Documentof THEWORLD BANK Report No. 26439 - _ PROJECTPERFORMANCEASSESSMENT REPORT GEORGIA INSTITUTION BUILDINGCREDIT (Credit 2641-GA) REHABILITATIONCREDIT (Credit 2697-GA) STRUCTURALADJUSTMENT CREDIT I (Credit 2847-GA) STRUCTURALADJUSTMENT TECHNICAL ASSISTANCE CREDIT I (Credit 2848-GA) STRUCTURALADJUSTMENT CREDIT I1 (Credit 2983-GA) STRUCTURALADJUSTMENT TECHNICAL ASSISTANCE CREDIT I1 (Credit 2984-GA) ENERGY SECTOR ADJUSTMENT CREDIT (Credit 3266-GA) July 23,2003 Country Evaluation and Regional Relations Group Operations Evaluation Department Currency Equivalents(annual averages) Currency Unit = Lari 2002 US$l.OO Lari 2.20 1998 US$l.OO Lari 1.86 2001 US$l.OO Lari 2.05 1997 US$l.OO Lari 1.29 2000 US$l.OO Lari 2.03 1996 US$l.OO Lari 1.26 1999 US$l.OO Lari 1.99 FiscalYear: Government January 1-December31 Abbreviations andAcronyms AES AES Corporation NBG National Bank o f Georgia AYSCUDA UNDP Customs Software NERC National Electricity Regulatory CIS Commonwealth of Independent Commission States OECD Organization for Economic EBRD European Bank for Reconstruction Cooperation and Development and Development OED Operations EvaluationDepartment ECA Europe and Central Asia PER Public Expenditure Review ES Evaluation Summary PGRF Poverty Reductionand Growth ESAC Energy Sector Adjustment Credit Facility EMSP Electricity Market Support Project P I U Project Implementation Unit EU European Union PPAR Project Performance Assessment FIAS Foreign Investment Advisory Report Service RC Rehabilitation Credit FSB Former State Banks SAC Structural Adjustment Credit GDP Gross Domestic Product SAC I Structural Adjustment Credit I GNERC Georgia National Energy Regulatory SAC I1 Structural Adjustment Credit I1 Commission SAC I11 Structural Adjustment Credit I11 GNP Gross National Product SATAC I Structural Adjustment Technical GOG Government o f Georgia Assistance I I A S International Accounting Standards SBL State Budget Law IBC InstitutionBuilding Credit SCD State Customs Department IDA International Development Agency SHA State Health Agency ID1 Institutional Development Impact SMIC State Medical Insurance Company ILI International Lending Institutions SOEs State Owned Enterprises IMF International Monetary Fund TA Technical Assistance LPPE L a w on Privatization o f Public TACIS Technical Assistance to the CIS Enterprises UNCTAD UnitedNations Conference on Trade MOE Ministry of Education and Development MOF Ministry ofFinance USAID United States Agency for MOH Ministry of Health International Development MOJ Ministryo f Justice VAT Value Added Tax MOP Ministry o f Planning WDI World Development Indicators MOR Ministry of Revenue WEM Wholesale Electricity Market MPP Mass PrivatizationPlan W T O World Trade Organization M S P M Ministry o f State Property Management Director-General, Operations Evaluation Mr.GregoryK.Ingram Acting Director, Operations EvaluationDepartment Mr.NilsFostvedt Senior Manager, OEDCR Mr.R.Kyle Peters Task Manager Ms.Alice Galenson PPAR prepared by Mr.Elliot Hurwitz I OED Mission: Enhancing development effectiveness through excellenceand independence in evaluation. I About this Report The Operations Evaluation Department assesses the programs and activities of the World Bank for two purposes: first, to ensurethe integrity of the Bank's self-evaluation process and to verify that the Bank's work is producingthe expected results,and second, to help develop improved directions, policies, and proceduresthrough the disseminationof lessons drawn from experience. As part of this work, OED annually assesses about 25 percent of the Bank's lending operations. In selectingoperations for assessment, preference is given to those that are innovative, large, or complex; those that are relevantto upcomingstudies or country evaluations;those for which Executive Directorsor Bank managementhave requestedassessments; and those that are likelyto generate important lessons.The projects,topics, and analytical approachesselectedfor assessment supportlarger evaluation studies. A Project PerformanceAssessment Report (PPAR)is based on a reviewof the ImplementationCompletion Report (a self-evaluation by the responsible Bank department)and fieldwork conducted by OED. To prepare PPARs, OED staff examine project files and other documents, interview operationalstaff, and in most cases visit the borrowing country for onsite discussions with project staff and beneficiaries.The PPAR thereby seeks to validate and augment the information provided in the ICR, as well as examine issues of special interest to broader OED studies. Each PPAR is subject to a peer review process and OED managementapproval. Once cleared internally, the PPAR is reviewed by the responsible Bank department and amended as necessary.The completed PPAR is then sent to the borrower for review; the borrowers' comments are attachedto the documentthat is sent to the Bank's Board of Executive Directors. After an assessment report has been sent to the Board, it is disclosedto the public. About the OED Rating System The time-tested evaluation methods used by OED are suited to the broad range of the World Bank's work. The methods offer both rigor and a necessarylevel of flexibility to adapt to lending instrument, project design, or sectoral approach. OED evaluators all apply the same basic method to arrive at their project ratings. Following is the definition and rating scale used for each evaluation criterion (more informationis available on the OED website: http://worldbank.org/oed/eta-mainpage.html). Relevance of Objectives: The extent to which the project's objectivesare consistent with the country's current development priorities and with current Bank country and sectoral assistancestrategies and corporate goals (expressed in Poverty ReductionStrategy Papers, Country Assistance Strategies, Sector Strategy Papers,Operational Policies). Possible ratings: High, Substantial, Modest, Negligible. Efficacy: The extent to which the project's objectives were achieved, or expected to be achieved, taking into account their relative importance. Possible ratings: High, Substantial, Modest, Negligible. Efficiency: The extent to which the project achieved, or is expectedto achieve, a return higher than the opportunity cost of capital and benefits at least cost compared to alternatives. Possibleratings: High, Substantial, Modest, Negligible. This rating is not generally applied to adjustment operations. Sustainability: The resilienceto risk of net benefitsflows over time. Possible ratings: Highly Likely, Likely, Unlikely, Highly Unlikely, Not Evaluable. lnstitutionalDevelopmentlmpact: The extent to which a project improvesthe ability of a country or region to make more efficient, equitable and sustainable use of its human, financial, and natural resourcesthrough: (a) better definition, stability, transparency, enforceability, and predictabilityof institutionalarrangements and/or (b) better alignment of the mission and capacity of an organization with its mandate, which derives from these institutional arrangements. Institutional Development lmpact includes both intended and unintendedeffects of a project. Possible ratings: High, Substantial, Modest, Negligible. Outcome: The extent to which the project's major relevant objectives were achieved, or are expected to be achieved, efficiently.Possible ratings: Highly Satisfactory, Satisfactory, ModeratelySatisfactory, Moderately Unsatisfactory, Unsatisfactory, Highly unsatisfactory. Bank Performance: The extent to which services provided by the Bank ensured quality at entry and supported implementationthrough appropriatesupervision (includingensuring adequate transition arrangements for regular operation of the project). Possible ratings: Highly Satisfactory, Satisfactory, Unsatisfactory, Highly Unsatisfactory. Borrower Performance: The extent to which the borrower assumed ownership and responsibility to ensure quality of preparationand implementation,and complied with covenants and agreements, towards the achievement of development objectivesand sustainability. Possible ratings: Highly Satisfactory,Satisfactory, Unsatisfactory, Highly unsatisfactory. Contents RatingsandResponsibilities i Preface ............................................................................................................................... ............................................................................................. ix Summary xi 1 IntroductionandMainThemes . ........................................................................................................................... ................................................................................... 1 2 2 Objectives andDesignofthe ReformProgram 4 3 TechnicalAssistance Credits(IBC, SATAC I,SATAC11) ..Macroeconomic Performance ......................................................................................... ......................................................... ....................................... Implementation Experience ........................................................................................... 6 Objectives ...................................................................................................................... 6 6 Outcome......................................................................................................................... 7 InstitutionalDevelopment Impact................................................................................ Sustainability., .............................................................................................................. 10 . . 11 11 4 RehabilitationCredit . Bank and Borrower Performance................................................................................. Objectives .................................................................................................................... 12 .................................................................................................. 12 ImplementationExperience ......................................................................................... 12 Outcome....................................................................................................................... 13 Sustainability................................................................................................................ 14 . . . Institutional Development Impact.,.............................................................................. 14 14 5 FirstStructuralAdjustment Credit(SAC I) . Bank andBorrower Performance................................................................................. ............................................................ 14 14 Implementation Experience......................................................................................... Objectives .................................................................................................................... 15 Outcome....................................................................................................................... 16 Sustainability................................................................................................................ * . . 18 InstitutionalDevelopment Impact................................................................................ 18 18 6 Second StructuralAdjustment Credit (SAC 11) . Bank and Borrower Performance................................................................................. ...................................................... Implementation Experience ......................................................................................... 19 Objectives .................................................................................................................... 19 19 Outcome....................................................................................................................... 20 Institutional Development Impact................................................................................ 23 Sustainability................................................................................................................ . . 23 7 EnergySector AdjustmentCredit(ESAC) . Bank and Borrower Performance................................................................................. 23 ............................................................... Implementation Experience......................................................................................... Objectives .................................................................................................................... 24 24 25 Outcome....................................................................................................................... 25 Sustainability................................................................................................................ 27 . . . Institutional Development Impact................................................................................ 27 Bank and Borrower Performance................................................................................. 27 Dinka providedadministrative support. This reportwas preparedby Elliott Hurwitz(Consultant). with Alice Galensonas Task Manager. Tirsit Contents(cont.) 8 Lessons Learned . ......................................................................................................... 28 References ......................................................................................................................... 31 Table 1.1. Georgia: Selected Macroeconomic Indicators.................................................. Tables in the text 3 4 Table 7.1. Winter Electricity Supply inTbilisi, 2000-2002 ............................................. Table 1.2. Poverty inGeorgia............................................................................................. 26 List of Annexes ................................................................................................................. 33 Annexes 2. Energy Sector............................................................................................................... 41 1. ExternalDebt andRevenue Mobilization.................................................................... 35 4. Privatization................................................................................................................. 3. Financial Sector ........................................................................................................... 49 51 6. Education Sector .......................................................................................................... 5. Health Sector................................................................................................................ 53 57 7. Reform Areas Addressedby the Seven Projects Includedinthis PPAR..................... 59 9. Net Disbursements by Donor....................................................................................... 8. Corruption .................................................................................................................... 67 68 10.Basic Data Sheets......................................................................................................... 69 Table Al.l Tax Revenues. as % GDP ............................................................................. Tables in the Annexes 36 Table A1.2. Tax Structure for CIS Countries. 2000 ......................................................... 36 Table A1.3 Amendments to the VAT. 1997-2001........................................................... 38 Table A1.4 IMFEstimate of Expenditure Arrears for End2000 .................................... 39 Table A2.1 EstimatedRetail Electricity Collections. 2002 ............................................. 43 Table A2.2 Reported Collection Rates inthe State-Owned Power Sector (inpercent 43 Table A2.3 AES Telasi FinancialResults. 2001 and2002.............................................. o fbillings)...................................................................................................... Table A4.1 Privatization inthe Adjustment Operations .................................................. Table A3.1 Adjustment Operations and their Major Financial Sector Objectives ..........48 Table A2.4 EnergyReform: Objectives and Realization o f Adjustment Credits...........45 50 52 Table A5.2 Adjustment Operations: KeyHealth Objectives andRealization................56 Table A5.1 Health Outcomes in Georgia and Other CIS Countries. 2000 ...................... 56 57 Table A6.2 SAC Iand SAC I1Budgetary Allocations .................................................... Table A6.1 Percent of Children Enrolled in School. by Age. 2000................................. 58 Figures in theAnnexes FigureA2.1 44 Figure A9.1 Overall Development Assistance 1994-2001 by Donor .............................. AES Telasi OperationalData. 1999-2004 .................................................. . 68 List of Individuals Interviewed ....................................................................................... 85 Attachments 87 2. OED Responseto Borrower's comments ..................................................................... 1. Borrower comments ..................................................................................................... 93 Map IBRD 31956: Map of Georgia showing autonomous or semi-autonomous areas of Abkhazia. Adjara. and SouthOssetia 1 Ratings and Responsibilities InstitutionBuildingCredit (Credit 2641-GA) PerformanceRatings ECA Region OED ICR ES PPAR Outcome Satisfactory Satisfactory Satisfactory Sustainability Likely Likely Likely Institutional Substantial Substantial Substantial DevelopmentImpact Bank Performance Satisfactory Satisfactory Satisfactory Borrower Satisfactory Satisfactory Satisfactory Performance Key Staff Responsible staff Appraisal Completion Task Manager C. Hall C. Muller Division Chief W. Grais H.Ghanem Country Director B.Kavalsky J. O'Connor 11 Ratings and Responsibilities RehabilitationCredit (Credit 2697-GA) PerformanceRatings ECA Region OED ICR ES PPAR Outcome Highly Satisfactory Satisfactory Satisfactory Sustainability Likely Likely Highly Likely Institutional Partial Substantial Substantial DevelopmentImpact BankPerformance Satisfactory Satisfactory Satisfactory BorrowerPerformance Highly Highly Satisfactory Satisfactory Satisfactory Kev Staff Remonsible staff Appvaisal Completion Task Manager Michelle Riboud Michelle Riboud Division Chief Wafik Grais Wafik Grais Country Director Basil Kavalslq Basil Kavalslq ... 111 Ratings and Responsibilities StructuralAdjustment Credit I(Credit 2847-GA) PerformanceRatings ECA Region OED ICR ES PPAR Outcome Satisfactory Satisfactory Moderately Unsatisfactory Sustainability Likely Likely Likely Institutional Partial Modest Modest DevelopmentImpact BankPerformance Satisfactory Satisfactory Unsatisfactory Borrower Satisfactory Satisfactory Unsatisfactory Performance Key StaffResponsible staff Appraisa1 Completion Task Manager M.Riboud M.Riboud Division Chief W. Grais H.Ghanem Country Director B.Kavalsky J. O'Connor iv Ratings and Responsibilities StructuralAdjustment TechnicalAssistance Credit I(Credit 2848-GA) PerformanceRatings ECA Region OED ICR ES PPAR Outcome Satisfactory Satisfactory Satisfactory Sustainability Likely Likely Likely Institutional Substantial Substantial Substantial DevelopmentImpact BankPerformance Satisfactory Satisfactory Satisfactory Borrower Satisfactory Satisfactory Satisfactory Performance Key StaffResponsible staff Appraisa1 Completion Task Manager M.Riboud C. Muller Division Chief W. Grais H.Ghanem Country Director B.Kavalsky J. O'Connor V Ratings and Responsibilities StructuralAdjustment CreditI1(Credit 2983-GA) PerformanceRatings ECA Region OED ICR ES PPAR Outcome Satisfactory Marginally Unsatisfactory Satisfactory Sustainability Likely Likely Likely Institutional Partial Modest Modest DevelopmentImpact Bank Performance Satisfactory Satisfactory Unsatisfactory Borrower Satisfactory Satisfactory Highly Performance Unsatisfactorv Key StaffResponsible staff Appvaisal Completion Task Manager M.Riboud Leila Zlaoui Division Chief H.Ghanem H.Ghanem Country Director J. O'Connor J. O'Connor v1 Ratings and Responsibilities StructuralAdjustment TechnicalAssistance Credit I1(Credit 2984-GA) PerformanceRatings ECA Region OED ~ ICR ES PPAR Outcome Satisfactory Satisfactory Moderately Satisfactory Sustainability Likely Likely Likely Institutional Partial Modest Modest DevelopmentImpact BankPerformance Satisfactory Satisfactory Satisfactory Borrower Satisfactory Satisfactory Unsatisfactory Performance Key Staff Responsible staff Appvaisal Completion Task Manager C. Muller A. D'Hoore DivisionChief P. Mitra P.Mitra Country Director J. O'Connor J. O'Connor vii Ratings andResponsibilities Energy Sector Adjustment Credit (Credit 3266-GA) PerformanceResDonsibilities ECA Region OED ICR ES PPAR Outcome Satisfactory Satisfactory Satisfactory Sustainability Likely Likely Likely Institutional Modest Modest Substantial DevelopmentImpact BankPerformance Highly Highly Satisfactory Highly Satisfactory Satisfactory Borrower Satisfactory Unsatisfactory Unsatisfactory Performance Key Staff Responsible staff Appvaisal Completion Task Manager V. Vucetic V. Vucetic Division Chief H.Razavi H.Razavi Country Director, Acting P. Nicholas P. Nicholas 1x Preface This is the Project Performance Assessment Report for the InstitutionBuildingCredit (Credit 264l), Rehabilitation Credit (Credit 2697), Structural Adjustment Credit I(Credit 2847), Structural Adjustment Technical Assistance Credit I(Credit 2848), Structural Adjustment Credit I1(Credit 2983), Structural AdjustmentTechnical Assistance Credit I1 (Credit 2984), and Energy Sector Adjustment Credit (Credit 3266). The InstitutionBuildingCredit was approved on July 5, 1994, became effective on August 24, 1994, and disbursedthe entire plannedamount ofUS$10.1 million. The credit closed on June 30, 1998, six months later than planned. The Rehabilitation Credit was approved on March 30, 1995, became effective on April 5, 1995, and disbursedthe entire plannedamount o fUS$75 million. The credit closed on the original closing date o f June 30, 1996. The Structural Adjustment Credit Iwas approvedon April 18, 1996, became effective on June 12, 1996, and disbursed a first tranche o f US$30 million inJune 1996, and a second tranche o f US$30 million inDecember 1996, as planned. The credit closed on December 31, 1997, the original closing date. The Structural Adjustment Technical Assistance Credit Iwas approved on April 18, 1996, became effective on June 12, 1996, and disbursed the entire amount o f US$4.8 million as envisioned. The credit closed on December 31, 1998, eight months later than the original closing date. The Structural Adjustment Credit I1was approved on September 4, 1997, andbecame effective on November 5, 1997. A first tranche o f US$40 millionwas disbursed upon effectiveness, and a second tranche o f US$20 millioninDecember 1998. The credit closed on December 31, 1998, six months later than planned. The Structural Adjustment Technical Assistance Credit I1was approved on September 4, 1997, became effective on November 5, 1997, and disbursedthe entire planned amount o f $5.5 million. The credit closed on December 31, 1999, six months later than planned. The EnergySector Adjustment Credit was approved on June 29, 1999, andbecame effective on August 2, 1999 with a first tranche o f US$12.5 millionreleasedupon effectiveness. While it hadbeenexpected that the second (and last) tranche o f US$11.5 millionwould be released in early 2000, poor macroeconomic conditions and delays inthe IMFprogramdelayed disbursementofthe SECAC second tranche untilDecember 2001. The credit closed on March 1,2002. This PPARis based on President's Reports, credit documents, project files, Implementation Completion Reports, economic and sector reports from 1995 to 2002, and documents from the IMF. Additional information was obtained from interviews with current and former Government officials and staff o f other lenders (during missions that visited Georgia inApril and M a y 2002), and discussions with former and current Bank A staff involved directly inthe credits or inthe lendingprogram to Georgia. Their cooperation and assistance inpreparing this report are greatly appreciated. The PPARdisagrees insome cases with the ICR andES findings andratings on the projects. Differences injudgment are due partially to the additional information, and longer perspective, available to the mission and to the PPAR. The PPAR was sent to the Government for comments; comments received are attached as Attachment 1. OED's response to these comments are presented in Attachment 2. xi Summary 1. Attached i s the Project Performance Assessment Report on seven credits to Georgia, which were implementedfrom 1994 to 2002. The main objectives o fthe four adjustment operations were to establish and maintain macroeconomic stability; foster growth; improve financial discipline inthe private and public sectors; and alleviate poverty. They were intendedto support the government's program to remove the remaining distortions and controls from the central planning system, remedy institutional deficiencies, streamline the government sector, improve the efficiency o fpublic spending, and set up amarket-friendly regulatory framework. The three technical assistance credits provided capacity-building and advice in support o fthese reforms. 2. Followingthe cessation o f civil strife in 1994, rapid progress was made in macroeconomic stabilization and implementation o f "first generation" reforms: privatization o f SOEs; establishment o f a liberal trade regime; elimination o f state control over distribution; and creation o f an appropriate legal framework. The adjustment credits were largely successful inachieving stabilization and GDP growth. However, Georgia has an extemal debt o f about halfo f GDP, and debt service now consumes 36 percent o f government revenue. Employment growth has beennegligible, and poverty increased substantially, reaching 53 percent in2000. 3. Duringtheperiodo ftheprojects covered bythis PPAR, several constraints to economic development loomed. First,political power became increasinglyfragmented. Constrained by other power centers, and short on budgetary resources, the central government-while willing-was increasingly unable to implementfurther reforms. Secondly, corruptionbecame more pervasive and unpredictable. A key PPAR finding i s that the credits accorded insuf$cient emphasis topoverty alleviation and anti-corruption measures. 4. The PPARrates the outcomes o fboththe Institution BuildingCredit and the First Structural Adiustment Technical Assistance Credit as satisfacto y,institutional development impact (IDI) as substantial, sustainability as likely, and Bank and Borrower performance as satisfacto y,the same as inthe ES. It rates the outcome o f the Second Structural Adiustment Technical Assistance Credit as moderately satisfacto y,as compared to satisfactovy inthe OED ES. This change i s largely because assistance to the State Tax Service and Customs Department did not improve their effectiveness to the extent envisioned (although tax revenue as a percent o f GDP rose). Also, assistance in the areaof judicial reform achieved less than envisionedbecause o fthe overall lack o f respect for the rule o f law and the highlevel o f corruption. Sustainability i s rated likely, ID1modest andBank performancesatisfacto y,as inthe ES. Borrower performance was assessedas unsatisfacto y inthe PPAR, compared to satisfacto y inthe ES, because o f the Borrower's lack o f cooperationinthe tax collection area and tolerance o f conditions that underminedjudicial reform. 5. The PPAR rates the outcome o fthe Rehabilitation Credit as satisfactory, ID1as substantial, and Bank performance as satisfactory, the same as inthe ES. Sustainability i s rated as highly likely, compared with likely inthe ES because, with the passage o f time, these reforms have become an integral part o f Georgian society, and are reinforced by xii Georgia's entry into the WTO and by follow-on Bank and Fundoperations. Borrower Performance is ratedsatisfactory, compared to highly satisfactory inthe ES, because o f delays inthe passage o f new legislation, and slower progress inrevenuemobilization than envisioned. 6. The PPARrates the outcome o fthe First Structural Adiustment Credit as moderately unsatisfacto ry, compared to satisfactory inthe ES. Sustainability i s rated likely, and ID1modest, as inthe ES. Bank and Borrower performance are rated as unsatisfactory, compared to satisfactory inthe ES. The project's objectives were only modestly relevant because they did little to address poverty alleviation or corruption. SAC Iachieved its macroeconomic, streamlining government, privatization, and financial sector reform objectives. However, poverty and health status worsened, the energy quasi-fiscal deficit grew, and although financial sector reforms were largely successful, benefits were limitedgiven the small role o f the sector ineconomic activity. Bank performance was unsatisfactory due to deficient quality at entry: too little emphasis on poverty alleviation, and excessive reliance on energy collections as a measure o f compliance, and on quantityover quality inprivatization. Borrower performance was rated unsatisfactory because the energy quasi-fiscal deficit grew, and the Borrower tolerated an environment intax and customs administration inwhich theft and corruption were so pervasivethat reforms were undermined,and economic development was hindered(although revenue targets were met). 7. The PPAR rates the outcome o fthe Second Structural Adjustment Credit as unsatisfactory, compared to marginally satisfactory inthe ES. Sustainability i s rated likely, and ID1modest as inthe ES. SAC I1objectives were o f modest relevance. While the credit supported a poverty assessment and specified minimumbudgetallocations for health and education, these actions were not commensurate with the importance of poverty alleviation. The objectives inprivatization, raising electricity tariffs, and inthe financial and education sectors were generally achieved, but progress inmacroeconomic stabilization faltered, poverty worsened, conditions on minimumbudgetary allocations for the social sectors and energy collection levels were not met, and the financial situation o fthe energy sector worsened. Bank performance i s rated as unsatisfactory, compared to satisfactory inthe ES, for the same reasons as in SAC I.Inretrospect, the issuance ofwaivers for insufficient healthbudgetary allocations and for satisfactory energy collections was unwise, and may have sent the wrong signal to the Borrower. Borrower performance was highly unsatisfactory, compared to satisfactory inthe ES: the Borrower did not maintain a satisfactory macroeconomic framework, did not pursue satisfactory efforts to alleviate poverty, attempted to circumvent the letter and spirit o f the budgetary allocation to health, and maintained insufficient collection rates inthe energy sector based on faulty data. Overall, the Borrower failed to maintain policies and conditions that supported achievement of project objectives. 8. The PPARrates the outcome o fthe Energy Sector Adiustment Credit as satisfacto ry, sustainability as likely, and Bank performance as highly satisfacto ry, the same as inthe ES. ID1i s rated as substantial, compared to modest inthe ES, because privatization o f major energy facilities substantially improved the country's ability to make use of its financial resources, and changes inthe legal framework related to pipelines enabled the country to earn substantial transit fees. Borrower performance i s xiii rated unsatisfactory, as inthe ES. Despite a positive attitude toward privatization, the bovvowev did not maintainpolicies and conditions that supported achievement of pvoject goals. The performance o f state-owned firms worsened, and detracted from the achievement of project goals. The main lessons were: Georgia's weak governance severely limits the country's ability to create conditions conducive to economic development and the effective use o f development assistance. For a country such as Georgia, which experienced economic collapse, it i s incumbent upon the Bank to give highpriority to prompt measures that can directly mitigate conditions for the poorest. Turnover on the country team limitedprogram effectiveness. A more robust andtimely ESWprogramwouldhavebeenbeneficial to the design o fthe reform program. Turnover among policy officials hinderedreform progress. Gregory K.Ingram Director-General Operations Evaluation 1 1. IntroductionandMain Themes 1.1 Georgia became independent inApril 1991,andjoined IDA inAugust o f that year. The Government was immediately challengedby insurrections inAbkhazia and South Ossetia (see map on page 89), which eventually became autonomous regions that have minimal relations with Tbilisi. Armed gangs also challenged governmental authority elsewhere inthe country until 1994, when order was gradually restored. The area o f Adjara also attained substantialautonomy. These three regions comprise more than 20 percent o f Georgia's population, and more importantly, straddle key transit routes to Turkey and Russia. An important Black Sea port, Batumi, i s inAdjara. Inmany locations, there i s virtually an open conduit for smuggling. This fragmentation challenges GoGauthority and control and limits revenue collection. 1.2 By 1994, Georgia faced three maindevelopment challenges: (a) large macroeconomic imbalances and a huge fall inGDP; (b) transition fkom a centrally planned to a market economy; and (c) fragmentation o f the country. The first and second challenges were faced by all transition economies, while the thirdwas specific to Georgia. 1.3 Early Reforms. Georgia was an early, willing, and active reformer. Civil conflict limited early progress, but the 1994-95 reform programincluded "first generation" reforms.' The macroeconomic situation was starting to improve. The Bank reform strategy appropriately focused on macroeconomic stabilization and completion o f first generation reforms.2 Other aspects included strengtheningrevenue mobilization and financial sector regulation; energy sector restructuring and enhanced payment discipline; reducing and restructuring the public sector; and better benefits targeting. By2001, significant progress hadbeen made inmost o f these areas. 1.4 Further Fragmentation of Power. However, by 1998-99, it was apparent that the fragmentation o f political power was increasing. The power o f the Executive vis-a-vis that o f Parliament, o f the central government vis-a-vis the regions (even those nominally ruledby Tbilisi), and o fthe central government vis-a-vis certain tightly-connected interest groups- sometimes aligned with members o f Parliament-was diminished. Circumscribedbyother power centers, and with a shortage o fbudgetary resources, the government-while increasingly unable to implement further reform^.^ willing-was 1.5 Corruption. A further constraint on economic development i s Georgia's pervasive and endemic corruption, which seemed to increase, and become more open, duringthe period o f this PPAR.4 The government "attacked" corruption with presidential decrees, butmade little progress; in July 2000, an anti-corruption campaign was establishedby Presidential decree, but ' "First generation reforms" included: privatization o f most state-owned companies; elimination o f price and wage controls; elimination o f state control o f trade; establishment o f a liberal trade regime; endingstate control o f distribution; and establishment o f a legal framework appropriate for a market economy. While this PPAR uses the term "Bank," it actually refers to IDA. All lending to Georgia has been on IDA terms. An indicator of the strong power of the Parliament was the number of amendments made to the VAT during 1997- 2001 which acted to decrease state revenue or narrow the tax base (Annex 1). Similarly, Parliament's power i s illustratedby its inaction for 13 months on the Electricity Support Project. The power o f the regions and municipalities to pursue their self-interest is illustrated by the failure to agree on a plan to "group" the remaining 62 local electricity distribution companies into more easily-marketed packages. Insome cases, the central govemment does not seemto have the ability to control what is done on its behalf. In 1999-2000, the Wholesale Electricity Market incurred a debt-unauthorized byhigher govemment officials-of US$200million to purchaseenergy. FIAS,"Georgia Study o f Administrative Barriers to Investment," December, 2001. 2 little progress was made. Another anti-corruption decree was signedby President Shevardnadze inMarch, 2001, that promisedto introducemaximumtransparency instate institutions, make clear distinctions betweenthe functions and duties o fpublic agencies, and provide adequate pay for public employees. Some authorities on corruption believe meaningful progress i s unlikely because an effective campaign would attack members o f the ruling elite uponwhom the President relies: ". ..corruption inGeorgia i s so pervasive that anti-corruption fighters are often not sure whom to target first." Georgia i s rated by Transparency International 2002 Corruption Perceptions Index as 85`h out o f 102 countries surveyed (Annex 8), Le., very corrupt. Also, interviews with Bank staff and other donor agencies suggest that corruption may have a more harmful effect on Georgia's economy because the country's relative openness and the weakness o f central authority make corruption more unpredictable: Inthe seven projects reviewedinthis PPAR, the two reform areas most severely affected by the lack of central authority and endemic corruption are the energy sector and revenue mobilization. It has beenreported that tax and customs officials at all levels "buy" their positions, because o f the lucrative franchise that it represents. Taxpayers inthe formal economy often report efforts by various officials to extort monies from them, sometimes inthe guise o f tax collection (see Annex 2). Macroeconomic Performance 1.6 Economic Collapse, then stabilization. Georgia's economic collapse after independence was more severe than that o f any other CIS republic. By 1994, output had fallen by over 70 percent, the fiscal deficit was over 25 percent o f GDP, and the country was gripped by hyperinflation. Inlate 1994, the Government launched a stabilization programmarkedby tight monetary and fiscal policies. Growth was restored, reaching 10 percent in 1996, and inflation subsided to single digits. A new currency, the lari, was introduced in September 1995, which depreciated against the U S dollar by a relativelymodest 26 percent from 1996 to 1998, but then by a further 45 percent inthe aftermath o fthe Russian financial crisis in 1998. 1.7 Following the Russian crisis, exports and tax revenues fell, and the Govemment was reluctant to cut expenditures inthe run-upto presidential and parliamentary elections. The currency depreciation and the fiscal deterioration combined to reignite inflation, which surged to 19 percent in 1999. Wage and pension arrears reached 3.5 percent o f GDP (accumulated stock) inmid-2000, and inlate 1999 the IMF arrangement was suspended.6 However, inthe second half o f 2000, fiscal performance improved, no further arrears were accumulated, and inJanuary 2001,the IMF approved a three-year Poverty Reduction and Growth Facility (PGRF).7Subsequent performance has been mixed; GDP growth has been modest, averaging 3.1 percent per annum during1999-2001. Inflationmoderated, as did the fiscal deficit, which fell to 1.9 percent o f GDP in2001 based on stringent Government Transparency Intemational, "Global Corruption Report, 2001,"p. 120. Several studies have documented the problems o f state capture and corruption in Georgia. Some have ranked the country among the worst inthe CIS. See Hellman, J., G. Jones and D.Kaufmann, 2000, `Seize the State, Seize the Day: State Capture, Corruption, and Influence inTransition," World Bank Policy Research Paper 2444. Georgia ranked the highestin state capture, judiciary capture, and administrative corruption severity-in the latter by a high margin. The stock of expenditure arrears, principally for government wages and salaries and social security payments, grew bynearly 300 million lari-or 4.8 percent o f GDP-in the four years 1997-2000. IMF, "Recent Economic 'Developments and SelectedIssues," November, 2001, p. 53. No Bank disbursements on adjustment lending were made when no Fundprogramwas inplace. 3 expenditure restrictions. However, despite a liberal foreign investment policy, the climate for foreign investment is poor, and foreign direct investment outside o fthe oil sector has been negligible. Table 1.1: Georgia: Selected Macroeconomic Indicators 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 Annual Real GDP growth (%) -21.0 -44.8 -25.4 -11.4 2.6 10.5 10.6 2.9 3.0 1.9 4.5 GDP level (1990=100) 100 79.0 43.6 32.5 28.8 29.6 32.7 36.1 37.2 38.3 39.0 40.8 Average Annual inflation, CPI (%) 79.0 913.0 3126.0 15607 162.7 39.3 7.0 3.6 19.1 4.0 4.7 FDI(mil. USD) 8.0 6.3 54.4 236.3 221.0 61.7 152.6 96.1 Budget deficit, as % of GDP -25.1 -8.1 -7.3 -6.8 -6.1 -6.7 -4.1 -1.9 Tax revenues, as % GDP 5.6 7.0 10.6 12.7 12.8 13.8 14.3 14.6 Current Account, % of GDP (incl grants) -33.9 -11.3 -8.9 -10.5 -10.7 -8.5 -5.3 -5.6 Total employed (000) 1984.2 1792.0 1749.7 1730.0 2036.2 2233.2 1731.1 1732.6 1748.8 .. Exchange rate, Lari/US$ (annual avg) 1.102 1.280 1.250 1.297 1.39 2.02 1.98 2.07 Exchange rate, Ruble/US$ 22 220.0 932.0 2204.0 Source: World Bank and IMF staff. Note: The Lari was introduced in late 1993. 1.8 Overall Development Assistance. As can be seen infigure A9.1 in Annex 9, from 1994 to 2001net disbursements from the Bank and other ILIs, as well as non-energy commercial sources, comprised nearly US$1billion, with the Bank contributing around 45 percent, the Fund 33 percent, and bilateral donors 17percent. There i s a slight downward trendover the period, with a pronounced drop in2000, due to a slowdowninBank disbursementsas well as negative net disbursements from the Fund. The decline inBank disbursements during 2000 i s attributed to the delay o fnearlytwo years inthe disbursement o fthe ESAC second tranche, as well as a delay inthe disbursementofthe SAC I11second tranche, botho fwhich were eventually disbursedin December, 2001. 1.9 Revenue Mobilization and Debt (Annex I). By 1994 Georgia had accumulated around US$1billioninexternal debt-around halfto Turkmenistan for natural gas-some o f which resulted from borrowing that was not authorized by top government officials. Between 1995 and 1998, Georgia negotiated 11rescheduling agreements, but still accumulated additional arrears to Turkmenistan. The stock o f overall debt also increased as a result o f increasedborrowing from multilateral lenders. The current level o f external debt i s around US$1.7 billion, or around half o f GDP, and debt service comprises around 36 percent o f central government revenue. Revenue mobilization, the subject o f substantial and sustained donor effort from 1994 to 2001, leveled off at between 14 and 15 percent o f GDP inthe last 3 years, includingrevenue o f around 4.6 percent earmarked for local uses and 3.5 percent for extra-budgetary revenue (mainly pension contributions).8 This level o f central government revenue mobilization make it more difficult for the government to service debt, finance satisfactory social services, maintain human capital, and refurbish critical infra~tructure.~ World Bank and IMF, "Poverty Reduction, Growth, and Debt Sustainability in Low-Income CIS Countries," February, 2002. "Total Tax Revenue" i s usedto measure the government's revenue mobilization results, rather than the more inclusive "Total Revenue." The former was the measure utilized in the adjustment operations that are the subject of this PPAR, and since the latter includes privatization revenues and other volatile sources, Total Tax Revenue is considered as a more accurate and sustainable measure. 4 1.10 Increase in Poverty. Poverty inGeorgia can be measuredin several ways (Table 1.2). While the measures differ, they are consistent inindicating that poverty has increased. Poverty increased, inpart, because while GDP grew, inequality also grew; the Gini ratio rose from 0.29 in 1990 to 0.46 in 1998, puttingGeorgia inthe middle o f CIS countries inthis regard. Visible examples o f luxuryautomobiles and housing have given many people a cynical view o f the benefits o f economic reform." Growth was concentratedinjust a few sectors, and there has been no net increase inemployment. The Bank's Poverty Assessment'' proposed an anti-poverty strategy, and while the Government agreed to this strategy, its efforts have not been successfbl in preventing poverty from worsening. Table 1.2: Poverty in Georgia Poverty Headcount (percent o f population) 1988 1997 1998 1999 2000 Official Minimum 47 50 53 53 U S 4 . 3 0 per capita per day at PPP 16 50 57 60 63 International poverty line: US$2.15 per capita per day at 14 20 23 23 PPP Source:"World Bank: GeorgiaPoverty Update," January, 2002. 2. Objectives andDesignofthe ReformProgram 2.1 The seven operations that are the subject o fthis PPAR supported a consistent and cohesive program o f reform over the period 1994-2001. They were consistent with the objectives stated inthe partial country strategy o f 1995 and the fbll country strategy o f 1997.l2 The four adjustment and three TA credits provedto be a potent stimulusto the reform process. 2.2 The Heritage Foundation Indexo f Economic FreedomI3rates the progress o f Georgian reforms (2002) at 3.40 (where 1i s the highestand 5 i s the lowest), and the country ranks number 108 out o f 155 inthe world. Georgia's ratinghas improved from 3.95 in 1996 (earliest date available), and the country has the third highestrating (2002) o f the 12 CIS republics. However, inthe sub-categoryofproperty rights, Georgia is ratedat 4, the lowest inthe CIS (tiedwith 9 other CIS countries); for black market activity, Georgia i s rated at 5, a rating that i s shared among CIS countries only with Turkmenistan, Belarus, and Tajikistan. 2.3 Annex 7 shows all o f the areas o f reform addressed by each project. The following were the most prevalent areas o fprogram support: 0 Economic management: macroeconomic stabilization; revenue mobilization. 0 Privatization support: legal support; privatization strategy and implementation; public information. 10Interviews with government officials, other donors, and Bank staff. I'World Bank, "Georgia: Poverty and Income Distribution Study," May, 1999. l2The 1995 partial country strategy aimed to promote private sector development, redefine the role o f govemment and make it more efficient, rehabilitate infrastructure, strengthen public management, and strengthen the social safety net. The 1997 country strategy aimed to strengthen public finance, diversify sources o f growth, protect the environment, and reduce poverty. 13w w w.heritage.org 5 Government sector restructuring: reduction in size; restructure health sector; minimum budgetary allocations to social sectors. Energy sector: bolster financial performance o f energy firms; restructure sector; privatize energy firms; develop regulatory framework; improve service, decrease fiscal burden. Financial sector: strengthen bank regulation and supervision; privatize state-owned banks; assure that banks meet minimumprudential standards. Improve functioning o f markets: remove export restrictions, price controls; substantially raise prices o f some basic items. LegaVjudicial reform: establish legal framework sufficient to support market economy. Social sector: improve targeting; replace subsidies with cash compensation. Notably absent from this list i s a programo f anti-corruption measures. This i s a deficiency o f the projects reviewed inthis PPAR, and reduced their relevance. Also, considering the centrality o f poverty alleviation to the Bank's mission, there was relativelylittle emphasis on poverty inthe overall program. 2.4 The reformprogram was aimed at removingthe distortions and controls left over from the central planningsystem, remedyinginstitutional deficiencies, and setting up a framework that could support a market economy. The explicit assumptionunderlyingthe programwas that if these actions could be successfully completed, and the vast majority o f assets privatized, then a "supply response" would be forthcoming, and growth inincome and employment basedmainly on private investment (both domestic and foreign) would occur. 2.5 However, after 1998-99,the environment inwhich the Georgian reform program operated became increasingly inimical to further reform progress or to the development o f the private ~ e c t o r . 'The Bank partially changed its focus inresponse to the changing environment. ~ For example, when it became evident that further energyprivatizations (beyond those achieved within the framework o fthe ESAC) would be difficult, the Bank appropriately changedits approach: the Electricity Market Support Project, approved in FYO1, facilitated the hiring- through management contract-of international contractors to manage non-privatized energy sector assets. And when SAC I11(not the subject o f this PPAR) became effective inAugust 1999,it placed more emphasis on improving the environment for private business and further progress on privatization o f land, inaddition to continuing much o f the reform thrust o f SACS I and 11.I n retrospect, it can be questioned whether it was reasonable to continue adjustment lending in an environment with obstacles to development asfundamental as those in Georgia. 2.6 Inthe sections that follow, the three technical assistance credits (IBC, SATAC I, SATAC 11)are consideredtogether, while the adjustment operations are discussed individually. 14More accurately, it became inimicalto the development o f legitimate privatesector business. Foreigndirect investment 1996-2000constituted around3 percent of GDP per annum, highly concentratedinpipeline construction andprivatizations. Domestic investment was negligible. 6 3. TechnicalAssistance Credits(IBC, SATAC I,SATAC 11) Objectives 3.1 The InstitutionBuildingCredit (IBC) was intendedto buildthe capacity o f the government-and assist it to move to a market economy-in 3 key areas: financial sector reform; economic management; and privatization and enterprise reform. Inthe financial sector, emphasis was placed on improving accounting and auditing systems; conducting diagnostic studies o f five state-ownedbanks; and reviewingexisting payment systems. Ineconomic management, the project focused on policy formulation, statistics, customs and tax administration, treasury, debt management, and aid coordination. And assistance was provided for privatization. IBC was highly relevant, providingbasic technical and policy advice and equipment at a time when the country was emerging from a mindsetfocused on central planning. The sectors inwhich the project providedassistancewere fundamental to the emergence o f a market economy; "commercial banks" associated with existingenterprises were proliferating, and there was a substantial possibility o f a financial sector crisis unless regulation and supervision were strengthened. Inthe area o f customs and tax administration, there was a clear needfor assistance: tax revenue was just 5.6 percent o f GDP in 1994. 3.2 The objective o f the Structural Adjustment Technical Assistance Credit I(SATACI)was to provide technical assistance to support policy reform under SAC Iand SAC I1inthe following areas: privatization and post-privatization support; strengthening the financial sector; social protection reform; continued assistance modernizing customs and tax administration; strengthening the regulatory framework for energy; and restructuring the energy sector. SATAC Iwassubstantiallyrelevant. TheMassPrivatizationPlan(MPP)endedinmid-1996,and SATAC Iprovided assistance with the cash auctions and case-by-case privatizations that followed. The restructuring o f the energy sector was the first step inrestoring the financial health o f the newly independentenergy firms. And, as with the other TA projects, continued efforts to strengthenthe financial sector were neededto preventa financial crisis. 3.3 Structural Adjustment Technical Assistance Credit I1(SATAC11) objectives were to support SAC I1and ESAC by providing TA inthe following areas: judicial reform and an anti- corruption initiative; financial sector; energy sector reforms; social protection; health; resource mobilization; and public information. SATAC I1was substantially relevant. With the exception o fjudicial reform, anti-corruption, and social protection, SATAC I1essentially comprised a continuation o f activities started under the earlier TA credits. The extension o f activity to judicial reform and anti-corruption showed an accurate diagnosis that these areas constituted significant barriers to development. Implementation Experience 3.4 The IBC credit inthe amount o fUS$10.1 millionbecame effective inAugust 1994, and was the first Bank credit to the country. Itwas co-financed inthe amount o f US$0.6 millionby the Government o ftheNetherlands. Once effective, progresswas slowed duringa nine-month period duringwhich the PIUdid not have adequate facilities. The IBC closed inJune, 1998, six months later than envisioned. P 7 3.5 The SATAC Icredit inthe amount o f US$4.8 million equivalent was made effective in June 1996, and closedinDecember 1998, eight months later than the original closing date.15The government provided an additional amount o f US$0.41 million, for a total project cost o f US$5.21 million. The SATAC I1credit inthe amount o f US$5.5 millionbecame effective in November 1997, and closed 6 months later than expected inDecember 1999. The entire credit was disbursed. Outcome 3.6 IBC outcome was satisfactory. Most o fthe project's objectives were achieved, with some shortcomings. Inthefinancial sector, support was provided to the National Bank o f Georgia (NBG) for the development o f an automated clearing and settlement system for domestic payments.16 NBGwas also providedwith expert assistance inthe area ofbank supervision (in conjunction with the Central Bank o f the Netherlands), and comprehensive diagnostic studies were performedo fthe five state banks-which served as a first step intheir eventual privatization. 3.7 A law governing the functions ofthe NBGwas passedbythe Parliament inJanuary 1995, which consolidated the authority o f the NBGover central banking operations, monetary and credit regulations, and banking supervision. It also strengthened NBG autonomy to carry out monetary policy and limit the financing o f government, and authorized NBG to introduce a new national currency, which it didwith the introduction o f the lari in September 1995. Consultants provided advice on upgrading bank accounting and auditing, inconjunction with the IMFand the EU. While these efforts were largely successful, weaknesses incorporate governance and delays inthe full implementation ofIAScomprise remaining shortcomings. 3.8 Inthe area ofeconomic management, IBC consultants andtraining-assisted byresident advisors funded by the Netherlands and USAID-contributed significantly to the design and implementation o f the successful economic stabilization program (described earlier), which was also the subject o f the Rehabilitation Credit (RC) as well as IMF support. Consultant services and training were provided to the State Department for Social and Economic Information for household surveys, and a consultant study was done to streamline a number o f government functions, including economic policy formulation (though few o f its recommendationswere adopted). 3.9 The IBC was less successful inthe area o f strengtheningtax and customs administration (done inconjunction with the IMF). Incooperation with UNCTAD, the AYSCUDA systemwas installed at Tbilisi airport; a functional review o f issues affecting revenue mobilization was conducted; and investigative and anti-smuggling programs were undertaken. While the Tbilisi installation was intended as a pilot system, no other AYSCUDA systems were installed in other parts o f the country, in large measure because o f opposition from the Customs Department. (Tbilisi airport handles around 70 percent o f total legal imports into the country, by value.) A planned effort to computerize some customs functions was also dropped due to a lack o f commitment by the Customs and Taxation staff. However, it should be noted that tax revenue as The delay was mainly due to later than expected arrival o f computers and other equipment in support o f the Customs and Treasury automation components. 16While the interbank funds transfer system, which was the focus o f IBC assistance, works well, little progress has been made in augmenting govemment capacity on intrabank payments, use o f checks and credit cards, and the securities market settlement systems. IMF, "Georgia: Financial System Stability Assessment," November, 2001, p. 7. 8 a percent o f GDP rose consistently duringthe IBC, from 5.6 percent in 1995 (earliest data available) to 12.8 percent in 1998. 3.10 Thepublic information campaign was particularly successhl, both in support o f the privatizationprogram as well as the overall reform program. A Public Relations Information Center on Economic Reforms was established, and consultants assisted inthe development o f TV programs, professional workshops, press seminars, additional seminars invarious regions o f Georgia, and various types o fprintedmaterials. 3.11 Intheprivatization area, IBCtechnical assistance helpedthe government designand implement the MPP (mediumand large enterprises), and the voucher auctions started inJune 1995 (see para 4.5). Assistance was also provided for consolidation o f shareholder data; review o f a draft securities law preparedby local experts; assistance in selection and establishment o f pilot share registries; and training. Inthe area o f aid coordination, an Aid Management Commission was established, and assistance providedwith training a resident advisor, and modern office equipment. The debt management function was strengthened with the assistance o f UNCTAD, the government successfully tracked down and enumerated (unauthorized) debt (Annex 2). 3.12 SATAC Ioutcome was satisfactory. After the MPP had ended,privatization assistance was generally successful at facilitating cash auctions (Annex4). This consisted o f legal support to the cash auction process, as well as assistance inclassifylng enterprises, developing an information package on firms to be sold, and grouping enterprises for sale. Assistance was also provided inthe case-by-case sale o f large enterprises by tender-in marketingthe sales, grouping firms for sale, setting a minimumprice, completing limited restructuring, and helping the MinistryofState PropertyManagement (MSPM) inliquidationproceedings. While at first too higha reserveprice was specified, and saleswere slow, inmid-1997 the arrangementwas modified and sales increasedconsiderably. Finally, advice was provided on establishment and operation o f a pilot share registry. 3.13 SATAC Isupplemented UNCTAD assistance to the CustomsAdministration with additional hardware and training incustoms processing software, including the ASYCUDA. This assistance was delayed, as Customs didnot consistently support the project, butbyproject closing the training hadtaken place envisioned along with associated equipment. The TA didnot succeed in strengthening the agency, however. Despite a Resident Advisor inthe area o f anti- smugglingand training, there was no evidence o f a decline insmuggling, or increase inthe proportion o f imports on which duty was paid. 3.14 Instrengtheningthefinancial sector, a Central Treasury Data Base was set up, establishing a regional network throughout Georgia that controlled disbursal and utilization o f funds inaccordance with designatedbudgetary limits. Inaddition, a ResidentAdvisor was put into place, and computerization support was provided to the NBG inbank supervision. Work was also done to improve the debt reporting system, integrate macroeconomic analysis indebt sustainability scenarios, and provide training inthese areas to MOF staff. Achievement o f project goals was substantial, although delays were encountered inprocurement o f some hardware. 3.15 Inconjunction with the restructuringo fthe energy sector, assistance was providedto Sakenergo (the former state energy monopoly) to prepare a Debt Management Planprior to its 9 division into separate generation, transmission, and dispatch companies. Subsequently, assistance was providedwith the actual restructuring o f the company. Support was also provided to the government inrestructuring the energy sector into separate generation, transmission, and distribution companies (inclose coordination with U SAID), and indetermining the market structure and privatization strategy. This set the stage for the subsequent privatization o f Telasi (theTbilisi electricity distribution company). 3.16 The comprehensivepublic information program continued and had a noticeable impact on public perception o f the reform program, according to a number o f individuals interviewed. 3.17 Overall outcome o f SATAC I1was moderately satisfactory, compared to satisfactory in the ES. Most majorproject objectives were achieved, butwith shortcomings inthejudicial reform and revenue mobilization components and inthe procurement error described below. 3.18 The credit financed an assessmento fthejudicial reform agenda,17 which laidthe groundwork for the Judicial Reform Credit (FY99). The credit financed facilities bywhich the MOJ could publishan Oflcial Gazette and promulgate court decisions and official executive branch documents. Legislationwas also developed to enhance the independence o f the judiciary. A programto trainjudges was implemented, with the assistance o fUSAID and TACIS. However, assistance withjudicial reform did not achieve the envisioned benefits due to the lack o f respect for the rule o f law and the country's rampant corruption. 3.19 Inthefinancial sector, SATAC 11,inconjunction with the IMF,providedtechnical advice and equipment that strengthenedNBG's bank supervision capacity. A major improvement during SATAC I1was an increase inthe requiredcapital adequacy ratio. This contributed to the ongoing process o f sector consolidation started under earlier operations (Annex 3), and the number o fbanks continued to decline. 3.20 Inthe energy sector, a contractwas awardedto MerrillLynchto assist inthe auditing and valuation o fpower companies, and assist infinding buyers. This resulted inthe successhl privatization o fthe Tbilisi distribution company, Telasi, which was sold to AES-an American energy firm-in December 1998 (see Energy Sector Adjustment Credit below). Privatization resulted inbetter collection rates and improvedpower supply (Annex 2).AES also purchased the Gardabani generation facility. SATAC I1also providedtechnical assistance and hardware to GNERC, the energy regulatory authority, which bolstered its rate-making capabilities. 3.21 Inthe socialprotection area, SATAC I1improvedthe quality andtimeliness ofstatistics by supporting the development o fa povertymonitoringmethodology andthe implementation o f a household survey. Training was provided to staff and management o f the State Statistics Department, both inTbilisi and inthe UnitedStates. Also produced under this component was an assessmento f how to improve collections inthe pension system. 3.22 Inthe health sector, the credit financedpreparation ofaNational HospitalRestructuring Master Planthat was to be usedto identify excess facilities for closure. A separate plan was produced for each region, and workshops were heldwith heathprofessionals invarious parts o f the country. Rationalization efforts under SAC I1reduced the number o fhospitals by 33 percent, and the bedcount by 60 percent (see Annex 5). While these reforms were successfully "WorldBank,"GeorgiaJudicialAssessment," April10,1998. 10 implemented, the country's poor fiscal condition reduced its ability to benefit from the restructuring; poor facility governance; and low regulatory capacity limited the returns 3.23 Thepublic information program continued successfully, and the government was highly satisfied. Inthe area o f resource mobilization, computers were provided to the State Tax Service to facilitate transfer o f data between the regions and Tbilisi. The Service didnot make good use o f the new equipment; as has been discussed earlier and i s discussed inAnnex 1ingreater detail, the functioning o f the State Tax Service has not noticeably improved duringthe period under examination (although tax revenue as a percent o f GDP has risen). Continued assistance to the Customs Department still hadno perceptible impact on its functioning. 3.24 A contract was awarded for pre-shipmentinspection o fgoods inboundto Georgia to improve accuracy and reduce opportunities for fraud. Essentially, the contractor stationed its staff at sites from which large volumes o f goods would be shipped to Georgia. However, during the course o f this 3-year contract, relations betweenthe contractor and the Customs Department were poor, the arrangement neverproduced the benefits envisioned, and no further use o fthis mechanism was made after the end o f the contract inMay 2002. This sub-component thus produced negligible benefits. Sustainability 3.25 Sustainability o f the benefits producedby all three TA projects i s assessedonbalance as likely. Macroeconomic management has been successful-with the exception ofthe period following the 1998 Russian financial crisis-so there i s a strong expectation that this will continue. And Georgia has not experienced a financial sector crisis as have some other transition countries. The stronger bank supervision capacity to which both SATACs contributed has continued to grow, and the financial sector i s ingood condition (see Annex 3). 3.26 Other Treasury functions were also strengthened, and Treasury continued to evolve into a more competent agency. The analytical basis was developed for the Judicial Reformproject, which has had a positive and continuing effect on the country's judiciary. Mediumand large firms sold at cash auctions have remainedprivate. The energy sector was restructured as envisioned and the privatization assistance set the stage for the subsequent sale o f Telasi. While energy privatizationhas not progressedto the extent originally envisioned, the potential exists for improvement through the use o fmanagement contracts (Annex 2), and the privatization o f Telasi will continue to provide benefits. SATAC I1work inthe health area has hadmixed results; while some underutilized facilities have closed as a result o f the development and implementation o f the Master Plan, benefits havenot materializedto the extent envisioned. Giventhe reinforcement o f a perennially strained budget, the health sector achievements seem likely to be sustained. 3.27 The main shortcoming o f SATACs Iand I1was in failing to bolster the capacity o f the State Tax Administration and Customs Department. Georgia's revenue collection agencies were resistant to improvement throughout the period covered by this PPAR and sustainability o f benefits achieved inthis area i s unlikely. 11 InstitutionalDevelopmentImpact 3.28 For the IBC, ID1i s assessed as substantial. The IBCbuilt Borrower capacity across almost all o f the areas noted. Major accomplishments included improvement inbank supervision; a new legal authority for the NBG; improvedbank accounting and auditing; an enhancedmacroeconomic management capability; transfer o f state-owned enterprises to private ownership; and establishment o f a competent debt management capability. 3.29 SATAC I,ID1was also substantid. The legal andregulatory framework for the privatizationprogramwas improved, the capacity o f the Central Treasury to collect and disburse funds was strengthened, debt reporting was improved, andMoF staffacross a number o f hnction areas received training. SATAC Ialso supported the restructuring o f the former energy monopolist, Sakenergo. 3.30 SATAC 11, ID1was modest. While the credit made substantial contributions inthe areas o f strengtheningthe financial sector, energy sector restructuring, social protection, and health, these were partially offset by deficiencies inthe areas o fjudicial reform and resource mobilization-where the benefits achieved were diminishedby the difficult context inwhich they were introduced. Bank and BorrowerPerformance 3.3 1 For the IBC, Bankperformance i s assessedas satisfactory. Working under difficult conditions, the Bank identifiedkey areas inwhich assistance would be needed, and worked with a number o f partners inproviding appropriate support inthose areas. Procurement and project financial managementproceeded well, which i s not always the case for a new borrower. Government ownership was good for nearly all the elements o f TA provided. 3.32 Bank performance under SATAC Iwas satisfactory, The credit was well-conceived and aimed squarely at facilitating achievement o f reforms beingpursued under the SACS. The Bank exhibitedflexibility inusingcredit resources, for example, byinitiatingthe Public Information program as requested by Georgian authorities. Bank efforts to identify and coordinate providers o f TA were successful and were greatly appreciated by Georgian officials. 3.33 Bank performance under SATAC I1was satisfactory. The project was well-designed and effectively complemented the adjustment project. Project shortcomings inthe area o f revenue mobilizationwere common to that function inGeorgia generally. The only failing in Bank performance was its failure to identify the group o f Finance Ministryemployees who, on "leave" from the Ministry, formed a "consulting firm" that won a contract o f US$51,000 to build a data system to monitor external debt. This shortcoming was, in essence, the responsibility o f the government, which aside from beingresponsible for procurement, should have beenable to identify and disqualify this group. 3.34 Borrowerperformance was good for most IBC and SATAC Icomponents, and i s assessedas satisfactory overall for both projects. Agencies that were provided with assistance and equipment made good use o f it, and o f course today most have a much greater level o f capacity than duringthe IBC. As noted earlier, Borrower commitment was good for most aspects o f the projects, except for Customs and Tax Administration. Key staff incognizant agencies 12 were provided with training and equipment, and innearly all cases readily absorbed the informationand support provided. Considering the Borrower's inexperience, delays were minimal (except inthe case o f Customs and Tax Administration). Inpolitically difficult areas, such as privatization, the Borrower collaborated with Bank staff and developed a feasible program, which was implementedwith relatively few difficulties. The SATAC Iimplementing agency (PIU) was effective-in particular inmanagingprocurement. Ingeneral, officials were enthusiastic about the new capabilities that the TA brought, and benefited accordingly. 3.35 Borrower performance was positive inmany areas o f SATAC 11. However, efforts to furtherjudicial reformwere weakenedbythe country's rampant corruption andlack ofrespect for the rule o f law. Also, as described above, efforts to enhance revenue collection performance were less successfulbecause o f the lack o f cooperation o f the Customs and Tax Administration. Finally, it was ultimately the Borrower's responsibility to ensure that procurement was conducted inaccordance with Bank requirements,which itdidnot do (para 3.33). Onbalance, Borrower performance i s therefore assessed as unsatisfactory, compared to satisfactory inthe ES. 4. RehabilitationCredit Objectives 4.1 The project was intended to restore macroeconomic stability and promote the resumption of growth and improvement inliving standards by: (a) reducing and redefiningthe role o f the public sector; (b) fostering the development and increasedefficiency o f markets through policies governing price regulation, competition, trade, and finance; and (c) maintaininga minimum social safety net. Among the keyreforms were price and trade liberalization; phasing out the state order system; restructuring the government sector; privatization and private sector development; and improved targeting o f social benefits. 4.2 The RC was highly relevant to the circumstancesand capacity o f the country. Georgia was just emergingfrom a debilitating Civil War, and the capacity o f the government was severely limited. The credit supported the reform programundertaken bythe government in September 1994-after extensive discussions that year with the Bank. Restoring macroeconomic stability was critical; the 1994 hyperinflationhad improved to an inflation level o f 163 percent in 1995, and a tight monetary and fiscal policy was essential. Restoration o f growth was also essential. Downsizing government was also highly relevant: in April 1995, around 10 percent o f the population, and 18 percent o f the working-age population, was employed inthe public sector.'* The social protection systemcould not afford the level o f benefits it was paying, and there was evidence that some payments were not well targeted. Finally, achievement o f the structural goals o f the credit could lay a foundation for the start o fprivate sector-led growth. ImplementationExperience 4.3 The credit inthe amount o f US$75 million equivalent became effective inApril, 1995, and was the first policy-based loan to the country. Cofinancing o f US$3 million equivalent was provided by the Government o f the Netherlands. The credit was disbursed from April '*World Bankreport. This was comparableto other CIS republics. 13 1995, to January, 1996, and closed on the original closing date o f June 30, 1996. The RC was implementedconcurrently with the IBC, which aimedto build government capacity. Outcome 4.4 Outcome i s assessedas satisfactory, with most major objectives achieved, and only minor shortcomings. Macroeconomicstabilization was successful: the monthly inflation rate fell from an average o f 64 percent inthe first three quarters o f 1994 to an average o f 3 percent inthe first nine monthsof 1995. The exchange rate (the currency was then the "coupon") was stable after the end o f 1994.19 Economic growthresumed, with an increase in GDP o f2.6 percent in 1995 and 10.5 percent in 1996, albeit from a very low base. The fiscal deficit declined substantially (Table 1.l), mainly through reduction o f expenditures, although as tax revenues rose only slowly. Inpriceandtrade liberalization, the government abolished the export tax andreduced the numberof items subject to export licensing andquotas. Most price controls were eliminated,*' the foreign exchange surrender requirement was abolished, and inJune 1995, the state order system was also abolished. 4.5 Inthe areaofrestructuringgovernment, the government in 1995reduced the number o f budgetary positions by 40 percent, well above the R C target of 25 percent. Most o f this occurred inthe health sector, where inAugust 1995, 130,000 workers were removed from the budget, andbeganwork under contract to their newly-independentfacilities. Inthe area ofprivatization, by December 1995, around6,400 small enterprises were privatized, up from 1,700 just a year earlier. Progress was also achieved incorporatization o f medium and large firms. Actual privatization o f large enterprises occurred more slowly than envisioned under the credit, however (see Annex 4). The MPP, designed with the assistance o f the Bank, beganinmid-1995,utilizing voucher auctions as the principal means o fprivatization for medium and large-sized enterprises. Fiscal transfers to large enterprises beganto dwindle, and were virtually gone by the completion of SAC 11. In 1996, a law on land ownership was adopted giving individuals the right to own, lease, and inherit land. 4.6 Regarding the improved targeting of social benefits: pensions to working pensioners were ended; certain categories o f child and deathbenefits were eliminated; and modest increases were made inpensions and other benefits paid to the neediest. Finally, initial efforts to strengthen thefinancial sector were completed (see Annex 3), including diagnostic reviews o f 5 state-owned banks, anddevelopment o frestructuring/privatization plans for them; elimination o fdirected credits from NBG; andimprovedprudential supervisionby NBG. A new commercial banking law was adopted in 1996. However, it should be kept in mindthat the sector suffers from very low levels offinancial intermediation, andconsequently its role in facilitating economic developmenthas been limited(Annex 3). 19As noted earlier, stabilization laidthe groundwork for the introduction of a new national currency in September 1995. 2oThe RC required that bread prices be liberalized, but that did not happen untilmuch later. Inthe event, bread and electricity prices were raised substantially under the RC. 14 Sustainability 4.7 Sustainability o f reforms under the RC i s highly likely, as compared to likely inthe ES. These reforms havebecome part o fthe fabric o f Georgiansociety, andhavebeen reinforced by Georgia's membership inthe WTO, as well as by subsequent Bank and Fund operations. Citizens appreciate the macroeconomic stability inthe country, and would oppose irresponsible macroeconomic policy. And the country's budget stringencies tend to limit the potential for expansion o fthe bureaucracy. InstitutionalDevelopmentImpact 4.8 ID1was substantial, the same as the ratinginthe ES. Liberalizationo fthe trade regime, including elimination o fthe state order system, improved the efficiency o fresource utilization. Similarly, the downsizing o f government and privatization o f small enterprises encouraged more efficient use o fresources. And initial improvements were made inthe financial sector. BankandBorrowerPerformance 4.9 Bankperformance i s assessedas satisfactory. The Bank team moved quickly to enter a dialogue with the government after hostilities died down. Bank performance was excellent, except that the Bank team somewhat underestimated the political difficulties attendant to reforms that requiredlegislation, e.g., landprivatization, bankruptcy, anti-monopoly laws, which were passed later. The Bank also underestimated the difficulty o f improving the performance o f revenue mobilization. 4.10 Borrowerperformance was satisfactory, as compared to highlysatisfactory inthe ES, especially considering that the Civil War hadjust ended and that there was a substantial lack o f capacity. Progress was not as rapid as expected inthe areas o fnew laws on land privatization, bankruptcy, and anti-monopoly (which were passedlater), and revenue mobilization, which improvedmore slowly than envisioned. 5. First StructuralAdjustment Credit (SAC I) Objectives 5.1 The mainobjective o fthe credit was to consolidate the stabilization, foster a strong and sustained growth recovery, and reduce poverty. This was to be achieved through implementationo f a reform program aimed at: maintaining a tight monetary program supported by an improving fiscal position; streamlining the government sector and improving the efficiency o fpublic spending; andinducing a rapid adjustment o fthe productive sector to new market signals. Among the keyreforms sought were: (a) removal o f tax exemptions and strengthening o f tax administration; (b) improving collection inenergy payments; (c) changes inthe provision and financing o f social services; (d) acceleration o fprivatization; (e) restructuring the financial sector; and (f)trade liberalization and promotion. Macroeconomic objectives included ensuringthe sustainability o f the reform process and 15 financing critical imports neededto foster growth recovery and provide budgetary support to maintain a level o fbasic public expenditures. 5.2 SAC Iwas o fmodest relevance to the country at its stage o f development. Macroeconomic stabilization was clearly a key to sustained growth, and two years after the hyperinflation, a strong emphasis on consolidating the stabilization was essential. Giventhe country's low (but rising) level o f tax revenues and large fiscal deficit, action inthis areawas appropriate. Improved energy collections could serve as a foundation for a healthier sector, and quicker privatization and trade liberalization could provide a basis for an emerging private sector. 5.3 However, the credit didnot address corruption, which was increasingly recognized as a key barrier to economic development (see para. 5.16). Also, considering that poverty alleviation was one o f three overarching objectives, the credit design gave insufficient weight to this area-a critical shortcoming inan area o f great importance to the Bank and its mission. And while the inclusion o f efforts to bolster the financial sector was appropriate, the country's very low levels o f intermediation limit the benefits that can be derived (Annex 3). 5.4 The quality o f SAC Idesignwas also diminished, as was that o f the other adjustment operations considered by this PPAR, by an undue emphasis on counting the numbers o f enterprises privatized, with inadequate attention to the quality o f privatization.21 This emphasis shiftedthe focus from other important goals such as facilitating bankruptcy and liquidation, and promoting the entry o fnew firms. Privatization hadbeen expected to lead to significant gains inthe short- to medium-term-and a decrease inthe fiscal burdenwas achieved-but institutional weakness and lack o fprogress on enterprise restructuring and governance, among other factors, limitedthe gains.22 SAC Idesign was also diminishedby its reliance on "energy collections" as a key measure o f progress and condition for tranche release.23As described inAnnex 2, this was an unreliable indicator. ImplementationExperience 5.5 SAC Ibecame effective inJune 1996, and an initial tranche o f US$30 million (equivalent) was disbursedagainst the achievement o f specified conditions (e.g., budget deficit a maximum of 3-4 percent, allocation o f a minimumbudgetary share to health and education, privatization o f most small enterprises, privatization o f state banks and establishment o fbank certification program). The second tranche, also o f US$30 million, 21This deficiency is discussed in World Bank, OED, "IDA Review o f Private Sector Development," March 2001 ." However, it should be noted that Georgia's privatization conformed to the "best practice" o f that period. Expost reviews have clarified that implementation o f complementary measures-e.g., stronger enterprise governance and legal protection for minority shareholders and other investors-would probably have increased the gains from rivatization. See "IDA Review of Private Sector Development," op. cit; "World Bank, "Transition: the First Ten Years," 2002, op. cit; John Nellis, "Privatization, and Enterprise Reform in Transition Economies: A Retrospective Analysis," 2002; and World Bank, "Between State and Market: Mass Privatization in Transition Economies," September, 1997. 23"Energy collections" refers to the degree to which consumers and organizations are current in their payments to energy suppliers. Inmost instances, they apply both to end consumers as well as to payments between energy suppliers and distribution companies. 16 was disbursedinDecember 1996, as planned; the credit closed on the original closing date in December 1997. SAC Iwas prepared at a time when the first benefits of the stabilization program begununder the RC could be seen. Georgia made rapid reform progress during SAC I, conditions for tranche release were met, andno waivers were requested. all Outcome 5.6 Taking account o f the modest overall relevance o f the SAC objectives, and unsatisfactory efficacy inachieving some o f them, the SAC Ioutcome i s rated moderately unsatisfactory, as compared to satisfactory inthe ES.24Although most key objectives were achieved, they did little to ameliorate Georgia's most pressingdevelopment problems, including poverty andpublic corruption. Shortcomings inthe way energy sector reforms were conceived and implemented, together with the project's negligibleimpact on corruption and poverty alleviation, contribute to the rating o f outcome. 5.7 Areas o fpositive achievement include the macroeconomic area, where the credit successfully supported stabilization: The budget deficit declined slowly (and continued to decline through 2001). While the credit's inflation goal o f 25 percent for 1996 was exceeded-inflation was 39.3 percent in 1996-inflation declined the following year and has since remained at a relatively low level (except for 1999). Revenue mobilization, at 10.6 percent of GDP in 1996, exceeded the SAC Igoal o f 6.7 percent. Regarding streamlining government expenditures, achievement was also satisfacto ry. Some 11,000 positions were eliminated inthe education sector-a top of a 1995 decrease o f 33 percent for the sector.25 Fees were introduced for tuition in loth furtherdecreaseo faround 7 percent on grade and above, and for some activities. Government salaries were increasedby around 40 percent but pay levels still remained very low. The Government implemented a newbenefit targeting approach, replacing the existing child allowance system, that better targeted vulnerable groups. Prior to Board consideration, the retirement age was increased by 5 years, andpayroll taxes to the Employment and Social Security Funds were reduced. Responsibility for payment o f sickness benefits was shifted from the government to employers. 5.8 Other objectives were only partially achieved, or were fully achieved, but had little meaningful impact. For example, inthe health sector, reforms begun under the RC continued and management was devolved to individual facilities; a newpayment system was implemented; and a new accreditation system was implemented. Health sector reforms also included privatization o f drugstores and dentists' offices, and the start o fprivatization o f polyclinics (Annex 5). Yet, although healthsystemrestructuring was achieved, the country's poor fiscal position significantly reducedthe benefits derived. It shouldalso be noted that throughout the period covered by this PPAR, health outcomes measured interms o f life expectancy at birth, infant and under-five mortality rate and maternal mortality rate worsened significantly (although they compare favorably with other CIS countries; see Annex 5).26 Infant 24 Given that the credit's objectives were only modestly relevant, achievement under SAC Iwas insufficient to warrant a more positive rating o f outcome. 25World Bank report. 26The information in the section i s based on the discussion in the PER, op. cit., p 85-86. 17 mortality increased from 9 deaths per 1,000live births in 1991to 24 in2000. Similarly, the maternal mortalityrate inGeorgia i s 51per 100,000 live birthswhich, while low incomparison to other developing countries, i s up from 32.4 in 1993. The incidence o f infectious and parasitic diseases has also increased substantially, as it has for all the CIS countries. Achievement inthe health area was unsatisfactory. 5.9 Inthe energy sector, reportedenergycollectionsincreased from around 10percent in 1995 to around 65 percent inlate 1996, and a 30 percent tariff increase for electricity was implemented. Inaddition, a framework was adopted to restructure the sector, and create separate generation, distribution, and transmission companies (which was later successfully accomplished). However, while the actions envisioned inthe SAC were nominally achieved, the expected improvements inthe energy sector didnot occur. While data on the financial performance o f energy companies are not available, a 1997 Bank s t ~ d estimated that the 9 ~ quasi-fiscal deficit o f the electricity sector was 3 percent o f GDP in 1997,3.6 percent in 1998, and 4.3 percent in 1999 (based on 4 months data).28 The worsening performance o f the sector at the same time that improved collections were beingreportedprobably reflects corruption and the inaccuracy of the collection data, which were subsequently acknowledged as inaccurate by Bank staff. Because o fthe worsening overall situation inthe sector, SAC I achievement inthis area i s assessedas unsatisfactory. 5.10 Inthe areaofremoval of tax exemptions and strengtheningof tax administration, although the measures foreseen were implemented,the gains proved illusory, as numerous subsequent attempts had to be made to achieve the same goals. For example, although most tax exemptions were eliminated inMarch 1996,the Parliament regularly added new ones, narrowing the tax base and reducing revenue (Annex 1). The new tax and customs laws drafted during SAC I(with the assistance o f the IMF)were excellent, but they were underminedand circumvented by exemptions introducedby Parliament and continued corruption inthe State Tax Service. However, as noted earlier, revenueperformance exceeded the goals set inSAC I, and consequently achievement inthis area i s assessedas moderately satisfactory. 5.11 Accomplishment o f SAC Igoals inthe area ofprivatization i s assessedas moderately satisfactory, as privatization o f small enterprises was nearly completed, with over one thousand additional firms privatized-reaching around 8,100, or 90 percent o f the universeo f 9,000 enterprise^.^^ Landprivatization moved forward, with around 54 percent o f cultivated land under private ownership, and a Law on Land Ownership and a LandRegistration and Titling Law were passed in 1996. The State Bread Corporation was privatized, as were more than 500 medium and large enterprises, mainly through voucher sales. However, as described below under SAC 11, a large majority o f the book value o f the medium and large firms remained in state hands. 5.12 Achievement infinancial sector reform was satisfactory. The bank certification program initiated in 1995 was completed, and the number o fbanks declined from 229 in 21World Bank, report on power sector deficit. 28Insubsequent years, the quasi-fiscal deficit declined as major units were privatized (see Annex 2). 29It was later determinedthat there were around 10,000 small enterprises, with nearly all eventually privatized. 18 March 1995, to 65 by November 1996. DuringSAC I, three former state banks (FSBs) the reached agreement with NBGto improve their operations inaccordance with a time-bound program that requiredthemto meet specific benchmarks. Completion of this program would bringthem into compliancewith NBGprudentialregulations. SAC Irequiredthat all three banks be pri~atized;~' however, failure o f the employees and managers o fAgrobank to complete payment left 27 percent o fthe shares o f that bank instate hands. (Agrobank was sold to a Russianbank during SAC 11) However, as notedearlier, the sector suffers from very low levels of financial intermediation, andconsequently its role infacilitating economic development has been limited. 5.13 Inthe areaoftrade liberalization andpromotion, achievement was satisfactory. Exportprohibitions on certain products were removed, an ex ante registration requirement o f export contracts abolished, and an adequate foreign investmentcode was adopted. Sustainability 5.14 Sustainability o fthe reforms achieved under SAC Ii s likely. The sustainability o f trade liberalization i s enhanced bythe country's membershipinthe WTO, and its consistent support o f a liberal trade regime since the mid 1990s. Financial sector reforms have considerable support within the government, and Georgians are cognizant that they have not suffered a failure o ftheir financial system as have a number o f other transition countries. Aside from 1999, strong macroeconomic management since 1994 provides reason to believe that it will continue satisfactorily (see discussion under SAC 11. Given the perennial lack o f budgetary resources, it would seem unlikelythat social sector reforms-including the restructuring ofthe health system-will be undone, or that government agencies will be expanded. Enterprise privatizationhas become an accepted part o f Georgian society, and there has beenno serious discussion o fbacktracking. InstitutionalDevelopment Impact 5.15 ID1is assessedas modest, the same as inthe ES. SAC Ihad amodest influence on improving the country's ability to make use o f its productive resources through improvements inmacroeconomicpolicy management, reductions inthe size o f government, privatization, financial sector reform, and trade liberalization, as well as the first steps in restructuring the health sector. As noted above, expectedbenefits inthe area o f energy restructuring did not eventuate inthe long run. Bank and BorrowerPerformance 5.16 Bankperformance i s assessedas unsatisfactory. Quality at entry and project design were unsatisfactory; weaknesses included inadequate emphasis on poverty alleviation; undue reliance on energy collections as a measure o f compliance; and excessive reliance on 30With zero direct state ownership. 19 counting the numberso f enterprises privatized (which probably detracted from other important aspects o fprivate sector development). Also, the project did not address the country's pervasivecorruption or weak govemance. Supervisionwas generally effective. 5.17 Borrower performance was unsatisfactory. While there was nominal compliance with project conditionality, the energy sector's financial status deteriorated (para. 5.9); the worsening performance at the same time that improved collections were beingreported probably reflected corruption and inaccurate data. Inthe area o ftax administration, the Borrower-as observed with the benefito f greater time-tolerated andor fostered an environment inwhich theft and corruption were so pervasive that reforms were undermined, and economic development was hindered (although revenuetargets were met). 6. Second StructuralAdjustment Credit (SAC 11) Objectives 6.1 The objectives o fthis credit were to: strengthen public finance while maintaining a prudent monetary policy; develop the private sector; and alleviate poverty. The key reforms supported were measures to improve tax revenuecollection; restructure public spending; accelerate privatization; develop capital markets; improve financial discipline inthe energy sector; restructure the banking sector; and reform the provision and financing o f social services (to prevent the deterioration of humancapital). Macroeconomic objectives included financing critical imports and easing fiscal adjustment by financing current and capital expenditures as well as closing the country's financial gap. 6.2 SAC I1largely continued the reform thrusts o fthe earlier program. Many structural reforms had already been achieved-including price, trade, and exchange rate reform, as well as privatization o fmost small enterprises. Clearly, continued prudentmonetarypolicy and economic stabilization were an essential precondition key to continued growth. Private sector development was intended to foster the role o fprivate firms as an engine o f growth. However, while SAC I1addressedpoverty by supporting a poverty assessment and specifying minimumbudgetary allocations for health and education, the weight o f these actions was not commensurate with the importance o f these issues to the Bank's mission. Also, the Credit didnot adequately address corruption, an increasingly important and well- known obstacle to economic development. And as with SAC I, the design o f SAC I1was diminished by undue emphasis on counting the number of enterprises privatized and on the use o f energy collections as a measure o f compliance. Consequently, SAC I1objectives are assessedas having modest relevance. ImplementationExperience 6.3 SAC I1was approved in September 1997. The first tranche o f US$40 million was disbursedupon effectiveness inNovember 1997 against achievement o f specified conditions (e.g., implementationof teacher certification, increase inelectricity prices, achievement o f 65 percent collection rate for electricity, "zero price" auctions for enterprise privatization, 20 minimumbudgetaryshares for social sector) andthe second and last tranche ofUS$20 million, inDecember 1998. Two specified conditions for the secondtranche were not met, and a waiver was issued (see below). Outcome 6.4 Outcome overall i s assessedas unsatisfactory, as compared to marginally satisfactory inthe ES. The credit had shortcomings inthekeyareas ofstrengthening public finance, maintaining a prudentmonetary policy, preventingthe deterioration ofhumancapital, alleviating poverty, and improving the financial performance o f the energy sector. These deficiencies detracted from the credit's achievements infostering privatization, restructuring the health sector, increasingenergytariffs and establishing a solid energy regulatory regime. 6.5 Performance in macroeconomic stabilization, strengtheningpublicflnance, and maintaining aprudent monetarypolicy was negatively affectedby the 1998 Russiancrisis. Georgia's monetary aggregates had grown strongly before the crisis, against a backgroundo f declining inflation and exchange rate ~tability.~' Butthe Russiacrisis as well as widespread concern over domestic budgetary problems triggeredan exchange rate crisis, which necessitated the floating o fthe lari inDecember 1998;inthe event, it depreciated by 45 percent. With respect to improving revenue performance, tax revenue as a percent o f GDP leveled off in 1998, after 4 consecutive years of growth, androse gradually after that, reflecting generally satisfactory performance. However, the Government was reluctant to cut expenditures before the elections, and following the Russia crisis, exports fell and tax revenues plummeted.The 1998 revenue shortfall ledto the substantial accumulation o f expenditure arrears, especially inhealth and education.32The IMF Executive Board observed that: ". .little headway hadbeenmade in addressing deep-seated fiscal problems since the , end o f 1997.Although the external environmenthadbeen difficult, the mainsources of weakness had been policy slippages. Directors observed that weak governance and widespread corruption hadplayed a major role, and that these problems needed to be addressedurgently."33After the close o f the credit, Governmentwage andpension arrears surged, reaching 3.5 percent o f GDP (accumulated stock) inmid-2000, and inlate 1999 the IMFarrangement was suspended for eighteenmonths.34 Outcome inthe above areas is assessedas unsatisfacto ry. 6.6 Poverty worsened during SAC I1and subsequently(para. 1.lo), as the country's modest growth after 1998 was accompanied by a less equitable income distribution andno net increase in employment. The Bank's Poverty Assessment stated that the Government was not successful inimplementingthe recommended measures to reduce poverty.35 While thepoverty assessment undertakenunder SAC I1(and fundedby SATAC 11)was certainly a ~ 31IMF,"Georgia-Recent Economic Developments and Selected Issues," April, 2000, p. 19. 32hidp. 11; SAC I1ICR, p. 6. 33IMFArticle IV Consultation, April 21, 2000, p.2. 34The stock o f expenditure arrears, principally for govemment wages and salaries and social security payments, grew bynearly 300 million lari-or 4.8 percent of GDP-in the four years 1997-2000. (IMFdata). 35These measures included: sustained GDP growth; improved capacity for income redistribution through taxation and expenditure policies; creating incentives to foster private sector employment; protection o f existing level of poverty- focused transfers; and selected targeted regional interventions. World Bank, "Georgia Poverty Update," op. cit. 21 step inthe right direction, it was an inadequate step compared to the magnitude o f the problem and the centrality o fpoverty to the Bank's mission. Consequently, outcome i s assessedas highly unsatisfactory inthis area. The relatively modest efforts to improve the efficiency of public spending were satisfactory. Around 19,000 budgetarypositions were eliminated in 1997, and inparallel, civil service salaries were substantially increased. 6.7 Inthe areaofpreventing the deterioration of human capital, the government didnot meet the condition that the approved 1998 budgetinclude 7.3 percent and 13.0 percent allocations for health and education respectively, and requested a waiver for release o f the second tranche, which was granted.36 At first, the government artificially increased the allocation for healthby attempting to include the full undisbursedbalance o f the IDAhealth project inthe Ministry budget. After discussions with IDA, the government agreed to increase allocations to health duringthe actual implementation o fthe budget, which was done. Aside from the issue o fBorrower commitment, which was clearly lacking inthis instance, outcome data for health showing increased morbidity and mortality (Annex 5) indicate that efforts to stem the deterioration o f human capital were not successful. Also, as noted earlier, fiscal constraints severely limitedthe benefits from sectoral restructuring. Achievement inthis area is assessedas unsatisfactory. 6.8 Inthe energy sector, asecond waiver for second tranche release was requested regarding the condition that the average electricity collection rate (wholesale and retail) be raised to 70 percent for 1997 and 85 percent for 1998. Reported collection rates for the first nine months o f 1998 were 58 percent for distribution companies and 65 percent for transmission companies. The region concluded that collections had risen considerably inthe previous several years,37and that the remaining improvement could not be achieved "without restructuring the industryas a whole," and requested a waiver. Acknowledging that the main purpose o fthis condition was to improve the financial condition o f the power sector (see next paragraph), the waiver was recommended"based on measures [already] taken to reach financial sustainability." 6.9 However, corruption and inaccurate data mislead the Bank, and inactuality, collections inthe state-owned sector deteriorated after 1997, which contributed to the deterioration o fthe quasi-fiscal deficit (Annex 2). However, Telasi was able, with considerable effort, to increase its collections, which reportedly rose to 63 percent by 2002.3* It is arguable that withholding this tranche might have inducedthe government to enforce greater payment discipline inthis area; the granting o f the waiver was unwarranted. 6.10 An important SAC I1accomplishment was the raising o f electricity tariffs. In 1997, the price o f electricity was increased around 40 percent, to U S 3.5 cents/ kwh. The foundation o f an energy regulatory body-the National Electricity Regulatory Commission (NERC)-was established under SAC 11. Regulations were issuedgoverning the 36 The government later revised its 1998budget to include a higher allocation for health. 3 1Collections were reported to be 20 percent overall in 1995. 38 Telasi supplies around 40 percent of the country's electricity. 22 relationships between various firms inthe sector; a new tariff methodology was adopted (resulting inthe electricity price levels noted above); andNERC issuedlicenses to firms in the sector. 6.11 Inretrospect, although many o fthe energy sector conditions were nominally achieved, they did not achieve the objective of "improving financial discipline inthe energy sector," and the credit didnot result inan adequate foundation for a robust energy sector. As described inAnnex 2, the collection rate for electricity declined inthe last 4 years-except for Telasi-and the financial condition o fthe remaining state-owned energy firms deteriorated, and no further privatizations o f distribution companies occurred.39 Consequently, SAC I1outcome inthe energy sector i s assessedas unsatisfactory. 6.12 Inthe areaofdeepening healthsector structural reform, restructuringhadstarted in 1995, andcontinued through SAC II.40 Around 20 percent o fhospitals and polyclinics in Tbilisi were privatized, less inother areas; inaccordance with the master plan adopted, rationalization efforts succeeded inreducing the number o fhospitals by 33 percent, and the bedcount by 60 percent.41 While these reforms were successfully implemented, the country's poor fiscal condition reduced its ability to benefit from the restructuring; poor facility governance and low regulatory capacity limited the returns.42 It should also be reiteratedthat health outcomes deteriorated over the period covered by this PPAR. Equityinaccess to health care-a key goal o fthe program-was reduced by physicians' reliance on informal payments bypatients. And the control o f accreditation bythe Ministry o f Education-which had little incentive to maintainhigh standards among health professionals (Annex 5)- limitedthe gains inthis area. Implementation o fthe health sector structural reforms undoubtedly made the situation better than it would otherwise have been. However, despite a well-designedprogram and strong govemment support, outcome inthis areamustbe assessedas moderately unsatisfactory. 6.13 Inthe areaofprivatization, achievement was satisfactory. Progress was made in privatizing mediumand large enterprises, and the government initiated "zero auctions" i.e., those with no minimumprice, for firms that had not sold earlier. Large firms that accounted for 40 percent o f the book value o f the large enterprise category were privatized, more than fulfilling the condition o f25 percent. However, while the government had committedto the privatization o f 109 enterprises with a book value o f at least US$60 million (of the 140in that subcategory), in fact it privatized 91, arguing that 22 energy firms from another category should count against the goal. The Bank's argument inapproving second tranche release was that the condition had been"met insubstance," and this PPAR agrees with that judgment. 6.14 Inthefinancial sector, progress begununderthe earlier operations continued, and so achievement i s assessedas satisfactory. Agrobank was restructured and a majority share (54 percent) purchased by a Russianbank. As detailed inAnnex 3, bank supervision ''Asnotedlater, the keyGardabani thermalpower stationwas privatizedin 2000. 40The healthsectorrestructuringbenefitedfrom continuityo f bothBankandBorrower staff during 1995-2001, 4'The design o f the Georgianprogramhas been favorably comparedto others inthe region: "Georgia: Implementing a HospitalRestructuringProgramme," Eurohealth,Autumn, 2001, p. 74. 42For example, many hospitalsretainedstaff eventhoughthey hadfew patients and insufficientfunds to paytheir workers. 23 continued to improve, and most banking indicators remained relatively steady through the 1998 Russian crisis. Incapital markets development, the credit supported enactment o fthe Law on the Securities Market (1998) and establishment o f other measures to support capital markets infrastructure. While these measureswere successful, the market is still very thin, with only a few hours o ftrading per week.43And the market for government securities is limitedto small amounts o f short-term bills. 6.15 Inthe education sector, achievement was moderately Satisfactory, as the government metthe minimumbudgetary allocation for 1998 o f 13 percent, substantially raisedteacher salaries, and successfully conducted a program o f re-certifying teachers. However, enrollment inpre-school and upper secondary education fell sharply duringthe period covered by this PPAR, which tends to detract from the SAC I1accomplishments (see Annex 6 for a more detailed discussion o f education reform). Sustainability 6.16 While many o f the credit's objectives were not met, those benefits that were achieved are assessedas likely to be sustainable. Revenue performance, while not meeting expectations, has risen gradually. Similarly, increases inenergy tariffs, an important achievement, have been sustained since the start o f the transition and the government seems to have the political will to maintain them. Improvements infinancial sector regulationwere successful, the country's financial sector was relatively unaffected by the 1998 Russia crisis, and the government would seem to have a strong incentive to maintain the new regime. InstitutionalDevelopmentImpact 6.17 ID1was modest, with accomplishments including the energy regulatory regime; privatization; and increased energy tariffs. These were outweighed, however, by shortcomings inhealth sector reforms which were initially successful but which did not achieve the impact envisioned due to poor facility governance and low regulatory capacity;44 and education reforms, where achievement was moderately satisfactory when decreased access i s taken into account. Bankand BorrowerPerformance 6.18 Bankperformance was unsatisfactory, compared to satisfactory inthe ES. The SAC I1design didnotreflect an adequate emphasis onpoverty alleviation and anti-conuption measures. SAC 11's reliance on "energy collections" detracted from its effectiveness. Within the donor community at the time there was considerable skepticism regarding the validity o f these numbers as supplied by the g~vernment;~~ESAC, which became effective the 21 months after SAC 11, placedminimal reliance on these data. 43IMF, "Georgia: Financial System Stability Assessment," November, 2001. 44The reforms did not result in more equitable access to care. 45Interviews with Bank staff, other donor staff, and technical advisers who were working in the sector at the time. 24 6.19 The Bank's granting o f a waiver for lower than envisioned energy collections was, in hindsight,unwise. The effort bythe government to circumvent the letter and spirit o fthe budgetary allocation to health should have alerted Bank staffthat Borrower commitment was flagging. Inaddition, the macroeconomic situation was unsettledinNovember-December, 1998, when the Bank was considering a waiver for tranche release.46 Inretrospect, issuance o f a waiver inthis instance was unwarranted, and the Bank should have delayed disbursement o fthe second tranche, which would have sent a clearer message to the government. 6.20 Borrower performance was highly unsatisfactory, compared to satisfactory inthe ES. Onthe positive side, the modest efforts under SAC I1to improve the efficiency o fpublic spendingwere successful. Action to increase electricity tariffs-which took considerable political courage-and the development o f an effective energy regulatorybody, were successful. And actions to strengthenthe financial sector and raise tax revenues were largely successful. 6.21 However, Borrower performance inmaintaining a satisfactory macroeconomic framework was deficient, as described above inpara. 6.5. Borrower efforts to alleviate poverty were unsuccessful, as were efforts to prevent the deterioration o fhuman capital- where the government attempted to circumvent both the letter and spirit o f SAC conditionality. Collection rates inthe state-owned energy sector were inadequate and misleading, reflecting insufficient action by the government to improve the culture inthat sector, where theft and corruption were endemic. Overall, the Borrower did not maintain policies and conditions that supported achievement of project objectives. 7. EnergySector Adjustment Credit (ESAC) Objectives 7.1 The objectives o fthe Credit were to: (a) maintain the momentum o freform; (b) help mitigate its social costs; (c) enhance financial management; (d) combat corruption; (e) increase energy availability on a sustainable basis; (f) catalyze private investment; (g) realize Georgia's pipelinetransit potential; and (h) upgrade environmental management.47 Prior to consideration o f ESAC by the Bank Board, the Tbilisi distribution company, Telasi, was sold (for US$250 million) to an American investor experienced inthe region, AES; privatizationwas a pre-Board condition. The other main ESAC conditions were that the remaining electricity distribution companies be offered for sale, tariff increases be 46"Inview ofthe weak fiscal stanceandthe unsustainable exchange ratepolicy followedbythe Government of Georgia, the November 1998 mid-term review o f the IMF ESAF program could not be concluded. Corrective actions have been agreed...An IMF mission i s scheduledto visit in January, 1999, to continue discussionson an economic program for 1999." SAC I1Memorandum for releaseo f SecondTranche, December 21, 1998. 47ESAC reforms were closely coordinated with those o f SAC I11(not included inthis PPAR). 25 implemented, legal measures be implementedto facilitate construction o ftransit pipelines, the Wholesale Electricity Market (WEM) commence operation, andpoverty benefit arrears be cleared. 7.2 The ESAC objectives were highly relevant. They were designedto providean impetusto the ongoing effort to restructure andprivatize the energy sector. The Bank strategy o f seeking to privatize the distribution companies as a first step was sound, as it had the potential to generate revenue critical to the sector's financial health and for use in rehabilitating decrepit equipment. Inparticular, because the capacity and authority o f the Georgian state were so limited, reforms short o fprivatization-such as the commercialization o f firms still under government ownership-would not have been appropriate (and indeedwere not successful where they were tried). ImplementationExperience 7.3 The ESAC was approved inJune 1999. The first tranche ofUS$12.5 millionwas disbursed upon effectiveness against achievement of specified conditions (e.g., privatization o f Telasi, offering for sale o fremaining distributionand generation assets, new Electricity law, and an increase inelectricity tariffs), and it was expected that the second (and last) tranche would be disbursedinearly 2000. Disbursement was delayedby the deterioration o f economic policies inlate 1999, but implementation o fmost energy sector reforms continued. Inthe secondhalfof2000, macroeconomicperformanceimproved (para 1.7). Two disbursementso fthe PGRFwere made inJanuary andMarch2001, andthe IMF supported disbursementof the ESAC second tranche. However, the IMF's May review ofthe PGRF program was delayed because of performance shortcomings, and disbursemento f the ESAC second tranche o f US$l1.5 million was delayed untilDecember 2001, Outcome 7.4 Outcome was satisfactoy.Most importantly, the sale o f Telasi beganthe process of improving financial management inthe sector and stemmingits fiscal drain. Inthe three years since AES's entry, non-paying customers have been disconnected, Telasi collection rates have risen, and tamper-resistant meters have been installed.48 Inaddition, a new actor enteredthe sector which had a strong incentive to fight corr~ption.While the progress o f ~ ~ the newly-private firmhas not been smooth, there i s no question that the privatizedportion o f the electricity sector i s inmuch better condition than would have beenthe case ifit had remainedinstate hands. 7.5 Inaddition, while data on the availability ofelectricity inGeorgia are difficult to obtain, the supply (inTbilisi) seems to be improving. The measure most often used inthis context i s the wintertime availability of electricity inTbilisi. Anecdotal reports indicate an 48Some of the cost of the new meters was supportedby USAID, which also transferred around US$lO million for "winter heat" (2001-2002) which was eventually paidto Telasi. 49So while corruption remains an enormous obstacleto development, the introduction o f AES i s considered as having achieved objective (d), combating corruption. 26 improvement inthis measure since 1999, and Table 7.1 below provides partial data for the last two winters that reinforce this conclusion (objective [e],increase energy availability). Table 7.1: Winter ElectricitySupply in Tbilisi, 2000-2002 (Number ofhours of supply daily) Nov. Dec. Jan. Feb. Mar. Winter 200012001 16.00 12.94 11.35 12.71 23.97 Winter 200112002 22.33 22.42 20.68 23.79 23.94 Source: AESiTelasi. 7.6 In2000, AES purchased the largestthermal generation facility inthe country-the Gardabani plant-which hadbeenresponsible for incurringconsiderable govemment-backed debt inpayment for fuel.50 This purchase further reinforced the positive effects o f the Telasi privatization. These accomplishments contributed to the achievement o f objectives (a), maintainingthe momentum o freform, and (c) improving financial management ofthe sector. 7.7 Additional private investment was made inpipeline facilities, with the so-called early-oil pipeline from Bakuto Supsa commencing operations and earning around US$lO-1I million annually. InSeptember 2002, ground was broken for the 1,100 mileBaku-Tbilisi- Ceyhanpipeline, to transport oil from Azerbaijan to the Turkishport o f Ceyhan. This pipeline has the potential to earn US$42 million per year for the country (see Annex 2). Also, the South Caucasus Gas Pipeline along roughly the same route i s expected to be completed by 2005, earning additional revenue or payment inkind. These investments, together with the privatizations described earlier, comprised the achievement o f objectives (f), catalyzingprivate investment, and (g), realizing the country's pipelinetransit potential. 7.8 The credit helpedmitigate the social costs o f reform (objective b). A poverty benefits program-covering around 45,000 families-established as part o fthe program supported by the credit, was inarrears as the Government was slow to pay the stipulated benefits after the 1998 financial crisis. However, inaccordance with ESAC conditionality, the accumulated arrears were repaid, although with some delay, and the paymentsbecame more regular in 2001. The Government continued to disburse poverty benefits in2002, after ESAC closed, and as of end-2002, payments were current. 7.9 Also, an acceptable natural gas tariffmethodology was implemented,and the country adopted a law that clarified environmental liability (objective h). And specified firms inthe energy sector adopted International Accounting Standards (IAS), and their 1999 financial statements were audited. 7.10 After the sale o f Telasi, nearly all o f the remaining distribution capacity remained state-owned; most assets were offered for sale, inaccordance with ESAC conditions, but no offers were received. Corruption inthe state-owned energy sector worsened, as workers apparently perceived that opportunities for rents mightbe lost ifthe state-owned firms were sold.5' Beyondthe assets purchasedby AES, privatization didnot proceed due inlarge measure to lack o f investor interest inthe assets remaining for sale. This was due to the relative lack o f attractiveness o f the remaining,widely-dispersed firms; the unsatisfactory 50ESAC conditionality specifiedthat the remainingdistribution and generation capacitybe offeredfor sale. 51Source:Interviewswith Bank andFundstaff, and Government officials. 27 experience o f existing private investors; and Georgia's poor climate for foreign investment. Electricity collections inthe state-owned sector fell, andthe financial situation ofthe remaining state-owned energy firms did not improve (See Annex 2 for more detail). However, the sale o f Telasi and the Gardabani plant removed from public ownership the two largest contributors to the country's enormous energy deficit. Sustainability 7.11 Sustainability i s likely. Sustainability i s diminished by uncertainty over whether AES will remaininGeorgia, and questions over Borrower commitment to reform stemming from parliament's 13-monthdelay inratifying the Electricity Market Support Project (ESMP). However, AES' operational and financial results are improving (see Figure A2.1 and Table A2.3 inAnnex 2), and there i s no evidence that the company i s currently considering leaving the country. The law on eminent domain seems likely to remain, as it underpinsthe potential for the country to earn transit fees, and the other benefits achieved inthe area o f transit pipelines seem likely to endure, as well, for similar reasons. Electricityprice increases seem likely to continue; despite its fragmentation andweak govemance, the country has not reneged on any o f the energy price increases put into place since independence, all o f which were u n p o p ~ l a r .Overall, the country's continued dependence on and involvement with ~ ~ InternationalLendingInstitutions-with their emphasis onmaintainingpovertybenefits at a current level-enhances sustainability. InstitutionalDevelopmentImpact 7.12 ID1was substantial, compared to modest inthe ES andthe ICR. The ESAC made a significant contribution to the country's ability to utilize its financial resources by the privatization o f Telasi and Gardabani. Additionally, the changes inthe legal and regulatory regime pertinent to pipeline operation enabled the country to attract considerable investment inthat area, whichwill result insubstantial future transit fees. Finally, laws andregulations pertaining to environmental aspects of pipeline operationwere adopted. BankandBorrowerPerformance 7.13 Bankperformance was highly satisfactory. Qualityat entry was highly satisfactory, as the project contributed to the momentum o f a sound sector policy. The project appropriately focused on privatization as the strategy which could have the greatest impact on the sector's enormous problems. The intensification o f theft and corruption was envisioned as a possible response to privatization, but Bank staff and govemment officials felt that achieving progress by success with AES/Telasi and continued privatization were the best way to overcome this possibility. Supervision was also satisfactory: despite generally satisfactory progress inimplementingstructural reforms, disbursement o f the second tranche was delayed by nearly a year and a halfbecause o f unsatisfactorymacroeconomic 52As described inAnnex 2, electricity prices in dollar terms have risen consistently 1994-2001 28 performance. This delay, despite the government's pressing need for additional revenue, was entirely appropriate under the circumstances. Both tranches were disbursed only after completion o f all specifiedreforms. 7.14 Borrower performance was unsatisfactory. Despite a positive and helpful attitude towardprivatization o f energy assets (as noted above), the borrower did not maintain policies and conditions that supported achievement of project goals:53 0 Performance o f state-owned firms worsened; ineffect, theft accelerated inanticipation o f potential privatization, contributing to the sector's quasi-fiscal deficit. 0 The state-owned dispatch organization divertedelectricity to nonpaying customers for political reasons; this damaged the financial viability o f the sector, and sometimes caused AES to impose rolling brownouts on its own paying customers The lengthand uncertainty o f court proceedings impeded AES from collecting funds due from customers; when AES discovered that some o f its employees were involved with theft, it fired them, butwas forced to rehire them on the order o fa Georgian court. 0 The 13-monthdelay by Parliament inratifjmgESMP further diminished the interest of potential investors, who inany case were deterredby the poor investment climate-in part due to govemment policy. Regional and local interests who benefited from continued public ownership o f the remaining distribution companies impeded grouping them into potentiallysalable units. 0 The government tolerated a culture inwhich revenue collection agencies hinderedthe operation o fprivate firms-including AES andthe private firm managingWEM-by arbitrary demands for payment that were o f dubious legality. 8. Lessons Learned 8.1 Georgia's weak governance severely limitsthe country's ability to create conditions conducive to economic development and the effective use of development assistance-The problems that limit growth inGeorgia transcend economic policy. The political and geographic fragmentation o f the country poses severe challenges to the executive. The inability o f the executive to overcome obstacles posed by the parliament and regional officials, establish a minimumlevel o f the rule o f law, and overcome a pervasive culture o f corruption severely limits the country's ability to establish sustained, broad-based growth with significant job creation. 8.2 For a country such as Georgia, which experienced economic collapse, it is incumbent that the Bank give high priority to prompt measures that can directly mitigate conditions for the poorest. 53This section is based on interviews with energy sector firms, govemment officials, and Bank staff. 29 8.3 Turnover on the country team limited program effectiveness-From 1994to 1998,there was one Country Economist for Georgia. Officials interviewed cited the benefits that they believe this continuitybrought. However, since 1998, there have been3 Country Economists, and an interval o f around6 months duringwhich the position was unfilled. While there werejust two Country Directors duringthe periodcoveredby this PPAR, and good continuity on the rest o fthe Country Team, the tumover diminished the continuity o f the program, andprobablyconstrained the ESW that was performed. 8.4 A more robust and timely ESW programwould have been beneficial to the design o f the reformprogram-The Country's first poverty studywas completed in 1999; the design o f the reform program would have benefited from earlier work inthis area. A study o fthe "sources o fgrowth" might also have beenbeneficialbyidentifyingsectors from which growth might be expected to flow, and then considering means by which to facilitate such growth. A Public Expenditure Review-a veryuseful analytical tool for a country with Georgia's perennially weak fiscal situation-was completed in 1996, and then not again until 2002. Fiduciary reports (CFAAs and CPARs) were completed infrequently. The rapid tumover inCountry Economists was probably part o fthe reason for the weak ESW. 8.5 Turnover among policy officials hinderedreform progress-During the seven years coveredby this PPAR, there were seven Prime Ministers and four Ministers of Finance. There was also substantial tumover among other officials concerned with implementingthe reform program. For an official contemplating a brieftenure, it i s more difficult to appreciate the benefits o f reform, and so this tumover made reform progress considerably more difficult. 31 References Economist Intelligence Unit. "Georgia: Country Report." Aug 2002. FIAS. "Georgia StudyofAdministrative Barriers to Investment." Dec 2001. Hellman, Joel S., G. Jones, and D.Kauhann. 2000. Seize the State, Seize the Day: State Capture, Corruption, and Influence in Transition. Policy ResearchWorking Paper No. 2444. Washington, D.C.: The World Bank. IMF. 2000. Georgia: Recent Economic Developments and Selected Issues. IMFCountry Report No. 00/68. Washington,D.C.: IMF. IMF. 2001. Georgia: Recent Economic Developments and Selected Issues. IMFCountry Report No. 211. Washington, D.C.: IMF. IMF. 2002. Georgia: SecondReview Under the Three-Year Arrangement Under the Poverty Reduction and Growth Facility, Requestfor Waiver of Performance Criteria, and Requestfor Rephasing of Disbursements. IMF CountryReport No. 021261. Washington, D.C.: IMF. IMFandWorldBank. 2002. Poverty Reduction, Growth andDebt Sustainability in Low-Income CIS Countries. Washington, D.C.: IMF and World Bank. Nellis, John R. 2002. The WorldBank, Privatization and Enterprise Reform in Transition Economies: A Retrospective Analysis. Report No. 23737. Operations Evaluation Department. Washington, D.C.: WorldBank. Petri, Martin, G.Taube, and A. Tsyvinski. 2002. Energy Sector Quasi-Fiscal Activities in the Countries of the Former Soviet Union. IMFWorking Paper # WPlO2160. Washington, D.C.: IMF. Rose, Laura, and G. Gotsadze. 2001. "Georgia: Implementinga HospitalRestructuring Programme." Eurohealth 7(3):74-78. Schneider, Friedrich, and D.Enste. 2002. Hiding in the Shadows: The Growth of the Underground Economy. Washington, D.C.: IMF. Transparency Intemational. 2001. Global Corruption Report 2001. Berlin, Germany: Transparency Intemational. World Bank. 1997. Between State and Market: Mass Privatization in Transition Economies. Report No. 17078. Washington, D.C.: The World Bank. World Bank. 1998. Georgia Judicial Assessment. Report No. 17356-GE. Legal Department, Europeand Central Asia Region. Washington, D.C.: The World Bank. World Bank. 2001. "Review ofPrivate Sector Development inIDA10-12." OEDIDA Review. Operations Evaluation Department. Washington, D.C.: The World Bank World Bank. 2002. GeorgiaPoverty Update. Report No. 22350. PREM, Europe and Central Asia Region. Washington, D.C.: The World Bank. World Bank. 2002. Georgia Public Expenditure Review. Report No. 22913-GE. PREM, Europe andCentral Asia Region. Washington, D.C.: The World Bank. World Bank. 2002. Transition: TheFirst Ten Years -Analysis and Lessonsfor Eastern Europe and the Former Soviet Union. Report No. 23511. Washington, D.C.: The World Bank. 33 ListofAnnexes Annex 1: ExternalDebt and Revenue Mobilization Annex 2: Energy Sector Annex 3: Financial Sector Annex 4: Privatization Annex 5: Health Sector Annex 6: Education Sector Annex 7: Reform Areas Addressed by the Seven Projects Includedinthis PPAR Annex 8: Corruption Annex 9: Net Disbursements byDonor Annex 10:Basic Data Sheet 35 Annex 1 ExternalDebt and Revenue Mobilization Debt 1. Georgia has accumulated a large external debt, i s illiquid, and has a limited ability to service this debt. As noted earlier, by 1994 Georgia had accumulated an external debt ofUS$1 billion, mostlyto purchase natural gas and electricity. Around half o fthis resulted from actions o f the former energy monopoly, Sakenergo, that were not authorized by higher officials. (Sakenergo has now been divested o f nearly all o f its assets.) The firm importednatural gas and electricity from neighboring countries' and incurred substantial debt, most on commercial terms, and nearly all carrying a government guarantee. 2. The country's debt has been rescheduled more than a dozen times; the current level i s around US$1.7 billion, roughly halfo f GDP. Around half i s to multilateral institutions, with the other halfowedto other countries. All Bank lendinghasbeenon IDAterms. At a Paris Club meeting inMarch, 2001, principal repayments for 2001/02 were rescheduled over 20 years, with an interest rate o f 4 percent for most o f the debt. Payments to Turkmenistan (to which Georgia owes US$337 million) were restructured on the same terms, even though Turkmenistan i s not a Paris Club member. The country's main vulnerability i s the lack o f public sector liquidity and mobilization o f adequate revenue to service the debt. Despite the earlier rescheduling agreements, debt service in2000 amounted to around 37 percent o f central budget revenue. In2001, international reserves were around 1.2 months o f imports. 3. A joint Bank-Fund debt sustainability analysis2concludes that even with favorable assumptions on revenuemobilization and macroeconomic perf~rmance,~there would be a severe liquiditysqueeze in2003, and a need for additional debt rescheduling. The ratio o fthe net present value o f debt to public revenuewould fall, under these assumptions, from 356 percent in2000 to 252 percent by 2005. The ratio o f public debt service to revenue-even assuming stronger performance on revenue mobilization-would rise to over 40 percent o f GDP in2003/04, before declining to 36 percent in2005. A reduction inprojected disbursements on concessionary terms would intensifythe liquidity squeeze. 4. Assumingless robust export growth andrevenuemobilization, the analysis concludes that the 2005 ratio o f the net present value o f debt to public revenuewould range from 263 to 318 percent, depending on debt rescheduling terms. The 2005 ratio o fpublic debt service to revenue would range between 31to 43 percent in2005, also dependingon the terms. ''Russia, Turkmenistan, Azerbaijan, and Armenia. "Poverty Reduction, Growth.. ...,"op. cit, 2002, Annex 1, p.12. Average GDP growth of 3.75 percent per year; moderate inflation; increase intax-to-GDP ratio of 0.5 percent per vear; repayment of domestic expenditure arrears; concessional ILIdisbursementsof around US80million per year, plusUS$20-30 million innon-project grants; stable exportiGDP ratio. 36 Annex 1 Revenue Mobilization 5. As shown inthe table below, tax revenue as apercent o f GDP improvedsignificantly from 1994 to 1999, but has increased only slightly since then4 It should be noted that tax revenue includesfunds earmarkedfor spec@ uses; in2001,for example, funds equal to 3.5 percent o f GDP were earmarked for extrabudgetary expenditures, and 4.6 percent for local government expenditure^.^ So o f the tax revenue o f 14.6 percent o f GDP in2001, after deduction o f earmarked funds, revenues o f around 6.5 percent o f GDP would be available for all other purposes. This level o f revenue mobilizationmakes it more difficult for the central government to service debt, finance satisfactory social services, maintainhuman capital, and refurbishcritical infrastructure.6 And the lack o frevenue has beenparticularlydifficult for thepoor.7 Table Al.1: Tax revenues, as YOGDP 1994 1995 1996 1997 1998 1999 2000 2001 5.6 7.0 10.6 12.7 12.8 13.8 14.3 14.6 Georgia's tax revenue as a percent o f GDP i s comparable to low-income CIS countries, but considerably below the CIS or ECAregion average (see Table below). Table A1.2: Tax Structurefor CIS Countries,2000 VAT Excise Trade Profit Income SS Total Tax TotalNonTax Armenia 6.5 2.5 0.8 2.0 1.4 2.3 17.7 1.2 Azerbaijan 4.1 0.5 2.1 2.7 2.0 2.3 14.6 6.3 Georgia 4.9 1.5 0.9 1.3 1.8 2.4 14.3 0.8 Kirguiz 4.8 2.4 0.4 1.1 1.1 3.5 15.8 2.6 Moldova 8.2 4.1 1.4 1.7 1.1 6.1 26.6 3`7 Tajikistan 2.5 0.5 1.5 1.8 1.6 12.9 0.6 Uzbekisthn 7.6 7.8 0.7 3.2 4.2 26.7 1.8 Average CIS 6.2 2.5 1.3 2.1 2.6 3.9 21.6 2.5 Source: Georgia Public Expenditure Review, November, 2002, p. 12. Tax revenue i s used as a measure of overall revenue mobilization because (1) it was the measure usedinthe adjustment operations reviewed in this PPAR; and (2) becausenon-tax revenue, e.g., privatization proceeds, i s more erratic. Consequently "Tax Revenue" i s considered as a more accurate measure o f long-term sustainable revenue mobilization. IMF,"Georgia: SecondReview Under the Three Year Agreement," November, 2002, p.20. Infrastructure requirements are massive. The IMFestimates that the energy sector would require around US$1billion to bringfacilities up to modem standards, (IMF, "Recent Economic Developments," November 2001, op. cit.), while around US$200 million would be needed for the health sector, cf. Eurohealth, Autumn, 2001, op cit. 'TheBank's the PovertyAssessment as inputsto its strategy, it was not successful inimplementation ...specifically, the 2002 Poverty Update states: "While the Government generally embraced the recommendations of improvement inrevenue mobilization was too slow, especially over the last two years; at the same time, quasi- fiscal subsidies (especially inthe energy sector) continued to have perverse distributive effects. Facedwith constant lack o f funds, the Government failed to consistently finance benefits targeted to the poor and allowed a substantial buildup o f arrears." 2002 PovertyUpdate, p. v. 37 Annex 1 6. Improved revenue mobilization has been a goal of six of the seven credits that are the subject of this PPAR-all except the ESAC. Efforts included: 0 Tax law and policy o Removalo fmost tax exemptions o Enactment o fnew Tax Law (1997) Tax Administration o Computerization o Strengtheninginvestigatiodenforcement capacity o Reorganization o Expansion o fLarge Taxpayer Unit o Substantial increase instaff salaries o Training 0 Customs o Computerization o Strengthening Customs administration o Implementation o fpre-shipmentinspection bya private firm o Substantial increase insalaries o Enactment o fa new Customs Code o Training to strengtheninvestigative and enforcement capacity 7. Inaddition, improvedrevenuemobilizationhasbeenthe subject of strong, sustained efforts by other donors, including the IMF,USAID, and the EU. Improved revenue performance has been the principal subject o f most IMFmissions duringthe period 1994-01. Most recently, the IMF supported an advisor to assist incustoms reform and modernization, with 3 two-month visits in2001and early 2002. The Fund's February, 2001, assessment o f Georgia's State Customs Department (SCD) and its deficiencies i s not dissimilar from those found inBank and Funddocuments five years earlier: "The geopolitical situation makes it difficult for SCD to control smugglingthrough certain regions o f the country. However the situation on secure borders and inland terminals still has immense room for improvement. Clearance and collection procedures are weak. Risk assessmentto operate selective controls i s not used. Control o f exemptions i s inadequate. Diversion o f transit cargoes i s a major source o f revenue leakage. The ASYCUDA computer system operates only inone location. The [privately contractedprogramo f pre-shipmentinspection] didnot attain its revenue targets; cooperation between the company and SCD are poor; and reconciliation o f assessments and actual collections i s difficult. The low level o f customs collections also results from poor staff commitment, lack o f integrity, and low remuneration." Tax System 8. Georgia introduced a comprehensive and modern Tax Code in 1997, with substantial foreign assistance, principally from the IMF. The main taxes are the VAT, excise, income, 38 Annex 1 profit, social, and customs. Rates are moderately high, with the VAT at 20 percent, personal income rates from 12 to 20 percent on a progressive scale, and corporate tax at a flat rate o f 20 percent. 9. However, since enactment o f the law, numerous amendments have beenmade. Some have been to improve tax collection and administration, but most were the result o f interest group lobbying and have had the effect o f decreasing state revenue. For example, inthe years 1997-2001,there were 75 amendments to the tax code pertaining to the VAT, as summarized inthe Table below. Approximately 65 o f the changes made had the effect o f decreasing state revenue, while 10 had the effect o f increasing state revenue. Table A1.3: Amendments to the VAT, 1997-2001 Act to decrease state revenue T w e o f amendment Number Prolongs rate decrease 17 Introduces tax exemption 16 Narrows tax base 13 Reduces VAT rate 10 Lengthens transitional period 3 Prolongs tax exemption 2 Delays tax introduction 1 Prolongs base narrowing 1 Prolongs special administrative regime 1 Eliminates minor excises -1 Sub-total - 65 Act to increase state revenue T w e o f amendment Increases VAT rate 6 Broadens tax base 1 Removes tax exemption 1 Eliminates tax privilege 1 Shortens transitional period -1 Sub-total - 10 Total - 75 Source: IMF, Recent Economic Developments and Selected Issues, November 2001, Table 11-2 10. Prior to 1999,the M o F was responsible for revenue collection, but in 1999 the Ministryo fRevenuewas createdto facilitate reforms. However, the MORwas never givena clear vision o f its long-termrole and mission, and thus endedup implementinga number o f separate programs initiatedby highofficials or by donors. The Customs Administration has provedparticularly impervious to reform, and no progress was made inintegrating the work o f tax and customs administration.* InMay, 2002, the two ministries were mergedonce again. *Georgia Public Expenditure Review (PER), November, 2002, p. 21-23. 39 Annex 1 11. Pervasive corruption has heavily constrained the govemment's ability to raise revenue: "Revenue administration operates ina highly corrupt environment inwhich tax favors are bought from tax inspector^."^ To control such practices, in2001 the government developed an Inspector General at MOR,but its power to access informationand conduct audits i s highlycircumscribed, and thus far it has not had the anticipated impact. Overall, efforts to improve tax administration and revenue generation have been less successful than envisioned.Io 12. The total stock o f tax arrears at the end o f 2001 stood at LARI394 million (LAM 1,024.5 million including penalties), equivalent to one year's total revenue collection." Moreover, tax arrears have grown. Frommid-1997 to mid-2001, the stock o f tax arrears (including penalties) increasedfrom 4.6 percent o f GDP to 10.5 percent." 13. I n sum, revenueperformance has been hampered by pervasive corruption, weak institutions, a lack ofpolitical will to enforce collections, and limited control over a signi9cant part of the country's borders. Expenditures 14. The majority o f the country's successful fiscal adjustment has been a result o f cuts inexpenditures. However, inlarge measure because o f weak budgeting procedures, the Government has not yet met its revenue and expenditure targets, and large arrears have accumulated, e.g., inwages and pensions. The Government has not yet demonstrated that it can operate efficiently or effectively, as pervasive corruption, poor training, and l o w pay continue to hinder the performance o f public servant~.'~ 15. Expenditure arrears are extensive. While data are imprecise, IMF estimates put the total arrears stock at 320 million lari at end-2000. Table A1.4: IMF Estimate of ExpenditureArrears for End-2000 (millions of lari) Current Expenditures 319.9 Wages and Salaries 118.0 Goods and Services 55.6 Subsidies andTransfers 52.8 InterestPayments 0.2 Extra-BudgetaryExpenditures olw Social SecurityFund 83.3 Local Government (non-wage) 10.0 PER, p. 22 I O "...theintroduction of comprehensivereforms will continue to be hamperedby powerful vestedinterests, who continue to influence taxation policies for their own benefit. Inaddition, becauseof the extent to which these interestshave gained control ofthe state apparatus, the govemment'sattemptsto combat high-level corruption will remain half- heartedand largely fruitless, and low-level corruption rife, owing to low wages andnon- payment of public-sector salaries." Economist Intelligence Unit, August, 2002. 11 PER, p. 24. 12 IMF,"Recent Economic Developmentsand SelectedIssues," November, 2001, p. 110. l3 PER, p. 37. 40 Annex 1 16. For 2001, MoF estimatesthat payments on past arrearstotaled 27.2 million lari instead o fthe planned 81.6million.l4Unfortunately, new arrears were introduced simultaneouslyinthe amount o f 114.4 millionlari -resultingin a net increaseinthe arrears stock o f 87.2 million. It i s estimated that 64 million o fthis i s for Central Government, while the balance i s primarily for the social security fund. 14Because of the way MoF defines arrears, there i s a risk that the total may actually be higher. 41 Annex 2 Energy Sector Introduction 1. The energy sector plays a critical role inGeorgia's economic performance as well as inthewelfare ofits citizens. Inthe Soviet Unionelectricity hadtraditionallybeensuppliedat very low rates, and citizens were, ineffect, not accustomedto paying for the power they consumed. Not surprisingly, after the end o f the civil war, reported collections' were very low-around 6 percent in 1994-96-but were said to have risen substantially by 1997-98to around 65 percent, inlarge measure due to the country's compliance with SAC Iand I1 conditionality (see table below). However, since 1998, collections have fallen precipitously (see tables below).2 2. Beyondpoor cost recovery, the sector i s faced with other severe challenges: massive corruption throughout the system (except inTelasi); dilapidated or non-functional eq~ipment,~ technical losses estimated at a high 13.3 percent; political dispatch of with electricity to non-paying customers; operational difficulties; non-payment for electricity providedto autonomous region^;^ theft o f electricity, inpart by managers and employees (estimated at perhaps 15 percent o f the total electricity supplied); and massive debt. Despite the strenuous efforts o fthe government andthe Bank, the sector has deteriorated in the period 1994-2001,has detracted from the country's growth, and has been a fiscal drain (although it was less o f a fiscal drain at the end o f the period). m i l e the Bank's efforts slowed the sector's deterioration, it did notprevent its continued downward slide. A leading bilateral donor heavily involved inthe area believes that Georgia's energy sector-despite its recent progress-is inthe worst conditionofthat ofany CIS country, andthat there is ahigh risk o ffurther deterioration. 3. The price o f electricity, traditionally very low inthe Soviet Union, was gradually raised under the reform program-which requiredconsiderablepolitical courage. In September 1995, the tariff for consumers was raised 600-foldto 1.9 U S centdkwh. In 1996, the consumer tariff was raisedagain to 2.5 U S cents. A further increase to 3.5 U S cents occurred in 1997.5 The current price i s 3.9 U S centskwh, although it has risenproportionally muchmore inlari. This price i s for all consumers except those served by AES/Telasi, for which the tariff i s U S 6.2 centskwh. One result o f the sustained increase in ' "Energy collections" refers to the degree to which consumers and organizations are current intheir payments to energy suppliers. A s explained earlier, data on collections are unreliable, but are presented here because: trends inreportedcollections canbe indicative; and collection levels were an explicit goal o fthe SACS. Ironically, one o f the reasons for the drop incollections seems to have been the prospect o f privatization; corrupt workers and managers, faced with the possibility that their source o f fundingwould pass into private hands, apparently intensified their theft. "Due to years o f poor maintenance because o f insufficient revenues, less than half o f generation facilities are operational and some o f them may be damaged beyond repair." IMF, "Recent Economic Developments," November 2001, op. cit. South Ossetia and Abkhazia do not pay for electricity consumed, while Adjara does pay. Electricity prices calculated at prevailing exchange rates. 42 Annex 2 prices i s a reduction inenergy consumption. Georgia's ratio o f primary energy consumption to GDP i s the second lowest o f the CIS countries, around 11.5 percent (1999), compared to ratios o f over 15 percent for all CIS countries except Armenia-which also raised rates substantially.6 4. Electricity supplies are erratic inthe state-owned sector, with continuing outages; as noted above, electricity supplyhas improved inTelasi-served areas, with an improved wintertime supply o f electricity inTbilisi. However, inother parts o f the country, interruptions inpower supply significantly affect industrial prod~ction.~The protracted blackouts have severely hinderedthe prospects for growth, and have also caused social discontent. 5. The energy sector incurred massive debt, although the privatizations o f 1998 and 2000 reduced the sector's quasi-fiscal deficit. In 1997, a Bank study' estimated that the electricity sector deficit was 3 percent o f GDP in 1997, 3.6 percent in 1998, and 4.3 percent in 1999 (based on 4 months data). The power sector deficits for those years were much larger than the budgetary deficits, and had significant negative consequence^.^ The privatizationo f Telasi and Gardabani, as discussed earlier, prevented these facilities from hrther contributing to the sector's quasi-fiscal deficit. While data are imprecise on collections at the end-user level, Bank staff estimates place the 2001quasi-fiscal deficit o f the electricity sector at approximately 2 percent o fGDP-a distinct improvement attributable to progress achieved under the ESAC. Nevertheless, by 2001, the total debt accumulated by the energy sector reachedUS$1billion, o fwhich around halfwas official debt owed to Russia and Turkmenistan, and the rest was the commercial debt o f state-owned energy companies.loInaddition, in 1999-2000 the Wholesale Electricity Market incurred debt- unauthorized by higher government officials-of around US$200 millionto purchase energy. The debt owedbythis one sector thus comprised around one fiftho fthe country's GDP in 2001* 6. Duringthe period 1994-96, the government endeavoredto improvethe situation in the energy sector through better statemanagement, butachievedlittle. Thus the Institution BuildingCredit (1994) didnot have any energy provisions, and the Rehabilitation Credit had conditions limitedto increasing energy prices to reflect "full cost recovery." By 1996, however, with the help o f the Bank (SAC Iand SATAC I), the government embarked upon a sector restructuring and privatization program. The former energy monopoly (Sakenergo) was restructured into generation, distribution, and transmission and dispatching units. While the Tbilisi distributioncompany-the country's largest-was kept intact, the government unfortunately split the rest o f the distribution sub-sector into around 62 separate firms which ~~ '*". IMF, "Energy Sector Quasi-Fiscal Activities inthe Countries o fthe Former Soviet Union," 2002. Most large firms maintain substantial self-generating capacity, which is expensive both to acquire and operate. World Bank report on power sector deficit. ...Georgia has used its electricity sector as the major source o f subsidies for social protection and for softening industrial budget constraints. The resulting quasi-fiscal deficit o f around 6 percent o f GDP has been substantially larger than the narrow fiscal deficit for many years. This has fostered massive corruption, provided an extremely poorly targeted social safety net, frozen resources in value-subtracting industries, and caused over U S $ l billion o f debt accumulation. As a result, protracted electricity blackouts have severely undermined economic growth prospects and caused growing social discontent. This has major macroeconomic and social significance in a country with universal electrification, an energy-intensive production base, and cold winters." Draft country strategy). I OCountry strategy. 43 Annex 2 were for the most part owned by the municipalities or regions that they served. Division in this manner hinderedthe possibilityof selling the smaller firms because theywere usually too small to comprise an attractive package, and it strengthened their political ties to the local communities which now owned them. 7. Overall electricity collections have declined inthe past few years." Table A2.1 below shows the situation in2002. The low national rate o f retail collections, 33 percent, persists despite the good performance o f the nation's largest distributor, AES/Telasi, which received cash collections for 63 percent o f the electricity for which it billed. Table A2.1: Estimated Retail Electricity Collections, 2002 Distributor Percent of country's electricity Collection rate, percent supplied AESlTelasi 40 63 All other distributioncompanies 60 13 Total 100 33 Source:Interviewswith energy firms, govemment officials, and Bank staff. Table A2.2: Reported Collection Rates in the State-owned Power Sector (in percent of billings) 1997 1998 1999 2000 Wholesale collection rate 71 55 34 22 Retail collectionrate 68 51 44 31 Source: IMF, "Georgia, Recent Economic Developments and Selected Issues," Nov. 2001, op. cit., p. 87. Data include collection through offsets and exclude commercial lossesas well as nonpayment for electricity suppliedto Abkhazia and South Ossetia. Electricity Privatization 8. The privatization strategy for the sector, developedjointly betweenthe Bank and the government, was to privatize the distribution companies first, to lay a financial foundation for privatizing other parts o f the system. InDecember, 1998, the Tbilisi distribution company, Telasi, was sold to AES, an American utility investor experienced inthe regional2Georgia thus becamethe second CIS country-after Kazakhstan-to sell an electricity distribution company to a strategic investor. AES also purchased (in2000) the productionfacilities at the Gardabani thermal power plant andtook a long-termlease on two hydropower plants. 9. After the Telasi sale, the government decidedto privatizethe rest o fthe distribution firms; however, protracted wrangling followed over how to group andpackage the firms for proposed sale.13 At the time o f this writing, IFC has taken the role o f advisor to the power sector and i s working with the distribution firms, which remain state-owned. Telasi was sold very quickly-in around 9 months. However, subsequent privatizations stalled for several reasons: 0 The remaining distribution companies were not as attractive to outside buyers as Telasi *I Despite the inadequacy o f collections as a measure, the data in this section are presentedas indicators o f broad trends. This transaction was facilitated by the assistance o f an intemational investmentbank, which was fundedby SATAC 11. 13 It is possible that the remaining firms would not have been successfully soldno matter how they were grouped, but the long dispute didnot help. 44 Annex 2 0 Regional and local interests which were benefiting from continued public ownership didnot facilitate grouping the companies into a salable unit AES didnot have a positive experience inits first years o f operation (see next two paragraphs) 0 The extremely poor physical and financial condition o fnearly all components o fthe sector has deterredpotential investors. 10. Ineffect, theprivatizationstrategy was dependent on a successful experience with Telasi, which could have built momentumfor further progress. However, Telasi encountered numerous difficulties inits first few years, and expended great effort in improving its operational and financial performance. The Telasi experience was probably not encouraging to other potential investors. As for the state-owned sector, the risk o f asset-stripping was recognized (see ESAC MOP, para 43), but it was hoped that momentum from the first sale could lead to further progress. However, due to the reasons cited earlier, no new privatizations o f distribution companies occurred. (Two 300-MW units at the Gardabani thermal power plant were also sold to AES inApril 2000). 11. Insum,while theprivatizationsto date have hadpositive results, further progress seems unlikely. AES has had some success inimproving collections (from around 10 percent in 1998to around 63 percentnow), especially inareaswhere tamper-resistant meters have been installed, and its financial performance i s improving (see Table A2.3 and FigureA2.1, below). The company reports that collection from budgetary organizations has improved, and large firms that fail to pay their electricity bills have been cut off. However, the company has invested US$250million inGeorgia, and so far has realized little or no profit. Telasi has had difficulty inreducing the theft o f electricity and inprosecuting those responsible. Because o f the lengthand uncertainty o f court proceedings, the company prefers to sell receivables at 50-80 percent o f their face value rather than pursue cases. And, because o f the politically-motivateddiversion o f electricity (by the dispatch organization) to non- paying customers outside Tbilisi, AES has sometimes hadto impose rolling brownouts on its own paying customers, which has inhriatedthem. Finally, when AES fired some o f its own workers who it found were involved intheft, it was requiredto rehire themby a Georgian court. Figure A2.1-AES Telasi Operational Data, 1999-2004, in Gigawatt hours 3,000 2,500 2,000 1,500 1,000 500 1999 2000 2001 2002 2003 2004 13Collection BlBilling BlPurchase Source: AES Telasi 45 Annex 2 Table A2.3: AES Telasi FinancialResults,2001 and 2002 2001 2002 (in OOO'$) Jan.-Sept. Jan.-Sept Variance Total Revenues 29,060 37,452 8,392 PurchasedElectricity (35,442) (15,774) 19,668 Operating Expenses (28,418) (23,028) 5,390 Other Inc. (Exp.) (33713) (102) 3,611 Pre-tax Contribution (38,513) (1,452) 37,061 Source: AES Telasi. FinancialResults 12. As noted above, ESAC conditions requiredthat additional generationassets and the remainingdistribution companies (beyond what AES hadpurchased) be offered for sale. While this was done, no offers were received. The authorities are reconsidering, with the advice o f IFC, whether to repackage the 62 additional distribution companies, which did not sell when packaged into two units, and there may be another effort to privatize them. With privatization stalled, the US$ 27.4 millionElectricityMarket Support Project,14 approved by the BoardinApril, 2001, recognized that the only realistic strategy may be to retain international contractors to manage non-privatized distribution assets-as has been done for the dispatch company (see discussion below)-while I L I s andbilateral donors provide financial support on concessional terms. However, the course this credit has taken does not augur well for the sector's progress; it was stalled inthe Parliament-apparently by factions who stood to lose from its enactment-for 13 months, untilits approval in May, 2002. There i s considerable resistance inthe country to retaining foreign management firms to operate key parts o f the sector." After approving the credit, the Parliament imposed onerous conditions that would require its approval o f certain actions taken by the management contractor. 13, Underthe ESAC, in 1999the Wholesale ElectricityMarket (WEM) was established, which i s incharge o f financial settlements between buyers and sellers o fpower inthe marketplace. Prior to the retention o f a foreign management firm, WEM management borrowed around lari 400 million, which was not technically within their authority. Then, in 2001, a Spanish firm, Iberdrola, received a management contract to operate the WEM. However, as o f mid-2002, Iberdrolawas experiencing severe operational difficulties that, in the judgment o f its management, made its continued operation problematical: l6 The Ministryo fTaxationhadfrozen its bank accounts due to an allegation o f lari 5.5 million inunpaidtaxes (which Iberdrola disputes). Iberdrola's position i s that it cannot operate as a clearing operation ifit does not have the use o f its bank accounts. 0 Iberdrola has repeatedly disconnected several large power customers (e.g., state- owned water companies), only to be contacted bypolitical officials who negotiated an arrangement rescheduling the debt; when cash payments were not received on time, the process was repeated. (However, ingeneral the programto disconnect non- paying industrialcompanies was successful) 14The objectives o f this project are to provide support for equipment for metering, dispatch, communications, and transmission, as well as to fund international management contractors. 15Interviewswith Bank staff and staff o f other ILIs. l6April 3, 2002 Memorandum from the General Director to ILIs andbilateral donors. 46 Annex 2 The Ministryof Taxation (ina dispute separate from that notedabove) stated that WEM i s subject to the VAT, while Iberdrolabelieves that, as a clearinghouse that does not add value, it should not be subject to the VAT. (Inaddition, the VAT Department calculates the tax due on the basis o f the amount billed, rather than that received). Without WEM permission, the VAT Department removed lari 1.3 million from WEM bank accounts inMarch, 2002, 97 percent o f all revenue received that month. InJanuary and February, lari 0.8 millionand0.5 millionwere removed. 14. Data for 2001 collections illustrate the magnitude o f the problem facing WEM: billings consisted o f lari 188.9 million, o fwhich 33.8 percent was collected. Upon further inspection, "collections" were comprised o f 29.3 percent cash, 44.8 percent offsets, and 25.8 percent subsidies. Thus, WEM received cash for only around 10 percent o fwhat it billed.17 15. The transmission and dispatch companies remainstate-owned, with a foreign management contractor that started operations inmid-2002. Most sector participants interviewedbelieve that the dispatch o f energyhas been heavily influenced bypolitical factors as well as by bribes to managers inthese two companies. The supply o f electricity i s also degradedby dilapidated transmission and dispatch facilities and technical limitations on the flexibility with which power canbeprovidedto various localities. 16. A soundregulatory framework was establishedunder the 1997 ElectricityLaw, with the Georgia NationalEnergy Regulatory Commission beginning operations in 1998. ** GNERC has significant technical capacity-supplemented byconsiderable USAIDtechnical assistance-and i s not subordinate to the Executive Branch o f Government. The agency licenses all firms active inthe energy area-in the power, natural gas, transport, and pipeline sectors. The agency has functioned well ina very difficult environment. While the agency has considerable independence inconcept, a number o f sources stated that, inpractice, it i s becoming increasingly subject to political influence. Electricity Collections 17. SAC Iand I1relied on electricity "collections" as a keymeasure o fprogress and a condition to release funding. However, this reliance may have been misplaced. Interviews with Bank staff, representativeso f other donors, and foreign firms providingtechnical assistance inthis area indicate that the Bank relied on data provided by the Ministry o f Energy. Inthose instances where a detailed inquirywas later made into collections ina specific district, actual collections were often lower than those reported by the Ministry. In addition, a large segment o f "collections" was not cash, but offsets against other funds owed. For example, as described above, data from in-depthstudies by foreign providers o f technical assistance indicated that in2001, only 10 percent o f the payments made to the WEM were in cash. Thus, the reliance o f the Georgian adjustment program on this measure seems misplaced. 17Data obtainedfrom PA Consulting,Tbilisi, aUSAID contractor. 18GNERC also receivedsupport from the StructuralReformSupport Credit, as well as from USAID. 47 Annex 2 Natural Gas 18. The gas sector inGeorgia was very hardhit bythe economic decline after independence. In 1990, the country consumed 5.45 billion cubic meters (BCM), o fwhich 5.4 billion was imported. By 1995, owing largelyto the huge debt incurred to Turkmenistan and the consequent decline inaccess, domestic consumption fell to 0.9 BCM, and then declined further to 0.8 B C M in 1997-all importedfrom Russia. Most o f the gas importedi s used for power generation and industrial uses. The supplyto households has shrunk to very low levels because poor meteringand billing/collection systems hinder commercial operation o f a gas distribution system. And finally, technical losses intransmission remain very high. The mandate o fthe GNERCwas extendedto encompass the monopolistic aspects o fgas supply,includingtransmission and distribution, although it will not regulate exploration and production. Oil and Gas TransitPipelines 19. Georgia's geographic location presents substantial potential for the transit o f crude oil and natural gas from the Caspian basin. The "Early Oil" pipelinei s currently transporting oil from fields off the Azeri coast to the Black Sea port o f Supsa. The construction o f the pipeline-the Georgian section o f which cost around US$300 million-resulted ina strong increase inGeorgian construction a~tivity.'~ Thispipeline eams around US$10-11 million annually on shipment o f 5.5 million tons o f oil. Feasibility and preliminary engineering studies have been completed on a more ambitious pipeline which would also transit Georgia. The Baku-Tbilisi-Ceyhan pipelinewould ship Caspianbasin oil to the TurkishMediterranean Sea port o f Ceyhana2' The design concept for this pipeline i s for 50 milliontons per year, and Georgia has negotiated a royalty of US$O.12per barrel, which could generate an annual income o f around US$42 million ifthe pipelinei s built (it could potentially open in2005). Another pipeline transports Russian gas to Armenia, and Georgia receives 10 percent o f the gas transported as an in-kindpayment. ~~ 19Funding came from intemational oil companies. 20This would avoid the environmentally riskytransit of the Bosphorus. 48 Annex 2 Table A2.4: Energy Reform: Objectivesand Realization of Adjustment Credits Credit Key Objectives Realization Comment Rehabilitation Increase prices o f gas i d electricity Fully met SAC I Improve collections from 6-10% to Conditions nominally met: 65%; limit Sakenergo's use of Sakenergo authority imported fuel and power. reduced; reported collections rose during period o f SAC I. SAC I1 Improve sector financial discipline; The conditions on Collections fell after increase collections (to 70% in 1997 collection levels were not credit close; financial and 85% in 1998); improve financial met, butthe region condition o f energy SOEs condition o f energy companies; group requested a waiver, arguing deteriorated; availability distribution companies in salable that collections had of energy did not packages; raise electricity tariffs; increased substantially and improve (until2001 - establish independent regulatory body. that further improvement 2002). Efforts to group would require substantial remaining distribution restructuring of the sector. companies into salable Financial condition o f packages has not yet been energy companies was not achieved (although it i s improved during SAC 11, possible that they may and distribution companies not be salable at any were not grouped into positive price no matter salable units; tariffs were how they are grouped). raised and a regulatory bodv created. ESAC Enhance financial management o f All conditions met. Law on Quasi-fiscal deficit o f the energy firms; combat corruption; eminent domain passed; electricity sector declined increase energy availability; catalyze poverty benefit arrears inlarge measure due to private investment; realize pipeline cleared, but with a delay; privatizations. transit potential; upgrade IAS adopted by energy Availability o f electricity environmental management; mitigate firms. Private investment inTbilisi improved. social costs o f energy reform. increased, pipeline transit potential realized. Telasi and Gardabani privatized, but no further progress in this area. However, financial situation o f state- owned firms deteriorated. 49 Annex 3 Financial Sector 10. Georgia has advanced significantly inthe development o f its financial sector, including a two-tier banking system, divestiture o f all state-owned banks (SAC I),and strengthening o f the legal and institutional framework for bank regulation. Inlarge measure because o fthe introduction o fminimumcapital requirements o f 5 million lari in 1997(SAC I)as well as a bank certification program (SAC I),the sector went from having 225 banks in 1995 to just 27 inearly 2002. The market share o f the former state banks has dropped steadily, and as o fmid-2001 comprised around 32 percent. The Former State Banks are not dominant inany one sector. The banking sector i s highly concentrated, however, with around 80 percent o f assets controlled by the 10 largest banks. ' 11. However, although bank supervisionwas strengthened, weaknesses incorporate governance and delays inthe full implementation o f Intemational Accounting Standards (IAS) comprise remainingweaknesses. The sector also suffers from low levels of financial intermediation, and consequently its role infacilitating economic development has been limited. Assets account for around 12percent o f GDP (mid2001) and deposits around 5 percent o f GDP.2 Eventhough the level o f intermediationhas increased 150percent since the 1998 Russia crisis, Georgia i s still among the lowest CIS countries interms ofthe level ofintermediati~n.~ The principal reasons for this are: 0 Lack o fconfidence inbanks; hyperinflation inthe early 1990seroded confidence inbanks as savingsmechanisms 0 A very large informal sector, which does not utilize banks 0 The lack of informationavailable to lenders and the weak enforcement ofcreditor rights Harassmentbytax authorities o fbusinesses' deposits inbanks, oftenblocking or evenremoving a firm's funds (without the depositor's authorization), while the justification for the authorities' actions i s unclear4 0 Widespread doubts about the quality o fbank management. Dollarization i s very high-around 82 percent inmid-200l-up from 58 percent in 1997, with the increase stimulated bythe devaluation o f the lari (against the US$) o f around 50 percent inthe wake o fthe Russian financial crisis in 1998. Prudential regulation o fthe sector improveddramatically over the period 1994-2001, and capital adequacy and bank liquidity indicators remained relatively stable during the 1998 Russia crisis. The bankingsystemas awhole was reportedto be ' IMF, IMF, "Recent Economic Developments....," op. cit. "Recent EconomicDevelopments and SelectedIssues," November, 2001, p. 62. World Bank, "Transition: The First Ten Years," 2002, p. 64. IMF, "Georgia: FinancialSystem Stability Assessment," November2001, p. 5. 50 Annex 3 profitable in2000. However, recent on-site inspections revealed an understatement o f distressedassets and non-performing loans, and a resultant overstatement o f capital and profitability. The main riskto the banking system i s judgedto be a credit risk,principally due to inadequate risk identificationand insufficientlyrigorous monitoringand managementpractices. The government i s working with IFIsto further strengthenthe sector. 0 The important role played by nonpayment mechanisms, e.g., arrears and barter. 12. It shouldbenotedthat the highdegree o fdollarizationraises the foreign exchange risk inthe bankingsystem. This is because around 75 percent o fthe banks' foreign currency denominated assets comprise loans to borrowers, most o fwhom do not have foreign currency incomes or hedging facilities. Table A3.1: AC ustment Operations and their Major Financial Sector Objectives Credit Key Objectives Realization Comment Institution Building IntroduceIAS; support diagnostic studies o f 5 state-ownedbanks; strengthen bank legalframeworkand supervisih Rehabilitation Diagnosticreview of 5 state-owned All conditionsmet: A new commercial banks, and development of Diagnostic reviews bankinglaw was restructuring/privatization plans; and restructuringplans adoptedinFebruary, elimination of directedcredits from NBG; completed; NBG 1996. improvedprudential supervision byNBG supervisory functions strengthened; directed credits eliminated SAC I Privatizationof a majority share of All conditionsmet: Agreement with Former State Banks (FSBs). FSBsto FSBscommit to time- FSBs implied a sign agreementswith NBGto meet boundperformance 100%marginal periodic financialperformance enhancementprogram reserverequirement; benchmarksuntil they meet prudential with NBG. FSBs NBGpowerover requirements,and can thenbe certified. closedunprofitable banks established branches, cut costs, and upgraded operations.Two of three FSBs improve. SAC I1 Beginimplementationof agreedplanto All conditionsmet: restructure Agrobank; sell remainingstate Agrobankwas share inAgrobank; certify Agrobank certifiedbyNBGand accordingto agreed criteria, or withdraw was purchasedby a its license; do not introducedeposit Russianbank insurance. 51 Annex 4 Privatization 1. The legal and institutional framework for privatizationwas established by the government in 1991and 1992 with the establishment o f the Ministry o f State Property Management and a 1991Law on Privatization (a revisedlaw was passed in 1997). The initial privatizationprogram-mainly focused on small enterprises-was approved by Parliament in 1992, and in 1994, a decree introduced direct sales and discounts for purchases by employees as an additional privatization option. As o f October, 1994, around % o f the 6,500 small enterprises then identified hadbeenprivatized by auction, commercial tender, or direct sale.' By the start o f the Rehabilitation Credit (March, 1995), 40 percent o f the 6,500 hadbeenprivatized, and by the end o f SAC I1(December, 1998), nearly all o fthe 10,000 small enterprises then identified hadbeen sold. 2. The Mass Privatization Program (MPP), designed inpart with the assistance o f the Bank, began inmid-1995, utilizing voucher auctions as the principal means o f privatization for medium and large-sized enterprises. Every Georgian citizen was eligible to receive one voucher, which had anominal value o fUS$35, but which commonly traded inthe secondary market for aroundUS$3-5. Vouchers could be used to purchase up to 35 percent o f the shares o f an enterprise. Enterprise employees received 5 percent o f shares free, and were giventhe option to buy an additional 51percent (part o f which could be purchased with vouchers) at a discount to book value. Duringtheperiod June 1995-June 1996,45 voucher auctions were held and around 800 mediumand large-sized enterprises were offered for sale.2 By October, 1996, around 500 o fthe 1,000 mediumand large-sized enterprises then identified hadbeen sold. 3. Following the end o fthe voucher program, cash auctions were utilized, which commonly hada minimumreserve price 50 percent above book value; as a result o fthis constraint, few firms were sold at first. Inmid-1997, inconsultation with the Bank, the government agreed that ifa firm failed to sell 3 times at auctions with a reserve price, then it would be sold with no minimum. Under SAC 11,unsold firms were classified according to their book value and the extent to which ownership remained instate hands, andthe Bank establishedtargets for the sale o f firms within each category. In 1997 and 1998, around 300 additional mediumand large-sized firms were sold for cash at "zero price" auctions. (Additional firms were sold as part of the energy sector privatizationprogram, as described in Annex 2). ' Inthe Georgian privatization program, prior to 1998 there was considerable uncertaintyover how many enterprises of a given size were in existence. The universe o f small firms was later recognized to be around 10,000, and of medium and large-sized firms to be around 1,000. One weakness of the auction program was that no announcement was made o f the entire list of firms that was to be sold. 52 Annex 4 The table below summarizes achievement o f credit goals inprivatization. Table A4.1: Privatizationinthe Adjustment Operations Credit Key Privatization Objectives Realization Comment Rehabilitation Complete privatization of all small Privatization o f 90% of ~~ As privatization program ~ enterprises by end-1995; corporatize small enterprises was progressed, universe of all remaining large enterprises by achieved by end- 1995;* (known) small mid-1995; proceedwith privatization 84% of medium and large enterprises expanded o f 15 large enterprises by f i r m s corporatized by end- intemational tenders-complete by 1995; little progress mid-1996 achieved in Drivatization o f large enterprises SAC I Reduce number o f enterprises in Ninety percent o f small The most valuable which the state keeps a majority enterprises were firms-as measured by share; complete privatization o f privatized;** 500 book value-remained in small enterprises; privatize an medium and large firms state hands. additional 200 medium and large were also sold. firms SAC I1 Commence "zero auctions" for firms Zero auctions started; 91 Instead o f privatizing that have not sold; privatize 109 enterprises privatized 109 enterprises, the enterprises through cash auctions by through cash auctions; govemment privatized 3/98; privatize large enterprises large enterprises with 40% only 9 1 and argued that accounting for at least 25% o f book o f category's book value 22 energy firms that value o f the "large enterprise" privatized were the subject o f category separate conditionality should be counted in this group. The Bank concurred, arguing that the second tranche be releasedbecause the condition hadbeen "met in substance." *Duringthe RC, the universe ofsmall enterprises was identified as 7,100, ofwhich around 390 were sold. **During SAC I,the universe o f small enterprises was identified as 9,000, and privatizations reached around 8,100. By the end o f 1998, nearly all o f the 10,000 small enterprises then identified hadbeen sold. 53 Annex 5 Health Sector Structural Reform 1. Efforts by the Bank to foster structural reform inthe Georgian health sector began during 1995 (though not formally part o fthe RC) and continued through SAC 11. The starting point for the programwas the large oversupply o f facilities and staffthat were the legacy o f the Soviet era. In 1988, Georgia had 10 hospital beds per 1,000 population, which by 1999 hadbeenreducedto only 4.6 beds/1,000, a signal achievement, but still almost twice as highas the average Organization for Economic Cooperation and Development (OECD) level (2.5 beds/1,000). Despite this restructuring, almost 60 percent o f the existing beds in Georgia's 287 hospitals remainunoccupied. Georgia's occupancy rate o f 42.1 per cent (1999) i s the lowest inthe region compared to neighboring countries Armenia 64.8 per cent (1997); Azerbaijan 56.2 per cent (1997); and Turkey 67.3 per cent (1997). Excess supply o fhuman resources i s also a problem, particularlyo f doctors, where inGeorgia one physician serves only 237 people on average, compared to 400 inOECD countries.' 2. Supported by an intensivedialogue and the 2 SACS,as well as a health investment project, the reform program aimed to reduce the number o f facilities and staffby: 0 Introducinga new payment system that only pays for services that are provided; 0 Limitingthe rightto practice to accredited and licensedmedicalinstitutions and health care professionals; and 0 Privatizinga large portion o f the sector. Provider Payment Reforms 3. A new systemo f social health insurancepooledrevenues from the payrolltax and central budget into a newly created State HealthAgency, which itselfwas incorporated into the State Medical Insurance Company in 1997. Co-payments and user fees were also introduced to raise additional revenue. The legal status of hospitals was changedfrom budgetary institutions to autonomous enterprises and removedfrom the national budget. Simultaneously in 1995, staff entered into contractual relationships with hospitals and were no longer civil servants paid through the government budget. 4. Money thus began to `follow the patient,' and hospitals were paidusinga new case- basedreimbursement system. A key element o f the reform was the introductiono f competition between providers for public funding. The aim was to use the market to provide incentives to improve efficiency and quality at the same as time divesting government from responsibilities it was no longer able to fulfill. 5. The country'spoorfiscal performance reduced its ability to leverage major change through financial incentives. Evenpotentially small improvements were difficult to achieve because o f unclear governance arrangements and poor regulation. For example, hospital administrators were given the freedom to manage their own revenues and budget and prioritize expenditures. However, anecdotal evidence suggests that perhaps as little as ' SimonBlair,"Encapsulation ofProgress inRestructuringthe Georgian Hospital System," file note(undated). 54 Annex 5 4 percent o f revenues went to salaries spread thinly across a large numbero f staff. Administrators have been reluctant to downsize and strongly oppose any changes inthe present system. Revenueswere spent on utility costs, medical supplies, payroll and a portion to the state budget, but no one knows what happens to the rest except the administrators. 6. Market forces without effective public financing and regulation failed to produce expected results, and have contributed to inequality in access to health services. As market failures have become more obvious, the government has found itself ina stronger positionto move towards selective contracting usingpublic financing through the State Medical Insurance Company (SMIC).2 The decision to introduce selective contracting was politically nearly as difficult as the one to close hospitals. Usingmaternity hospitals as a pilot, SMIC signed contracts with only 3 o f the 11maternity hospitals inTbilisi. At the same time, reimbursement for deliveries has increasedfrom 120 lari to 256 lari. For the first time there has been a response with an increase inpatient load inthe three contracted facilities, and a decrease inthe others. Preliminary studies suggest that this i s due inpart to a decrease in informal payments inthose facilities. 7. However, system-wide, there i s evidence that physicians and other health care workers continue to rely on informal payments by patients. For example, the average official annual salary o f a typical hospital physician remains low: in 1998 it was 573 lari-around US$285. Shiftingthe financial burden for health care onto consumers has reduced access to services. Between 1990 and 1999, the rate o f hospital admissions per 100 population fell from 13.8 to 4, and the average number o f outpatient visits per person per year dropped from 7 t o 1.2. Licensingand Accreditation 8. Another approach the Ministryo f Healthhas taken to influence the supply side o f the market i s the licensing o f medical facilities and medical professionals. The law on health care stipulated that all physicians and facilities be licensedby July, 2001. The licensing o f health care providers has been completed, with significant numbers o f both graduating students and practicingphysicians failing the exam. However, there i s as yet no discernible impact on the supply o fhealth personnel and facilities. 9. The government's attempts to control the supplyo fhealth sector personnelthrough licensing graduating students and practicing physicians was made much more difficult by the growing number o f medical schools inthe country. Since 1991over 50 private medical schools have opened, with an enrollment o f 14,000 and an expected annual graduating class o f 3,000. In 1996, a Commissiono f Accreditation for medical education was formed with the intentiono f closing a majority o f the schools that did not meet minimal standards. However, in 1998, responsibility for accreditationwas delegated to the MinistryofEducation, essentially putting an endto all progress as this Ministry had little incentive to fight strong political opposition from the medical schools. The Ministry o f Healthresigned itselfto reducing supplyby limitingthe number o f admissions to residency programs over which it had control. 'SMIC's budget was financed 70 percent by the central government and 30 percent by municipalities. 55 Annex 5 10. So despite major reform efforts, there have been problems with introducingthe licensing o f health care organizations inGeorgia. Nearly all facilities are ina very poor condition and few facilities would pass even basic standards. The facilities argue that they are unable to improve conditions since their payments from government are inarrears. Privatization 11. Privatization was the third strategy the government usedto reduce excess capacity. The 1996 Law on Privatization o fPublic Enterprises establishedrules for privatization o f state enterprises including health care facilities. The first batch o f 400 facilities (mostly pharmacies and dental offices) were privatizedduring 1996-97. As with most countries, privatizationo fpharmacies and dentistswas relatively easy. Privatization o fphysician clinics, polyclinics and hospitals has moved more slowly, with around 20 percent o f hospitals inTbilisi privatized, and a smaller percentage intherest ofthe country. So far, this hada negligible impact on supply. Health Outcomes 12. Health status indicators inGeorgia are imprecise, but available data indicate that Georgia's health outcomes measured interms o f life expectancy at birth, infant and under- five mortality rate and maternal mortality rate compare favorably with other CIS co~ntries.~ (Table A5.1). However, it should be noted that Georgia's health indicators have worsened significantly over the past decade: infant mortality increased from 9 deaths per 1,000 live birthsin 1991to 24 in2000. Similarly, the maternalmortalityrate inGeorgia is 51per 100,000 live births which, while low incomparison to other developing countries, i s up from 32.4 in 1993. The majority o f maternal deaths inGeorgia (38 percent) occurs from bleeding, one cause o f which i s anemia, which typically should be addressed duringthe prenatal stage. This is yet another indicationo fpoor health system performance. 13. The incidence o f infectious and parasitic diseaseshas also increasedduringthe last decade. For example, there has been a huge increase innew tuberculosis cases (as inall o f ECA), from 1,531 in 1991to 4,515 in 1999. Also, while the number o fdiphtheria cases has declined from 425 in 1995 to 60 cases, it i s still considerably higher than 1992 (when 3 cases were reported). The situation innon-communicable diseases has also worsened. Social illnesses such as drug addiction are also increasing (from 1,347 in 1984 to 4,873 in 1996). The informationin the section i s based on the discussion inthe Georgia PER, 56 Annex 5 Table A5.1: Health Outcomes in Georgia and Other CIS Countries (2000) Countries GNPper Life CrudeDeath Maternal Infant Mortality Children capita Expectancy Rate (per Mortality Rate Rateher 1,000 Mortality Rate (US$95) (years) 1,000) (per 100,000 live births) (under 5,per live births) 1,000 live births) Georgia 620 73 8 51 24 29 Other FSC Countries Armenia 490 74 6 35 25 30 Azerbaijan 460 71 6 43 74 105 Kazakhstan 1,250 65 10 70 60 75 Kyrgyz Republic 300 67 8 65 53 63 Tajikistan 280 69 5 65 54 73 Uzbekistin 720 70 6 21 51 67 ECA 1,990 68 __ -- 20 26 Low-income 420 59 -- _- 77 116 Countries Source: WDI, 2001, UNICEF(for Infant and Under-5 mortality rates). Table A5.2: Adjustment Operations: Key Health Objectives and Realization Credit Key Objectives Realization Comment SAC I Introduction o f abasic healthbenefit Basic benefit package Some reforms package; begin privatization o fhealth introduced; proceeded outside facilities; remove 10,000 heath workers privatization started; the framework of from budgetary sector; devote 7% o f 7% o f state budget the SACS; state budget to health; strengthen devoted to health;* government Ministryregulatorycapacity 10,000 staff removed commitment very from budgetary sector strong SAC I1 Strengthen regional branches o f SMIC; Most pharmacies and Government adopt hospital master plan; proceed with dental clinics commitment very privatization and closingredundant privatized; around strong, but fiscal facilities 20% o fhospitals and stringencies limited polyclinics in Tbilisi impact; reforms privatized, less in impressive, but took other areas; longer than rationalizationefforts envisioned succeeded inreducing hospitals by 33%, bedcount by 60%. While conditions were met, fiscal stnngencies and control o f accreditation bythe Ministryof Education limited impact of reforms. *It should benoted at the proportion o f the budget allocation t ;i s actually spent varies. For example, health spending in2000 and 2001 was 60 percent and 88 percent o f the budget allocations for those years. 57 Annex 6 EducationSector Enrollment 1. At independence, Georgia inheriteda highly developed education sector that provided free education at all levels, and the country hadthe highestproportion o f university graduates o f any CIS republic. Adult literacy was nearly universal (99.6 percent in 1989) and enrollment o f children ingrade 1-9was around 97 percent.' The sector was heavily overstaffed, however, and in 1992 employed some 250,000 workers, or around 4.6 percent o f the country's entire population. The economic decline after 1991and the severe squeeze on public resources translated into a rapid deterioration inthe quality o f education and a drop in enrollments. By 1993, education spending was less than 10percent o f its 1990 level. Sectoral employment also fell, to 163,000 in 1995 (underthe RC), and to 120,000 by 1999 (SACSIand 11). 2. Enrollment inbasic education (ages 7-14) remains highinGeorgia-around 90 percent in2000. However, enrollment inpre-school and upper secondary educationhas fallen sharply: enrollment o fpre-school children fell from 41.6 percent in 1990 to 24.3 percent in2000, coincidingwith a fall o f around 50 percent in the numbero fpreschools. While the gap between poor and non-poor students for compulsory grades i s small, it i s quite significant inthe pre-school age groups (Table A6.1, below). As documented inWorld Bank studies, the main reason for missing school i s poor quality o f education related to teacher absenteeism, physical deterioration o f facilities, and lack o f free (or any) textbooks and basic equipment and supplies. TableA6.1: Percentof ChildrenEnrolledinSchool,by Age (2000) Urban Rural Female Male Female Male Pre-school (under age 6) non-poor 23 26 17 16 poor 6 12 4 18 Basic compulsory education non-poor 91 92 93 93 (age 7-14) poor 91 94 86 89 Post-compulsory education non-poor 64 66 53 50 (age 15-21) poor 51 63 41 43 Source: PER, p. 97 Funding 3. The funding o f education inGeorgia has become increasingly privatizedduringthe transition. Available information shows that overall household expenditure on education i s around 4.9 percent o f GDP, o fwhich 2.7 percent was out-of-pocket expense by households, and 2.2 percent was the public contribution. The public contribution o f 2.2 percent i s well below the average for OECD countries and for the CIS (4.6 percent). ' PER,p. 97-99. 58 Annex 6 4. As shown inthe table below, SACSIand I1specified minimumbudgetary allocations for the education sector, as well as other reforms involving teacher salaries and teacher re- certification. All o f these were achieved, which had a modest effect on improving the education sector. Credit Education goals Realization Comment SAC I Raise share o f 1996 budget allocated to Budgetary condition See comment below on education to at least 8 percent o f budget was realized* proportion o f budget that is realized SAC I1 Share o f 1998 calendar year budget Budgetary condition See comment below on increase to at least 13%; substantially raise was realized; salaries proportion o f budget teacher salaries; re-certify teachers were raised, teachers that is realized re-certified x L rc 0 -9 0 . n v) F l- x a a 67 Annex 8 Corruption 1. Georgia was ranked out o f 102 countries inthe 2002 Transparency International Corruption Perceptions Index,' with a rating o f 2.4 (where 1i s very corrupt and 10 is "clean"). Among CIS countries, only Azerbaijan, Moldova, and Kazakhstan scored lower. InTransparency's 2000 corruption index, Georgia was ranked 84thout o f 99 countries surveyed, worldwide. And an IMF study found that among CIS states, Georgia's shadow economy was the largest, at 64 percent o f GDP; Russia's was 44 percent of GDP; and Uzbekistan's was the smallest, at 9 percent.2 2. The government "attacked" corruption, but made little progress; inJuly, 2000, an anti-corruption campaign was established by Presidentialdecree, but little progress was made. Another anti-corruption decree was signed by President Shevardnadze inMarch 2001, that promisedto introduce maximumtransparency instate institutions, make clear distinctions between the functions and duties ofpublic agencies, and provideadequate pay for public employees. ' The Corruption PerceptionsIndex ranks 102 countries in terms of the degree to which corruption i s perceivedto exist amongpublic officials andpoliticians. It i s a composite index, drawing on 15 different polls and surveys from nineindependentinstitutions carried out amongbusiness people and country analysts, including surveys o f residents,both local and expatriate.www.transvarencv.org "Hiding inthe Shadows: The Growth of the Underground Economy," IMF, 2002. 68 Annex 9 Net Disbursementsby Donor Figure A9.1: Overall DevelopmentAssistance 1994-2001,by Donor Net Disbursements, 1994-2001, by Donor 200 Commercial debt 150 ; n 100 INew bilateraland 0 unidentified credit .P --z u) E 50 H World Bank 0 IMF -50 Source: IMF staff estimates, 69 Annex 10 BASIC DATA SHEET GEORGIA-INSTITUTIONBUILDINGCREDIT (CREDIT 2641-GA) Key Project Data (amounts in US$million) Appraisal Actual or Actual as % of estimate current estimate appraisal estimate Total project costs 10.9 11.72 98.35 Loadcredit amount 10.1 10.1 100 Cofinancing 0.8 0.6 75 Cancellation (US$) 0.03 Date physical components completed 12/31/97 06130198 Cumulative Estimated and Actual Disbursements FY95 FY96 FY97 FY98 FY99 Appraisal estimate (US$M) 2.50 5.90 8.50 10.12 10.12 Actual (US$M) 5.34 8.90 9.91 10.65 10.72 Actual as % o f estimate 213.60 150.85 116.59 105.24 105.92 Date o f final disbursement: 07/22/98 Project Dates Project Cycle Date Planned Date Actual/ Latest Estimate Identification NA NA Preparation NA 9192 Appraisal NA 2193 Negotiations NA 6193 Re-Negotiations NA 4194 Board Presentation 6194 7/05/94 Signing 7111194 Effectiveness 7194 8124194 FirstTranche Release (ifapplicable) NA Mid-Term Review (ifapplicable) 6196 Project Completion 9130197 3131/98 Credit Closing 12131I97 6130198 Staff Inputs(staff weeks) Planned Revised Actual Stage of Project Cycle Weeks US$m Weeks US$m Weeks US$m Preparationto Appraisal 29.0 59.1 Appraisal 10.4 23.6 Negotiations through BoardApproval 35.3 77.8 Supervisiona 33.5 72.4 19.5 50.0 53.0 113.2 Completion 2.0 5.5 2.0 5.3 1.5 2.8 Total 35.5 77.9 21.5 55.3 129.2 276.5 70 Annex 10 Mission lata Duration Performance rating Types ofproblems I Stage of Date No.of of Specialized Implement. Develop. project cycle (mmlyr.) persons mission staff skills (# of represented Status objectives days) Supervision 3195 2 6 E, OP 6195 2 7 E, OP 1196 2 7 F 6/96 2 7 E, E, PROC 11196 2 2 E, PROC 3/91 2 2 E, PROC 12/97 2 1 E, PROC Completion 3198 2 Total Key to Suecializec . . taff Skills: E=Economist F=Finance OP=Operation PROC=Procurement Other Project Data BorrowedExecutingAgency: Ministry ofFinance Related Bank Credits Year of Credit title Purpose Approval Status Preceding Operations 1. NONE Following Operations 1. Rehabilitation Economic stabilization, growth and FY95 Closed Credit improved living standards 2. Structural Further economic stabilization, sustained and FY96 Closed Adjustment Credit I poverty reduction 3. Structural Consolidate macro stability and strengthen FY98 Closed Adjustment Credit I1 the economic recovery 4. Structural Technical support for SAC I1 FY98 Under Implementation Adjustment TA Credit I1 71 Annex 10 BASIC DATA SHEET GEORGIA REHABILITATION CREDIT (CREDIT 2697-GA) - Kev ProiectData famounts in US$million) Appraisal Actual or Actual as % of estimate current estimate appraisal estimate Total project costs 78 18 100 Loadcredit amount 15 15 100 Cofinancing 3 3 100 Cancellation(US$) Datephysicalcomponentscompleted 06/30/96 06130196 CumulativeEstimatedandActual Disbursements FY95 FY96 Appraisalestimate(US$M) 16.0 15.0 Actual (US$M) 28.87 11.4 Actual as % o f estimate 180.43 103.2 Date of final disbursement: 01/08/96 ProjectDates Date ActuaW Steps in Project Cycle Date Planned Latest Estimate Identification 9/94 9194 Preparation 6 months Appraisal 2/95 2195 Post Appraisal NA NA Negotiations 2/95 2195 Letter of DevelopmentPolicy/MERP 2/95 2195 BoardPresentation 3/95 03130/1995 Signing 3/95 0313111995 Effectiveness 4/95 0410511995 First Tranche Release NA NA Mid-Term Review NA NA Second (andthird) tranche release NA NA ProjectCompletion 6/96 06/3011996 LoanClosing 6/96 06/3011996 StaffInputs(staffweeks) Planned Revised Actual Stage of Project Cycle Weeks US$m Weeks US$m Weeks US$m Preparationto Appraisal 10.0 46.6 47.9 166.3 69.6 242.4 Appraisal 0.0 0.0 2.1 13.3 2.1 6.1 NegotiationsthroughBoardApproval 0.0 0.0 7.6 13.8 8.6 16.3 Supervision 20.0 79.3 26.6 108.4 29.5 168.1 Completion 10.0 31.2 4.4 10.8 4.4 10.8 Total 40 157.1 88.6 312.6 114.2 443.7 72 Annex 10 Mission D: :a I Typesofproblems' Stage of project Date No. of Duration Specialized Performance ratin? Implement. Develop. cycle (mm/yr.) persons of mission staff skills f#of days) represented' Status objective S Completion 06/96 Preappraisal 09194 9 15 A, E, F, 0 throughBoard Approval 03195 Preparation 09/94 Supervision 05/95 4 5 E, 0 1 M 07195 5 10 A, E, F, 0 1 M 1019.5 7 4 E, F, 0 1 M Completion 06/96 Total 25 34 I 1-Key to Specializeds ?skills: -Key to Perfo ance Ratings: 3-Key to Types 01 oblems: A=Agriculturalist 1. Minorpri ems M=Management E=Economist 2. Moderateproblems F=Financial Analyst 3. Major problem O=Other* *Other includescountry officer, operations analyst, sector specialist, procurementand disbursementspecialists. Many of the specialists visited the country incombination with other missions. Other ProjectData Borrower/Executing Agency: Ministry of Finance Related Bank Credits Year of Credit Title Purpose Approval Status Preceding Operations 1. InstitutionBuilding , TechnicalAssistance FY95 Under Credit Implementation 2. Municipal SpecificInvestment FY95 Under Infrastructure Implementation Rehabilitation Following Operations 1. Transport SpecificInvestment FY96 Under Rehabilitation Implementation 2. Structural BalanceofPaymentsassistance FY96 Under AdjustmentCredit I Implementation 3. Structural Techanical Assistancesupportto the SAC FY96 Under AdjustmentTA Implementation CreditI SpecificInvestment FY96 Under 4. Health Implementation 73 Annex 10 BASIC DATA SHEET GEORGIA- STRUCTURALADJUSTMENTCREDIT I(CREDIT 2847-GA) Kev ProiectData famounts in US$million) Appraisal Actual or Actual as % of estimate current estimate appraisal estimate Total project costs 60 60 100 Loadcredit amount 60 60 100 Cofinancing NA NA NA Cancellation(US$) Datephysicalcomponents completed 12131197 12131197 CumulativeEstimatedandActual Disbursements FY96 FY97 Appraisalestimate(USSM) 30 60 Actual (US$M) 30 60 Actual as % of Estimate 100 100 Date of final disbursement: 12130196 Note: Actual dollar amount was $59.6 millionbecause o f fluctuationof US$ vis-a-visthe SDR inwhich creditwas denominated. ProiectDates Date actuaW Steps in Project Cycle Planned Latest Estimate Preparation 9195 Appraisal 12/95 Negotiations 2196 Letter of DevelopmentlSectorPolicy 3196 BoardPresentation 4118196 4118/96 Signing 4/26/96 Effectiveness 513196 6/12/96 First TrancheRelease 6/12/96 Second Tranche Release 12130196 ProjectCompletion 6130197 Credit Closing 12131I97 12131197 StaffInputs(staffweeks) Planned Revised Actual Stage of Project Cycle Weeks US$ Weeks US$ Weeks US$ Preparationto Appraisal 19 48.4 60.5 131.0 60.5 131.0 Appraisal 35 83.3 0.0 0.2 NegotiationsthroughBoardApproval 7.5 17.9 16.6 36.7 16.6 36.7 Supervision 25.0 62.9 47.9 117.8 48.9 119.6 Completion 2.0 2.5 2 2.5 1.5 2.8 Total 88.5 215.0 127 288.0 127.5 290.3 74 Annex 10 Mission D a a I Duration Performance rating2 Stage of project Specialized cycle staff skills represented' mplement. Status Develop. objectives ThroughAppraisal CE, CO, E, F, PS, s 12/95 6 16 DC, CE, CO, F, S, PS Appraisalthrough CE, CO, F, PS BoardApproval 2196 4 9 Supervision 6196 6 12 CE, CO, MS, HS PS, s S 10196 4 13 CE, E, F, PS S HS Completion 12196 I -_ _ _ S I-Kev to Suecialized staff ings: CE=CohQ Economist H S= Highly Satisfactory CO=Country Officer S = Satisfactory DC=Division Chief E=Energy Specialist F=Financial Sector Specialist MS=Municipal Specialist PS=Private Sector Development Specialist S=Social Sector Specialist Other Project Data Borrower/Executing Agency: Ministry of Finance Related Bank Credits Year of Status Credit Title Purpose Approval Preceding Operations 1. Institution Building Strengthenpublic institutions FY95 Closed Credit 2. RehabilitationCredit Economicstabilizationandreform FY95 Closed Following Operations 1. Structural Adjustment TA Credit I Technicalsupport for GOA reform FY96 ClosedJune 99 programand SAC I 2. StructuralAdjustment TA Credit I1 Technicalsupport for SAC I1and SAC I11 FY97 UnderImplementation 3, StructuralAdjustment Reduce macroeconomicimbalancesand FY99 To be Approved Credit I11 provideincentivesfor private sector development 75 Annex 10 BASIC DATA SHEET GERORGIA - STRUCTURAL ADJUSTMENT TECHNICAL ASSISTANCE CREDIT I (CREDIT2848-GA) Key ProjectData(amounts in US$million) Appraisal Actual or Actual as % of estimate current estimate appraisal estimate Total project costs 5.2 4.8 92.30 LoanlCredit amount 4.8 4.5 93.75 Cofinancing 0.41 Cancellation (US$) 0.05 Date physical componentscompleted 03/31/98 12131/98 CumulativeEstimatedandActualDisbursements FY96 FY97 FY98 FY99 Aooraisal estimate (US$M) 0.10 2.80 4.80 4.80 A k a 1 (US$M) ' 0.59 2.02 4.46 4.50 Actual as % of estimate 590.0 72.14 92.92 93.75 Date of final disbursement: 03118199 ProjectDates Project Cycle Original Actual Preparation 9/95 Appraisal 12195 Negotiations 2/96 Letter of DevelopmentlSector Policy (ifapplicable) N A Board Presentation 4196 4118196 Signing 4126196 Effectiveness 5/96 6112/96 First Tranche Release (ifapplicable) N A Mid-Term Review N A Project Completion 12131I97 9130198 Loan Closing 3131198 12131198 StaffInputs(staff weeks) Planned Revised Actual Stage of Project Cycle Weeks US$ Weeks US$ Weeks US$ Preparation to Appraisal Appraisal Negotiationsthrough Board Approval 1.4 3.7 1.4 3.7 Supervision 18.5 48.9 15.7 34.7 27.0 44.3 Completion 2.0 2.5 2.0 2.5 1.5 2.8 Total 20.5 51.4 19.1 40.9 29.9 50.8 76 Annex 10 Mission lata : Stage of Date No. of Duration of project cycle (mm/yr.) persons mission (#of Develop. days) skills represented' Implement- Status objectives Supervision 6/96 S 11196 E, PROC S S 3/97 E, PROC S S 6/97 E, PROC S S 12197 E, PA S S 6198 E, PROC S S Completion 12/98 E, PROC Total 25 I :ey to Specialize staff skills: K I to PerformanceRatings: I E= Economist . S = Satisfactory PROC = Procurement HR=Human Resource Other Project Data Borrower/Executing Agency: Ministryof Finance Related Bank Credits Year of Credit title Purpose Approval status Preceding Operations 1. NONE Following Operations 1. Rehabilitation Economic stabilization, growth and improved FY9.5 Closed Credit living standards 2. Structural Adj. Further economic stabilization, sustained and FY96 Closed Credit I poverty reduction 3. Struct. Adj. Credit I1 Consolidate macro stability and strengthenthe FY98 Closed economic recovery Under 4. Struct. Adi. TA Technical support for SAC I1 FY98 Implementation 77 Annex 10 BASIC DATA SHEET GEORGIA- STRUCTURALADJUSTMENTCREDIT11(CREDIT2983-GA) Key ProjectData(amounts in US$million) Appraisal Actual or Actual as % of estimate current estimate appraisal estimate Total project costs 60 60 100 LoanlCredit amount Cofinancing NA NA NA Cancellation (US$) Date physical components completed 12131I98 03131199 CumulativeEstimatedandActual Disbursements FY98 FY99 Appraisal estimate (US$M) 40 20 Aciual (US$M) 40 20 Actual as % o f Estimate 100 100 Date o f final disbursement: 12122198 Note: Actual dollar amount disbursed was $61.3 million because o f fluctuation o f US$vis-&-visthe SDR inwhich credit was denominated. ProjectDates Project Cycle Origina1 Actual Preparation 213197 Appraisal 516197 Negotiations 7131197 Letter of DevelopmentlSector Policy 818197 Board Presentation 919197 914197 Signing 9/15/97 Effectiveness 9/22/97 1115197 First Tranche Release 11/5/97 Second Tranche Release 12122198 Project Completion 12131I98 Loan Closing 12131/98 3131199 StaffInputs(staff weeks) Planned Revised Actual Stageof Project Cycle Weeks US$m Weeks US$m Weeks US$m Preparation to Appraisal 25 53.8 41.1 108.5 51.1 157.1 Appraisal Negotiations through Board Approval 10.7 33.8 12.4 36.1 12.4 36.2 Supervision 30.3 79.9 57.8 108.4 65.6 104.4 Completion 1.5 2.7 Total 66 167.5 114.8 257.0 130.6 300.4 . 78 Annex 10 Mission Data Typesof Stage ofproject Date No*of Duration oj Specialized Performance rutin2 Problems3 cycle (mm/yr.) persons mission (# slaff skills of days) represented' Development objectives 02197 CE, CO, DC, I Appraisal F, PS, S CE, CO, E, F, 16-2 PS, s 1 Appraisal 05197 6 13 CE, CO, DC, throughBoard E, F, S, PS Approval 07197 7 Supervision 09/97 6 11 CE, CO, E, F, S 01/98 5 I 16 CE, ;,?,"P, S S Com toletion 1-Kev Suecialized 12198 S . . Tskills: Kev to Performance Ratings: 3-Key to T p e s ofproblem: CE=Country Economist U=Unsatisfactory P = Policy CO=Country Officer S=Satisfactory DC=Division Chief E=Energy Specialist F=Financial Sector Specialist MS=Municipal Specialist PS=Private Sector Development Specialist S=Social Sectors Specialist Other Project Data Borrower/ExecutingAgency: Ministry of Finance Related Bank Credits Year of Credit title Purpose Approval Status Preceding Operations 1. Institution Building Strengthenpublic institutions FY95 Closed Credit 2. Rehabilitation Economicstabilizationand reform ~ y 9 5 Closed Credit 3. StructuralAdj Further economic stabilization, sustainedand FY96 Credit I povertyreduction Following Operations 1. StructuralAdj. TA Technical support for GOA reformprogram FY96 Closed Credit I and SAC I 2. StructuralAdj. TA Technical support for SAC I1 FY97 Under Implementation Credit I1 Reducemacroeconomic imbalancesand 2. StructuralAdj. provide incentivesfor privatesector FY99 Closed Credit I11 development 79 Annex 10 BASIC DATA SHEET GEORGIA- STRUCTURALADJUSTMENTTECHNICAL ASSISTANCE CREDITI1 (CREDIT2984-GA) K e y Project Data (amounts in US$million) Appraisal Actual or Actual as % of Estimate current estimate appraisal estimate Total project costs 5.0 5.04 100 LoanlCredit amount 5.0 5.04 100 Cofinancing N A N A Cancellation (US$) 0.03 Date physical components completed, 12131199 Cumulative Estimated and Actual Disbursements FY98 FY99 FYOO Appraisal estimate (USrSM) 3.64 4.98 4.98 Actual (USrSM) 1.31 4.24 5.04 Actual cumulative as % of Credit 36 85.14 100.4 Date o f final disbursement: 0311412000 Project Dates Steps in Project Cycle Original Actual Identification Preparation Appraisal 01130197 Negotiations Board Presentation 09104197 Signing 09115197 Effectiveness 11105191 Mid-Term Review Project Completion Loan Closing 12131199 Staff Inputs(staff weeks) ActuaMatest Estimate Stage of Project Cycle No. of Staff Weeks US$(,000) Identification Preparation 1.1 3.3 Appraisal/Negotiation 3.5 8.6 Supervision 51.1 68.8 ICR 8.0 30.0 Total 63.1 110.5 80 Annex 10 Mission D, :a Stage of project Date No. of Duration of Specialized staff Performance rating cycle (mmijr.) persons mission (#of Implement. Develop. days) skills represented' Status objectives Identification/ Preparation 1997 1 NA co S S Appraisal/ 1997 Negotiation 1998 E S S E Sr. E OP OA FE co FE OA Supervision 1997 1 E 1998 3 E 2 Sr. E 1 PE 1 RA 1 PO 1 co 1 IA 1 FE 1 OA 1 EA 1 EA 1 PE 1 co 1 RR 1 LS 1 L S Sr. CE OA ICR 2000 C s OA 1. Key to Staff skills 2. K to Performance Ratings E = Economist(s) Sr. E = Senior Economist S = Satisfactor). OP = OperationAnalyst OA = OperationAssistant CO = Country Officer FE= Financial Economist SI. PE= Senior Power Engineer PE=PrincipalEconomist RA = ResearchAnalyst PO= Project Officer IA = InformationAnalyst EA = Economic Advisor RR= ResidentRepresentative L S = Lead Specialist Sr. CE = Senior Country Economist C = Consultant 81 Annex 10 Other ProjectData Borrower/ExecutingAgency: Ministry of Finance Related Bank Credits Year of Credit title Purpose Approval Status Preceding Operations 1. Institution Building Strengthenpublic institutions FY95 Closed Credit 2. Rehabilitation Credit Economicstabilizationandreform FY95 Closed 3. StructuralAdj. TA Technicalsupport for GOA reformprogram Credit I FY96 Closed 4. StructuralAdj. TA Technicalsupport for SAC I1andI11 FY97 Under Credit I1 Implementation 5. StructuralAdj. Reducemacroeconomicimbalancesandprovide FY98 To be approved Credit I1 incentivesfor privatesector development Following Operations 1. EnergySector Natural gas transmission anddistribution FYOO Closed AdjustmentCredit 82 Annex 10 BASIC DATA SHEET GEORGIA- ENERGYSECTOR STRUCTURALADJUSTMENT CREDIT (CREDIT3266-GA) Key Project Data (amounts in US$million) Appraisal Actual or Actual as % of estimate current estimate appraisal estimate Total project costs 25 25 100 LoanlCredit amount 25 25 100 Cofinancing N A NA N A Cancellation (US$) Date physical componentscompleted 0613Ol2000 0310112002 Cumulative Estimated and Actual Disbursements FYOO FY02 Appraisal estimate (US$M) 12.33 25.0 Actual (US$M) 12.33 25.0 Actual cumulative as % of Credit 100 100 Date of final disbursement: 12128101 Project Dates Project Cycle Original Actual Preparation _ _ Appraisal 11110198 Negotiations BoardPresentation 06129199 Signing 06130199 Effectiveness 08102199 Mid-Term Review -- Project Completion _ _ Loan Closing 03101102 Staff Inputs (staff weeks) ActuaLZatestEstimates Stageof Project Cycle No.Staff Weeks us$(ooo) IdentificationPreparation N A 64,084 AppraisallNegotiation 3.5 22,000 Supervision 57.8 204,603 Total 61.3 290,687 83 Annex 10 Mission Data Duration Specialized Performance rating2 Stage of project cycle Date No. of (mmlyr.) persons of mission staff skills Implement. Develop. (# of days) represented' Status objectives IdentificationPreparation June 1998 2 E 1 PS 1 ES 1 PSDS 1 FA October 1998 2 E 1 PS 1 FA Appraisal/Negotiation December 1998 2 E 1 FA Supervision April 1999 2 E 1 FA 1 ES August 1999 2 E 1 FA September 1999 1 E 1 FA OctoberMovember 2 E 1999 1 FA 1 E February 2000 1 FA 1 ES July 2000 1 FA 2 E 1 E September2000 1 FA 1 E November 2000 1 FA 1 ES May2001 1 FA 1 E October 2001 1 FA 1 ES May2002 1 FA 1. K e y to staff skills 2. Key to performance ratings E.=Economist(s) S = Satisfactory PS =Pipeline Specialis( U= Unsatisfactory ES = Environmental Specialist PSDS = PSD Specialist FA FinancialAnalyst = ES=Energy Specialist 84 Annex 10 Other ProjectData BorrowedExecutingAgency: Government of Georgia Related Bank Credits Year of Credit Title Purpose Approval Status Preceding Operations 1. Institution Building Strengthenpublic institutions FY95 Closed Credit 2. RehabilitationCredit Economicstabilizationandreform FY95 Closed 3. StructuralAdj. TA Technicalsupport for SAC Iand SAC I1 FY96 Closed Credit I1 4. StructuralAdj. TA Credit I TechnicalSupport for GOA reformprogram FY97 Under implementation 5. StructuralAdj. Credit I1 Reduce macroeconomicimbalancesandprovide FY98 To be approved Incentivesfor private sector development 6. StructuralAdj. Credit I Furthereconomic stabilization,sustainedandpoverty FY96 Closed reduction 85 Listof IndividualsInterviewed Governmentof Georgia Solomon Tsabadze, Minister o f State PropertyManagement andPrivatization DavidMirtskhulava, Minister ofFuelandEnergy George Gachechiladze, Minister o fEconomy Solomon Pavliashvili, Minister o f State Property Management KonstantinZaldastanishvili, Minister of Trade and ForeignEconomic Relations Elizbar Eristavi, Chairman, EnergyRegulatory Commission Geno Malazonia, DeputyMinister, Minister o f State Property Management Akaki Zoidze, Deputy State Minister MikhailAlkhanishvili, Head o f Service o f Economic Reform and Relations with International Organizations Merab Kakulia, Vice President, National Bank o f Georgia Koba Gvenetadze, DeputyMinister o f Finance Vasiko Gigolasvili, DeputyMinster o f Finance Vazha Kapanadze, Deputy Minister o f Economy Gela Charkviani, Deputy Minister o f Economy Zurab Berishvili, Director o f Economic Analysis, Ministryof Economy Akai Zoidze, Deputy Minister o fHealth George Vashakmadze, President, Georgia Intemational Oil Company DavidTvalabeishvili, Manager, Georgia IntemationalOil Company Avtandil Silagadze, former Minister of State Property Management David Onoprishvili, former Minister o f Finance Irma Kavtaradze, former DeputyMinister o f State Property Management Vladimir Todria, former Vice Minister o fFinance Lado Papava, former Minister o f Economy Nodar Javarishvili, former Head o f the National Bank o f Georgia Davit Iakobidze, former Ministerof Finance Giorgi Vashakmadze, Member,Parliament o f Georgia World Bank Staff Headquarters Judy O'Connor, Country Director Peter Nicholas, Country Officer Cyril Muller, Country Officer Cheryl Martin, Country Officer Michele Riboud, Country Economist Leila Zlaui, Country Economist Alain d'Hoore, Country Economist Rocio Castro, Country Economist EkaVashakmadze, Energy Sector Jonathan Walters, EnergyEconomist Vladislav Vucetic, EnergyEconomist Laura Rose, Health Sector 86 Friedrich Peloscheck, Legal and Judicial Sector JohnNash, Trade Sector Christopher Hall, InstitutionBuildingCredit S. Ramachandran, Enterprise Sector and Privatization Ruslan Yemtsov, Economist Wafik Grais, DivisionChief Michael Engelschalk, Public Sector Reform ResidentMission Tevfik Yaprak, Country Manager Joseph Melitauri, Energy Sector VakhtangKvekvetsia, Macroeconomics Tamar Gotsadze, Health Sector Elene Imnadze, Public Sector Reform Sergo Vashakmadze, Economist Sophie Devnosadze, Portfolio Management Analyst Anna Alhalkatsi, Head, IFC Office inGeorgia Other Ignatzo Iribarren, General Director, AES-Telasi Albert0 Solis, General Director, Wholesale Electricity Market (Iberdrola) DeanWhite, PA Consulting (Tbilisi) Steven Tupper, EUTACIS Juergen Schramm, EBRD Michael Farbman, USAID (Tbilisi) Herbert Emmrich, Senior EnergyAdvisor, U SAID (Tbilisi) GeraldAndersen, Director, Office o fEconomic Restructuring,USAID (Tbilisi) Geoffrey Minott, Office o f Economic Restructuring, USAID (Tbilisi) Robert Ichord, USAID Chief, Energy and Infrastructure, Europe and Eurasia (headquarters) Jonathan Dunn, IMFResident Representative (Tbilisi) Joseph Owen, IMF David Owen, IMF Chief of Party Peter Thompson, IMF Tsisi Tsikata, IMF Avtandil Siligadze, Vice Rector, Georgian Academy o f Sciences 87 Attachment 1 1.&pato, 380062, s b a d n t j.M 70 n. QQ.: (995 32) 228806 70,Ir.Abeshidzcstr., 380062,Tbilisi qpjbbn: (996 32) 22 17 54 Tel.; (995 32) 226806 Fax: (995 32) 22 1754 R. Kyle Peters Seni or manager Country Evaluation and Regional Relations Operations Evaluation Department Tel: (202) 477-1234 Fax: (202) 522-3124 Re: Georgia - Project Performance AssessmCnt Report (PPAR) I n s t i t u t i o n Building C r e d i t (Cr. 2641); Rehabilitation Credit ( C r . 2697); Structural Adjustment Credit I( C r . 2847); S t r u c t u r a l Adjustment Technical Assistant C r e d i t I (Cr.2848); S t r u c t u r a l Adjustment C r e d i t I1 (Cr. 2983); S t r u c t u r a l Adjustment Technical Assistant Credit I1 (Cr. 2984); and Energy Sector Adjustment Credit (Cr. 3266) Dear Mr. Peters,. W i t h reference t o your l e t t e r dated May 8, 2003, requesting our corrments on PPAR d r a f t prepared by t h e Operations Evaluation Department, please be informed o f t h e following: I n the f i r s t instance, t h e M i n i s t r y o f Finance welcomes such r e p o r t s being undertaken. Having tkoroughly studied the PPAR content we would l i k e t o recocpize t3c l a r g e volume o f works c a r r i e d out by OED, as w e l l as i t s w e l l awareness o f current conditions i n Georgia. Since it i s t h e f i r s t time t h a t the M i n i s t r y comes up against consideration o f t h i s s o r t o f documents, we would highly appreciate your cooperation i n providing us w i t h explanations on the following: As it i s indicated i n PPAR, t h e assessments made are p a r t i a l l y basing on information provided i n Implementation Completion Report (ICR) and Evaluation Summaries (ES); i f the ICR and ES performance r a t i n g c r i t e r i a resulted i.n satisfactory outcome by c e r t a i n p r o j e c t performance parameters, then what c r i t e r i a were 88 applied by OED i n PPAR so as t h e same p r o j e c t perfo-mance parameters were assessed as u n s a t i s f a c t o r y ? Below a r e our comments regarding several P2AR information. Paragraph 1.9, "Macroeconomic Performance", Ch. 1. " I n t r o d u c t i o n and Main Themes": The Extern.al Public Debt o f Georgia amo'ats t o GEL 3,471,902,873.23 as o f December 31, 2002 (Exchange r a t e o f GEL 2.09 p e r $1USD as o f the same date); G3P f o r t h e year 2002 was GEL 7,428,400,000.00, according t o t h e State S t a t i s t i c s Department o f Georgia, Sabsequently, t h e GDP r a t e o f e x t e r n a l debt i n 2002 makes around 50%; E x t e r n a l Debt Service amounts t o GEL 105,926,629.71 - GEL 720,109,000.00; through 230%; a c t u a l Ce2tral Bcdget revenues and a c t u a l State Budget Revenues - GEL 905,566,900.00. As it i s evidenr from t h e numbers above, E x t e r n a l Debt Service makes around'' 15% o f c e n t r a l budget revenues (instead o f 36% according t o PPAR) and 12% o f s t a t e budget revenues. We a l s o wocld l i k e t o b r i n g forward sone c o r r e c t i o n s and outcome-based j u s t i f i c a t i o n w i t h r e g a r d t o Local Consulting O f f i c e (mentioned as "consulting f i r m " comprised o f 'the group o f Finance M i n i s t r y employees' 'on "leave" from t h e M i n i s t r y ' ) under Paragraph 3.33, "Bank and Borrower Performance", Ch. 3. "Technical Assistance Credits (IX, SATAC I,SATAC 11), i n p a r t i c u l a r : The O f f i c e (LCO) was established under "Local Cor.sulting O f f i c e Project" promoted and supported by t h e World Bank within SATAC- I1 financing. It i s through the hard work and high professional s k i l l s o f LCO team t h a t t h e now operating e x t e r n a l debt s e r v i c e system i s built, maintained, and has received s a t i s f a c t o r y e v a l u a t i o n o f I M 7 Mission. The P r o j e c t l a i d backgrocnd f o r f u r t h e r irrprovenent o f s k i l l s o f t h e personnel, working on e x t e r n a l debt issues. The LCO team created a l l necessary preconditions t o launch w i t h P a r i s C l u b c r e d i t o r c o u n t r i e s t h e process o f b i l a t e r a l rescheduling o f Georgian e x t e r n a l debt i n accordance w i t h t h e Paris C l u b Agreed Minutes signed on March 6 , 2001. To our b e l i e f , these r a t e s o f p r o j e c t performance a r e q u i t e remarkable f o r a couptry w i t h t h e l e v e l o f economic developmrit as in Georgia, until it can finance such p r o j e c t s on i t s own. 89 * As o f o t h e r comments, we would mention minor discrepancies i-? annex numbering; i n particular, some annex numbers referred throughout the t e x t are n o t r e l e v a r t t o the annex w i t h t h e meant content. Sincerely Yours, Zurab Soselia F i r s t Deputy M i n i s t e r o f Finance 90 j.abptn, 380062, a.A%dnl 3. Nb70 QQ.: (995 82) 226806 70,Ir.Abubidtcsb.,380062,Ibilisi T4.r (996 32) 2268(w +a: (995 32) 22 1754 Fu: (995 32)22 1754 R. K y l e Peters S e n i o r manager Country Evaluation and Regional Relations Operations E v a l u a t i o n Department T e l : (202) 477-1234 Fax: (202) 522-3124 Re: Gecrgia - P r o j e c t Performance Assessment Report I n s t i t u t i o n B u i l d i n g C r e d i t ( C r .2641); R e h a b i l i t a t i o n C r e d i t (Cr. 2697); S t r u c t u r a l Adjustment C r e d i t I( C r . 2847); Structural Adjustment T e c h n i c a l A s s i s t a n t C r e d i t I (Cr.2848); S t r u c t u r a l Adjustment C r e d i t I1 (Cr. 2983) ; S t r u c t u r a l Adjustnent Technical A s s i s t a n t C r e d i t I1 (Cr. 2984) ; and Energy Sector Adjustment Credit (Cr. 3266) Dear Mr. Peters, W i t h reference t o your l e t t e r dated May 8, 2003, regarding t h e d r a f t o f t h e OED P r o j e c t Performance Assessment Report on the above operations, we would l i k e t o ask you t o review the p o s s i b i l i t y o f s u b m i t t i n g t h e M i n i s t r y o f Finance comments t o you by June 16, 2003. S i n c e r e l y Yours, F i r s t Deputy M i n i s t e r o f Finance Cc: T e v f i k M. Yaprak; World Bank Resident Representative (Fax: 995-32 995288) 9 1 MINISTRY OFECONOMY,INDUSTRY `ANDTRADEOF GEORGIA Dear Mr.Peters, IwouldliketoinformyouthattheMinistryofEconomy,IndustryandTradeofGeorgiahas reviewed the &aft of"OED PFOjectPerformance AssessmentReport"andgenerallyagreesto the assessmentsgiveninthe mentioneddocument. Sineere1y,/ Mr.RKylePeters Senior Manager CountryEvaluationand RegionalRelations OED The WorldBank Fax:+1 202 522 3124 28, Gamsakhurdia Ave., 380680 TMlisi, GEORGIA Tel.: (995 32) 93 33 61.92 1929 Fax:(99532) 77 00 81,93 28 61 92 Sincmly, TunurBasilia Assistant LO the PresidentofGeorgia inEct"ic Rcfimns Iysucss 93 Attachment 2 OED Response to Borrower's Comments OED appreciates the comments received from the Government, and notes that they substantially agree with the PPAR assessment o f the seven projects. Where appropriate, the text o f the report has beenmodified to take the comments into account. As the letter from the MinistryofFinance observes, the PPARis partially based onthe informationprovided inthe ImplementationCompletion Reports and Evaluation Summaries. However, the PPAR also benefits from additional time elapsed (after project completion) and resources. While the criteria for assessment are the same inthe PPAR as inthe earlier reports, the assessmentinthe PPARisbasedon additional qualitative and quantitative information collected from multiplesources, as well as interviewswith current and former Government officials, representatives o f other multilateral and bilateral donors, NGOs, a broad range o f Bank staff, academics, and other memberso f civil society ina position to provide information and perspective on the impact o f the projects. Onthe question o fthe ratio o f external debt to GDP, we have revisedthe data inthe PPAR to reflect the informationprovided bythe Government. However, on the proportion o f central budgetrevenue requiredto service the external debt, a number o f analyses estimate that approximately 36 to 40 percent o f central budgetrevenuewill be requiredto service debt, dependingon assumptions regardingrescheduling.' With regardto the local consulting office (LCO) established under SATAC 11, the issue highlightedinthe PPAR i s not whether the office developedandmet highstandards o f quality andperformance. Rather, the PPAR notes that under Bank procurement guidelines, government employees, even ifon leave, should not have beenallowed to bid on government contracts. 'World Bank and IMF, "Poverty Reduction, Growth, andDebt SustainabilityinLow-IncomeCIS Countries," February2002; andIMF, "Second ReviewUnderthe Three-year Agreement," November 2002. MAP SECTION