create jobs in the short term i s through improved execution of the Government's budget, with an emphasis on labor-intensive programs. The proposed CFET budget for FY06-08 includes more Country Context 14 than USD 20 million (almost triple the FY05 amount) in construction expenditures annually, to build schools, health posts, and hospitals, and to rehabilitate and maintain roads. The effective and prompt implementation of these budgeted expenditures would imply the employment of several thousand low-skilled workers in the districts, mostly through the contracting of small- and medium-sizedlocal construction companies or through community works (Box 3). Box 3: Creating Jobs through Implementation of the Capital Development Budget Capital development spending is expected to grow from USD 8.7 million in FY05 to USD 24.4 million in FY06, nearly tripling in size (excluding recapitalization of the BPA). If fully executed, the FY06 capital development budget of USD 24.4 million could create over 3,000 short-term jobs for low-skilled laborers inthe year ahead. This rough estimate is based on the proportional cost of labor in projects implemented under TFET and on an average monthly wage of USD 85. School School HospitaVLaboratory Construction Refurbishment Construction Program Person-Months 180 120 15,908 Labor Cost USD15,300 USD 10,200 USD1,352,137 Total Cost USD 140,000 USD70,000 USD 10,000,000 Labor as % Total 11% 15% 14% USD24.4 millioncapitalbudget x 13% average labor cost sUSD 1,020 average annual wage = 3,108 annualized jobs 29. To address the acute and growing problems of unemployment and low rural productivity more sustainably, the country will need to develop private sector labor-intensive activities, particularly in rural areas where 86 percent of poor people live. Labor-intensive activities can target both internal (food) and external markets (niche products). Coffee, for example, i s Timor- Leste's primary non-petroleum export. Approximately 28 percent of households earn some income from coffee. Approximately one-third of the crop fetches a 20 to 100percent mark-up for high quality, organic, and/or fair trade certification, indicating that there i s ample room for income gains through quality enhancement. Candlenut, organic vanilla, and livestock are slowly gaining importance as export products. An organic coconut oil-pressing plant began production and export to Australia at the end of 2004; the largest new source of rural private sector employment since the restoration of independence, the plant employs 200 workers and buys from more than 1,000 small coconut growers. Teak, sandalwood, bamboo, and rattan are potential forestry products. Eco-adventure tourism, including diving, fishing, and bird-watching, may have some potential as Timor-Leste i s breathtakingly beautiful and still unspoiled. A small flow of tourists has begun to visit Timor-Leste, and there are budding tMrist-oriented services, such as tour operators and dive companies. The Government has recently launched a new tourism promotion website, and Lonely Planet has published the first guidebook for Timor-Leste. The Government has created an overseas employment program and signed an agreement with a South Korean company to send an initial group of 100 to 200 workers abroad in mid-2005. An extension of this program to other countries i s expected to create 3,000 new jobs for Timorese Country Context 15 workers over the next three years. A more aggressive use of labor mobility programs may be hampered b y the low skill level of the Timorese labor force. F.Privateand Financial Sector 30, Private initiative is considered the main source of future employment, but businessfaces formidable obstacles in Timor-Leste. The Government has consistently underlined the need for rapid private sector development, which it sees as the only sustainable form of job creation, a 180-degree turnaround from the Indonesian occupation when the public sector constituted the main source of employment. Five Business Development Centers, supported under TFET, have started training programs on entrepreneurship, but an incomplete regulatory framework, unclear and cumbersome administrative procedures, high costs for labor and electricity, poorly developed infrastructure, and growing corruption pose significant challenges to business development. 31. Znfrastructure is poorly developed, and factor costs are high. The road network, while extensive, i s in very poor condition. Commercial air transport to and from Timor-Leste i s expensive, at between USD 275 and USD 550, and non-existent within the country. However, the first national private carrier began operations between Dili and Kupang in West Timor for USD 100 per return ticket, and increased competition may lead to lower prices. Timor-Leste's electricity supply i s among the most costly in the world at 20cts/kwh for commercial users. Access to electricity in district capitals i s at best limited to a few hours per night, and most of the rural population has no access to power at all. Telecommunications are expensive, with phone calls ranging from 12 cents to 36 cents per minute, compared to between three and nine cents per minute in Indonesia. In rural areas, the mobile telephone network i s patchy, and there are no landlines beyond major towns. Since the UNTAET period, USD 85 a month became an informal minimumwage. Though wages for unskilled labor tend to be lower outside Dili and for small informal companies in the capital, they are several times higher than in the rest of the region even though labor productivity i s low. 32, Solid progress has been made in completing the regulatory framework for private sector development, but the associated administrative procedures are unclear and cumbersome. The law on commercial societies, the insurance law, and the domestic and foreign investment laws have all been promulgated. Laws on payments and bankruptcy are currently under development. While this progress i s laudable, in practice businesses face weak administration and rule of law. The process for business registration i s complex and unclear. Customs procedures are lengthy, creating unnecessary administrative hurdles. Increasingly, businesses also complain of harassment and corruption. The justice system remains particularly weak with regard to the resolution of civil cases. At the end of 2004, the Court of Appeals alone had a backlog of 34 civil cases and had only ever resolved three. A framework law on land and property rights has been promulgated, as has a decree law on the leasing of Government property. The corresponding law on the leasing of private property i s under consideration by Parliament, and laws on land dispute mediation, land rights and title restitution, and foreign owner compliance are in progress. Implementation of these laws will depend significantly on future progress in cadastral work and the registration of titles. Country Context 16 33. Timor-Leste's financial sector, particularly commercial banking, has expanded rapidly since 2003. There are now three commercial banks in operation. Lending i s growing at a fast pace, with a seven-fold increase in bank loans between January 2003 and March 2004. As of January 2005, the largest bank, Banco Nacional Ultramarino (BNU), held USD 63 million in outstanding loans to about 10,000 borrowers, representing approximately 19 percent of GDP. This lending activity has contributed considerably to growth in private and business assets in Dili.Financial services are not widely available outside the capital, although they are growing. BNU has opened offices in two secondary towns, makes monthly visits to all district capitals, and plans to extend branches to all districts by early 2006. Microfinance, which operates mostly outside Dili, i s also gaining momentum, with four specialized microfinance institutions, several savings and credit cooperatives, and an Association of Microfinance Institutions in operation. They hold deposits and loans totaling only about 0.3 percent of GDP, but serve an estimated 20,000 low-income clients. While there are institutions serving the high and low ends of the market, there i s a vacuum in "second-tier" services. The supply of credit for agricultural production and equipment i s the least developed among financial services products. G.Poverty Profile 34. With a per-capita GDP of USD 366, Timor-Leste is among the poorest countries in the world. As GDP per capita has declined, poverty has most likely increased. In 2001, one in five people lived on less than one dollar per day, and two in five lived below the national poverty line. The 2001 Poverty Assessment also documented considerable inequality. The poorest 40 percent of the population had an expenditure share of no more than 18 percent. There i s a significant difference in poverty between urban and rural areas, and across geographic zones. Fourteen percent of the population in the urban areas of Dili and Baucau live below the poverty line, compared to 40 percent in other urban areas and 47 percent in rural areas. Eighty-six percent of poor people live in rural areas, where households experience insufficiencies in rice and corn approximately four months per year, on average. Among rural households, poverty tends to be worse in the highlands, which explains why poverty and other indicators of well- being are worse in the central and western regions than in the less mountainous east. Poverty i s highestin households in which the head of householdi s engaged only in farming (49 percent), as opposed to wage employment (19 percent) or a householdbusiness (17 percent). Country Context 17 Table 2: Indicators of Well-being by Region Source: Timor-Late Living Standards Measurement Surveyfor 2001 data; Demographic and Health Survey for 2003 data. Note: All data are in percentages except "Months with Insufficient RiceKorn." 35, Although gradual progress has been made since the restoration of independence, Timor- Leste lags behind the rest of the region in achieving the MDGs (Figure 5). The Demographic and Health Survey (DHS), the 2001 Poverty As~essment,~and the 2003 Multi-Indicator Cluster Survey (MICS) highlight the daunting social challenges the country faces (Table 2). Two out of every five adults in Timor-Leste are illiterate. Access to education has increased dramatically over time, especially for the poor, with net primary enrollment rates reaching about 80 percent. More poor children and more girls are in school now compared to the situation under the Indonesian occupation. However, net secondary school enrollment i s only 30 percent. About one child in ten never goes to school. Health indicators are improving gradually. Most notably, the mortality rate for children under five has declined from 165 per 1,000 live births in the period 1989-1993 to 83 per 1,000 in the period 1999-2003. Yet half of children under five are stunted, and approximately two out of every five non-pregnant women and one out of every four men have a low body-mass index. HIV/AIDS prevalence i s very low, but the population i s dangerously unaware of the risks. Considerable interaction between high-risk groups such as sex workers and homosexuals and otherwise low-risk groups create clear bridges to the broader population. Four out of five women have never heard of HIV/AIDS, with the ratio only slightly lower for men. Access to water and electricity i s limited, particularly in rural areas, which The Poverty Assessment Project comprised three data collection exercises: the Suco Survey, the Participatory Potential Assessment, and the Household Survey. Analysis of the findings i s presented in Poverty in a New Nation: Analysis for Action. Country Context 18 disproportionately affects poor people. In urban areas, around 70 percent of the population has access to electricity and safe drinking water, whereas in rural areas, access rates are 43 percent for drinking water and 11 percent for electricity. Forty-six percent of the population has no exposure to mass media. Figure 5: Timor-Leste and Regional Progress Toward MDGs Net PrimarySchoolEnrolment2001 BirthsAttendedbySkilledStaff 2001 100 120 7 I 80 60 40 Maternal Mortality2001 Improved Water Source 2001 Access to Electricity2001 i Child Malnutrition 2001 I Measles Vaccination2001 Under 5 Mortality2001 Country Context 19 36. Population growth and movement create formidable challengesfor service delivery. At 7.8 children per woman of child-bearing age, Timor-Leste has one of the highest fertility rates in the world. The corresponding population growth rate i s estimated at well over 3 percent. If this rate i s maintained, the current population of 925,000 i s expected to double in 17 years. Moreover, there has been significant urban migration in the last five years, with Dili's population growing by 39 percent since 2001. In rural areas, some people have left the coastal plains where they were relocated by the Indonesian administration to return to ancestral homes in more remote, highland areas. These factors present tremendous challenges to the delivery of services in health, education, and infrastructure, and enhance the risk of serious environmental degradation. 37. The combination of a rapidly expanding population, inequality, and slow growth indicate that poverty is likely to increase in the medium term. Projections of poverty under various scenarios for GDP growth, inequality, and population growth presented in the Poverty Assessment illustrate the interdependence of these factors. Under a scenario of 4 percent real GDP growth, constant inequality, and an unchanged population growth rate of 2.4 percent, the Poverty Assessment estimates that the poverty headcount would fall from 40 to 30 percent by 2007. However, a scenario of sluggish growth, with all else equal, implies a constant poverty headcount of 40 percent in 2007. Scenarios for rising inequality and population growth, with all else equal, imply a reduction in the headcount to only 35 and 33 percent, respectively. In reality, Timor-Leste faces a combination of sluggish growth, rising inequality, and a rapidly expanding population, implying that the poverty headcount may be expected to increase by 2007. Unless measures are taken to stimulate growth outside the petroleum sector, non-petroleum GDP growth will at best keep up with population growth, seriously limiting Timor-Leste's chances to achieve the poverty reduction MDGb y 2015. In the areas of education, health, and gender, however, the Government i s making steady progress toward achievement of the MDGs. H.Youth 38. Providing a future for Timor-Leste's rapidly growing youth population is one of the country's principal challenges. More than 50 percent of the population i s under the age of 15, with this proportion projected to grow. Urban youth unemployment was 43 percent in 2001, and has probably increased. Many youth lack basic skills, as net secondary school enrollment rates are only 30 percent. Encouragingly, rural youth see activities in agriculture, fisheries, and forestry as promising professions, but there i s an unmet demand for vocational training. Among young women, the DHS has documented a drop in age at first marriage and age at first birth, as compared to previous generations. In addition, some of the most serious health problems mainly concern youth. Cases of trauma following road accidents represent 25 percent of hospital bed occupancy, and about half of these are youth under 25. Youth are easily drawn into gang violence, as witnessed by the growth of martial arts groups; fights between such groups have resulted in destruction of property and several deaths since 2000. Country Context 20 I.Gender 39. Timor-Leste is determined to overcome the numerous social and demographic obstacles to the promotion of equality and gender balance. Timor-Leste has one of the highest maternal mortality rates in the region, estimated at 420 deaths per 100,000 live births in 1999. Only 45 percent of women are literate, compared to 54 percent of men. Although enrollment rates are equal for boys and girls in primary and lower secondary school, a gender gap emerges in higher secondary and tertiary education. The incidence of domestic violence and sexual assault i s high in Timor-Leste. Cases of gender-based violence are being brought to court and have been successfully prosecuted, which represents a significant improvement over the Indonesian era when such cases did not even reach the courts. However, victims face significant challenges in the court system, as witnessed by the large backlog and long processing time of cases brought by women. Women are prominently represented in Government and Parliament. The Senior Minister to the Council of Ministers, who i s also the Minister of State Administration, the Minister of Planning and Finance, and the Vice-Ministers of Planning and Finance, Education, and State Administration are all women. Twenty-six percent of parliamentarians are women, a significantly higher share than in many OECD countries. Reflecting a concerted effort by Government to involve women, several ran in recent local elections, and a number of them were elected. Nevertheless, strong cultural biases are an obstacle to women assuming leadership roles and participating in decision making at community and family levels. 111. TIMOR-LESTE'S DEVELOPMENT VISION 40. Timor-Leste's NDP, SP, and SIPs set forth the Government's vision for national development (Box 4). The NDP was adopted on the eve of Timor-Leste's restoration to independence in 2002, and approved by the Parliament shortly thereafter. It defines sustainable growth and poverty reduction as its overriding goals. Government further sharpened its Box 4: Timor-Leste'sNDP Our NationalVisionfor 2020 - Timor-Leste will be a democraticcountry with a vibrant traditional culture and a sustainableenvironment. It will be a prosperous society with adequatefood, shelter and clothing for all people. Communities will live in safety, with no discrimination. Peoplewill be literate, knowledgeableand skilled. They will be healthy and live a long, productive life. They will actively participate in economic, social and political development, promoting social equality andnational unity. Peoplewill no longer be isolatedbecause there will be good roads, transport, electricity, andcommunication inthe towns and villages, in all regionsof the country. Production and employmentwill increaseinall sectors - agriculture, fisheries and forestry. Living standards and serviceswill improve for all EastTimorese and income will be fairly distributed. Prices will be stable and food supplies secure, basedon soundmanagementand sustainableutilization of natural resources. The economy and finances of the state will be managed efficiently, transparently and will be free of corruption. The State will be based on the rule of law. Government, private sector, civil society and community leaders will be fully responsibleto those by whom they were chosen or elected. itization of medium-term goals in the SP, developed in the wake of the riots in D i in December 2002. The SP prioritizes Government activities under three objectives: good governance, stability through job creation, and poverty reduction through education and health services. As an additional set of planning instruments, Government has recently developed 17 SIPs, which provide detailed plans to guide combined sources expenditure in each sector. The Government i s in the process of establishing joint Government-donor Sector Working Groups (SWGs) for SIP implementation and monitoring. SWGs in agriculture, infrastructure, and health have been launched. 41. TheNDP, SP and SIPs were recently presented to the Boards of the World Bank and the International Monetary Fund (IMF) as a poverty reduction strategy. The Joint Staff Advisory Note (JSAN) commended the comprehensiveness of Timor-Leste's planning instruments, but noted that the NDP poverty reduction goals and targets are over-ambitious. While applauding the genuine efforts to link planning and budgeting, the JSAN suggested that planning and budgeting be linked to monitoring outcomes, and that the SWGs fully develop their monitoring function. I t recommended bringing about improved service delivery through institutional capacity building and partnerships. It highlightedweaknesses in governance as an emerging issue and suggested an early focus on the justice sector and customs administration. It stressed the need for the early enactment of measures to improve the legislative and regulatory environment for businesses. IV. LESSONSOF EXPERIENCE 42. The Bank's early engagement in Timor-Leste has yielded a multitude of information and lessonsfor its work in post-conflict countries. The experience in Timor-Leste has helped to shape the Bank's-and the development community's-thinking on approaches in post-conflict and fragile states. While lessons of experience are still being learned, this section highlights some of the successes and failures, which are equally valuable in guiding the Bank's strategy going forward. A. StrongPartnershipsfor a Whole-of-Government,Results-OrientedApproach 43. From the outset, strong strategic partnerships were forged. In the fall of 1999, a Joint Assessment Mission (JAM) was fielded, which comprised equal numbers of Timorese leaders and representatives from five bilateral donor countries, the European Commission (EC), UN agencies, the ADB, and the World Bank. The J A M identified priority reconstruction objectives across sectors and provided estimates of external financing needs. As a result, TFET was established in December 1999. Guided by the April 2000 TSS, this multi-donor trust fund financed projects in key sectors, including agriculture, economic and institutional capacity building, education, health, small enterprise development, roads, power, water, microfinance, and petroleum sector technical assistance. 44. Timor-Lestepioneered the model of focused assistance in a post-conflict transition on the basis of a Transitional Results Matrix6 Donor partnerships with UNTAET and transitional Governments were guided by an action matrix discussed at the biannual development partner meetings, which were co-chaired by UNTAET and the Bank. The action matrix provided a time- bound framework for monitoring all critical achievements, irrespective of the specific mandates and interests of individual financing partners. Activities were thus able to cover areas of critical importance to the emerging nation that were, for example, outside the Bank's mandate, such as conducting elections, outlining the schedule for adoption of the Constitution, and maintaining security. 45. Since the restoration of independence, the Government has takenfirm leadership over the coordination of development activities and chaired the Timor-Leste and Development Partners Meeting (TLDPM) with the assistance of the Bank. Building on experience with the Transitional Results Matrix, the TSP was guided by an action matrix distilled from the Government's AAPs, which served to maintain the results-oriented approach around a whole-of Government partnership with the donor community. The matrix and the biannual joint donor TSP progress missions became the backbone of policy dialogue between Government and development partners. The Government has praised the TSP for respecting ownership, building capacity in prioritizing interventions, sharing lessons from across the world, exploiting the synergies among development partners, and providing a framework for international accountability. 46. The Bank has earned the trust of the Government and donors in its role as a strategic partner. This i s notable in the context of the Government's adherence to a no-borrowing policy and the Bank's relatively small financial contributions, amounting to about USD 30 million in See UnitedNationsDevelopmentGroup and World Bank, An Operational Note on Transitional Results Matrices: Using Results-BasedFrameworks in Fragile States,January 2005. Lessons of Experience 24 grants between FYOO and FY05. Through its donor coordination efforts, the Bank has leveraged this comparatively small funding to mobilize significant resources from development partners, channeled through multi-donor mechanisms such as TFET and the TSP. Given its close involvement in these coordinated mechanisms, the Bank's achievements are measured by those of the donor community as a whole. Attachment C provides a more thorough assessment of the Bank's program over the past five years, including information on the active portfolio. B. Lessons Learned for the CAS 47. The most pertinent lessons learned, which have been taken into account in the design of the CAS program-and particularly in the principles of engagement by which the program will operate-include : A whole-of-Govemment approach around a results matrix, as embodied in the TSP/CSP is critical to nation building in a post-conflict environment. The Bank's catalytic role in bringing donors together has been crucial in fostering a whole-of-Government approach to development, and should be maintained independent of the Government's borrowing policy. Continued emphasis on donor coordination will be crucial, as the whole-of-Government approach has depended upon active engagement on the part of a broad set of development partners who together support the Government in implementing its policies. The result of this coordination has been far greater than the sum of its parts. Through the whole-of- Government approach, attention will need to be paid to emerging issues that will shape the country's future, notably youth and gender. It is important to strike a balance between addressing emergency needs and planning for the long term. Given the overwhelming demands created by the destruction in 1999, international attention tended to center on the emergency. In many instances immediate, basic needs in particular sectors were met, but the focus on emergency assistance sacrificed longer-term, more integrated, sustainable results (Table 3). With hindsight, it i s clear that sectors that were disciplined early on in planning for the transition, such as health, are reaping the benefits now. They were able to build an institutional architecture, with associated human resources, to anticipate future needs. Long-term planning i s also important to avoid hasty decisions that, down the line, may hinder economic development. Lessons of Experience 25 Table 3: Agency Achievements Key: +++ = clearprogress made; ++ = partialprogress made;+= weak progress made; NA = not applicable Institutional capacity development has been the Achilles ' heel of donor assistance in Timor- Leste. While essential services were re-launched rapidly and physical reconstruction proceeded at a fairly rapid pace, institution building for sustainable service delivery has advanced much more slowly and remains limited. Sector institution building remains a tremendous challenge and needs to be a primary objective going forward, taking into account the varying levels o f progress across agencies to date. As short-term growth andjob creation will depend on more effective budget implementation, an integrated program of capacity building inplanning and financial management, underpinningefforts in all sectors, is needed. At the same time, it will be important to address specific capacity development needs in the context of sector programs. Capacity building has been most effective whenpart of a clearly defined pathfor institutional development. Successful agencies, such as the Ministry of Health, the Banking and Payments Authority, the Ministry of State Administration, and, increasingly, the Ministry of Agriculture, Fisheries, and Forestry, have benefited from strong national leadership with a clear vision, which has in turn strengthened ownership. Early on, these agencies adopted sound policies and strategies and developed institutional and legal frameworks and associated systems and processes, allowing them to function within a well-defined structure in pursuit of clearly specified goals. They concentrated on a small set of sector-wide input and output targets to guide their work. Well-functioning agencies adopted a holistic approach to human resource development, including the deployment of international staff combined with training, both on-the-job and abroad, of national staff within local systems and processes and with an explicit succession plan. They adopted a management culture fostering delegation and empowerment. Finally, these agencies have benefited from joint donor support for a nationwide program of capacity building. Lessons of Experience 26 Improvements in sewice delivery will depend on a stronger results orientation. Despite solid progress since the restoration of independence, results on the ground remain limited, especially in the districts. To curb this situation, SIP implementation will be need to be guided by output and outcome indicators, possibly coordinated in the context of SWGs. The health sector provides a good model for this approach. Successful monitoring and evaluation of outcomes depends on timely, high-quality AAA combined with an effective communications strategy. The more pro-active use of creative partnerships between Government, NGOs, the private sector, and communities i s also important to achieve outcomes on the ground (Box 5). Box 5: Lafaek Improving Education through Creative Partnerships - One of the most successful examples of creative partnerships between the Government and NGOs comes in the guise of a children's magazine. Named "Lafaek" after the country's national symbol, the crocodile, this magazine i s the only mass-circulated publication in Tetun. Reaching an estimated 200,000 school children around the country, Lafaek promotes literacy and provides a variety of information on Government development programs, ranging from nutrition to building roads to strengthening democracy. The magazine also publishes traditional short stories and previously unavailable informationabout the history, geography, culture, and languages of Timor-Leste. Since 2001, 19 editions of Lafaek have been published and circulated, including special issues on agriculture, health and hygiene, and civic education. The magazine i s produced every two months during the school year. A junior edition, Lafaek Ki'ik, has recently been created. Beginning in July 2002, Radio Lafaek was launched on 18 community radio stations, covering similar themes and topics as the magazine and featuring children's music and stories. The Lafaek Project also includes a pen pal program connecting over 500 school classes, comprising about 6,000 children across the country. In remote areas, Lafaek is the only available reading material for school children and thus serves as an important educational tool. Each issue i s accompanied by a teacher's guide that provides more detailed information on key topics as well as suggestions for in-class activities. A team of thirteen field officers ensures distribution to all areas in Timor-Leste by personally delivering magazines on motorbikes. Lafaek is produced and distributed by CARE International in close collaboration with the Ministry of Education, Culture, Youth, and Sports (MECYS), and i s supported by the E C and the TFET-financed Fundamental School Quality Project (FSQP). The Government of Timor-Leste has indicated its interest in taking over funding for this highly successful program of community outreach and education. Source: "The Lufaek Project: A Kid's Magazine becomes the National Favorite," World Bank Country Ofice Website. In a nation-building context where many of the achievements made have been invisible to the population, two-way communication and transparency are critical. Reaching out to actors within and beyond Government i s crucial to building awareness of achievements, generating understanding about obstacles, and creating a sense of belonging. Enhancing the availability of accessible information on the budget and Government operations i s important in sharing progress and in stimulating a country-wide dialogue on development priorities. Strengthening consultation among various agencies within Government helps to ensure consistency in policies and programs. Improving the frequency and quality of public consultations builds popular consensus and ownership over the development agenda (Box 6). Lessons of Experience 27 Box 6: Enhancingthe Impact of Analytical Work through Consultation The National EducationCongress - In October 2003, the MECYS organized the National Education Congress as a precursor to drafting the National Education Policy. The preparation of the Congress was guided by a Steering Committee comprising the Ministry, other important national stakeholders including religious organizations and the National Institute for Linguistics, and development partners. The World Bank contributed to the Congress through the provision of the summary report, Timor-Leste Education: The Way Forward, which consolidated the results of the Primary School Achievement Survey in a clear and readable format, discussing critical challenges in the education sector and laying out strategies for meeting those challenges in the years ahead. The report was translated into Tetun and distributed to congress participants. The congress was meticulously prepared by nine working groups focusing on basic education; secondary and vocational and technical education; tertiary education; non-formal education and literacy; curriculum; teacher training; language of instruction; community participation and private sector involvement; and education finance. The working groups included representatives of Government, religious organizations, national and international NGOs, and other civil society stakeholders. About 600 teachers, headmasters, parents, and other stakeholders, representing schools throughout the territory attended the three-day conference in October 2003 They discussed the nine themes in small groups, formulated I recommendations for the Ministry, and discussed them in plenary sessions. The Congress' recommendations form the basis of the Education Policy, which i s currently being finalized by the Ministry. V. BANKASSISTANCE STRATEGY: CREATING CONDITIONS FOR SUSTAINABLE GROWTH AND POVERTY REDUCTION A. Overview 48. Despite solid progress and excellent performance for a post-conflict country, Timor- Leste faces tremendous challenges to achieve sustainable growth and poverty reduction. In recognition of the multi-faceted challenges facing Timor-Leste, the CAS will continue the whole-of-Government approach in support of the NDP and SP, underpinned b y three strategic pillars: (a) delivering sustainable services; (b) creating productive employment; and (c) strengthening governance. The cross-sectoral issues of youth and gender will be mainstreamed across these pillars. The CAS will also emphasize four principles of engagement across the pillars: (a) buildinginstitutional capacity; (b) deepening the results orientation; (c) strengthening transparency and communication; and (d) consolidating and extending the strong partnerships that have been established with development partners. These pillars and principles received wide support during extensive consultations on the CAS (Box 7).To provide the Government with the assistance it needs to achieve its development objectives, the CAS depends on a continuation of the high levels of donor leverage and coordination achieved thus far. Box 7: CAS Consultations Before developing the CAS, the team held extensive consultations throughout the country, emphasizing remote and poor locations. The consultations were conducted in 40 villages, with participants from at least 110 hamlets, representing 18 sub-districts in 9 different districts. The consultations focused on the Bank's interventions between 2000 and 2004 and revealed that communities put a premium on community involvement in planning, transparency, and use of local labor in executing development programs. People noted an increased awareness of the importance of education since the restoration of independence, and indicated that they would like to see more resources devoted to education at the local level. In health, the mobile clinics were particularly appreciated, and there is considerable demand for more community-level health posts. Participants also expressed appreciation for the wide reach of the Community Empowerment Project (CEP), which has been the only program in Timor-Leste to reach virtually every village and has been described as having reached those "who really needed help.. ." The CEP, which was financed by TFET and which closed in March 2004, was well received for its transparent approach and its participatory planning, reporting, and implementation processes. In refining the CAS, the team held a series of consultations over the draft strategy and results matrix. Stakeholder groups included the Government, Office of the President, the economics and finance committee of the National Parliament, the private sector, international and national NGOs, academics, religious groups, youth, and development partners. Participants expressed broad support for the strategic pillars and principles of engagement. National stakeholders, including NGOs and the private sector, conveyed serious concerns about corruption and its negative effects on service delivery and private investment. International NGOs stressed the need for a stronger focus on delivering services to the districts, combined with improved monitoring and evaluation at the district level. Private sector representatives highlighted the need for training of current as well as prospective entrepreneurs. Various groups provided useful feedback on how better to mainstream youth and gender throughout the program. 49. The approach is deliberately broad-based. Because Timor-Leste is a new country and the challenges it faces are inextricably linked, it i s critical to move forward on several fronts to meet growth and poverty reduction goals. Delivering sustainable services in health and education directly improves human development, while contributing to a better educated and healthier work force. Improved access to electricity and roads i s essential for business development and Bank Assistance Strategy:CreatingConditionsfor 30 SustainableGrowth andPovertyReduction job creation. Creating productive employment for Timor-Leste's rapidly growing population i s essential to maintaining peace and stability. Good governance i s of the utmost importance for the sound management of petroleum revenue, and the Bank will continue to support the Government in implementing its prudent petroleum fiscal and savings regime. Strengtheninggovernance is also critical to ensure the effective implementation of the budget, which i s the chief instrument for delivering services. Improved budget execution can contribute considerably to growth and employment creation in the short-term. Finally, good governance supports private sector development by streamlining and improving the interactions between the public sector and private enterprise. 50. Supporting instruments for the CAS include whole-of-Government programs complemented by sector-specific operations in select areas. The CAS embodies an innovative business model for the Bank's support to Timor-Leste's NDP, SP, and SIPS-despite the Government's no-borrowing policy, the Bank will remain engaged through the coordination of international partnerships, supported by grants and AAA. The CAS will be built around whole- of-Government budget support, delivered through the CSP; a joint donor program for capacity building inplanning and financial management; and sectoral operations in areas where the Bank has built up expertise through TFET: agriculture, education, health, private sector development, and energy. 51. Annual budget support is envisaged to continue under the CSP for an additional three years, from FY06 to FY08. The CSP will continue the TSP's support of the SP pillars: service delivery for poverty reduction, particularly in health and education; job creation through private sector development and agriculture; and good governance, including the establishment of oversight arrangements, the effective implementation of the petroleum sector arrangements, public sector and public expenditure management, and strengthening capacity in the justice sector. Given the importance of basic infrastructure for improved service delivery and private sector development in the districts, the CSP will include activities in the power sector, focusing on electrification in the districts and improved efficiency in Dili; the transport sector, especially road maintenance and capacity in the local construction sector; and the water sector, with a view to improving the water supply and increasing the autonomy of the Water and Sanitation Service (WSS). The CSP will be designed to consolidate the strengths of the TSP approach, while working to improve the balance between ambition and realism and between accountability and service delivery. The CSP will also seek to deepen the results orientation and enhance transparency. 52. In order to confront weaknesses in budget execution, budget support will be twinned with a new whole-of Government multi-donor grant-funded program of capacity building for accountable financial management in support of service delivery. In support of the SIP for Public Sector Management, the Planning and Financial Management Capacity BuildingProgram (PFMCBP) will provide targeted capacity building to the MPF and to financial management functions in line ministries and the districts. Design of this program will take into account past experience in technical assistance and staff training programs, facilitating an effective transition from the current heavy reliance on international staff in advisory and line positions to a longer- term solution. If and when Government budget execution improves considerably, the Bank would consider channeling a higher proportion of its assistance through the CSP and recommend the same to other development partners. Bank Assistance Strategy: Creating Conditions for 31 Sustainable Growth and Poverty Reduction Table 4: CAS Programs7 Activity Delivering SustainableServices Creating Productive Employment Strengthening Governance Consolidation Support ProgramFY06-08 Grants1 _ _ - Lending - New: New: New: Educationfor All Fast Track EC-funded Agriculture Program Planning andFinancial Initiative GEF and BCF Natural Resource ManagementCapacity Building EC-funded Health Program Management Program Energy ServiceDelivery TA: Light Labor Survey (IDF) TA: Strengthening Capacity for Program Poverty Monitoring (IDF) TFET Gas Seep Harvesting TA: Strengthening Parliamentary Project Capacity (IDF) GEF and CDCFEnergy Power Sector Lending OngoingPortfolio: OngoingPortfolio: OngoingPortfolio: TFET FundamentalSchool TFET/EC Third Agriculture TFET SecondPetroleumTechnical Quality Project RehabilitationProgram AssistanceProject TFET/EC SecondHealthSector TFET SecondSmall Enterprises TA: Office of InspectorGeneral Rehabilitationand Development Project (IDF) Project TA: Provedor(IDF) TFET Power SectorPriority TA: Strengthening Public Investments Project ExpenditureManagement (IDF) TA: Public Expenditure ManagementandProcurement Capacity Building (IDF) - New: -New: - New: AAA Population Growth and Rural Growth Strategy Poverty Assessment Challenges Doing Business inTimor-Leste Public ExpenditureAnalysis Youth: Challengesand Options (annual) (annual) Making Services Work for the TA: Business Environment TA: Governance, including Poor TA: Collateral and Credit enhancing demand (Pacific Veterans Policy Paper Registry (FIRST) Facility, EITI) Household FuelStudy TA: Power Regulatory Framework (PPIAF Phase11) Ongoing: Ongoing: Ongoinq: Veterans Clandestino Survey PrivateandFinancialSector Review Strengthening the Institutionsof HealthSector Review Labor MarketStudy Govemance TA: Youth Leadershipfor RegionalFlagshipStudy on Labor TA: Support to NDP (DFID) EconomicDevelopment(PCF) Mobility TA: Youth Policy Development TA: Veterans (PCF) TA: Power Regulatory Framework(PPIAFPhase I) TA: RuralPower Mapping (ESMAP) Support to DoingBusiness in TA: Programs for SMEs, IFC, Timor-Leste (annual) FinancialInstitutions, and PEDF, and Review of Investment Regulators FIAS Opportunities TA: Entrepreneurial Governance TA: Access to Finance, Tourism, Agribusiness, Entrepreneurship Development Activities listed in bold print are new programs; the others are ongoing. Programs in italics are dependent on external events. GEF, CDCF, and BCF programs will be developed if Timor-Leste ratifies relevant international conventions. Power sector lending would only be undertaken if the Government were to change its current no- borrowing policy. Bank Assistance Strategy: Creating Conditions for 32 Sustainable Growth and Poverty Reduction 53. The CAS will also include targeted operations in support of the SIPSin areas where the Bank has built expertise, notably health, education, energy, agriculture, and private sector development.New programs to be launched during the CAS period include an Education For All Fast Track Initiative (EFA/FTI) program, an Energy Service Delivery Program (ESDP), and EC- funded programs in health and, possibly, agriculture. Additional new instruments may include the Global Environment Facility (GEF), Bio-Carbon Fund (BCF), and Community Driven Carbon Fund (CDCF) grant programs in energy and natural resources management, if the Government becomes eligible b y ratifying the associated UN Conventions. If the Government decides to opt for concessionary borrowing, the CAS program would be augmented by a lending program for activities in the power sector with a high financial rate of return. Table 4 lays out the grandlending program and supporting AAA envisaged over the CAS period in greater detail, including ongoing operations in the portfolio. 54. The Bank's financial contribution to the CAS program is based on an indicative IDA allocation of about USD 32 million over a three-year period. Approximately USD 25 million of this amount would be provided on grant terms, with the remaining USD 7 million available as loan financing were the Government to relax its no-borrowing policy. Under the current IDA14 rules, grant eligibility i s determined on the basis of debt sustainability. As Timor-Leste has not accumulated any debt, it would normally be ineligible for IDA grants; however, it was granted exceptional status to avoid a sudden shift of status in comparison with other countries that received IDA13 grants under the post-conflict criterion. The IDA allocation for FY06 i s firm, but will vary in FY07-08 depending on Timor-Leste's performance in outer years. Timor-Leste will receive 100 percent of its allocation on grant terms in FY06, 60 percent in FY07, and 30 percent inFY08, at which point the country is expected to be phasedout of grant eligibility. The amount of IDA allocation has been determined according to Timor-Leste's performance on Post-Conflict Performance Indicators. B. Results Framework 55. The CAS is not merely a strategy for Bank assistance to Timor-Leste, but an agreed strategy among development partners for coordinated support to the country. The CAS results matrix (Annex B9) presents a three-year framework for the development community as a whole. Donor partners have participated in the elaboration of the results matrix and have agreed to work together to achieve the objectives reflected in it. These ambitious goals will only be attainable through the strength of partnerships forged thus far, which will continue to grow and deepen. This collaborative approach is anchored by the multi-donor CSP, through which Government and development partners jointly monitor progress on an annual results matrix of high-priority actions. Though the program i s administered by the World Bank, various development partners take responsibility for supporting different elements of the program, according to their comparative advantage, mandate, interest, and expertise. Donor cooperation in the achievement of CAS objectives will also take shape through joint sector operations coordinated by the SWGs. C. Donor Coordination andPortfolio Management 56. The strong partnerships developed over the transition will be strengthened over the CAS period. Partnerships will be anchored in the CSP and will also be extended to sector work in Bank Assistance Strategy: Creating Conditions for 33 Sustainable Growth and Poverty Reduction support of the SIPS and guided by the emerging SWGs. They, in turn, will be guided by the harmonizationprinciples to which many of Timor-Leste's development partners are committed. Already, a group of development partners i s collaborating in the context of PFMCBP preparation, with a view to adopting a joint Government-donor output framework and implementation arrangements that will minimize transaction costs for the Government and use, where feasible, country systems andprocesses.A similar approachwill betakento designingand implementing the EFA program. In the context of the CSP, donors have agreed to support the improvement of combined sources budgeting by providing the Government with detailed informationon annual and medium-term aid commitments and disbursements, with appropriate classifications and on a time-schedule appropriate to the Government's budget cycle. Table 5 presentsa breakdownof indicativeIDA andother grant funding, as well as associatedfunding by other development partners. Table 5: ProposedGrantLendingProgramandPartnerships,FY06-08 Estimated Fiscal IDA Partner Estimated Year Project Contribution Principal Partners Total Amount (USD millions) Financing (USD millions) (USD millions) Australia, Finland,Ireland, FY06 ConsolidationSupport New Zealand, Norway, ProgramI 0.5 Portugal, United Kingdom, 9.5 10 United States PlanningandFinancial Australia, European ManagementCapacity 10 Commission, Ireland, 20 30 Building Program Norway, Portugal, United Kingdom EC-fundedHealthProgram 0 EuropeanCommission 8 8 EC-fundedAgriculture Program 0 EuropeanCommission 12 12 TFET Gas Seep Harvesting Project 0 TFET 0.3 0.3 Total 10.5 49.8 60.3 Australia, Finland, Ireland, FY07 ConsolidationSupport New Zealand, Norway, ProgramI1 0.5 Portugal, United Kingdom, 9.5 10 UnitedStates Educationfor All Fast Track Ireland, New Zealand, Initiative 9 Portugal, UNICEF 21 30 GEF/CDCF Energy Program TBC TBC TBC TBC Energy Service Delivery Program 4.5 TBC 5.5 10 Total 14 36 so Australia, Finland, Ireland, ConsolidationSupport New Zealand, Norway, FY08 Program111 0.5 Portugal, United Kingdom, 9.5 10 UnitedStates GEF/BCF Natural Resource Management Program TBC TBC TBC TBC Total 0.5 9.5 10 Note: Items in italics are not yet confirmed. Bank Assistance Strategy: Creating Conditions for 34 Sustainable Growth and Poverty Reduction Country Financing Parameters (CFP) for Timor-Leste have been agreed with the Government, which has welcomed the increased flexibility they would provide (Attachment D). D. Strategic Pillars 51. The CAS supports the strategic pillars of the Government's SP as a comprehensive framework for shifting thefocus from post-conflict assistance to sustainable growth and poverty reduction. The three CAS pillars are a slightly modified version of those found in the SP: (a) delivering sustainable services; (b) creating productive employment; and (c) strengthening governance. Cross-cutting issues of youth and gender will be mainstreamed throughout the pillars. Each pillar i s outlined below, with associated CAS outcomes as set out in the results framework. CAS program activities under each outcome are then explained in further detail. Pillar 1:DeliveringSustainableServices 58. The delivery of sustainable services in both urban and rural areas will be essential to achieving the h4DGs and improving the livelihoods of Timorese. The pressure on the social sectors i s growing, as high fertility rates lead to high population growth. The CAS will focus on improving the coverage, quality, and service delivery focus of priority sectors, such as education, health, and basic infrastructure. Particular attention will be given to achieving tangible results on the ground, especially in rural areas. The CAS will work toward the following outcomes: Delivering Sustainable Services CASOutcomes' 9 Increasedaccessto andimproved efficiency andquality ofbasic education* 9 Improved accessto andquality ofprimary healthservices* 9 Improved efficiency of power supply andcollection efficiency innationalcapital to allow greater spending on district power services* 9 Enhancedavailability of reliable, affordablepower inthe districts to support social and economic development * Improved availability of efficient, cost effective, and financially sustainable transport infrastructure to increase connectivity and thus support social and economic development 9 Improved water supply for residents andbusinessesinurbanandruralareas 9 Recognitionof veteransof the resistanceonthebasis of national consultations* 59. In education, CAS activities will concentrate on improving access to and enhancing the egiciency and quality of basic schooling. The Government has made considerable progress in rebuildingthe education system. Most schools have been rehabilitated, teachers are inplace, and student enrollment rates have grown. However, access to education in rural areas i s still difficult, where long distances and lack of transportation prevent some children from enrolling. School fees affect the enrollment of poor children. The efficiency of education i s compromised by late entry, high repetition and dropout rates, and absenteeism among teachers and students. Improvements in the quality of education are also necessary. Student-teacher ratios have decreased but remain high, teacher qualifications are variable, and there i s a lack of familiarity with the official language of instruction, Portuguese. Serious deficiencies in the delivery of learning materials and school facilities compound these problems. Achievement tests show that Outcomes marked with an asterisk (*) represent areas in which the Bank will focus its interventions. Bank Assistance Strategy: Creating Conditions for 35 Sustainable Growth and Poverty Reduction the quality of primary education i s low, particularly in the area of mathematics.' In support of the SIP for education and training, CAS activities will focus on expanding the coverage, efficiency, and quality of education, particularly at the primary and pre-secondary levels, and on building capacity for sector management. These goals will be pursued through the continuation of the TFET-financed FSQP and an EFA program supported by IDA, UNICEF, and EFA/FTI grants and by several bilateral partners. Infocusing on primary education, the EFA program will free up Government resources to focus on other levels of education. At the same time, the CAS will support the development of a costed strategy for rationalization of secondary and tertiary education. The FSQP and the EFA program will provide widespread improvement in access to safe and comfortable learning environments and adequate water and sanitation facilities. Enrollment will be stimulated by the abolishment of school fees combined with the expansion of block grants for non-salary expenditures, and the targeted use of school feeding programs in impoverished communities. The EFA program will focus on improving quality through a program of institutional capacity development, support to policy and planning, curriculum enhancement, learning materials development, bilingual education, a pilot pre-school program to introduce children to Tetun, teacher professional development and deployment, and a focus on critical thinking and problem solving skills. 60. In health, the CAS will work to improve access to and quality and utilization of primary health services. A great deal has been achieved in the health sector in a short time, including the development of a comprehensive policy framework with a priority focus on delivering affordable and effective public health services in the districts and the establishment of a system for district health planning. Health facilities have been reconstructed and health outcomes have improved, but further progress i s needed in expanding immunization coverage, improving maternal and child health, increasing access to family planning services, enhancing awareness of HIV/AIDS, and boosting the currently low utilization of health services. Long distances, poor infrastructure, and the lack of ambulances limit access to health services in remote areas. Mobile clinics have helped alleviate this concern, but these clinics provide limited services on a rotating schedule. CAS activities will aim to expand and improve public health interventions, particularly immunizations and skilled birth attendance, to enhance district planning and monitoring and evaluation of performance, and to strengthen capacity and human resource development in the sector. The CAS will support analysis of health financing options and of the potential role for communities in the management and financing of health services. Bank support will be delivered through the TFET/EC-financed Second Health Sector Rehabilitation and Development Project (HSRDP 11) and an EC-financed and Bank/EC-managed program for implementation of the health SIP. 61. In the power sector, the CAS will work to enhance cost eflectiveness in urban centers in order to free up resources for expansion to rural areas, thereby enabling the development of private sector activities across the country. Much progress has been achieved in ensuring the availability of reliable power services in the capital and in the collection of electricity fees through the installation of pre-paid meters. To support private sector development, there i s an In the context of the 2003 Primary School Achievement Survey (PSAS), third-graders answered 28 percent of questions correctly, on average. Since there were four possible answers to each question, this score i s only marginally better than what students would have achieved if they had guessed throughout the test. See Timor-Leste Education Since Independence: From Reconstruction to Sustainable Development for more on the PSAS. Bank Assistance Strategy: Creating Conditions for 36 Sustainable Growth and Poverty Reduction urgentneed to extend the availability of power to the districts and to lower the cost of electricity nationwide. The Bank will continue its assistance to the power sector through the TFET-financed Power Sector Priority Investments Project, which aims to improve electricity generation, distribution, and end-use efficiency in Dili as well as targeted initiatives to extend power distribution in high-priority areas outside the capital. The Bank will also implement the TFET- financed Gas Seep Harvesting Project (Box 8) and develop the ESDP to enhance the availability and reliability of power services in the districts and strengthen capacity for effective service delivery. The ESDP will serve as the required co-financing for GEF and CDCF grants, for which Timor-Leste will become eligible if it ratifies the UN Framework Convention on Climate Change (UNFCCC). If the Government were to opt for concessionary borrowing, such financing would most likely be applied to high-returnprograms in the power sector. 62. In other areas of basic infrastructure, the CAS will support the development of transport and water supply services, particularly in rural areas. Infrastructure development i s crucial to enabling economic growth, private sector development, and the delivery of priority services such as education and health. Though the road network i s extensive, it i s in poor condition and subject to frequent closures during the rainy season. The rehabilitation and maintenance of roads i s not yet guided by a strategic plan that addresses priority needs and maximizes the effectiveness of scarce resources. According to the SIP on Water Supply and Sanitation, about half the population of Timor-Leste lacks access to a safe water supply, with lower access in rural areas. The CAS will focus on rehabilitation and maintenance of roads and bridges to improve connectivity and reduce the high transport costs that currently inhibit private sector development and service delivery. In the area of water supply, the CAS will help strengthen the legal and regulatory framework, corporatize the WSS, and build capacity to improve the efficiency and coverage of services. The Bank's support to transport and water services will rely on collaboration with the ADB, AusAID, and JICA, who take the leadinthese sectors. Box 8: Harnessing the Power of Gas Seeps Along the rugged southern coast of Timor-Leste, there are several areas where natural gas is seeping through the earth and escaping into the atmosphere. Several of these gas seeps have been burning for decades, while those that are not yet burning are releasing harmful greenhouse gases. For every cubic foot per second of gas produced, these natural seeps could produce 250 kW of power generation for about 25 years. Harvesting the emissions from the nearly 30 gas seeps could therefore support electricity generation in major population centers in the southern part of the country, notably Viqueque and Los Palos. At the same time, gas seep harvesting will provide considerable environmental benefits by reducing greenhouse gas emissions, which contribute to global warming. If Timor-Leste were to ratify the UNFCCC, these activities could potentially earn the country carbon credits, brokered through the Bank's Carbon Fund Unit. Proceeds of carbon credits are normally paid on delivery, typically over a ten-year period. However, a portion may be payable up front, enabling the purchase of power generation and transmission facilities (or transport of compressed natural gas) in district centers and rural communities. A demonstration gas seep harvesting project and an associatedpower plant are a key feature of the power sector and natural resources and environment SIPS.The Government has therefore requested that TFET funds be used to finance the Aliambata Gas Seep Harvesting project, located in the Aliambata sub-district of Viqueque and administered by IDA. The project has subsequently been accepted by the Bank as a candidate for carbon financing. Based on this acceptance, Japan Special Financing for climate change activities was obtained to assist inpreparation of the project. Preparation activities underway include: (a) conducting a technical study to sample and test the Aliambata gas seep and subject to satisfactory results design permanent gas seep harvesting facilities; (b) carrying out a technical study on the potential for use of gas to provide power to district and sub-district centers either through transmission of power from a central generation plant, or transport of compressed natural gas to distributed power plants; and (c) community consultation activities to inform decision making in these areas. Bank Assistance Strategy: Creating Conditions for 37 Sustainable Growth and Poverty Reduction 63. In support of social development and integration, the CAS will support efforts to recognize arrned and civilian veterans of the resistance. There has been significant progress toward the creation of a Veterans Law, and the CAS will continue to assist in the participatory development o f policies and legislation on the recognition of veterans. The CAS will also support the completion of the veterans database, transfer of the database to the National Veterans Directorate, and specific recognition measures. The Bank's support to Timor-Leste's veterans will draw upon the CSP and grant financing from IDF and the Post-Conflict Fund(PCF). 64. To support the above outcomes, AAA will target issues in each key sector. An ongoing Health Sector Review focuses on: (a) the determinants of health outcomes; (b) options to improve the sustainability of Government programs and tap capacities in the non-Government sector; and (c) definition of priority actions to reduce the burden of disease. A study on Making Services Work for the Poor, based around the results of the upcoming Poverty Assessment, will explore scenarios for reaching the poor in education, health, water supply, electricity, and other basic rural services, including through public-private partnerships. The CAS will support an analysis of the implications of rapid population growth for service delivery and job creation. A specific study will canvass the challenges facing youth and offer possible solutions, with particular attention to the growing problem of youth unemployment. The Bank will continue to finance the development and implementation of a youth policy through an ongoing PCF grant. Work in the energy sector will be reinforced by a study on household fuel and technical assistance for the development of a power regulatory framework. Pillar 2: Creating Productive Employment 65. The creation of productive employment is fundamental to CAS efforts in support of sustainable growth and poverty reduction. In a context of rapid population growth, relatively low education coverage, and a large number of youth entering the workforce, the creation of jobs will be critical to reducing poverty and maintaining stability. Significant action i s needed to enhance the business enabling environment, to expand credit, to improve business skills, to transfer technology for producing marketable goods, and to build the associated marketing chains. Together with access to electricity and roads, this i s key to the development of the private sector and the creation of jobs. In the short term, jobs will need to be created through the implementation of capital works programs-both Government and donor financed-and the related promotion of the local construction industry, and through an emigrant workers program. The CAS will support the creation of productive employment through targeted efforts in private sector development and agriculture, working toward the following outcomes: Creating Productive Em loyment CAS Outcomes I t P Jobs created directly through budget implementation and overseas employment programs* P Improvedprivate sector enabling environment, resulting in increased trade, investment, andjobs* P > Improved access to credit for private investment and working capital* Strengthened ownership rights through improved policies and systems for land titling and sale of state- owned property 9 Enhancedsustainable resource management* P Building blocks for improved food security and food production inplace* P Enhanced business-oriented production of agricultural products* loOutcomes marked with an asterisk (*) represent areas in which the Bank will focus its interventions. Bank Assistance Strategy: CreatingConditionsfor 38 SustainableGrowth andPovertyReduction ~ ~ ~~ ~ ~ ~ ~ ~~~~ 66. The CAS will support direct job creation in two targeted ways. First, a program of overseas employment has been initiated and i s expected to create 3,000 new jobs for Timorese workers over the CAS period. Second, the effective and prompt execution of the Government's rapidly growing budget, with an increased focus on labor-intensive programs, will contribute to the creation of several thousand low-skilled jobs annually. The implementation of construction activities supported under various Bank projects in sectors such as education and health, will also help to alleviate the severe unemployment problem. The PFMCBP will provide assistance in designing and implementing labor-intensive public works programs like the Government's community roads maintenance program, allowing for an increasing budgetary allocation towards such programs. Through an IDF grant, the CAS will help to identify bottlenecks in the execution of the capital development budget, and the PFMCBP will assist in addressing these constraints. Pending the effectiveness of these measures, the implementation of CFET capital development programs will be helped by harnessing the capacity of local and international staff currently deployed in TFET programs. The impact of all these activities on job creation will be monitored through the CSP. A new IDF grant will be devoted to building capacity for the regular completion of a light labor survey. 67. To promote private sector development, the CAS will support measures to create an enabling environment for business development and private investment. Remaining gaps and uncertainties in the legal and regulatory framework governing the private sector are an important reason for the slow rates of domestic and foreign private investment. Added to this are the difficulties experienced by entrepreneurs in dealing with an inexperienced bureaucracy. Reports of corruption are becoming more frequent. The CAS will support improvements to the business registration process and the enactment and implementation of laws on investment, leasing, credit, and collateral along with the necessary implementation regulations and strengthening of supporting institutions. The CAS activities will support training programs for civil servants as well as awareness and capacity-building programs for existing and prospective entrepreneurs through the Business Development Centers and private educational institutions, with a special emphasis on women and youth. Assistance will also focus on the creation of a structured Business-Government dialogue, through which publidprivate working groups will tackle key constraints in the business environment. The Investment and Export Promotion Agency will be supported with the intention of promoting foreign direct investment andjob creation. Key areas, such as eco-tourism, niche markets for non-traditional products, and agribusiness will be targeted. Bank support to private sector development will continue under the TFET-financed Second Small Enterprise Project (SEP 11). 68. To stimulate local investment, the CAS will work to improve access to credit and security of land and property rights. Insufficient availability of credit and a lack of clarity in land and property rights, especially for smaller businesses in rural areas, and for women and youth, are key constraints to job creation. The CAS will support the development of a credit and collateral registry, training and support programs for microfinance institutions, and expansion of existing commercial banks to rural areas. Ownership rights will be strengthened and a functioning market developed in land through approval of necessary laws and the creation of a land titling system. Through the CSP, the Bank will support Government efforts to develop credit and ownership rights. Bank Assistance Strategy: Creating Conditions for 39 Sustainable Growth and Poverty Reduction 69. The International Finance Corporation is expected to launch operations in Timor-Leste during the CAS period. The IFC proposes to establish and implement a five-year technical assistance program in Timor-Leste through the Pacific EnterpriseDevelopment Facility (PEDF), which will seek the approval of its donors to expand into Timor-Leste. The program's objective will be to build upon work undertaken by TFET to improve the business environment for small and medium enterprises (SMEs), focusing on access to finance, tourism, agribusiness, and entrepreneurship development. PEDF will collaborate with the Bank to address issues identified in the Doing Business report and will refer possible investment opportunities to IFC. All programs will be designed to: (a) facilitate investments in the priority sectors; (b) complement and work in partnership with existing donor programs; (c) tackle obstacles in the business environment; (d) integrate considerations of sustainability, including environment, gender, and governance; and (e) identify clear metrics for effective monitoring and evaluation, including outputs, outcomes, and impact. PEDF will locate staff in the Dili office of the World Bank. The Foreign Investment Advisory Service (FIAS), a joint IFC-World Bank initiative, will also complement work undertaken in these areas. 70. In the agriculture sector, the CAS will support a series of measures to ensure sustainable resource management and improve food security, recognizing their importance for enhancing the availability of productive employment. Impediments include macro-economic factors such as monetary and trade policy, wages, and prices; lack of a policy or legal framework or necessary information base to facilitate development; inadequate technology; and insufficient skills. The CAS will support the development of a legal and regulatory framework for forestry and fisheries, including the identification of protected areas, as well as the development and implementation of a fisheries licensing system with a rigorous system of monitoring and control. Needed improvements in food security have been constrained by a lack of information on production techniques and insufficient access to high-quality inputs and credit. The CAS will assist Timor- Leste in developing a food security strategy, establishing a system for testing and distributing traditional and non-traditional crops and production technologies, and enhancing agricultural extension services, with particular emphasis on women. The CAS will also contribute to the establishment of a functional system for the collection of statistics in agriculture, forestry, and fisheries, in collaboration with the University of Timor-Leste and the Food and Agriculture Organization. A key priority will be to strengthen the capacity of the Ministry of Agriculture, Forestry, and Fisheries (MAFF) to act as an effective service provider, despite the challenge posed by the small number of staff in the ministry. The Bank's main activities will be carried out through the TFET and EC-funded Third Agriculture Rehabilitation Program (ARP III)and possibly a new EC-funded agriculture program. If Timor-Leste becomes eligible for GEF and BCF activities through the ratification of the UNFCCC and the UN Convention on Biological Diversity, there i s great potential for the Bank and other development partners to assist with nature conservation, biodiversity preservation, and prevention o f land and watershed degradation. 71. The agriculture sector also provides the greatest potential for domestic private investment andjob creation. Through the CSP and ARP 111, the Bank will work in a coordinated way to help the Government enhance the business orientation of the sector through the identification of potential markets, development of high-value and niche products, and establishment of mechanisms for coordination and information sharing between MAFF and the Investment and Export Promotion Agency. Bank Assistance Strategy: Creating Conditions for 40 Sustainable Growth and Poverty Reduction 72. To support the above outcomes, targeted AAA will provide critical insights into the creation of productive employment. Ongoing work, including a labor market study and a Private and Financial Sector Review, will be completed. The upcoming flagship study on labor mobility in the Pacific will include Timor-Leste as a focus country. Beginning in 2005, an annual update of Doing Business in Timor-Leste will be produced. The Bank may also provide technical assistance in creating an enabling environment for business development, in coordination with development partners such as the ADB and USAID. Given that rural growth will be the key to overall economic growth, the CAS will support the development of a Rural Growth Strategy encompassing rural infrastructure (power, roads, water) and agricultural development, with special attention to rural youth aspirations, rural-urban migration patterns, environmental impact, and opportunities for micro-enterprisedevelopment. Pillar 3: StrengtheningGovernance 73. Strengthening governance is a critical objective over the CASperiod, as the nation's new institutions are consolidated and the oversight arrangements foreseen in the Constitution established. The Government has expressed its commitment to develop institutions of good governance and build integrity in the State, and appreciates there i s only a short window of opportunity to prevent corruption from taking root. Buildingon progress made in nation building and institutional development, there i s a need to strengthen the checks and balances envisioned in the Constitution and to tackle emerging corruption. While recognizing that building good governance requires a long-term approach, the CAS will support activities both within and beyondthe Executive, with a view to achieving the following outcomes: Strengthening Governance CAS Outcomes" P Safeguards against corruption and abuse of power in place, with increased awareness of citizens' rights* P Transparency and probity in managing petroleum revenues* P Improved access to justice, with enhancedquality and efficiency P Enhanced motivation and responsibility among civil servants, resulting inhigher standards of probity and service delivery* P Sound policy and legislative process across Government* P Strengthened capacity to manage for and monitor results on the ground, with particular attention to women and youth* P Improved implementation of budget ina transparent manner, inline with savings policy and sustainable growth and poverty reduction goals* P Enhanced revenue performance through streamlined procedures and mechanisms* 74. In promoting good governance, the CAS will support the development of safeguards against corruption and abuse of power, and work to increase awareness of citizen rights. Ensuring integrity will require building the capacity of countervailing State institutions and civil society organizations to demand good governance. The CAS will work to strengthen the capacity of the Parliament, oversight institutions, and the media, which are weak in comparison to the Executive. The CAS will support efforts to train Parliamentarians in the principles and techniques of budget analysis and monitoring and to strengthen independent audit arrangements. The CAS will assist in making the Office of the Provedor operational. The CAS will support the development and adoption of a Leadership Code in each branch of the State as a means to build ''Outcomes marked with an asterisk (*) represent areas in which the Bank will focus its interventions. Bank Assistance Strategy: Creating Conditions for 41 Sustainable Growth and Poverty Reduction integrity in the system. Such codes for high officials who are not public servants, would cover responsibilities of office and list acts of misconduct. They may include guidelines with respect to conflict of interest and the disclosure of such interests. To support these activities the CAS will draw upon grant financing from the Institutional Development Fund (IDF), the AusAID- financed Pacific Facility, and the EITItrust fund. 75. A principal focus of the CAS will be the prudent and transparent management of petroleum revenues to help ensure the sustainable wealth of current andfuture generations. The CAS will make use of grant financing from the EITI trust fund to support mechanisms for regular audits of company payments and petroleum fund receipts, for the publication and dissemination of information on the petroleum fund in an accessible format, and for stakeholder workshops. The CAS will also bring assistance to the Consultative Council to the Parliament and Investment Advisory Board to the MPF foreseen in the draft Petroleum FundAct. The sector will be supported through the TFET-funded Second Petroleum Technical Assistance Project and the PFMCBP. 76. In thejustice sector, the CAS will work to improve access, quality, efficiency, and gender awareness. Access to justice remains limited. Though progress has been made in reducing illegal detentions by the police and in reviewing court and prosecution backlogs, case management i s inadequate and access to justice remains slow and inconsistent. Low institutional and individual capacity i s a critical factor across the system, and there i s a need to improve gender sensitivity in the application of justice. Through the CSP and in collaboration with UN agencies and bilateral development partners, the CAS will support efforts to establish the Superior Council for the Prosecution, to ensure that the Superior Council for the Judiciary i s fully staffed, to reduce prosecution backlogs, to improve gender awareness in the justice system, and to formalize traditional mediation mechanisms where appropriate. The CAS will also work to improve community and gender awareness in the National Police and to strengthen the independent investigation of complaints against the police to foster good conduct and trust among the population.'* 77. Within the civil service, the CAS will support measures to enhance the motivation, responsibility, probity, and service delivery focus of staff and managers. Good systems will need to be supplemented with mechanisms to ensure integrity in leadership and discipline in the public service. Through the CSP, the CAS will support efforts to introduce a career development and pay structure, build awareness of how to handle conflicts of interest when they arise, and gradually introduce the declaration of income and assets for senior officials in high-risk areas, in order to demonstrate that high-level staff are not benefiting improperly from office. Drawing upon an existing IDF grant, the CAS will provide assistance to the Office of the Inspector General in conducting inspections and investigations and publicizing reports. 78. In support of institution building, the CAS will assist in strengthening the policy and legislative development process. As a new country, creating new laws and policies forms a considerable part o f the Government's work program. Greater prioritization and clarity in the IDA provides support to and monitors only those activities in the joint CAS that are within its mandate; activities related to the strengthening of the national police force and associated judicial activities are supported and monitored by bilateral partners, principally through the CSP. BankAssistance Strategy: CreatingConditions for 42 SustainableGrowth andPovertyReduction timetable for legislative processing, along with public consultation on key laws, will be critical. Through the CSP, the CAS will assist in creating and implementing a clear process for policy and legislative development, availability of draft laws, and mechanisms for public consultation on key pieces of legislation. The delivery of training manuals and workshops will also be supported. 79. To promote results orientation, the CAS will work toward improved monitoring and evaluation. The Government continues to make progress in establishing basic structures and processes for the monitoring and evaluation of public sector activities, but there i s room for improvement in assigning explicit responsibilities and accountability for monitoring and evaluation, providing targeted training in data collection and analysis, and enhancing coordination across Government. The CAS will assist in strengthening capacity for monitoring and evaluation of results, principally by conducting a Participatory Poverty Assessment and supporting the incorporation of results into future poverty reduction strategies. Other activities will include providing support to the National Statistics Directorate on data collection and analysis through an IDF grant, assistance in adopting the Ministry of Health's monitoring approach in other ministries, improved monitoring of budget outcomes, and efforts to ensure inter-ministerial coordination and information sharing on monitoring and evaluation activities. 80. In the area of financial management, the CAS will support improvements to budget implementation and revenue performance with a view to increasing access to high-quality services, creating low-skilled jobs, and enhancing probity and transparency in the management of public resources. The Government has made impressive progress in establishing good systems for planning and budgeting,but heavy centralization of decision-making authority has hampered the execution of the budget, which i s hindering service delivery and job creation. The CAS will support efforts to introduce careful delegation of decision-making authority in expenditures and procurement, accompanied by appropriate measures for ex-post accountability. CAS activities will focus on strengthening the availability of budget information, both on the part of Government in reporting to Parliament and providing information to district staff, and on the part of donors in contributing data on indicative funding commitments. In the area of revenue management, the CAS will work to ensure improved collections through streamlined customs procedures and institutional capacity building in the East Timor Revenue Service and Timor Sea Tax Division. Through the PFMCBP, the CAS will support a broad program of capacity building in planning and financial management in MPF, line ministries, and districts (Box 9) aimed at effective and prompt budget execution, including for labor-intensive programs and with specific attention to the execution of the capital development budget. 81. To support the above outcomes, AAA on public expenditure management and building the demand for good governance will be undertaken. The AAA program includes a new Poverty Assessment, and regular fiduciary assessments and public expenditure analysis focusing on budget implementation. The CAS also includes analytic and advisory support to the media and civil society organizations. These initiatives will be carefully defined in complement to the activities undertaken by other donors. Bank Assistance Strategy: Creating Conditions for 43 Sustainable Growth and Poverty Reduction I Box 9: BuildingCapacity for Planningand FinancialManagement A sound public financial management (PFM) system that harmonizes planning, budget elaboration, and budget execution processes is essential to supporting economic growth and effective service delivery while ensuring proper accountability. Though the core expenditure management system in Timor-Leste compares favorably with that of other low-income countries on most criteria, capacity for PFM and understanding of relevant systems and processes remain weak, resulting in slow budget execution, with heavy costs to service delivery and job creation. The Government of Timor-Leste has therefore requested assistance from its development partners to jointly elaborate a program of capacity building in planning and financial management. The proposed PFMCBP aims to strengthen the capacity of staff in MPF and in financial management functions in line ministries and districts. Program activities will be designed around the capacity-building framework currently used by the Capacity Development Coordination Unit under the Office of the Prime Minister for civil service-wide capacity building, which i s structured around three interrelated pillars: systems and processes, attitudes and behaviors, and skills and knowledge. The emphasis on systems and processes is meant to ensure that institution building, as well as transparent and efficient IT and procedural systems, are given adequate attention alongside the acquisition of individual skills and knowledge and the development of attitudes and behaviors that are conducive to a culture of public service and integrity. Within these three pillars, the program will also seek to emphasize the following principles: performance orientation, flexibility, sequencing, and Government ownership. The program's design will reflect the Government's overarching goals for the PFM system, as defined during an inter-ministerial workshop in November 2004: (i)a strategic approach to planning and budgeting in support of the country's poverty-reduction strategy including creation of low-skilled jobs; (ii) realism and sustainability of plans and budgets; (iii)eflciency and effectiveness in providing value-for-money and supporting service delivery; (iv) participation, through which relevant stakeholders are involved in decision-making; (v) transparency, both internal within the Government and external to the public, with information available in readable and useable formats; (vi) accountability, including strong systems for control, monitoring, reporting, and auditing; and (vii) evidence-based decision making, where adequate information i s produced and used for expenditure policy and management purposes. The program will support the continuation of international staff, twinned with Timorese counterparts, in key areas related to planning and financial management. Local and international training will be provided to develop the basic professional qualifications of local staff, including management and leadership skills as well as technical skills in accounting, macro-economics, budgeting, public finance, revenue management, and project management. The program will also include on-the-job training to build the capacity of staff to performtheir daily tasks. I t is proposed that the program, which i s expected to run for five years, be structured as annual programs integrated within a medium-term framework. Each year, a plan of capacity-building activities to meet priority needs would be elaborated in a participatory manner for each MPF unit and for planning and finance functions of line ministries and districts. Agency-specific objectives would be supplemented by cross-cutting areas requiring support. Bank Assistance Strategy: Creating Conditions for 44 Sustainable Growth and Poverty Reduction ~ ~~~ Box 10: Principlesof Engagement for the CAS CAS implementation will be guided by four principles of engagement. Based on the lessons learned so far, the following principles will be applied in the selection, design, and implementation of activities: building institutional capacity, deepening the results orientation, strengthening transparency and communication, and consolidating and extending partnerships with donors. New operations will apply the four principles of engagement, and if necessary, ongoing operations will be restructured to reflect these key principles. CAS activities will support the principles of engagement in the following ways: Building Institutional Capacio Aligning capacity-building interventions with human resource development plans anchored in sector policies, strategies, and SIPSto ensure that activities respond to each sector's long-term vision Adapting institutional capacity-building initiatives to the varying level of maturity of sectors Adopting a holistic approach to capacity building, linking improvements in systems and processes, attitudes and behaviors, and skills and knowledge Supporting initiatives to develop management skills and strengthen leadership across the public service Developing creative approaches to capacity building that maximize learning opportunities without removing staff from public service, such as virtual learning combined with face time utilizing the Dili Distance Learning Center Training and mentoring international advisers to support them in enabling their counterparts to fulfill their roles, with the aim of gradually transferring full responsibility to national staff Ensuring adequate incentives including pay structures Deepening the Results Orientation Focusing increasingly on sector-wide rather than project-specific monitoring, and with a focus on gender and youth Replicating the health sector approach to monitoring a small set of outputs and outcomes as well as inputs Linking monitoring to planning and budgeting Strengthening capacity for data collection and monitoring at the district level to sharpen attention to challenges facing service delivery inrural areas Supporting the development of creative partnerships between Government, donors, and other stakeholders to achieve early results on the ground Strengthening Transparency and Communication Helping the Government to implement proactive two-way comynication and information activities to foster inclusiveness and improve awareness of results Supporting efforts to publish the budget and information on budget execution in a format that i s accessible to the public, including in the districts Conducting workshops for Parliament, NGOs, media, and youth on petroleum revenue management arrangements and other pertinent topics Continuing to sponsor interactions with the youth group that participated in CAS consultations to discuss development issues in monthly meetings Keeping studies short or providing accompanying summaries, translating written materials into Tetun, and proactively disseminating through workshops Consolidatingand Extending Partnerships Organizing joint donor missions, simultaneously if possible, for the CSP and PFMCBP to monitor progress and engage in constructive dialogue with Government and other stakeholders on program priorities Developing a working group on harmonization and adopting joint output frameworks and streamlined implementation mechanisms for PFMCBP and EFA Actively participating in the SWGs in the sectors of Bank engagement VI. RISKSAND MITIGATIONMEASURES 82. The implementation of both Timor-Leste's NDP and the Bank's assistance strategy is subject to a number of risks. Given the whole-of-Government character of the CAS, the risks faced by the Government and the Bank are largely the same. They include (a) fragile Government implementation capacity; (b) increased public dissatisfaction with Government and the associated emergence of civil unrest and deterioration in security; (c) worsening of governance and an entrenchment of corruption; (d) fragmentation of donor assistance. 83. Government implementation capacity may not improve fast enough to curb the increase in poverty. Non-petroleum growth, job creation, and poverty reduction depend critically on the effective and efficient implementation of Government's rapidly growing budget with a focus on service delivery in the districts. Since the Government i s keen to see public services delivered predominantly by State institutions, achieving this will demand a drastic improvement in implementation capacity. The CAS i s designed to mitigate this risk by focusing squarely on capacity building across Government for planning, budget execution, and monitoring for results. Short-term measures will include the deployment of international staff and on-the-job training in systems and processes. The CAS will also target longer-term measures leading to enhanced motivation and responsibility of civil servants, such as adequate incentives, training in leadership, management, attitudes and behavior, and the streamlining of systems and processes. Special attention will be given to the implementation of the capital development budget, which has a direct impact on employment across the country, for example through budgeted construction activities. Cross-agency capacity building will be complemented by institutional capacity buildingin key sectors, targeted to the level of maturity of the sector. The CAS will also encourage the extension of creative partnerships with NGOs, the private sector, and communities to increase the pace of implementation. 84. Thepopulation may become increasingly dissatisfied with Government resulting in civil unrest and a relapse into conflict. High unemployment, rapidly growing youth cohorts, increasing corruption, inexperienced security services, and a lack of popular empathy with the challenges faced by the Government all contribute to an environment in which violence may re- emerge, even if this remains unlikely. The CAS will seek to mitigate this risk by focusing on job creation, both through the effective implementation of Government's growing capital expenditures, and by improving productivity and market orientation in the rural areas, supported by improvements in rural infrastructure. The CAS will seek to understand and start addressing the challenges posed by the youth bulge. Through partnerships with other donors, institutional capacity building for security services will remain an area of focus, as well as the adequate recognition of armed and civilian veterans of the resistance. Finally, the CAS will support the Government in fostering a constructive dialogue with the public, to enhance mutual understanding, manage expectations, and improve services. 85. As petroleum revenue comes on stream, governance may worsen and corruption may become endemic. Timor-Leste's petroleum resources create huge governance risks, as can be seen from the experience of resource-rich countries across the globe. To date, the Government has consistently followed a policy of transparency with regard to petroleum revenue management, adoption of a state-of-the-art petroleum revenue savings policy and fiscal regime, and anticipation of EITI principles. Overall, it i s recognized that the Executive i s so far the Risks andMitigationMeasures 46 strongest branch of the State and that effective checks and balances are needed to create a fully democratic, pluralistic, and accountable state. At the same time, the history of 24 years of Indonesian occupation implies that few people can refer to experience with a successful model of governance. With elections anticipated in 2006 or 2007, this may be exacerbated by populist pressure to relax fiscal discipline. Timor-Leste is committed to ensuring that the oversight and accountability institutions laid down in the Constitution are put in place as fast as practically possible, and to creating an efficient and disciplined administration. The CAS will seek to mitigate this risk by helping to strengthen the emerging governance architecture, while working to enhance the demand for good governance through improved transparency and enhanced capacity in media and civil society. 86. Donor assistance may become fragmented, putting further strains on the Government's weak implementation capacity. As multi-donor arrangements such as TFET are giving way to bilateral interventions, the benefits of close coordination may be lost and the cost of interacting with donors may increase, causing Government to focus on compliance with donor procedures rather than on strengthening its own systems. The CAS will mitigate this risk by helping the Government to consolidate and deepen the current strong partnerships around an improved combined sources budget. The whole-of-Government CSP will continue to be the primary forum for policy dialogue with the community of development partners. The CSP will be twinned to the cross-agency PFMCBP, supported by a host of donors. In addition, the CAS will seek to support close partnerships around the SIPS and the SWGs, pursuing synergies between donor programs in the sectors. This may include jointly implemented sector programs or formal agreements to support the same goals under an umbrella of programs and deploy harmonized procedures. Sectors of emphasis for improved partnerships will be health, education, agriculture, and energy. Attachment A - Budget Execution 1. Though Timor-Lesteperforms very well in fiduciary accountability, this comes at a high cost to service delivery as budget execution is very low. Core expenditure management systems compare favorably with other low-income countries, meeting 12 of 15 public expenditure management benchmarks established by the Highly Indebted Poor Countries (HIPC) Initiative (Table A.l). Yet the potential benefits of these strong systems are offset by critical bottlenecks in budget execution. Though commitment levels are reasonably high across all expenditure categories, with total expenditures (cash plus commitments) averaging 93 percent in aggregate terms inFY04, the picture i s significantly different for actual cash expenditures. InFY04, budget execution reached only 75 percent on a cash basis, down from 95 percent in FY02. As of end- March 2005, only 48 percent of budget appropriations were spent on a cash basis. When annualized, this figure corresponds to an estimated budget execution rate of 64 percent on a cash basis inFY05. Table A 1:Timor-Leste's Performanceagainst HIPC Public ExpenditureManagement Indicators Indicator Bench- Mark Timor-Leste HIPCe Fiscalinformation associatedwith the budgetmatchthe GFS .. A A B Govemment activities not significantly funded through extra-budgetaryresources A A A Budget outtum relatively close to the original budget's appropriation B C B Identification of poverty reductionspending A B B Donor funds includedin Govemments' budgets A A B Budget classifiedon an administrative, economic and functional basis B B B Integrationof mediumterm forecastsinbudgetcycle A A C Small stock of expenditurearrears at the end of the last financial year A A A Intemal audit function active A A B Intemalcontrol supplementedby public expenditure trackingsurveys B B C Govemmentbank accounts reconciledwith the accountingrecords A A B Budget tracking reportsfrom line ministries& treasury received within 4 weeks B A B In-yearbudgetreports presentspending on a functionalbasis A B C Accounts closedwithin two months after the end of the fiscal year A A B Audited accountspresentedto the legislature within 12months B A C Key: A = Core PFM element meets the relevant objective in a complete, orderly (predictable, authorized, in accordance with procedures), accurate, timely and coordinated way. B = Core PFM element is generally operating in an orderly and timely manner but lacks completeness, coordination, compliance and/or accuracy in some limited respects.C = Core PFM elementi s working at a rudimentary level, but there are some significant weaknesses in terms of completeness, coordination, compliance, accuracy, andor timeliness. D = There are very substantial weaknesses in the operation of the relevant core PFM element. Source:World Bank,The DemocraticRepublicof Timor-kste Public Expenditure Review, Washington DC: World Bank, July 19, 2004. 2. DifSiculties in budget execution are most pronounced for capital development spending. Across all ministries, the execution of capital development budgets has been problematic, averaging around 10 percent on a cash basis in FY03 and FY04 (Table A.2). Based on expenditures through March 2005, capital spending i s currently on track to reach only 8 percent inFY05. This is of particular concern in key sectors where capital spending is crucial, including school construction and roads rehabilitation and maintenance. Capital development spending in the Ministry of Transport, Communications, and Public Works amounted to only 5 percent of appropriations on a cash basis in FY04, and in the same year, zero capital development spending took place for the MECYS. Budget execution in the area of minor capital has been slightly better, though actual cash expenditures averaged only 29 percent of appropriations in FY03 and 53 percent in FY04. Minor capital spending during the first three quarters of FY05 projects an average of 21 percent for the entire fiscal year. 48 Attachment A Table A 2: Budget Execution by Expenditurecategory(9%) FY2003 FY2004 FY2005 Estimate Expenditure Category Total Cash Total Cash Total Cash Salariesand Wages 92 92 92 92 89 89 Goods and Services 105 87 94 77 83 61 Minor Capital Expenditure 98 29 91 53 63 21 Capital Development 100 11 94 9 85 8 TotalExpenditure 100 75 93 75 85 64 3. There are important gaps in goods and services expenditure in key sectors. The execution of goods and services expenditures i s variable across ministries,but average spending on a cash basis has declined from 87 percent in FY03 to 77 percent in FY04 and, as of March 2005, was projected to be only 61 percent in FY05 (Table A.3). Actual spending on goods and services was particularly low in MECYS (29 percent) and the Ministry of Development and Environment (33 percent). Table A 3: Budgc FY2003 FY2004 1 FY2005 Estimate MinistrieslPrograms Office of the President National Parliament Office of the Prime MinisterandCouncil of Ministersand State Secretariatof the Council of Ministers* Defense 92 81 98 72 93 52 State Administration 98 85 99 89 105 93 Interior (mostly 97 90 95 90 85 56 Justice 96 82 95 75 84 63 Developmentand Environment 88 86 54 51 55 44 Commerceand Industry 76 68 72 70 84 71 Agriculture, Forests, and Fisheries 96 92 90 13 92 60 Education,Culture, Youth, and Sports 98 55 89 42 83 38 Health 102 80 98 78 89 65 Labor and Solidarity 96 89 94 89 90 67 ForeignAffairs and Cooperation 94 88 96 91 73 70 Planningand Finance 93 79 95 79 39 32 TransportCommunicationsPublic Works 125 111 97 84 97 80 Judiciary 99 92 89 81 56 48 Bankingand PaymentsAuthority 100 100 100 100 100 100 Timor-LesteRadioandTV 92 41 86 81 77 64 TotalExpenditure 105 87 94 77 83 61 Source: Ministry. of. Planninn and Finance, ~ d ~Execution Reports, June 2003, June 2004, and March 2005. e t Note: Total = committed and cash. FY2005 annualized estimates based onfigures through March. *Office of the President and COM, and State Secretariat of the COMare separate in the FY05 budget documents,but not in earlier years. For the sake of comparability, these two offices have been combined. l3 Goods and services budget execution also appears low in the MPF (32 percent), owing to a large supplementary allocation to cover reimbursement of overpaid taxes from contractors no longer active inthe Timor Sea. l4 The police budget makes up over 85 percent of the budget of the Ministry of Interior. Though allocations for the Ministry of Interior and the National Police (PNTL) were reported separately in the December 2004 Supplementary Budget, monthly budget execution reports do not disaggregate them. 49 Attachment A 4. Slow budget execution is due to heavy centralization of expenditure management, tight expenditure and procurement controls, weak capacity in ministries, and poor communication between the MPF and line ministries. Most line ministries and districts do not have the computer systems necessary to monitor their budget execution rates. Further, there i s no effective disbursement system to send funds to the districts, resulting in districts only holding small imprest accounts rather than funds for supporting national programs or local service delivery. Improving budget execution while maintaining accountability poses an essential challenge for Government. AttachmentB Environment - 1. Timor-Leste occupies the eastem half of Timor island, the eastem-most of the Lesser Sundas group. It i s approximately 300 km long and 50 km wide, with a total land area of 15,000 sq km. It i s mountainous, with peaks up to 2,920 m, and bordered by coral reefs. The climate i s monsoonal, with distinct very rainy and dry periods, Rainfall i s relatively high (over 1750 mm on 65 percent o f the island) and much of it falls in heavy storms. 2. Seventy-five percent of Timor-Leste's population lives in rural areas, where poverty is most prevalent, and depend on natural resources to meet their basic needs. Eighty percent of employment i s natural resource-related, and 98 percent of households use wood as their primary fuel. Land 3. The land rises steeply from the sea and is intersected by rock-strewn river valleys, many of which are dry, except after rain storms. Narrow coastal plains border pristine beaches. Seventy-six percent of the land area i s coveredby secondary (mostly scrub) forest and 10percent by grassland. Mangrove stands dot the coasts. The hill forests were once rich in sandalwood, but these were virtually eradicated during the colonial era. Only 13 percent of the land area i s suitable for agriculture. The main food crops are rice, maize, and cassava. Drought and poor soil restrict yields. Food security i s already a problem and will worsen with rapid population growth. Coffee, vanilla, candlenut and coconuts are grown commercially in small quantities. Fertilizers and pesticides are not widely used and pose little environmental threat. 4. About one-third of the land area is partially to severely degraded due to a combination of poor soil, deforestation, overgrazing (by goats), and slash-and-bum agriculture. Many hillsides are relatively barren and are severely eroded by periodic rainstorms. Flash-flooding causes large volumes of silt to be deposited in estuaries and on nearby reefs. 5. Most inhabitants do not have secure land tenure, though a comprehensive program of land legislation is under development. An umbrella Land Law outlining the overall juridical regime for land titling was promulgated. A Decree Law was passed on the leasing of State property, allowing leases of up to fifty years on Government lands in both urban and rural areas, including agricultural properties. A draft law on land registration and titling i s currently under consideration by Government, and its passage i s expected by the end of 2005. Once promulgated, this law will establish a comprehensive property system, including registration and titling and rules by which claims can be processed andresolved. Water and Marine Resources 6. In urban areas, streams are polluted because: (a) many households do not have access to proper sanitation; and (b) industrial waste-water processing and regulation are limited. Thanks to the country's dispersed population and limited industrial development, inland and coastal water pollution i s not a major problem, although coffee processing plants cause localized river pollution. 52 Attachment B 7. Reports of excellent diving conditions suggest that in-shore marine environments and resources are in good shape. In-shore fishing activity i s modest, but likely to expand as rapid population growth increases food demand. There i s potential to expand currently modest-scale dive-related ecotourism. The national off-shore fishing fleet i s small, but foreign fleets presumably exploit off-shore marine resources. 8. The power sector SIP recommends that, in the absence of significant discoveries of onshore petroleum resources, hydropower should play a substantial role in power generation development over the next 20 years. The environmental impacts of such projects need to be considered. However, because geological constraints seem to rule out large reservoirs, impacts associated with inundation of land will generally be very limited, and since most streams only flow on a seasonal basis, downstream impacts are unlikely to be serious. The only substantial project that might be developed in the short term i s the Ira Lalaro project in Los Palos, where the natural outflow from Lake Ira Lalaro i s diverted by a low dam immediately before its disappearance into a sinkhole. Thus there are no downstream impacts, and since the rise in water level caused by the dam i s within the natural range of water levels, there are no reservoir inundation impacts. Therefore environmental impacts are likely to be low. Oil and Gas 9. Timor-Leste and its surrounding waters harbor considerable oil and gas reserves. Gas i s seeping from the ground in considerable quantities in several areas along the south coast. The gas either disperses or burns around the seep area but does not seem to pose a major environmental threat. The Bayu Undan off-shore oil and gas field began production in 2004, but poses little or no environmental threat. Further off-shore oil and gas development i s likely. If and when realized, ambitious plans to build an oil pipeline to the south coast and to develop on-shore oil processing facilities will require a major upgrade in environmental management capacity and control systems. Air Quality 10. A year-round warm climate, low motorization, and minimal industrial development mean that air quality is relatively good, even in urban areas. Given the use of wood as the primary household fuel, indoor air pollution may be a significant issue. Dust i s a minor problem as well. Environmental Public Services 11. Only 50 percent of the population has access to safe drinking water and proper sanitation. Solid waste collection and processing are limited, and solid waste litters residential areas. Poor environmental services pose health risks, including deadly dengue fever. Biodiversity 12. Timor-Leste has a combination of Australian and Asian $ora andfauna. There are about 224 species of birds, 23 of which are endemic to the Timor island group. Timor-Leste also has rich marine life. Threatened or endangered species include several turtle species and estuarine crocodiles. The UNadministration designated (but did not demarcate) 15 protected areas without any stakeholder consultation, and they are not effectively managed. The Government has not yet 53 Attachment B ratified the Convention on Biological Diversity so i s not eligible for GEF biodiversity conservation assistance. UNDP i s providing technical assistance on ratification of this and other global environment conventions. Environmental Institutions 13. Government responsibility for environmental issues is divided. The Ministry of Development and Environment i s responsible for environmental planning, urban environmental services, and ecology. The Ministry of Agriculture, Forestry, and Fisheries i s responsible for these aspects o f environmental management. Both face severe constraints in capacity and resources. 14. The ADB has provided modest environment capacity building assistance to the Ministry of Development and Environment in the areas of water resource management and environmental assessment. Attachment C Achievementsunderthe 2000 TransitionSupportStrategy - 1. The World Bank has been actively involved in the reconstruction and development of the economy of Timor-Leste since late 1999,playing a catalytic role in mobilizing and coordinating international assistance to the country. Duringthe transition to independence, the World Bank's involvement centered around its role as trustee and co-manager of TFET, which was established in December 1999 as a vehicle to provide grant assistance for reconstruction activities and economic development. Since FY03, the Bank has played a key role in mobilizing budgetary assistance for the post-independence period through the annual multi-donor TSP, which focuses on strengthening governance, improving service delivery, and fostering job creation. Across both programs, sector coordination has been buttressed by joint donor missions. These two principal initiatives have been complemented by grant-financed activities in targeted areas of immediate and emerging concern, such as demobilization and registration of veterans, and youth policy development. Technical assistance has been reinforced by a comprehensive program of analytica1work. 2. The Bank has assisted sector reconstruction and institutional development through TFET. Under TFET, which i s administered jointly with the ADB, the World Bank has managed projects in agriculture, community empowerment, education, health, petroleum sector development, private sector development, public management, and recently the power sector. In total, TFET provided about 45 percent of all capital investment spending between FYOO and FY03 (exclusive of peacekeeping, humanitarian, and associated recurrent expenditures). Total funding for the World Bank-administered projects amounts to USD 115 million, of which 96 million was disbursed by end-March 2005. 3. TFET has contributed considerably to reconstruction and development in Timor-Leste, though at a slower pace than originally anticipated and with uneven results across sector^.'^ TFET programs have built and rehabilitated schools, health centers, roads, local markets, and community irrigation schemes, and provided loans to SMEs. Institutional achievements include policy development in the agriculture, education, health, and petroleum sectors, as well as the preparation of district health plans, creation of Business Development Centers, and capacity building at the community level (Table B.1).The impact on institutional development initiatives has been strongest where programs have focused simultaneously on emergency assistance and on the early development of locally owned policies and strategies, the associated institutional and legal framework, and related human resource plans, with all development partners providing coordinated support. The health sector provides an example of success in implementing comprehensive and coordinated donor support. l5See European Commission, "Interim Evaluation of the Trust Fundfor Timor-Leste," October 2004, for a detailed review of the strengths and weaknesses of TFET. 56 Attachment C Table B 1: Achievements under TFET Rehabilitationand Reconstruction InstitutionalAchievements Agriculture 2,500 cattle, 70,000 chickens, and77,000 Agriculture Sector Policy approved USD 17.8million farm tools distributed bFive micro-policy notes completed, 270 allocated 10,487ha community irrigation,2,090 Ministry staff trained USD 16.1million medium-sizedirrigation schemes and217 1 FisheriesandQuarantinelegislationpublished disbursed km access roads rehabilitated bLivestockhealthservices operational Average rice yields increasedfrom 1.5 nationwide, 190village livestockworkers MTha to 2.03 MTka in rehabilitated trained, 79% cattle, 93% pigs, 60% chickens community schemes and2.48 MT/hain vaccinatedannually medium-sizedschemes Community USD7.4millioncommunitygrants funded Councilsfor every s u o and sub-districtinthe Empowerment 245 roads andbridges, 412 water projects, countrygained experienceinplanningand USD19million allocated and 83 irrigation projects reaching about implementingsmallcommunityprojects USD 19 million 300,000 peoplefor eachof 3 cycles disbursed USD 1.1million devotedto 590credit activities,repaymentrate 37% 2,780 classrooms reconstructed,29 new EducationPolicy draftedfollowing broad- USD34.5 million primary schools built, 5 new pre-secondary basedconsultations, associatedlegal allocated schools built framework drafted USD26.4 million 72,500 sets of student furniture and2,000 EducationMinistry InfrastructureFacility Unit disbursed sets of teacher furniture provided fully capable of managingfacility construction, 2.1 million textbooksdistributedand rehabilitation,andmaintenance 175,000copiesof children's magazine distributedmonthly Health 21 CommunityHealthCenters and36 HealthSectorPolicy approvedand associated USD 17.3 million HealthPostsconstructed legislationpublished allocated USD629 millioninpharmaceuticalsand National anddistrict monitoringof output USD 12.2million medicalsupplies distributed indicatorsestablished disbursed Hospitalconfigurationproposal approved District healthplans elaboratedannually as basisfor Ministry plan andbudget Autonomous MedicalSupply Store createdand operational HumanResourceDevelopmentPlanadopted andtraining of about 40 Timorese medical doctors conducted DemographicandHealthSurvey Completed PetroleumSector PetroleumAct, associated ModelProduction USD 1.9million Sharing Contract, andPetroleumTaxationAct allocated submittedto Parliament after broad USD 1.1million consultation disbursed PetroleumRevenueSavingsPolicy, and associatedPetroleumFundAct submittedto Parliamentafter broadconsultations I Systematiccommunications efforts on petroleumsector developments PrivateSector Loans providedfor 341 small to medium Five Business DevelopmentCenters created, USD 12.3million businessventures, repaymentrate 75% businesstraining deliveredto more than3,000 allocated 19 marketsrehabilitatedthroughout the aspiringentrepreneursincluding 35% women USD7.4million country Credit componentprovidedvaluable disbursed experience to BNU, which now providescredit fo; which it fully bears the risk PublicManagement Baseline nationalaccountscompleted for Capacity for preparingroutineannualnational USD 1.3million 2000, inpreparationfor 2001-2003 accounts established allocated accounts Treasury andProcurementdivisions regularly USD 1.2million usingcomputerizedintegratedGovemment disbursed accountingsystem 57 Attachment C 4. Since TFET began, thirteen projects have been completed and nine projects remain active. At end-March 2005, about USD 30 million remained undisbursed, and several programs will continue through FY07. During 2003, the TFET portfolio experienced a period of heightened risk and slow disbursements. Several reasons were identified. First, high turnover among project financial and procurement staff around independence temporarily affected the quality of fiduciary management. Second, on the Government's request, project management and implementation were progressively integrated into line ministry structures; though desirable, this shift posed some transitional challenges. Finally, there were difficulties instriking an appropriate balance between short-term physical reconstruction and medium-term development objectives. With concerted efforts to address these difficulties, all projects are now rated satisfactory in terms of development objectives, implementation progress, and fiduciary quality. All projects, whether in the pipeline or active, have been aligned with the NDP, SP, and SIPS. In addition, where feasible, construction methods and procurement procedures have been adapted to enhance local participation while maintaining quality. 5. After the restoration of independence, the TSP became the backbone of a whole-of Govemment strategic partnership with donors. Initially, the TSP was conceived as a multi- donor, medium-term program of bridging finance to allow the Government to implement a modest development program in the lean years before substantial oil and gas revenues came on stream. The TSP provided about USD 30 million annually in grant-financedbudget support from FY03 to FY05, during the post-independence period in which the Government's own revenues were expected not to be sufficient to finance its annual CFET budget of about USD 75 million. 6. Coordinated by the Bank, the TSP is eo-financed by nine development partners. In addition to the IDA contribution of USD 14.1million, development partners have provided USD 76.2 in bilateral financing through IDA-administered trust funds. These bilateral partners include Australia, Canada, Finland, Ireland, New Zealand, Norway, Sweden, the United Kingdom, and the United States. Portugal has provided parallel budgetary support financing amounting to USD 9 million from FY03 to FY05. 7. Several other organizations participated in the TSP as observers, contributing actively to the design of the program and assessments of progress. Among development partners, observers included Brazil, China, the European Commission, Japan, Malaysia, the United Nations Development Programme (UNDP), the United Nations Children's Education Fund (UNICEF), and UNMISET (now UNOTIL). In addition, civil society members were consulted in the development and monitoring of the TSP action matrix. 8. The TSP acts essentially as a Poverty Reduction Strategy Credit, supporting the Govemment's NDP and funding the CFET budget as its principal instrument for implementation. Each year, an action matrix is distilled mainly from the AAPs of individual Government agencies, presenting a sub-set of the highest priority actions in the areas of: (a) good govemance, including oversight institutions, public sector and public expenditure management, the justice sector, and security; (b) basic service delivery, particularly improvements in the efficiency and effectiveness of health and education services, and support to vulnerable groups such as veterans; and (c) job creation, especially through private sector development, agriculture, and improvements inbasic infrastructure. 58 Attachment C 9. The Government has praised the TSP for its role in fostering ownership, capacity building, coordination, and results orientation in a post-conflict environment. The program has supported a whole-of-Government, strategic annual plan while sector policies and strategies are developed. At the same time, the TSP fosters ownership by taking guidance from the NDP and AAPs and channeling donor funds through the Government's own systems and processes for budget preparation and execution. The TSP builds capacity by encouraging prioritization and monitoring, and by providing a forum for policy discussions. In bringing the majority of development partners together to prepare and monitor the action matrix, the TSP provides an anchor for all donor-financed activities and thus strengthens donor coordination. The TSP's cross-sectoral approach allows coverage of all critical issues, making effective use of the comparative advantage of each development partner within an overarching framework, without neglecting areas in which some partners are not active. In this way, the TSP can address critical security issues that are outside the Bank's mandate, for example. This approach also promotes mainstreaming of cross-sectoral issues such as promoting gender equality. Finally, the TSP promotes results orientation through its use of a time-bound matrix of policy and institutional measures, as well as outcomes. The Government has expressed its appreciation for the TSP's role in instilling discipline while internal disciplinary mechanisms are still weak. 10. Implementation of the TSP has also brought to light the challenges of budget support. The program's broad scope and wide donor participation pose difficulties in balancing ambition with realism, as there i s a tendency for the action matrix to expand to meet the priorities of various Government agencies and development partners. Strengthening the program's results orientation by moving from input targets to output and outcome indicators has been difficult, particularly as statistical capacity remains weak in the country and baseline data are not readily available. The experience of TSP implementation has emphasized the importance of broadening participation to include more middle-level managers and members o f civil society in the elaboration and monitoring of the action matrix. Finally, it has proved challenging to balance accountability through ex-ante controls, on the one hand, and efficient service delivery through timely execution of the budget, on the other. This points to the importance of careful program design when usingGovernment systems in a low capacity environment with weak accountability structures. 11. During the transition, the Bank provided punctual assistance to demobilization and to the systematic registration of veterans of the resistance. Through a PCF grant, the Bank joined with USAID and Japan to fund the demobilization and reintegration of the approximately 1,300 fighters who were active at the end of the occupation in 1999 and who were not integrated into the regular army. In addition, the Bank worked with UNDP, USAID, and several other bilateral donors to assist the process of identifying and registering about 37,000 ex-combatants and Falintil veterans who had been active in the armed struggle between 1975 and 1999. A similar process of identification and registration for members of the civilian resistance i s also being supported by a PCF grant. The subsequent development of policy and legislation for recognition and assistance programs i s supported by an IDFgrant to the National Veterans Directorate. 12. The Bank has also tumed its attention to helping youth in Timor-Leste. With the support of a PCF grant, the Bank i s working with The Asia Foundation, UNICEF, and other partners to assist the Government in developing a youth policy. Program activities include a mapping of the norms, values, and rules of various youth groups and an institutional assessment to understand 59 Attachment C the capacity of youth-related organizations and define possible avenues for youth contributions to development in Timor-Leste. A retreat was held in October 2004 to consult with youth from around the country. A social mapping of youth and an institutional assessment of youth institutions are underway. These activities will serve as inputs to the definition of a national youth policy. The MECYS has established an informal working group to discuss youth issues and monitor progress on program activities. 13. A strong analytical program has helped guide development choices and evaluates progress. A Country Economic Memorandum on Policy Challengesfor a New Nation informed preparation of the Government's National Development Plan. A Poverty Assessment, Poverty in a New Nation: Analysisfor Action, was presented in 2003 and used as an input to the design of sector programs. Based on the results of the Primary School Achievement Survey, Education Since Independence: From Reconstruction to Sustainable Improvement - and its summary report, Timor-Leste Education: The Way Forward - provided an analytical backdrop for policy and legislative development in the education sector. Improvements in public financial management and the design of the TSP were supported by a Public Expenditure Management and Accountability Note, delivered in May 2002, a Country Procurement Assessment Report, delivered in May 2003, and a full Public Expenditure Review, delivered in June 2004. Strengthening the Institutions of Governance in Timor-Leste was finalized in September 2004 after broad consultation with Government, Parliament, the President, justice sector institutions, civil society, and development partners, forming the foundation for a constructive dialogue over key issues in the area of governance. Similarly, an issues paper on the Sector Investment Programs was produced in December 2004 to explore aid delivery mechanisms appropriate for implementation of the SIPS.The results of a Demographic and Health Survey financed by TFET, completed in December 2004, have shed light on emerging concerns in the health sector. Finally, ongoing analytical work on labor and veterans issues continues to inform the Bank's social sector programs. 14. Analytical work in Timor-Leste has achieved the greatest impact when careful attention has been paid to enhancing ownership, access, and relevance. Close collaboration, discussion, and dialogue with Government - and in a few cases, joint production of reports - has maximized country ownership over analytical results. Knowledge sharing has been most effective when information i s presented in a form that i s accessible to a broad set of stakeholders, as when reports are kept short or accompanied by a short summary. It has also been important to translate studies into Portuguese for the Government and into Tetun and/or Bahasa Indonesia for the public. In terms of influencing policy, analytical work acquires the greatest traction when timed to coincide with an event ensuring a broad audience, such as a national congress or multi-donor TSP missions, or when it is the subject of proactive workshop discussions. For example, the Bank's summary report on education, Timor-LesteEducation: The Way Forward was released in time for the Government's National Education Congress, and thus served as a direct input to the development of a national education policy. 15, The Dili Distance Learning Center has strengthened knowledge sharing in Timor-Leste, but could be used more strategically. The DDLC i s the most actively used Global Development Learning Network in the East Asia region, offering three to four learning programs per month over videoconference, encompassing 13 sessions and 215 participants per month on average in FY04. Focusing on training for public administration, the D D L C has established strong 60 Attachment C credibility by taking guidance from local needs, by working in a highly consultative manner, and by carefully selecting participants for maximum impact. Avid support from donors, particularly Portugal and Australia, has generated a steady pipeline of funded programs up to April 2006. Building upon this early success, the DDLC could further improve its effectiveness by tying the content of its programs more closely to the Government's strategic priorities. The D D L C could also seek higher impact through "relay" with other channels of knowledge, including the media, backed by closer collaboration with the communications team in the Timor-Leste office. Loolung to the future, the DDLC will need to strive for sustainability through the development and implementation of a strategic business plan based on long-term relationships with partners in financing and content development. Attachment D CountryFinancingParameters - 1. Country Financing Parameters for Timor-Leste have been agreed with the Government, which has welcomed the increased flexibility they would provide (Table D.1). Table D 1:CountryFinancingParametersfor Timor-Leste ~ item Parameter RemarksI Explanation Cost sharing. Limit on the 100% While continuing to emphasize borrower commitment proportion of individual project costs and ownership of individual projects, the Bank would that the Bank may finance retain the option of financing up to 100percent of project costs. However, specific arrangements would be determined for individual projects, taking into account project-specific considerations, Timor-Leste's own financing for the sector concerned, and project ownership. In practice, the Bank's financing share in many projects is expected to be less than 100% given that the Bank would co-finance these projects with other develonment Dartners. Recurrent cost financing. Any N o country- Inthe near term, recurrent cost financing is expected to limits that would apply to the overall level limit be very small. In the event that Bank-financed amount of recurrent expenditures that operations envisage significant recurrent cost financing, the Bank may finance these would be subject to detailed sustainability analysis, which would inter alia, demonstrate the sustainability of project objectives, quantify any implied future budgetary outlays, and demonstrate their integration in future budgets as appropriate. Improved combined sources budgeting that strengthens the linkages between the National Development Plan, the SIPS, the medium-term fiscal framework, and the annual budget (which would improve overall coherence and sustainability) would be monitored and taken into consideration in determining recurrent cost financing. Local cost financing. Are the Yes The two requirements are met. The Bank can therefore requirements for Bank financing o f finance local costs in the proportions required in local expenditures met, namely that: individual projects, (i) financing requirements for the country's development program would exceed the public sector's own resources (e.g., from taxation and other revenues) and expected domestic borrowing; and (ii) the financing of foreign expenditures alone would not enable the Bank to assist in the financing of individual projects Taxes and duties. Are there any None The Bank may finance the costs of taxes and duties taxes and duties that the Bank would associated with project expenditures. No taxes or duties not finance? are identified as unreasonable or discriminatory. At the project level, the Bank would examine whether taxes and duties constitute an excessively high share of project cost. 62 Attachment D 2. Cost sharing. The Bank's financing share in individual projects has traditionally been close to 100 percent except in regard to withholding taxes and a small proportion of local costs. The Government now finances about 25 percent of its development program, but this share i s expected to increase to about 50 percent as its budget grows to the sustainable level within the limits of the petroleum revenue savings policy. Going forward, the Bank i s expected to finance less than 5 percent of Timor-Leste's development expenditures. As discussed in paragraph 28, the Government i s making efforts to bring a greater proportion of donor financing into the budget. The Government also continues to improve the quality of information and reporting on combined sources budgeting. As discussed earlier, the Government has a strong commitment to and ownership of its development program, and the implementation track record of ongoing projects i s satisfactory. While continuing to emphasize client commitment and ownership of individual projects, the Bank would retain the option of financing up to 100 percent of project costs. Specific arrangements would be determined for individual projects taking into account project-specific considerations, Timor-Leste's own financing for the sector concerned, and project ownership. In practice, the Bank's financing share in many projects i s expected to be less than 100 percent given that the Bank would co-finance these projects with other development partners (Table 5). 3. Recurrent costfinancing. Inthe near term, recurrent cost financing i s expected to be very small, covering mainly PMU-related expenditures. Going forward, there may be a need to finance recurrent costs, for example in the social sectors. Even so, there are expected to be no immediate implications for fiscal sustainability given current borrowing policies and the Government's conservative fiscal policy. No country-level limit on Bank financing of recurrent costs i s proposed. In the event that Bank-financed operations envisage significant recurrent cost financing, these would be subject to detailed sustainability analysis, which would inter alia, demonstrate sustainability of project objectives, quantify any implied future budgetary outlays, and demonstrate their integration in future budgets as appropriate. Greater integration and eventual absorption, if appropriate, of PMUs into executing agencies, will also reduce the disconnect between these PMUs and the mainstream public service. Improved combined sources budgeting that strengthens the linkages between the NDP, SP, SIPS, the medium-term fiscal framework, and the annual budget should also improve overall coherence and mitigate against sustainability concerns. Implementation of such measures would be monitored and taken into account in determining recurrent cost financing. 4. Local costfinancing. Locally procured goods have represented a very small share of total expenditures across most of the portfolio, reflecting the nascent domestic private sector. Yet there has been a trend toward decentralized implementation, with communities and local companies being contracted to build schools, health posts, bridges, and other infrastructure. This underscores the increasing importance of local cost financing in the overall development program. The financing of foreign expenditures alone would not enable the Bank to assist in the financing of individual projects. In addition, though revenue i s expected to increase sharply to about USD 250 million per year for the next three years, under the Government's petroleum revenue savings policy, at most the sustainable portion or about USD 130-170 million would be utilized. The balance will be saved through the petroleum fund for future generations. The SIPs suggest annual development financing needs of about USD 250 million over the period, leaving a financing gap of USD 80-120 million. Thus the financing requirements for the country's 63 Attachment D development program are expected to exceed the public sector's own resources. The two criteria for Bank financing of local costs are met. 5. Taxes and duties. The present tax and duty regime i s not considered excessive.16 The Bank may therefore finance taxes and duties associated with project expenditures. At the project level, the Bank will examine whether taxes and duties constitute an excessively high share of project costs. Bank financing of taxes and duties i s expected to have a positive effect on tax administration b y helping to remove the need for exemptions and preferential treatment for Bank-financed activities. 16Major taxes and duties are as follows: (a) There are four income tax brackets: lo%, 15%, 20% and 30%; with a minimumincome tax at 1% of turnover; a wage income tax with three bands: lo%, 20% and 30 %; and withholding taxes on income earned from designated sources including dividend, interest, royalty, and rent ranging from 2% to 20%; (b) Import duties are levied at a flat rate of 6%; (c) Excise taxes are levied on designated goods, many of which do not appear in Bank-financed projects (e.g., beverages including alcohol, tobacco, arms and ammunition). Ad-valorem rates for most items are under 20%, except for luxury goods including automobiles, yachts, and aircraft. Tax rates for gasoline and diesel fuel are US$0.06 per liter; (d) The sales tax on imported goods i s 6%; and (e) The service tax on designated services such as hotels, restaurants, telecommunications, and rentals i s a flat rate of 12%. ANNEX A Annex A 1:Timor-Leste Key Economic & ProgramIndicators - Change from Last CAS Preparedfor all CASslProgress Reports, but included in Board version of Progress Reports Only (5125105) Forecast in Last CAS Actual Current CAS Forecast Economy (CY) ?OOT ZOO? 2004' 20056 2008 ZOO? Growth rates ("1.) GDP 11 -6.7 -6.2 3.4 2.8 3.1 3.1 Exports21 50.0 16.7 14.3 12.5 11.1 10.0 ImDorts 31 2.6 -12.0 -9.3 5.9 -1.5 2.1 Inflation (%) 41 9.5 4.2 1.8 2.5 2.5 2.5 National accounts (% GDP) Current account balance 51 12.0 7.0 35.0 37.0 20.0 22.0 Gross investment 61 36.0 31.O 27.0 28.0 32.0 33.0 Public finance (% GDP) Fiscal balance 71 3.1 10.0 72.0 33.4 42.3 37.1 Foreign financing 81 9.6 10.4 9.4 3.1 3.0 2.8 Gross foreign assets 9/ 44.0 61.O 183.0 345.0 487.0 645.0 Program (Bank's FY) FY-' FY-E Lending ($ million) Gross disbursements ($ million) Grant ($million) 4.0 5.0 13.0 11.o Gross disbursements 4.1 5.2 5.0 5.0 (S million) a. Estimated year b. Projected year c. Actual outcome 1/ Real non-oilGDP growth 2l Merchandiseexportsnominalgrowth rate. ExcludesoiVgas revenues,which are recordedunder the incomeaccount (royalties) andtransfers (tax revenues). 31 Merchandiseimportsnominalgrowih rate 41 U.S. dollar-basedCPI for Dili 5/ Includesinternationalasssitance 61 Excludes investmentrelatingto the oiligas sector 71 ConsolidatedFundfor EastTimor (CFET),on the basis 01 fiscal year (June-Juiy). 6/ Foreigngrants are treatedas revenuesin the CFET. 9/ In millionsof U S dollar 66 Annex A 2 Annex A 2: Timor-Lesteat a Glance 5/25/05 East POVERTY and SOCIAL Timor- Asla & LOW- Leste Pacific income Developmentdiamond' 2002 Population, mid-year (millions) 0.75 1,838 2,495 Life expectancy GNI per capita (Atlas method, US$) 460 950 430 GNI (Atlas method, US$ billions) 0.35 1,740 1,072 T Average annual growth, 199642 Population ("A) -2.2 1.o 1.9 Labor force PA) 1.2 2.3 GNI Gross per i-- primary Most recent estimate (latest year available, 1996-02) capita enrollment Poverty PA of populationbelow nationalpoverty line) Urban population (% of total population) 8 38 30 Life expectancy at birth (years) 69 59 Infant mortality (per 1,000live births) 85 33 81 Child malnutrition (% of children under5) 15 Access to improved water source Access to an improved water source (% of population) 76 76 Illiteracy ("A ofpopulation age 75+) 13 37 Gross primary enrollment (% of school-age population) --- 106 95 Timor-Leste Male 105 103 Low-income group Female 106 87 KEY ECONOMIC RATIOS and LONG-TERM TRENDS 1982 1992 2001 2002 1 Economic ratios' GDP (US$ billions) 0.39 0.39 Gross domestic investmenWGDP 25.0 Exports of goods and servicesIGDP Trade Gross domestic savingsiGDP -47.0 ~ Gross national savingslGDP 31.5 Current account balance/GDP -1.5 Domestic Interest payments/GDP savings n- Investment Total debWGDP Total debt service/exports Presentvalue of debWGDP I Presentvalue of debWexports I Indebtedness 1982-92 1992-02 2001 2002 2002-06 (average annualgrowth) GDP 18.2 -0.5 -I-- Timor-Leste GDP per capita 15.7 Low-income group Exports of goods and services STRUCTURE of the ECONOMY 1982 1992 2001 2002 1 Growth of Investmentand GDP (%) (% of GDP) L Agriculture 25.4 industry 17.5 Manufacturing 2.5 Services 57.1 .. i.20 1 Private consumption General government consumption Imports of goods and services 1982-92 1992-02 2001 2002 (average annual growth) Agriculture -2.3 Industry 9.5 Manufacturing 6.9 Services Private consumption General government consumption Gross domestic investment Imports of goods and services Note: 2002 data are preliminary estimates. This table was produced from the Development Economics central database. * The diamonds show four key indicators in the country (in bold) compared with its income-groupaverage. If data are missing, the diamond will be incomplete. 67 Annex A 2 Timor-Leste PRICES and GOVERNMENT FINANCE 1982 1992 2001 2002 lnflatlon Domestic prices ( O h ) z (% change) Consumer prices 0.0 -2.0 Implicit GDP deflator 2.5 0.2 Government finance (% of GDP, includes currentgrants) 95 99 00 01 02 Current revenue 5o I 97 7.0 Current budgetbalance 8.5 -"`"GDP deflator - 0 ' C P I Overall surplusldeficit -5.2 TRADE 1982 1992 2001 2002 (US$ millions) Export and Import levels (USS mill.) I Total exports (fob) 4 Coffee 3 ma. Manufactures Total imports (cif) 237 Food Fueland energy Capital goods 1 Export price index (1995=100) 96 97 95 99 00 01 O2 Importprice index (1995=100) I W Exports W Imports II Terms of trade (1995=100) BALANCE of PAYMENTS 1982 1992 2001 2002 (US$ millions) 1Currentaccount balanceto GDP (%) 1 Exportsof goods and services Importsof goods and services Resourcebalance -303 Net income 4 Net currenttransfers 293 Currentaccount balance -6 Financing items (net) Changes in net reserves Memo: Reservesincludinggold (US$ millions) Conversionrate (DEC,local/US$) 1.o 1.o EXTERNAL DEBT and RESOURCE FLOWS 1982 1992 2001 2002 (US$ millions) Total debt outstandingand disbursed IBRD IDA Total debt service IBRD IDA Compositionof net resourceflows Official grants Official creditors Privatecreditors Foreigndirect investment Portfolioequity World Bank program Commitments Disbursements Principal repayments Netflows Interestpayments Nettransfers Note: This table was producedfrom the DevelopmentEconomicscentral database. 5/25/05 ANNEXB Annex B 2: Timor-Leste Selected Indicators* of BankPortfolioPerformance and Management As of Date 0511712005 Indicator 2002 2003 2004 2005 Portfolio Assessment Number of Projects Under Implementation a 10 11 8 ' 8 Average Implementation Period (years) 1.2 1.6 2.5 2.9 Percent of Problem Projects by Number a,c 0.0 36.4 0.0 0.0 Percent of Problem Projects by Amount 0.0 45.2 0.0 0.0 Percent of Projects at Risk by Number a , d 30.0 54.5 12.5 0.0 Percent of Projects at Risk by Amount 26.1 74.8 12.5 0.0 Disbursement Ratio (%) e 34.5 33.8 45.5 40.9 Portfolio Management CPPR during the year (yesho) Supervision Resources (total US$) Average Supervision (US$/project) Memorandum Item Since FY 80 Last Five FYs Proi Eva1by OED by Number 4 4 Proj Eva1by OED by Amt (US$ millions) 0.0 0.0 % of OED Projects Rated U or HU by Number 25.0 25.0 % of OED Projects Rated U or HU by Amt 0.0 0.0 a. As shown in the Annual Report on Portfolio Performance (except for current FY). b. Average age of projects in the Bank's country portfolio. c. Percent of projects rated U or HU on development objectives (DO) and/or implementation progress (IP). d. As defined under the Portfolio Improvement Program. e. Ratio of disbursements during the year to the undisbursed balance of the Bank's portfolio at the * beginning of the year: Investment projects only. All indicators are for projects active in the Portfolio, with the exception of Disbursement Ratio, which includes all active projects as well as projects which exited during the fiscal year. 70 - - Annex B 3.1 P Annex B 3.1: ProposedIBRD/IDA Base-CaseProgram As of Date 511712005 Fiscal year Proj ID USS(M) Strategic Rewards lmplementation b b (H/M/L) Risks (H/M/L) 2005 EC-Funded Health Program 8.0 Result 8.0 2006 Consolidation Support Program I 1.o ED-Funded Agriculture Program 12.0 Planning & Financial Management Capacity Building Program 12.0 Result 25.0 2007 Education for All Fast Track Initiative 10.0 Energy Service Delivery 5.0 Consolidation Support Program II 1.o Result 16.0 2008 Consolidation Support Program 111 1.o GEF & BCF Natural Resource Mgt. Result 1.o 2009 GEF & CDCF Energy Result 0.0 Overall Result 50.0 71 Annex B 3.2 Annex B 3.2: Timor-Leste IFCandMIGA Program - FY 2002-2005 IFC approvals (US$m) Sector (%) Investmentinstrument(% MIGA guarantees (US$m) 12 Annex B 4 Annex B 4: Timor-Leste Summary of Nonlending Services - As of 05/15/2005 Product Completion FY Audiencea Objective Recent Completions Policy Notes 2001 KG, PS TA: Anti-Corruption Initiatives 2001 KG, PB, PS TA: Central Fiscal Authority Computerization 2001 KG, PB, PS TA: Leadership and Capacity Building 2001 KG, PB, PS TA: Social Development National Dialogue 2001 KG, PB, PS Country Economic Memorandum 2002 KG, PE, PS Public Expenditure Management 8. Accountability Note 2002 KG, PB, PS Strategy for Housing 2002 KG, PB, PS TA: FALlNTlL Reinsertion Assistance 2002 KG, PB, PS TA: Gender Networking and Local Governance 2002 KG. PB. PS TA: Poverty Monitoring 2002 KG, PB, PS Country Procurement Assessment Review 2003 KG, PB, PS Education Sector Study 2003 KG, PB, PS Poverty Assessment 2001 2003 KG, PB, PS TA: GDLN Training Needs Assessment 2003 KG, PB, PS Public Expenditure Review 2004 KG, PB, PS IDF: Supporting Transition to Admin. Independence 2004 KG, PB, PS TA: Civil Society Capacity Building 2004 KG, PB, PS TA: Energy Sector Review 2004 KG, PB, PS TA: Registration of Armed Veterans 2004 KG, PB, PS Transport Sector Review 2005 KG, PB, PS Ongoing Strengthening the Institutions of Governance 2004 KG, PB, PS Defining a Policy for Veterans 2005 KG, PB, PS TA: Administrative Capacity Building 2005 KG, PB, PS TA: Budget Planning Exercise 2005 KG, PB, PS TA: Household Survey 2005 KG, PB, PS TA: Youth Leadership for Economic Development 2005 KG, PE, PS Health Sector Review 2006 KG, PB, PS Private and Financial Sector Assessment 2006 KG, PB, PS Labor Market Study 2006 KG, PB, PS IDF: Strengthening Capacity for Poverty Analysis 2006 KG, PB, PS IDF: Strengthening Public Expenditure Management 2006 KG, PB, PS TA: Registration of Civilian Veterans 2006 KG, PB, PS Poverty Assessment 2006 2007 KG, PB, PS IDF: Institution Building of the Inspector General 2006 KG, PB, PS IDF: Institutional Development of the Ombudsman 2006 KG, PB, PS TA: Supervision of ESMAP Rural Power Mapping 2006 KG, PB, PS TA: Supervision of PPIAF Review of Power Sector 2006 KG, PB, PS IDF: Institution Building for Veterans Policy 2007 KG, PB, PS IDF: Public Expenditure Management and Procurement 2007 KG, PB, PS Planned Budget and Expenditure Analysis 2006-8 KG, PB, PS Doing Business in Timor-Leste 2006-8 KG, PB, PS Household Fuel Study 2006 KG, PB, PS Policy Note on Population Growth 2007 KG, PB, PS Youth: Challenges and Options 2006 KG, PB, PS TA: Governance 2006 KG, PB, PS Rural Growth Strategy 2007 KG, PB, PS TA: FIRST Credit and Collateral Registry 2007 KG, PB, PS TA: PPIAF Phase II Power Regulatory Framework 2007 KG, PB, PS Service Delivery for the Poor 2008 KG, PB, PS IDF: Strengthening Capacity for Poverty Monitoring 2008 KG, PE, PS TA: Business Environment 2008 KG, PB, PS a. Government (G), Donor (D), Bank (B), Public Dissemination (PD). b. Knowledge generation (KG), public debate (PB), problem-solving (PS). 73 Annex B 5 Annex B 5: Timor-Leste Social Indicators Latest single year Same regiodincome group East Asia & LOW- 1970-75 1980-85 1997-2003 Pacific income POPULATION Total population, mid-year (millions) 0.67 0.66 0.88 1,854.6 2,311.9 Growth rate (Yoannual average for period) 2.1 2.5 0.6 1.o 1.9 Urban population (Yoof population) 8.9 8.2 7.7 39.I 30.4 Total fertility rate (births per woman) 6.2 7.6 2.1 3.7 POVERTY (% of population) National headcount index 39.7 Urban headcount index 25.0 Rural headcount index 45.0 INCOME GNI per capita (US$) 460 1,070 440 Consumer price index (1995=100) Food price index (1995=100) INCOME/CONSUMPTION DISTRIBUTION Gini index Lowest quintile (% of income or consumption) Highestquintile (% of income or consumption) SOCIAL INDICATORS Public expenditure Health (% of GDP) 6.2 1.9 1.5 Education (Yoof GDP) 3.2 3.2 Social security and welfare (YOof GDP) Net primary school enrollment rate (% of age group) Total 72 93 77 Male 43 Female 39 Access to an improved water source (% of population) Total 52 78 75 Urban 73 92 89 Rural 51 69 70 Immunizationrate ("A of children ages 12-23months) Measles 60 82 65 DPT 70 86 67 Child malnutrition (% under 5 years) 43 15 44 Life expectancy at birth (years) Total 62 70 58 Male 60 68 57 Female 64 71 59 Mortality Infant (per 1,000 live births) 87 32 80 Under 5 (per 1,000live births) 124 41 123 Adult (15-59) Male (per 1,000 population) 179 319 Female (per 1,000population) 122 268 Maternal (modeled,per 100,000 live births) 660 Births attended by skilled health staff (%) 24 91 Note:0 or 0.0 means zero or less than half the unit shown. Net enrollment rate: break in series between 1997and 1998due to change from ISCED76to ISCED97. Immunization: refers to children ages 12-23months who receivedvaccinations before one year of age. World Development Indicatorsdatabase March2005, World Bank 74 Annex B 6.1 Annex B 6.1: Timor-Leste Key Economic Indicators - As of date 03/08/2004 Actual Est. Projected Indicator 2000 2001 2002 2003 2004 2005 2006 2007 National accounts (as % GDP at current market prices) Gross domestic product 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 Agriculture Industry Services Total Consumption 121.8 118.9 129.8 127.9 126.9 128.9 Gross domestic fixed 41.0 42.0 36.0 31.0 27.0 28.0 32.0 33.0 investment a/ Government investment bl 6.4 3.2 4.3 2.9 1.7 5.0 5.4 6.9 Private investmentcl 34.6 38.8 31.7 28.1 25.3 23.0 26.6 26.1 (includes increase in stocks) Exports (Goods) d/ 2.0 1.0 2.0 2.0 2.0 3.0 3.0 3.0 Imports (Goods) e/ 65.0 62.0 68.0 61.0 56.0 60.0 60.0 59.0 Gross domestic savings -21.8 -18.9 -29.8 -27.9 -26.9 -28.9 Gross national savings -34.0 -27.0 -38.0 -29.0 9.0 26.0 23.0 29.0 Memorandum items Gross domestic product 316.0 368.0 343.0 336.0 331.0 326.0 327.0 342.0 (US$ million at current prices) Gross national product per 400 470 430 420 550 capita (US$, Atlas method) Real annual growth rates (%, calculated from 2000 prices) Gross domestic product at 15.4 16.6 -6.7 -6.2 3.4 2.8 3.1 3.1 market prices Gross Domestic Income Real annual per capita growth rates ( O h ,calculated from 2000 prices) Gross domestic product at 20.9 12.0 -11.4 -11.0 -2.0 market prices Total consumption Privateconsumption (Continued) 75 Annex B 6.1 Key Economic Indicators (Continued) Actual Est. Projected Indicator 2000 2001 2002 2003 2004 2005 2006 2007 Balance of Payments ( W m ) Exports (GNFS) Merchandise FOB 5.0 4.0 6.0 7.0 8.0 9.0 10.0 11.0 Imports (GNFS) Merchandise FOB 206.0 227.0 233.0 205.0 186.0 197.0 194.0 198.0 Resource balance -253.0 -273.0 -280.0 -244.0 -212.0 -217.0 -213.0 -216.0 Net foreign income f/ 2.0 5.0 6.0 3.0 28.0 51.0 Net current transfers g/ 315.0 343.0 314.0 262.0 299.0 286.0 (including official current transfers) Current account balance h/ 64.0 75.0 40.0 21.0 115.0 121.0 67.0 74.0 (before official capital grants) Current account balance 118.0 132.0 96.0 67.0 154.0 191.0 (after official capital grants) Financial accounts -109.0 -127.0 -82.0 -47.0 -32.0 -29.0 Long-term loans (net) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Official 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Private 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Other capital (net, including 7.0 3.0 6.0 -3.0 0.0 0.0 0.0 0.0 errors and omissions) Change in foreign assets -16.0 -8.0 -20.0 -18.0 -122.0 -162.0 -142.0 -158.0 Memorandum items Resource balance (% of -80.1 -74.2 -81.6 -72.6 -64.0 -66.6 -65.1 -63.2 GDP at current market prices) Real annual growth rates ( 1995 prices) Merchandise exports (FOB) Primary Manufactures Merchandise imports (CIF) Public finance (as % of GDP at current market prices) i/ Current revenuesj/ 17.2 15.2 24.0 31.6 93.7 60.4 70.6 66.6 Current expenditures 8.7 11.6 16.6 18.7 20.0 22.1 22.8 22.6 (Continued) 76 Annex B 6.1 Key Economic Indicators (Continued) Actual Estimate Projected Indicator 2000 2001 2002 2003 2004 2005 2006 2007 Current account surplus (+) 8.5 3.6 7.4 12.9 73.7 38.3 47.8 44.0 or deficit (-) Capital expenditure 6.4 3.2 4.3 2.9 1.7 5.0 5.4 6.9 Foreign financing k/ 9.2 6.4 9.6 10.4 9.4 3.1 3.0 2.8 Monetary indicators M2/GDP (at current market 6.3 13.9 15.9 21.5 25.4 28.1 prices) I/ Growth of M2 ( O h ) .. 155.0 7.1 32.4 16.2 9.2 CrediVDeposits 1.5 5.9 9.4 30.6 83.9 Deposits/GDP 6.3 13.9 15.9 21.5 25.3 Price indices( 1995 =loo) Merchandise export price index Merchandise import price index Merchandise terms of trade index Real exchange rate (US$/LCU)f Real interest rates Consumer price index 3.0 -0.3 9.5 4.2 1.8 2.5 2.5 2.5 (% growth rate) GDP deflator 3.4 -0.2 0.0 4.2 -0.8 -6.5 -2.7 1.4 (% growth rate) a. Excludes investment in the oil/gas sector. b. Capital expenditures in the central government budget, the Consolidated Fund for East Timor (CFET) C. Gross investment minus government capital expenditures d. Merchandise exports. Excludes oil/gas revenues, which are recorded under the income account (royalties) and transfers (tax revenues). e. Merchandise imports. Includes international-assistance related import of goods. f. Includes oil/gas royalty and interest 9. Includes oil/gas tax revenues and international assistance h. Includes international assistance i. Consolidated Fund for East Timor (CFET); on basis of fiscal year (June - July). j. Consists of domestic revenues, oil/gas revenues, and foreign grants. k. Foreign grants are treated as revenues in the CFET I. Broad money (end-of-period). Excludes currency holdings by the public, on which no data are available. f. "LCU" denotes "local currency units." An increase in US$/LCU denotes appreciation. 77 Annex B 6.2 Annex B 6.2: Timor-Leste - Country Selected Indicators Table Base-case (most likely)projection Actual Est. Projected 2000 2001 2002 2003 2004 2005 2006 2007 Part A: Main Macro Aggregates Annual growth rates, calculated from constant 2000price data GDP (mp) per capita 20.9 12.0 -11.4 -11.0 -2.0 Total consumption per capita GDP at market prices 15.4 16.6 -6.7 -6.2 3.4 2.8 3.1 3.1 Total consumption Private consumption Gross domestic investment (GDI) Gross dom. Fixed investment (GDFI) Exports (GNFS) of which Goods Imports (GNFS) of which Goods Savings-investment balances, as percentage of GDP Gross Domestic investment 41.0 42.0 36.0 31.0 27.0 28.0 32.0 33.0 of which Government investment (capital 6.4 3.2 4.3 2.9 1.7 5.0 5.4 6.9 Foreign savings 75.0 69.0 74.0 60.0 18.0 2.0 9.0 4.0 Gross national savings -34.0 -27.0 -38.0 -29.0 9.0 26.0 23.0 29.0 Government savings Non government savings Gross domestic savings -21.8 -18.9 -29.8 -27.9 -26.9 -28.9 Other GDP inflation 3.4 -0.2 0.0 4.2 -0.8 -6.5 -2.7 1.4 Annual average exchange rate (LCU/US$) 1.00 1.00 1-00 1.00 1.00 1.oo 1.oo 1.00 Index real average exchange rate ( =loo) Terms of trade index ( =loo) Incremental capital-output ratio (GDI basec Import elasticity with respect to GDP Money growth .. 155.0 7.1 32.4 16.2 9.2 Part B: Government Finance Indicators Percentage of GDP Total revenues, of which 17.2 15.2 24.0 31.6 93.7 60.4 70.6 66.6 Domestic revenues 4.1 5.8 5.7 8.8 10.1 9.7 9.9 9.8 OiVgas revenues 3.8 3.0 8.7 12.4 74.3 47.6 57.7 54.0 Total expenditures, of which 15.0 14.8 20.8 21.7 21.7 27.0 28.2 29.5 Recurrent expenditure 8.7 11.6 16.6 18.7 20.0 22.1 22.8 22.6 Deficit(-)/Surplus(+) (by FY) 2.2 0.4 3.1 10.0 72.0 33.4 42.3 37.1 78 Annex B 6.2 Country Selected Indicators Table (Continued) Foreign (grants reported as revenues) 9.2 6.4 9.6 10.4 9.4 3.1 3.0 2.8 Monetarysector Other domestic Other Total DebffGDPmp 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Total interest paymentsflax revenues 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Part C: Debt & Liquidity Indicators Total DOD and TDS DOD (US$ millions) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 DOD/ GDPmp ratio 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 TDS (US$ millions) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 TDS / exports (XGS) ratio 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Gross foreign assets 6.0 24.0 44.0 61.0 183.0 345.0 487.0 645.0 Part D: External Financing Plan (US$, millions) Internationalassistance (current transfer! 303 327 291 224 178 129 97 87 Official capital grants 54.0 57.0 56.0 46.0 39.0 70.0 Financialaccounts (net) -109.0 -127.0 -82.0 -47.0 -32.0 -29.0 Net Long term borrowing excl IMF 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Adjustments to scheduled debt service 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 All other capital flows 7.0 3.0 6.0 -3.0 0.0 0.0 0.0 0.0 Financing Requirements (incl IMF) of which current account deficit -239.0 -252.0 -252.0 -203.0 -63.0 -8.0 -30.0 -13.0 (before international assistance) 79 Annex B 7 Annex B 7: Timor-Leste Key Exposure Indicators As of Date 03/08/2004 Actual Est. Projected Indicator 2000 2001 2002 2003 2004 2005 2006 2007 Total debt outstanding and 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 disbursed (TDO) (US$m)a Net disbursements (US$m)a 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Total debt service (TDS) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 (US$mIa Debt and debt service indicators TDO/XGS~ 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 TDO/GDP 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 TDS/XGS 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 ConcessionalflDO 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 IBRD exposure indicators (%) IBRD DS/public DS 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Preferred creditor DS/public 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 DS (%)' IBRD DS/XGS 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 IBRDTDO (US$m)d 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Of which present value of guarantees (US$m) Share of IBRD portfolio (%) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 IDATDO (us$m)d 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 IFC (US$m) Loans 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Equity and quasi-equity f 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 MlGA MlGA guarantees (US$m) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 a. Includes public and publicly guaranteed debt, private nonguaranteed, use of IMF credits and net short- term capital. b. "XGS" denotes exports of goods and services, includingworkers' remittances. c. Preferred creditors are defined as IBRD, IDA, the regional multilateral development banks, the IMF, and the Bank for International Settlements. d. Includes present value of guarantees. e. Includes equity and quasi-equitytypes of both loan and equity instruments. 80 - Annex B 8 U 0 m 8 0 m 8 z E, I 8 3 8 8 . 8 .-0 o m 0 0 1 0 n e Q -.- 0 ne 81 - - - Annex B 9 82 Annex B 9 P 1 I 83 Annex B 9 wF 84 Annex B 9 w C 8 Y 85 - -- Annex B 9 86 Annex B 9 d 87 - - Annex B 9 m M 5 E ep E 88 - Annex B 9 - .*E 3 cd 89 Annex B 9 u- s e cdE CI a 0 90 - -- Annex B 9 a Q) !% 91 - - - Annex B 9 P n 4 3 92 Annex B 9 93 - Annex B 9 - P w 94 Annex B 9 .-Ee 95 Annex B 9 MAP SECTION