Document of TheWorld Bank FOR OFFICIAL USEONLY ReportNo. 35479-PK INTERNATIONAL DEVELOPMENT ASSOCIATION PROGRAMDOCUMENT FOR A PROPOSEDCREDIT INTHE AMOUNT OF SDR 62.7 MIL or (US$90 MILLIONEQUIVALENT) TO THE ISLAMICREPUBLIC OF PAKISTAN FOR A FIRSTNORTHWEST FRONTIER PROVINCE DEVELOPMENT POLICY CREDIT April 4,2006 Poverty Reduction and Economic Management SouthAsia Region r This document hasarestricted distribution andmay be usedbyrecipients only inthe performance o ftheir official duties. Its contents may not be otherwise disclosed without BankAuthorization. PAKISTAN-GOVERNMENTFISCAL YEAR July 1-June 30 CURRENCYEQUIVALENTS (Exchange Rate Effective as o f Aprl4,2006) US$1 = 60.25 PKRs ABBREVIATIONS AND ACRONYMS AAA Analytical and Advisory Activities ADP Annual Development Program A W B Area Water Board CAS Country Assistance Strategy COA Chart o f Accounts CWIQ Core Welfare Indicators Questionnaire D A C DepartmentalAccounts Committee DFID Department for International Development DPC Development Policy Credit EMIS Education Management Information System FBS Federal Bureau o f Statistics GDP Gross Domestic Product GoNWFP Government o fNorthWest Frontier Province HD HumanDevelopment HRM HumanResource Management IDA International Development Association M D G MillenniumDevelopment Goals M O E MinistryofEducation M O H MinistryofHealth MTBF Medium-TermBudget Framework MVT Motor Vehicle Tax NAM New Accounting Model NFC NationalFinance Commission NWFP NorthWest Frontier Province PAC Public Accounts Committee PFAA ProvincialFinancial Accountability Assessment PGDP Provincial Gross Domestic Product PHC Provincial Irrigation Department PID Primary Health Care PIDA Provincial Irrigation and Drainage Authority PIFRA Project to Improve Financial Reporting and Accountability PIHS PakistanIntegratedHousehold Survey PPSC ProvincialPublic Service Commission PRP ProvincialReformProgram PRSP Poverty Reduction Strategy Paper PSD Private Sector Development PSLSMS Pakistan Social and Living Standards Measurement Survey SAC Structural Adjustment Credit SDA Sarhad Development Authority SIDB Small IndustriesDevelopment Board TB-DOTS Tuberculosis - Daily Observation Therapy Sessions Vice President: Prahl Patel, SARVP Country Director: JohnW. Wall, SACPK Sector Director: Sadiq Ahmed, SASPR Sector Manager: Ijaz Nabi, SASPR Task Team Leaders: PaulWade and HanidMukhtar. SASPR PAKISTAN FIRST NORTHWEST FRONTIERPROVINCE DEVELOPMENT POLICY CREDIT TABLE OF CONTENTS I INTRODUCTION 1 I1 COUNTRYAND PROVINCIAL CONTEXT .. ..................................................................................................................... ...................................................................... 2 A. Recent Developments inPakistan..................................................................................................... 2 B. Recent Developments inNWFP ....................................................................................................... 4 I11 NWFPGOVERNMENT'SPOVERTYREDUCTIONAND DEVELOPMENT . STRATEGY ................................................................................................................................... 7 A. The NWFP Government's ReformProgram - PhaseI(2001 2006) ............................................... - 7 B. The Government's ReformProgram- PhaseI1(2006 - 2010)........................................................ 16 I V BANKSUPPORTTO THE GOVERNMENT'S PROGRAM . ......................................... 26 A. B. Overview......................................................................................................................................... 26 c. Analytic andAdvisory Services...................................................................................................... Bank Support .................................................................................................................................. 26 27 D. 27 E. The Proposed DevelopmentPolicy Credit...................................................................................... Lessons from PreviousPolicy Based Lending Operations (SACS)................................................. F. Benefits o f the Operation................................................................................................................ 35 28 V OPERATIONIMPLEMENTATION . .................................................................................. 36 A. Poverty and Social Impacts............................................................................................................. 36 B. 37 Fiduciary Aspects............................................................................................................................ Implementation, Monitoring and Evaluation.................................................................................. C. 38 D. Credit Administration, Disbursements, andFiduciary Assurance .................................................. 39 E. 39 Environmental Aspects ................................................................................................................... Coordination with Other Donors..................................................................................................... F. 40 G. Risks and Risk Mitigation............................................................................................................... 41 LIST OF TABLES Table 1:Pakistan .Recent Macroeconomic Trends........................................................................................ 3 Table 2: NWFP Selected Economic Indicators, 2004105 - 2007/08 ............................................................. 17 Table 4: NWFP Medium-Term Budget Framework (percent ofprovincial GDP) "..................................... Table 3: Estimated Revenue Transfers to NWFP under Original and Amended 1997NFC Awards ...........21 22 Table 5: SelectedMonitoring Indicators for NWFPDPC............................................................................. 38 LIST OFANNEXES ANNEX 1: Letter ofDevelopment Policy and Government ReformProgram ANNEX 2: Policy Matrix ANNEX 3: Poverty and Employment inNWFP ANNEX 4: HumanDevelopment inNWFP: Challenges, ProgressandFutureProspects ANNEX 5: Public FinanceManagement ANNEX 6: Modernization inthe Civil Service andAdministration ofMulti-tiered Government ANNEX 7: Accelerating Economic Growth ANNEX 8: NWFP-Fiscal, Economic and Social Indicators ANNEX 9: Pakistan-Fiscal, Economic and Social Indicators ANNEX 10: Status o fBank Group Operations ANNEX 11: Relationswith the IMF Map: IBRD34635 .. 11 TheNWFPDPC 1was prepared by an IDA team consistingof: MartynAmbury Consultant (SASPR) Shahnaz Arshad Senior Urban Specialist (SASEI) Harsha Aturupane Senior Economist (SASHD) Ismaila Ceesay Senior Financial Management Specialist (SARFM) Agnes Couffnhal Senior Health Economist (SASHD) Tekola Dejene Lead Operations Officer (SASAR) InaamHaq Senior Health Specialist (SASHD) Isfandyar Zaman Khan Private Sector Development Specialist (SASFP) Tahseen Sayed Khan Lead Education Specialist (SASHD) Benjamin Loevinsohn LeadPublic Health Specialist (SASHD) Ambreen Iqbal Malik ETConsultant (SASAR) Shaheen Malik Research Analyst (SASPR) Eric DavidManes Senior Private Sector Development Specialist (SASFP) Ranjana Mukherjee Senior Public Sector Specialist (SASPR) HanidMukhtar Senior Economist (SASPR) Naveed Hassan Naqvi EducationEconomist (SASHD) Arlene Reyes ProgramAssistant (SASPR) Uzma Sadaf Procurement Specialist (SARPS) IrumTouqeer Team Assistant (SASPR) Paul Wade Senior Economist, Task Team Leader (SASPR) Peer Reviewers Shahnaz Wazir Ali Consultant Parvez Hasan Consultant David Rosenblatt LeadEconomist and Sector Leader (LCSPR) ... 111 CREDIT AND PROGRAM SUMMARY PAKISTAN FIRST NWFPDEVELOPMENT POLICY CREDIT Recipient: Government o f Pakistan ImplementingAgency: Government of the NorthWest Frontier Province (GoNWFP) Amount: SDR 62.7 million (US$90 million equivalent) Terms: StandardIDA terms; 35-year maturity with 10-year grace period OnLendingTerms: IDA terms ObjectiveandDescription: The proposed NWFP DPC 1 i s a transition operation that will complete the series o f three IDA credits that assisted the government's fiscal reform agenda, and will also commence a new series o f IDA support for the government's medium-term reform program with a strong emphasis on human development and inclusive growth. The reform program launched by DPC 1 will support the following pillars of the government program: (i) development(forprogressineducationandhealth); (ii) human fiscal reform; (iii)governance reform (focused on financial management, procurement, civil service and administrative devolution); and (iv) continued support for private sector development to create sustainable employment opportunities. Benefits: The DPC program will support and help finance the reform program o f NWFP.Beneficial outcomes are expected to include (i) improved education and health status for broader parts o f the population in the province, that will help increasing the poor's participation ineconomic growth; (ii) reduced incidence o f poverty as a result o f broad based, inclusive growth; (iii) restoration o f the province's financial health: a sustainable fiscal position with more resources for poverty reductionexpenditures; and (iv) strengthened governance, accountability and transparency in government operations. In addition, NWFP's reforms could strengthen reform competition andencourage learning across provinces inPakistan. Risks: Risks include: (i) political risks; (ii) o f limitations on reform risks implementation capacity; (iii) fiscal risks; and (iv) external shocks. Important risk mitigating factors are: cumulative progress in key areas that will strengthen the constituencies for reform, making reversal difficult, and the Bank sustaining and deepening its policy dialogue and disbursing against a set o f prior actions. Fiscal risks have been addressed with measures to increase fiscal space: increasing own revenue collection, interest savings stemming fi-om prudent debt management, buildup o f assets in pensions fund to meet future liabilities, and containingthe civil service wage bill. Disbursement: The full amount o f US$90 million equivalent will be disbursed ina single tranche upon effectiveness. ProjectIDNumber: PO90689 1v PROGRAM DOCUMENT FOR A PROPOSEDFIRSTNWFPDEVELOPMENT POLICY CREDIT TO THE ISLAMIC REPUBLIC OF PAKISTAN I.INTRODUCTION 1. After a decade o f severe macro-economic problems, anemic growth and stagnation in poverty reduction and social indicators, in 1999 Pakistan embarked on a new course with comprehensive economic and governance reforms aimed at restoring macroeconomic stability, raising growth grates and reducing poverty. The federal reform programs have been supplemented by reforms in several provinces. Since the bulk o f public expenditure on service delivery is incurred at the provincial level, the provincial reforms are key not only to improving country-wide social outcomes but also moving to a higher growth trajectory. 2. The government o f the North West Frontier Province (NWFP) launched its broad based reform program in 2001 focused on strengthening the provincial budget, realizing the potential o f the private sector to spur rapid economic growth and promoting human development. The Bank, guided by the Country Assistance Strategy (CAS) has supported the reform program with two Structural Adjustment Credits (NWFP SAC 1 and 2, presented to the Board, respectively, inJuly 2002 and June 2004), analytical work (the NWFP Economic Report "Accelerating Growth and Improving Public Service Delivery: The Way Forward", 2005), prepared jointly with the Government o f the NWFP (GoNWFP), and technical assistance (workshops/training). This reform program has achieved positive outcomes. The government has taken charge o f the broad- based reform program and reform has gathered momentum. Reform efforts are being supported by several donors, andthe first Development Forumfor NWFPis plannedfor May2006. 3. Going forward, a consensus has emerged in the Bank`s dialogue with the NWFP government that to tackle poverty effectively, economic growth has to be inclusive and must create better job opportunities. The provincial development strategy thus i s sharpening the focus on structural changes that substantially improve social indicators and the quality o f the work force. This has required setting out a vision for human development and social protection and aligning reform and budget priorities to realize the vision. A strategy document summarizing the Government's program "Provincial Development Program, 2005/06 - 2007/08" i s expected to be approvedby Cabinet inApril 2006. 4. Consistent with this objective, the proposed operation supports the transition o f the government's development strategy from broad-based structural reform to one that is focused on human development, social protection and inclusive growth. This transition operation i s the first ina series ofthree proposed DevelopmentPolicy Credits to support the Government ofNWFP's strategy for human development and inclusive growth. It will include selected reforms on the economic and governance fronts that will ensure the human development program's sustainability and transparency, and accelerate the pace o fjob creation inNWFP. 5. The President's memorandum in support o f the operation assesses progress on the broad- based reform program and sets out the more focused human development agenda going forward. The government's commitment to the broad reform agenda remains undiminished and the Bank will continue to support it via analyticalwork, technical assistance and possibly a separate policy basedlending operation. 6. The program document for SAC 2 identified key areas where satisfactory progress could lay the basis for a follow-on operation, i.e., the third SAC. The government has implemented reforms in line with the program content outlined for the third credit and thus has met all prior actions for the proposedtransition operation DPC 1. 7. This program document presents the country and province context and recent developments in Pakistan and the NWFP (Section 11). The government's poverty reduction and development strategy and reform program are presented in Section 111. Section lV presents the Bank's support to the NWFP, describes the proposed operation and lists prior actions for DPC 1 and triggers for DPC 2. Section V describes implementationo fthe operation and risks. 11. COUNTRY AND PROVINCIAL CONTEXT A. RecentDevelopmentsinPakistan A.l PoliticalDevelopments 8. Notwithstanding the fall out from the Afghan war and the war on terrorism, Pakistan i s benefiting from a period o f relative stability that has contributed to deepening of reform at the federal level and, following the second local government election in 2005 (the first was held in 2001), has led to the institutionalization o f the new local government system. The decentralization initiative has started the process o f transferring responsibility and resources for public service delivery to local governments. Elections in 2002 restored the National and Provincial Assemblies and the reform program has been carried forward under the elected government. General elections are due in 2007, and the prospects are good for maintenance o f the government's pro-reform orientation. There have been increased tensions in Balochistan and along the border with Afghanistan. On the other hand, Pakistan's relations with the international community have continuedto improve over the past two years, inparticular with India, which has contributed to the country's stability. A.2 EconomicDevelopments 9. Economic growth has remained strong and broad based. The domestic fiscal situation remains sustainable, despite earthquake-related expenditure pressures. The economy i s projected to grow by 6.3 percent inFY06 in spite o f the impact o f the October 2005. Growth in recent years has been broad-based with all key sectors o f the economy making a significant contribution. Prospects for rapid growth to be sustained over the next 3 years are good, provided that political and macroeconomic stability are maintained, that the momentum o f structural reforms and investments to reduce the cost o f doing business i s sustained, and that domestic savings and public and private investment continue to increase. The FY06 Budget projectedan increase inthe fiscal deficit from 3.3 percent o f GDP inFY05 to 3.8 percent o f GDP inFY06, reflecting an increaseinsalaries o f government employees and a significant increase in the development budget. Additional expenditure related to earthquake assistance is projected to increase the fiscal deficit to 4.4 percent o f GDP. Nonetheless, the fiscal deficit remains consistent with a stable macroeconomic framework and the Fiscal Responsibility and Debt Limitation Law, and i s projected to remain so inthe coming years. 10. Inflationary pressures remain and the trade and current account deficits have widened significantly. Inflationary pressures have persisted over the past 18 months and inflation i s projected to be between 8-8.5% inFY06. Imports have been growing rapidly, and the 2 trade deficit has risen sharply -to US$4.4 billion inFY05 and projectedto increase further to $7 billion inFY06.The mainreason for this has been strong import demand, fueledpartly byhealthy growth but also by relatively loose monetary policy pursued by the authorities during the last three years; real appreciation of the rupee o f about 6 percent over the past year has also contributed. The Government and the central bank plan to take additional steps on the monetary, exchange rate and fiscal fronts to reduce demand pressures and curb the current account deficit. 11. The IMF-supported Poverty Reduction Growth Facility (PRGF) was concluded in December 2004, and the Government of Pakistan did not request a successor IMF program. IMF Post-program Monitoring was deemed unnecessary by the IMF's Board. Pakistan is now on a standard Article IV surveillance schedule. An IMF Article IV Consultation missiontook place in August 2005, and the Staff Report was discussion on November 2, 2005 (see Annex 11for the IMF's November 2005 Public Information note). Debt sustainability analysis has been carried out by the IMF and by the World Bank, and indicates that the government's debt reduction path (which is prescribed in the Fiscal Responsibility and Debt Limitation Law) is consistent with a sustainable debt outlook. Table 1: Pakistan Recent lacroeconomic Trends - 2001/02 2002103 2003104 2004/05 2005106 PreLActual Projection (Annual percentagechanges) Real GDP at factor costs 3.1 4.8 6.4 8.4 6.3 Consumer prices (period average) 2.5 3.1 4.6 9.3 8.7 (In percent of GDP) Gross national savings 19.0 22.0 19.3 15.6 15.6 Total Investment 16.8 16.9 17.3 16.8 19.0 o/w Government 2.9 2.1 2.9 3.5 3.I Budget balance (excluding grants) -5.5 -3.8 -2.3 -3.3 -4.4 Net o f Earthquake Impact -3.6 Total government debt 80.2 74.3 67.9 61.1 56.5 Source: GOP, IMFand Staff estimates. Note: FBSinvestment figures for 2004105 are likely to underestimate investmentlevels. 12. Provinces' and especially NWFP's, fiscal position i s strengthened by the January 19, 2006 Amendment to the NFC Award. Provincial public finances are expected to strengthen following the recent decision to increase o f provinces in federal divisible taxes. The amended NFC Award not only provides a greater share (45 percent vs 42.5 percent inthe original Award) in divisible revenue, the share will increase by 1percentage point each year to reach 50 percent by 2010/11. Inaddition NWFP and Balochistan, inparticular, benefit fkom a substantial increase in subventions. NWFP tends to gain the most as its share o f total NFC transfers to provinces is expected to increase fkom 14percent to 15 percent. A.3 Developments in Education and Health Sector Policies 13. A number o f policy and other initiatives have been launchedby the Federal Ministry o f Education (MOE) which will have an impact on provinces' education programs. Inthe education sector these initiativesrange from a review o f the 1998National Education Policy to establishing a National Curriculum Council to review (and possibly reform) the present curricula. The MOE has also commissioned a National Education Census which could potentially be used by the NWFP EMIS as a baseline to integrate private sector data. Similarly, the Federal Ministry o f Health (MOH) has initiated new programmatic initiatives in a number of major federal programs. With regard to NWFP, the provincial government has taken some important steps under its 3 B.3 The 2005 Earthquake 17. NWFPalongwith Azad Jammu and Kashmir were hitby a powerful earthquake on October 8, 2005 that devastated about a quarter of the geographical area o f NWFP, affecting about 3% millionpeople or one-sixth o f the province's population. More than 22,500 people died from the earthquake and twice this number was injured, many o f them permanently disabled. A very large number o f casualties were school children. Nearly 4000 schools, mainly public, collapsed or were damaged and thousands o f school children died as they were attending school when the quake hit. While most schools were restarted in temporary shelters, the reconstruction o f these schools i s part o fthe agenda being pursued by the Government o fNWFP and the Federal Government as part o f the wider reconstruction effort in the earthquake effected areas. The earthquake also caused extensive damage to other public infrastructure and to private property. The loss in employment and output in the affected districts o f the province is estimated to be as high as 25 percent and the overall impact on provincial GDP (PGDP) in 2005/06 about 3.6 percent. estimated to be about Rs 90 billion (US$1.5 billion) or 12 % - 13 percent o f PGDP. A part o f this 18. The replacement cost o f the damage caused by the earthquake in NWFP alone i s reconstructioncost will fall on the private sector and households. Yet a major portion o f this has to be borne by the Government. Inaddition, the cost o f rehabilitation and providing relief to the people o f the affected areas adds to the public expenditure. Given the frailty o f provincial finances and the weak capacity o f the provincial (and districts') administration, the burden o f the damage caused by the earthquake i s too large for the provincial government to bear. Realizing this, the federal government has decided to assume the responsibility o f funding most o f the reconstruction expenditure. Nonetheless, the impact o f the overhead cost o f relief, rehabilitation and reconstruction efforts on the provincial budget would be significant. With the loss in provincial revenue estimated to Rs 0.5 billion and provincial expenditure increasing by about Rs 3.5 billion the provincial deficit is projectedto increaseby 0.5 percent o f PGDP inFY06. B.4 Development Challengesand Opportunitiesfor NWFP 19. MillenniumDevelopment Goals (MDGs). Although NWFP has made progress towards the MDGs much remains to be done to achieve several MDG targets. Based on 2001/02 data, NWFP i s on track to meet the infant mortality target and also - if the preliminary 2004/05 PSLSMS headline results are verified - the target for the proportion o f immunized children aged 12-23 months and for access to safe water. However, it i s not on track to meet other important MDGs such as poverty reduction, school enrollment, and ratio o f female-to-male literacy. It is expected that as new data become available these indicators will show improvements as a result o f recent years' reform efforts. However, it i s clear that if Pakistan i s to meet its MDGs, special attention to provinces like the NWFP i s essential; hence the shift in the focus o f the provincial development strategy to human development and inclusive growth (For additional information on the status o freaching the MDGs and other HDindicators, see Annex 4). 20. Challenges. The overarching challenge for the province is to promote rapid andinclusive economic growth. This involves the challenge o f promoting human development and the challenge to reduce rural vulnerability while tapping the potential o f the private sector to sustain higheconomic growthand employment generation. 5 (i) The challenge to accelerate human development 21. Education and health indicators for NWFP, mainly from the Pakistan Integrated Household Survey (PMS) 2001/02 and preliminary results from the PSLSMS 2004/05, show that the overall education and health status inthe province is below the country average. Inthe case o f education the difference i s driven entirely by the indicators for females, which are worse in the NWFP than in the country as a whole. The GoNWFP recognizes three main challenges in improving education sector performance inthe province - increasing equitable access, improving education quality and strengthening governance and service delivery. Also health outcomes inthe NWFP are generally lower than the national average. The health sector continues to face significant challenges in terms o f quality o f health services and performance o f the sector. These include: l o w levels o f health expenditure, underperformance o f the Primary Health Care (PHC) system, uneven and poor quality of hospital services, weak public sector management, motivation and measurement o f results, and unregulated and low quality o f services inthe private sector. For more details on health and education, see Annex 4. (ii) The challenge to reduce rural vulnerability 22. InNWFP 4 out of every 5 people derive their livelihoods from the rural areas, and the widespread vulnerability-in particular among farmers in rainfed areas-has been highlighted with recurring droughts affecting large part o f the population. Accelerating agricultural growth and rural employment creation i s hence a central development challenge. However, agricultural growth i s limited by a number o f constraints in factor inputs - land, water and credit - and in supporting institutions and regulations, choice o f outputs and production technology. Reducing rural vulnerability would depend critically on addressing these constraints. (iii) The challenge to strengthen theprivate sector topromote rapid economic growth 23. Poverty reduction requires more rapid pro-poor, broad based inclusive growth with substantial employment generation. Sustained rapid growth will require strengthening the weak investment climate in the province and giving greater room to the private sector in decisions that affect the provincial economy. 24. Economic potential. The province has substantial economic potential. Historically, the provincial economy has been dependent on relatively low value-added agnculture as the largest production sector, services, and public employment (especially in the armed forces). The manufacturing sector is quite limited but has potential for growth through use o f local inputs. There i s substantial mineral wealth in the province such as precious and semi-precious stones, marble, and granite that can be exploited with improvements in infrastructure, a better policy environment, and opportunities for training on advanced techniques. There is also considerable potential to further develop NWFP's rich hydel resources, in particular by encouragmg small hydel generation plants and developing off-grid localized energy distribution from these plants to local industry.The province can attract manufacturing industry, e.g., agro-processing using local raw materials, by offering them localized and inexpensive sources o f energy above long-run marginal cost. Similarly, availability o f better infrastructure related to tourism and a better image ofthe province can help develop inthe longrunthe potential that exists for tourism. There is also considerable potential for economic growth inurban centers. 6 111. NWFP GOVERNMENT'S POVERTY REDUCTION AND DEVELOPMENT STRATEGY 25. NWFP was the first province to embark on a comprehensive reform program in 2001. Faced with slow growth, rising poverty, and poor human development outcomes, the provincial government developed a reform program to address the root causes o f these poor outcomes: inadequate service delivery, poor governance, and an investment climate that translated into a highcost of doingbusiness inthe province. The provincial government laid out its development objectives and the strategy to achieve them inthe Provincial Reform Program (PRP) 2001-20042. The PRP also formed the core o f the provincial PRSP developed as part o f the full national PRSP in 2003. Inline with the national PRSP and the specific challenges of NWFP, the overarching development objectives o f the provincial government's reform program are poverty reduction, acceleratingbroad-based inclusive growth and improving human development. 26. As discussed in the previous section o f this Program Document, the first phase o f the NFWP Government's reform programhas achieved important outcomes. The Bank supported the government's efforts via policy-based lending (NWFP SAC 1and 2), analytical work (the NWFP Economic Report "Accelerating Growth and Improving Public Service Delivery: The Way Forward"), and technical assistance. The reform momentum has been maintained, and the program i s being supported by several donors. A Development Forumi s planned for M a y 2006. 27. The 2005 NWFP Economic Report highlighted the need to accelerate progress inhuman development, while continuing to improve the province's prospects for more rapid, inclusive growth. A consensus has emerged in the Bank's dialogue with the NWFP Government that to tackle poverty effectively, economic growth has to be inclusive and must create better job opportunities. The provincial development strategy thus i s sharpening the focus on structural changes that substantially improve education and health indicators and the quality o f the work force. This has required setting out a vision for human development and social protection and aligning reform and budget priorities to realize this vision. A strategy document summarizing the Government's program, "Provincial Development Program, 2005/06 - 2007/08", i s expected to be approved by Cabinet inApril 2006. A. TheNWFPGovernment's ReformProgram PhaseI(2001 2006) - - 28. The government's reform program 2001 - 06 has consisted o f the followingpillars: a. Accelerating economic growth by establishing an effective and transparent enabling environment for private sector development both inthe urban and rural economy; b. Fiscal reforms to ensure fiscal sustainability, adopt and follow a medium-term budget fkamework, enhance effectiveness and accountability o f expenditures, and strengthen resource mobilization; C. Reforms to accelerate human development and improve service delivery in basic social services. A key element o f the strategy is improving the education and health status of girls and women, andreducingthe province's highfertility rate; and d. Governance reforms in public financial management, procurement, civil service and administrationo f multi-tiered government (province/district/tehsil). The ProvincialReformProgramformedthe basis for the Bank's first and secondStructuralAdjustment Creditsto the province(2002 and2004). 7 29. Both the provincial and federal governments have shown strong ownership o f the provincial reform program. At the provincial level, the government has shown strong commitment through steady reform implementation, even through changes of government. The federal government has fully supported the reform program, namely through the transfer o f additional fiscal space to the province, and has seen it as a useful instrument for implementingthe PRSPat the provincial level, thus contributingtowards reachingthe nationalMDGs. A.l Reforms to Accelerate Economic Growth A.1.a Private Sector Development 30. The provincial government has been pursuing a three-pronged strategy for private sector development: (i) Institutionalizingpublic-privatedialoguetopromotedemand-responsiveness ofpublic sector agencies and policy-making bodies; (ii) Creatinganenablingandcompetitiveenvironment;and (iii)Expandingtheroleoftheprivatesector. (i) Institutionalizingpublic-private dialogue 31. Inthepastthe provincial government has tendedto make importantpolicy andregulatory decisions affecting the business environment without consultations with the private sector. The private sector had very limited means o f raising their concerns with government officials; in particular, there was no mechanism for public-private sector policy dialogue. In the recent past the government has started to develop the private sector's role and the public sector's capacity in policy malung, problem solving and investment facilitation. It has created venues for public- private dialogue by including private sector representatives in a number o f key policy making, problem solving, and managing bodies. These include an Investment Facilitation Council headed by the Chief Minister and an Investment Facilitation Committee headed by the Chief Secretary supported by a restructured Sarhad Development Authority (SDA) (into an "NWFP Industrial Facilitation Authority"). The objective o f such institutionalizedinteractionwith the private sector i s to recognize its importance as a key stakeholder in the administration o f the province. This i s expected to elevate private sector development and economic growth as key elements in the provincial priorities. (ii) Creating an enabling and competitive environment 32. Investors have been facing high transaction costs for new investments and high regulatory costs and administrative barriers. This reflects lengthy and costly regulatory and approval processes that have involved many government agencies. Weaknesses in governance structures and shlls deficiencies in the local labor market have also reduced the attraction o f investinginthe province. The government has initiated steps to reduce administrative barriers and improve the functioning o f markets for skilled labor. 33. Administrative barriers. The government has streamlined and reduced the number o f annual industrial inspections from 23 to 13, and has introduced exemption based labor inspection for companies with proven track record o f compliance with labor laws. However, there is still considerable scope for lowering administrative barriers and the resultant high transaction costs facing new investors through more streamlined and cost-effective implementation o fregulations. 8 34. Access to skilled personnel. The technical and vocational training provided by the public sector has suffered from poor quality, low effectiveness and limited relevance to potential employers. This reflects, among other things, inadequate management systems, inappropriate incentive structures and no linkto employers and the skills needs o f industries inthe province. On the supply side, a good start has been made with the recent inclusion o f private sector majority (and chairperson) on governing boards o f government-run training institutes, including the advisory board for technical education and manpower at the provincial level and Central Management Committees for technical training institutes at the district level. An Advanced Technical Training Center has been established with the chair person coming from the private sector but further capacity strengthening i s needed. (iii) Expanding the role of theprivate sector 35. The provincial government has traditionally been having ownership interests ina number of economic activities in the province. It has in the recent past started a process o f repositioning the state's role away from roles that are in direct competition with the private sector to provision of effective regulation. It has divested public sector production units established by SDA in industrial estates, and has announced (May 2005) its decision to set up Industrial Estate management committees consisting o f and led by private sector representatives. It has also leased out or completed bidding process for lease o f all remaining small hydel projects to the private sector; leased out a large number o f government mineral exploration and industrial development units; dissolved four autonomous bodies; and retrenched staff o f autonomous bodies. Notwithstanding some progress in divestment, the government i s still involved inmany activities that have long been privatized in other developing countries, spanning financial services, industrial estates, transport, construction, and tourism. A.1.b Agriculture 36. Growth in agriculture plays a central part in the NWFP's growth and poverty reduction strategy, in light o f its large share o f the provincial economy and employment, its economic potential and the fact that the majority o f the poor live o f f apculture. The sector has in recent years been facing key challenges that have neededto be addressed in order to realize the potential of the agricultural sector within a framework o f sustainable natural resource use. There has been progress in some o f the areas below but this i s expected to accelerate now that the government has announced its Agricultural Sector Strategy. The key issues include: 37. Public expenditures: The sector has been receiving the lowest per capita allocations, even though it has a higher proportion o f poor people depending on agriculture for their livelihoods. It therefore needs to re-align public expenditures within the sector in line with priorities identified inthe Agriculture Strategy. There hasbeeninitialprogressinthis area overthe lastyear. 38. Making government research and extension services more effective: There are weak linkages between agricultural research, extension and farmers to ensure that research and extension priorities correspond with farmers' needs and market trends. Both agricultural extension and research fail to deliver relevant up-to-date services and science based knowledge outcomes, respectively. Institutional arrangements have resulted in ambiguity in terms o f overall responsibility for research between the research institutes and the universities. Furthermore, incentive structures are not aligned between the institutions which leads to suboptimal outcomes. 9 39. Facilitating and strengthening private sector participation and improving the regulatory environment: Small farmers (the overwhelming majority o f farmers in the province) have weak capacity and suffer from limited market information and poor access to modem and high- productivity technologies. Farmedproducer organizations, marketing groups (of producers, processors and traders) and multi-stakeholder District Agncultural CoordinationForums can help farmers overcome these problems. While there has been a lacuna o f such organizations and forums in the province, the government has in recent years enabled the formation o f farmer groups such as commodity associations for horticulture and livestock, cooperatives and service associations. A total of 75 Farm Services Centers have also been established (on average 3 in each district). They need to gradually be made self-financed and self-managed and their coverage expanded. In agriculture and livestock, the provincial government departments need to be restructured and made more responsive to private sector needs. Certain features o f a number o f laws and regulations currently undermine economic incentives for producers andneedrevisions. 40. Improving market infrastructure and information systems: Market infrastructure is weak especially in the areas o f cold chains, collection points and storage. This results in considerable post-harvest losses o f highlyperishable products. Market information (on price, quality, and new varietieshtandards that meet consumer preferences) and analysis i s not provided. This can be improved through partnership with farmer organizations and the private sector, using media and extension services. Provision of such information could facilitate diversification o f export markets beyond the presentnarrow range o fproducts and small number o f destinations 41. Improving water management: Since the late 1990s with the start of the National Drainage Program the provincial government has identified weaknesses in the institutional structures in the irrigation sector that have an important bearing on water management. It has therefore gradually pursued reforms towards decentralization o f the Provincial Irrigation Department (PID). While much remains, some progress has been made towards having, (i) an autonomous Provincial Irrigation and Drainage Authority (PIDA) that control, own and have responsibility for constructing, operating and maintaining part o f the intra-provincial irrigation and drainage infrastructure; (ii)a financially self-accounting quasi-autonomous Area Water Board (AWB) that control, own or lease the parts o f irrigation and drainage infrastructure, and (iii)autonomous farmer organizations (FOs) established at the distributary or minor level owned and controlled by farmers. Government has established and has trained 24 autonomous farmer organizations for water management. 19 o f them have signed Irrigation and Drainage Management Transfer Agreement with the local Area Water Board. Six farmer organizations have now taken over the management o f four distributaries and been authorized to assess, collect and retain40 percent o f the abiana (water charges) collected. A.2 FiscalReforms 42. The objective o f fiscal reforms to date has been to restore fiscal sustainability and increase the fiscal space for improving public services such as infrastructure, law and order, and social services. Inorder to improve delivery o f social services, increased expenditures have also needed to be complemented with corresponding measures in fiscal decentralization, so as to give service providers (local governments) additional resources to deliver. 43. The need to restore fiscal sustainability and increase fiscal space had become urgent by the start o f the Provincial Reform Program in 2001. In the preceding decade the provincial finances had become increasingly unsustainable. Highdebt service costs and fixed establishment costs had forced successive cuts in development spending and led to an acute infrastructure deficit, including o f schools, health care facilities and roads. Key elements in the fiscal strategy 10 have been reducing the heavy debt service burden through early retirement of high cost debt (to the federal government) financed by parts o f the proceeds from IDA financing, and improving the composition of spending with a shift towards social spending and investment. The latter has included rationalization o f the project portfolio inthe Annual Development Program (ADP), so as to accelerate the completion o f projects inthe portfolio. These elements have been supplemented with cost control in the civil service by containing growth in the number o f staff positions (the federal government determines wages and pay scales o f federal civil servants. There i s a very strong political compulsion for the provincial governments to follow these pay scales) and efforts to mobilize a higher share o f revenues locally. The whole set o f fiscal measures neededto be put in a medium-term budget context to ensure that fiscal sustainability would be achieved over the medium term; hence the government adopted a Medium-Term Budget Framework (MTBF) in 2002 which forms the basis for the annual budgets. 44. This strategy has been successfully implemented during four years o f reforms. The government has increased fiscal space through early retirement o f some o f its more expensive debt, which has halved the debt service burden from 1.8 percent o f provincial GDP (PGDP) in FYOl to 0.9 percent in FY05. The composition o f spending has also improved which, together with the increased fiscal space on highpriority social spending, has enabled an increase in such spending from 2.6 percent of PGDP in FY02 to 3.3 percent in FY04 - FY05 while overall spending levels fell slightly in percent o f PGDP. The share o f social sector expenditures reached 39 percent of total expenditures inFY05 - 10 percentage points higher than inFY02 -with heavy emphasis on education and health sector development expenditure. The level o f locally-financed development spending increased more than 3 folds between FYOl and FY05 to Rs 11.6 billion. Rationalization o f the ADP portfolio in FY04 and greater emphasis on allocating more funds to the on-going investment schemes in FY05 more than halved the "throw-forward ratio" o f the ADP portfolio. This indicates sharply improved effectiveness o f investment spending. Despite the increase ingovernment salaries, the wage bill was contained through only selective recruitments. This along with reduction in interest payments helped inreducingnon-development expenditure from 7.9 percent o f PGDP in FYOl to 6.1 percent in FY05. The fiscal deficit was contained to less than 1percent o f PGDP (on average) which i s at a sustainable level. 45. Fiscal decentralization has also been strengthened, albeit less than desired and less than in other provinces, to give greater role to the local governments in delivery o f public services. NWFP was one o f the first provinces to use a needs-based formula (based on population and indicators o f social development and backwardness) for budgetary transfers to the districts starting in FY02. All non-salary recurrent expenditures and district development spending were devolved to the districts in FY03. The PFC Awards o f FY04, FY05 and FY06 have continued to strengthen fiscal devolution with a range o f measures. The most important ones are: matching incentive grants to Districts for additional revenue mobilization; allowing districts to retain user charges in health and education with matching grants for collecting revenues over the targeted amounts; matching grants for O&M in the road sector; and enhanced non-salary allocation o f Districts by 10 percent inFY04 and by 25 percent in FY053.Nevertheless, continued reforms in fiscal decentralization are necessary in the near and medium term; starting with devolving the salary budgets to the districts. 46. Substantial progress has been made in recent years towards a sustainable fiscal position while meeting the higher demands for service delivery and public investments. Good progress has very recently been made with the President's amendment to the 1997 NFC Award in the interim period until the next, revised NFC Award. It will take effect in FY07. Nevertheless, The FY06PFC Award projects increases of 25% pa. in O&M allocation for the next 3 years. 11 more needs to be done by the provincial government in raising own revenues, and by the federal government in devisinglfacilitating mechanisms and supporting measures to reduce provinces' fiscal dependence on the federal government. A.3 Reformsto Accelerate HumanDevelopment A.3.a Education 47. Inthe first phase of reforms in the education sector, the focus has been on improving access to education. The NWFP introduced a range o f policy initiatives to expand school enrolment and attendance, especially among girls, and to reduce regional disparities. The key demand side policies introduced to raise school attendance were providing tuition free public primary and secondary education, and free textbooks, first for girls and then for all children from grades 1-10inall government primary schools. 48. Demand for schooling (and quality o f schooling) had also been negatively affected by the highincidence o fteacher absenteeism. The government addressed this by implementing a system of monitoring and reducing teacher absenteeism where Executive District Officers (Education) could take disciplinary action based on timely reports. However, continued progress on monitoring is needed. This could include closer involvement in teacher monitoring by stakeholders inthe local community (parents o f school children) which can lead to lower teacher absenteeism. To that effect, the government introduced measures to empower PTAs, including the establishment and training o f PTAs for all primary schools and some authority to monitor teacher attendance. (Success o fthe latter has however been limited). 49. Inaddition, the NWFPimplemented a phasedprogramto reduce supply side constraints to education expansion, especially for children inrural areas, by: (a) increasing essential school facilities such as classrooms, sanitation, water, and boundary walls for security which required a substantial increase indevelopment spending on schools; and (b) increasing the number o f school teachers with special efforts to recruit more female teachers to address concerns by parents o f female students; and (c) giving PTAs authority to spend finds on Instruction Materials and Repairs (IMR). 50. The combination o f demand and supply side initiatives enabled the NWFP to make promising progress in increasing enrolment, especially among girls, in recent years. Total enrolment in primary and secondary education rose from 2.9 million students in 2002/03 to 3.2 million students in 2004/05. During this period girls' enrolment increased from 0.8 million to over 1.0 million students. The rise in total enrolment was most marked in the primary cycle, where enrolment increased from 2.1 million to 2.3 million during this period, with girls accounting for more than half the increase in enrolment. In terms o f enrollment ratios, preliminary results from the Pakistan Social and Living Standards Measurement Survey (PSLSMS), conducted in 2004/05, suggest that the overall gross primary enrollment ratio rose from 77 percent in2001/02 to 80 percent in2004/054, and from 56 to 65 percent for girls. A.3.b Health access to health services - a key challenge facing the sector - but also on addressing causes o f 51. During the last four years, health sector reforms have mainly focused on improving poor access such as inadequate financing, especially for development spending, and poor The PSLSMS data are preliminary and only indicative since only headline results have been released by the FBS.The micro data need to be released and assessedby the Bank to verify the headlineresults. 12 management and inefficiency in service delivery. Reforms to improve access have in particular focused on access to key preventive services including Tuberculosis (TB) Daily Observation Therapy Sessions (DOTS) and Mother-Child Health/ Family Planning. NWFP has made good progress inall of these areas except managementreforms where progress has been slow. 52. Access to key preventive services - Programmatic Reforms to strengthen Communicable Disease Control and Maternal Health Programs. NWFPhas done well in the implementation o f programmatic reforms including expansion o f TB DOTS services, expanding access to family planning and primary health services through the Lady Health Worker (LHW) program and implementing steps to enhance access to HIV/AIDS services for vulnerable population sub- groups. Steady implementation since the start ofreforms (2001/02) has expanded the TB DOTS program from 10 to all 24 districts in NWFP. Just in the last two years this has increased population coverage from 60 percent to 100 percent. To improve access to Mother-Child Health/ Family Planning services, the number o f LHWs has increased by close to 50 percent since 2001/02, increasing coverage in the last two years from 50 percent to about 60 percent. The Government has also taken steps to enhance access to HIV/AIDS services for vulnerable populations and five contracts with NGOs have been signed for provision o f services in different areas o f the province targeting sex workers and intravenous drug users. These reforms appear to have led to significant improvements in health indicators. Preliminary results from the 2004/05 PSLSMS survey indicate that the immunization rate for children 12-23 months has increased from 57 percent in 2001/02 to 76 percent in 2004/05, and the antenatal coverage o f pregnant women by health professionals from 34 percent to 39 percent. Nevertheless, considerable challenges remain: Under the TB DOTS program case detection rate i s still l o w at 58 percent. The program needs to strengthen district supervision, introduce DOTS strategy in teaching hospitals and expand the program in the private/NGO sector. Needed improvements in maternal health services require greater efforts to increase contraceptive use and access to slulled birth attendants . 53. Management and Organizational Reforms. Management and organizational reforms undertaken to facilitate public access to health services include strengthening o f management structure; rationalization and standardization o f district health services; autonomy to tertiary hospitals; and promoting public private partnerships. A Health Sector Reform unit has been strengthened to provide leadership and cover all aspects o f reforms and to monitor the reform process. In order to strengthen the management structure, separate male and female cadres o f doctors have been merged, a new career structure o f paramedics has been approved and a management cadre has been notified. Implementationo f the latter i s awaiting resolution, which i s being sought, o fprocedural bottlenecks and legal issues involving seniority o f staff. 54. Rationalization and standardization o f District Headquarters Hospitals has been initiated in 17 districts hospitals with a focus on ensuring capability in a prioritized range of medical specialties i s making steady progressing.. The Government has ensured adequate financing. However, it i s too early to assess its impact on quality and utilization o f services. All tertiary hospitals have been given financial and administrative autonomy with the aim to improve quality o f services. A third party assessment o f the autonomy has been commissioned to learn lessons andplan its expansion to the district headquarters. 55. Increased allocationsfor the health sector. Duringthe last four years the health sector allocations have been adequate and have increased in line with the MTBF. The health expenditures have risen at an annual growth rate o f 13 percent, mainly due to increased development expenditures with a rising share in total development spending. Challenges ahead reflect existing capacity constraints and procedural bottlenecks that limit the use o f additional allocated resources and thereby undermine their potential benefit. In addition lack of an 13 institutional mechanism to track health expenditures at the district level limits evidence-based decision making. The Health Department needs to further prioritize expenditures, focusing on services which are cost effective and have larger impact on health outcomes. A.4 GovernanceReforms 56. The GoNWFPrecognizes that problems o fweak governance have been at the heart ofthe province's poverty and development challenges and has made improving governance and public sector performance a central element inthe PRP since its inception. To address these challenges, the government launched a wide range o f reforms in (i)public financial management; (ii) procurement; (iii) service reform; and (iv) carrying the devolution process forward; the latter civil with the goal of improvingthe administration o fmulti-tiered government (province/district/tehsil) and making local governments more accountable for improved service delivery. A.4.a PublicFinancialManagement 57. The province's reforms in public financial management aim at (i)improving the reliability and accuracy o f financial data, (ii) institutionalreform to strengthen internal audits, and (iii) improving accountability and legislative oversight. These reforms are in accordance with a comprehensive financial management reform action plan prepared and agreed between the Bank and the GoNWFP as part o f the Provincial Financial Accountability Assessment (PFAA, 2003). Inthe first phase ofreformsto date the mainemphasis ofpublic financial managementreforms in the province has been on establishing an integrated, automated accounting system that connects all provincial level and district accounting offices to provide real time information. While work has also been ongoing in institutional reform and improving accountability and legislative oversight, the emphasis will shift increasingly to these areas infuture operations. 58. Improving the reliability and accuracy of financial data. The thrust o f the province's financial management reforms relies on the implementationat the province and district level o f an automated accounting system (under the Bank-supported Pakistan-wide project for strengthening accounting and financial reporting (PIFRA)). As part o f PIFRA execution, the province has computerized its accounting system and as a first in the country, prepared and executed in FY05 its provincial government budget on the basis o f the new Chart o f Accounts (COA), using the principles o f the New Accounting Model (NAh4) consistent with international best practice. In FY06 this was expanded to all 24 district governments o fNWFP. This will improve the reliability and timeliness of consolidated provincial accounts. The province has also progressed ahead o f schedule in computerizing the district government accounting system and has established full connectivity between the provincial government and many District Accounting Offices. Reflecting this progress, the achieved reconciliation levels and timeliness in financial reporting far exceed the targeted milestone levels inthe medium-term reformplan. For the first 4 months o f FY06, actual reconciliation levels achieved for expenditures, receipts, suspense and intergovernmental accounts, on average, were 96 percent, 97 percent, 95 percent, and 100percent respectively. Timeliness o freporting has now improved from a lag o f 8 weeks to 6 weeks. 59. Institutional reforms. Institutionalizing the internal audit function has been a major challenge in all governments in Pakistan. GoNWFP has initiated the process ahead of other provinces by notifying the establishment o f internal audit function in 19 provincial departments but considerable work remains for future operations to ensure that implementation has any significant effect. 14 60. Improving Accountability and Legislative Oversight. The Public Accounts Committees (PAC) and Departmental Accounts Committees (DAC) have reduced the number of unsettled audit observations for provincial and district government accounts but a substantial backlog still remains. This reflects to some extent the many years of backlog that the government inherited at the start of reforms in 2001/02 but also inadequate frequency o f DAC meetings to clear unsettled audit observations. 61. Overall, NWFP has achieved substantial progress in public financial management reforms - unparalleled among Palustan's provinces -towards achieving reliable, comprehensive, accurate, and timely information pertaining to provincial and district governments' financial transactions. Reforms ahead will continue as outlined inthe PFAA actionplan. A.4.b Procurement 62. N W F P has since the start of the Provincial Reform Program been the country's leading province with regard to procurement reforms although recently implementation has been falling short. The provincial government has implemented reforms inphases. Marlung the end o f the first phase, GoNWFP passed the Procurement Ordinance in 2002 as the first government (federal and provincial) in the country. Continuing with its lead on procurement reforms, in 2003 it passed a new Procurement Law for goods, works and services, again a first in the country, and the main achievement inphase 2. However, while being a major improvement the Law does not fully meet international best practice. GoNWFP also adopted standard bidding documents for goods, works and services based on the model o f the Pakistan EngineeringCouncil and notified by the Department o f Planning. 63. The vision o f procurement reform seems to have blurred after the adoption o f the 2003 Procurement L a w and subsequent implementation has not been satisfactory. Most implementing agencies have not fully adopted it intheir operations with the result that most procurement i s still being done using the old set o f directives, notifications and manuals. The reason for inaction in implementation seems to be lack o f awareness and ownership o f the law, slack enforcement and limited capacity to implement the law. Hence, notwithstanding progress made further work is neededto bringthe Procurement Law up to international standard, make it effective and ensure its implementation. This will be the central part o fprocurement reforms infuture operations. A.4.c Civil service and administrationof multi-tieredgovernment 64. By the time the PRP started in 2001/02, decades o f neglect had taken its toll on governance in the province, as in the rest o f the country. The result was excessive staff, poor compensation at higher levels, declining quality o f civil servants, over-centralization o f decision- making, complaints o f widespread corruption and malfeasance, poor management systems, frequent transfers o f staff, including o f high-level staff with resultant little time and experience in the post, and cumbersome and costly procedures. To address these challenges and with the overarching objective o f improving service delivery the government has been pursuingreforms in the areas o f personnel management and devolution. These reforms aim at increasing levels o f efficiency, effectiveness and ethical standards in the civil service, malung civil servants more accountable to users through administrative decentralization, and raising their levels o f competence and integrity. 65. The government i s implementing its strategy in phases. Since 2001/02 to date it has focused on containing the size of the civil service, increasing posts and/or hiringmainly in high priority areas (education, health and police); maintaining merit and transparency in new 15 recruitment, postings and transfers; and developing a computerized Human Resource Management (HRM) database that will enable marked improvement in personnel planning and management. It has also taken initial steps towards administrative decentralization. 66. Progress to date i s as follows: The government has laid the groundwork for improved professionalism and accountability in state institutions, and has successfully contained growth in staffing levels, limiting growth in sanctioned posts to 1-2percent per annum after rationalization and restructuring in2001. It has streamlined recruitment processes whilst maintaining their merit- based integnty and has established an independent Provincial Public Service Commission for recruitment for mid- and upper level staff.5 The average length o f tenure o f Department Secretaries has increased markedly over the last three years (from 7 to 17 months) but is still too short to assure optimum levels o fjob performance and greater accountability in these key policy and management roles. The government has changed its human resources management systems to remove inconsistencies with devolution, and has developed and put inplace a computerized civil service Human Resource (HR) database. The computerized HR database will allow the government to monitor compliance with human resources management policies and the size o f the civil service establishment. This will help eliminate "ghost" workers from payrolls and yield a more accurate estimate o f the government pension liabilities. Less positive i s the new contract employment legislation (approved in2005) that has not fully addressed the issues of performance and wage cost flexibility or o freducing levels o f unfundedpension liability. 67. NWFP also has moved towards a more decentralized administration with greater administrative autonomy at the district level albeit less so than in other provinces with better political alignment between provincial and district governments. Still, the province has issued amendments to the Local Government Ordinance with the goal o f establishing new district services with district and tehsil cadres in2006 and seeks Bank technical assistance inthis area. B. The Government'sReformProgram PhaseII(2006 2010)- - 68. The NWFP government's reform program has now evolved from the broad-based program summarized above to one that, going forward, focuses on inclusive growth and human development. The government recognizes that sustained inclusive growth in the province will require not only a favorable investment climate but, as importantly, a healthy and educated labor force. Investing in human capital, particularly in children, i s therefore critical to meeting this objective. Accomplishing the twin objectives o f human development and inclusive growth will also require continued fiscal and expenditure reforms, as well as governance reforms. 69. The government i s deepening its human development reform agenda to accelerate progress on education and health. Itplans to enhance health and education programs significantly, so as to enable greater access to quality health services i s vitally important for improving life expectancy and productivity. In addition, the government i s developing a social protection strategy that would include targeted measures to help the poor cope with chronic poverty and vulnerability. Social protectionprograms will help ensure equity, and promote access by the poor to essential services. InNWFP, the Provincial Public Service Commission has authority to recruit staffingrades 17to 21 andingrades 11 to 16 innon-devolved departments. The autonomy and areas o f authority o f the PPSC were eroded to some extent with the authority for selecting candidates for grades BPS 11-16 in devolved departments transferred to new district recruitment committees where senior district officers continue to spend a disproportionate amount o f their time dealing with irregular requeststo appoint, promote andtransfer staff. 16 70. While the core of the PRP going forward is the program for improvement in human capital, the government will support it with continued fiscal and governance reforms to ensure that HD continues to get the importance it deserves from a fiscal and governance perspective. Improvement in HD indicators as envisaged in the PRP is expected to improve the quality o f the work force. An improved supply o f workers will be met by increased demand for workers via continued focus on the growth agenda. The Government o f the NWFP is fully committed to the growth agenda as seen in the thrust o f the new provincial development strategy (2006 - 08) that will be presented at the provincial donor forum in May 2006. A critical sub-set o f that reform program i s to further strengthen the private sector for sustainable growth and i s supported by the proposed DPC. 71. Reforms leading to improved service delivery would improve human development outcomes. GoNWFP aims at raising the primary school net enrollment rate from 41 percent in FY02 to 55 percent in FYO8, and the secondary school net enrollment rate from 12 percent in FY02 to 20 percent in FY08. It targets raising the immunization rate (full immunization) for children between 12 and 23 months from 60.5 percent in FY02 to 80 percent by FY08 and 85 percent by FY10. It also aims at raising the contraceptive prevalence rate from 22.5 percent in FYOl to 35 percent by FY08 and 38 percent by FY10. Reform-led improvements in the investment climate would induce an increase in private investment from 11.7 percent o f provincial GDP in FY04 to about 15 percent o f provincial GDP by FY08 and subsequent years. This would contribute to raising total investment in the province from about 15 % percent o f provincial GDP inFY04 to about 19 1/4percent over the medium term. With improvement inHD indicators, particularly improved secondary, technical and vocational education, NWFP will have a better skilled work force in the medium term. Along with fiscal and governance reform, the government i s implementing a strategy to invigorate the private sector to generate employment opportunities. The annual rate of growth inprovincial real GDP i s expected to increase from 5.6 percent in FY05 (and from the average over the last decade o f 4 % percent) to 7.2 percent in FY08 and 7.5 percent inFY10. Consistent with this path o f inclusive growth, 600,000 additional jobs (net) would be created by FY08, bringingthe unemployment rate down from 13 percent in FY04 to 11percent inFY08 and further to 9 % percent inFY10. Inthe outer years, highgrowth and labor s h l l formation will reinforce each other. Table 2: NWFP SelectedEconomic Indicators, 2004105 - 2007108 2004105 2005106 2006107 2007108 Real GDP, % change 6.3 3.0 6.9 7.2 Unemploymentrate (%) 12.8 16.1 12.4 11.2 Real GDPper capita, % change 4.I 0.9 4.8 5.1 Investment, % o f PGDP 16.6 I7.1 18.7 19.2 Fiscal balance, YOof PGDP -0.5 -1.4 -0.7 -0.4 72. Government's reform strategy going forward strengthens the reform pillars o f the strategy to date and prioritizesinterventions as follows: Pillar One: Accelerating HumanDevelopment and Improving Service Delivery 73. While there have been improvements in human development outcomes yielded by the implementation o f the reform program, the GoNWFP is also cognizant that significant challenges remain requiring a deepening of the HD reform agenda within the overall fiscal and fiduciary framework. Specifically, the objective of the HD reform program i s to improve the access and quality o f service delivery while significantly reducing gender and regional disparities. Going 17 forward, the reform program focuses on the following three key themes: (i)further improving access, coverage and utilization o f social services including social protection services (covering both public and private services); (ii) improving quality o f service delivery; and (iii) enhancing stewardship functions of the government including financing, monitoring & evaluation and promoting public-private partnerships. 74. In education, while the focus on access in primary education remains, the reforms are being expanded to cover elementary and secondary education. Inaccess, a differentiated policy i s being introducedto address regional and gender disparities. To make education more meaningful, critical reforms are being introduced to improve the quality of education, supported by the development of a strong monitoring and evaluation fiamework. In health, preventive health care remains a priority. Moreover, there i s now an intensive focus on improving utilization and quality o f primary and secondary health care through innovative partnerships with the private and NGO sector. Inaddition, the health reforms seek to enhance stewardship functions o f the government for enhancing monitoring and evaluation, strengthening partnership with private sector, including NGOs, and financing o f the sector as a whole. The specific sectoral reforms are presented below. Financingfor HD sectors will be enhanced within the medium-term development framework, and the level and composition o f health, education and social protection budgets will be aligned with sectoral priorities. See also Annex 4 for more detail on human development. a. EducationSector 75. The education sector reforms will be broadened and deepened in several ways. First, as primary enrolment and completion rates rise, the demand for places in middle schools, secondary schools and colleges will increase over time; inresponse, the NWFP government plans to expand the middle, secondary and college education sector to increase participation beyond primary education. In the near term the government will mainly expand middle school education by increasing school facilities at that level, according to expansion targets set by districts and agreed between the provincial government and district governments. Over the medium term it will expand secondary and college education, again in the context o f targets established by districts and agreed between the provincial and district governments. To improve access, it will strengthen public-private partnerships through the Education Foundations. Over the next two years it will restructure the Elementary Education Foundation to enable it to implement innovative programsto support the private sector. 76. Second, demand side interventions will be introduced with a focus on regional and gender equity. Inthe near term the government will commence a program o f stipends for girls to attend middle and secondary schools in poor districts where female middle and secondary enrolment i s particularly low. This demand side initiative will complement the supply side measures to expand middle and secondary education for girls. Further, the initiative will be poverty focused, as the districts where female enrolment i s lowest are also the regions where poverty rates are the highest. The emphasis on poverty focused demand side initiatives will be strengthened in coming years, and the GoNWFP will introduce a program of incentives for teachers to work inremote, rural schools. 77. Third, the quality of education, at all levels, will be a key focus o fthe education program. Policies to improve education quality will emphasize measures to raise the competencies and performance o f teachers, and the cognitive achievement levels o f students. In the near term the GoNWFP will establish an institutional framework for teacher development. This will cover the service conditions for teachers, such as entry criteria into the profession and career progression, pre-service teacher education, and professional development through both on-site and off-site 18 teacher training and support. In coming years it will institute a program o f special support for schools with low learning outcomes. This will include regular monitoring o f learning levels, and the implementation o f special measures to assist the weakest schools, including providing extra financial resources, directed additional management attention, special incentives for good teachers to locate in such schools, and appointing good head teachers to these schools, as needed. 78. Fourth, the NWFP education programwill place strong emphasis on objective monitoring and evaluation. Inthe near t m the government will establish a specialized technical unit in the Department o f Education to undertake monitoring activities. This unit will be staffed with the right s h l l mix to manage ongoing monitoring, establish linkages withthe EMIS data, and develop linkages with district governments and to use the data analysis for policy development. Incoming years the government will introduce a system o f external Third Party Validation (TPV). The TPVs will be a useful external accountability instrument, assessing the quality o f the internal monitoring systems by confirming the results with ongoing departmental monitoring. Annual TPVs would be conducted through independent and external agencies to assess various reform inputs including stipends, textbooks, provision o f facilities, availability o f teachers, and functioning of PTAs. b. Health Sector 79. In health the reforms will be broadened by: (i)testing innovative approaches to strengthen the management and organization o f primary and secondary health services; (ii) building partnerships with the non-state sector; (iii) increasing managerial autonomy; and (iv) enhancing accountability inthe public sector through significantly strengthening monitoring and evaluation. 80. The first key reform i s to improve the utilization and quality o f Primary Health Care (PHC) services by testing of managerial and organizational innovationsusinga controlled, before and after, evaluation targeting the worst performing districts in the province. The three approaches that will be tested in the near term include: (a) contracting out management o f responsibility for delivering a package o f PHC services to NGOs, inkeeping with the President's PHC Initiative; (b) providing increased administrative and financial autonomy (and requisite powers) to district managers so they can effectively manage the District; and (c) providing, along with administrative and financial autonomy, performance based incentives to district managers and key staff. This i s the first time that any provincial government will implementing focused reforms which could have far reachingimpact on health sector management and quality o f service delivery. 81. The second area o f reform i s to improve quality, equity, and utilization o f secondary care by introducing hospital refom and develop models o f autonomy. This would explicitly address issues o f human resource management, governance, and financing for district hospital governance, management, and autonomy. In the medium term, it is expected that improved models o f autonomy will be implemented in district hospitals. NWFP i s taking the leading in introducing hospital reforms at the secondary level. This reform measure will be supported through DPC 2. 82. Third, a series of reforms measures are envisaged to be implemented to strengthen the Department's stewardship over the sector. A key measure over the medium term will focus on significantly strengthening monitoring and evaluation through the establishment o f an independent monitoring and evaluation cell inthe Department o f Health. The unit will undertake performance assessment, coordinate inter district dialogue, and enhance accountability by 19 disseminating disaggregated district performance indicators to the public through the media and the Department o f Health's website. 83. The government will also strengthen partnerships with the private and NGO sector. To that effect it will restructure the NWFP Health Foundationby re-orienting its role, functions, and scope o f work. Measures would be taken to enhance its autonomy. In addition, the recently- established Health Regulatory Authority (HRA) would develop a clear strategy in order to improve the quality o f care provided inthe private sector. C. Social Protection 84. The provincial government has recently added social protection as the fifth pillar to its reform program as reflected in its PRSP. However, while the provincial PRSP highlights the importance of social protection in combating poverty, fostering human development and achievingthe Millennium Development Goals, little has been done to implement planned actions. The province relies on federal spending and key programs are federally mandated and financed. The province spends very little from its own resources. As elsewhere in Pakistan, public-private partnership i s an important pillar o f assisting the vulnerable, and a number o f NGOs provide a variety o f services to the vulnerable groups. Although significant, both formal and informal safety nets interventions are far from sufficient to alleviate poverty, and deep and widespread poverty remains one o f the main features o fNWFP's social and economic reality. 85. The government i s committed to developing a comprehensive social protection reform strategy that would strengthen targeted programs to address chronic poverty and vulnerability through financially sustainable programs, coordinated at the federal level, that facilitate participation o f the poor and vulnerable in basic social services. The Government o f NWFP i s currently taking stock o f social protection programs and their outcomes. The stock-takmg will form a base for social protectionreform strategy and an action plan for its implementation, which will be developed in tandem with ongoing work on a national social protection strategy and decided based on the results o f the stock-taking and related consultations. Likely areas o f initial engagement would focus on social protection administration and implementation improvements, including (i)organization and coordination at the provincial and districts levels; (ii) human resource capacity building; (iii) introduction o f MIS and provision o f other up to date equipment; and (iv) physical infrastructure. Subsequently, existing programs would be audited and tightened up inorder to increase their effectiveness and efficiency. New programs, including scaling up o f demand side incentives (and perhaps expanding these to participation in health programs, e.g., nutrition), workfare and community-based service delivery for vulnerable groups o f the population will be gradually introduced, inclose coordination withnational policy developments. Pillar Two: Fiscal and Expenditure Reforms 86. The medium-term fiscal reform strategy is being closely integrated with the government S strategy for human development and inclusive growth. In order to improve delivery o f social services, increased expenditures, combined with sector-specific measures in education, health, and water and sanitation, are being complemented with corresponding measures in fiscal decentralization, so as to give service providers (local governments) additional resources to deliver. Additional critical public investment will be needed to crowd-in private investment in order to provide employment to the better educated work force. 20 87. The high-investment/high-growth strategy envisaged in the medium-term reform program will have important development rewards but it will also require additional fiscal resources for its implementation. The recent, temporary amendment in the 1997 NFC (National Finance Commission) Award (amended by the President in January 2006) that devotes ahigher share o f the divisible pool to the provinces is a step inthe right direction but needs to be made permanent through a new NFC Award. 88. The NWFP's finances will get a strong boost from the amendedNFC Award (see Table 3 for comparison o f the estimated revenue transfers to the province under the terms o f the original and the amended 1997 NFC Awards).6 Under the new arrangement, NWFP will get an increase of about Rs 5.6 billion (12.7 percent) in FY07 compared to the terms of the original 1997 NFC Award. Overall, the province i s likely to get an additional Rs 52 billion during the next 5 year if the amended Award stays inplace. OriginalNFC Award Amended NFC Award 5-Year Additional 2006/07 2007108 2008109 2009/10 2010111 Total 2006107 2007108 2008109 2009110 2010111 Total Transfer Divisible Pool (Net of 2.5% GeneralSales Tax Transfers 35.0 39.6 44.8 50.6 57.3 227.2 34.6 40.3 47.1 55.0 64.2 241.2 14.0 Revenuefrom2.5 GST 4.5 5.2 5.9 6.8 7.8 30.1 5.0 5.7 6.6 7.5 8.6 33.4 3.3 OnPopulationbmis 2.6 3.0 3.4 3.9 4.5 17.4 3.5 4.0 4.6 5.2 6.0 23.2 5.8 On OZT Collectionsbasis 1.9 2.2 2.5 2.9 3.3 12.7 1.5 1.7 2.0 2.3 2.6 10.2 -2.5 Grants and Subventions 4.3 4.9 5.5 6.3 7.1 28.0 9.7 11.0 12.5 14.1 16.0 63.3 35.2 Total Resource 43.8 49.6 5 . 2 63.7 72.2 2.35.4 49.3 57.0 66.1 76.6 88.8 337.8 52.5 Rovinces 14.0% 13.9% 13.9% 13.9% 13.9% 13.9Yq 15.0% 15.0% 14.9% 14.9% 14.9% 14.9% 24.6%, 89. The NWFP government plans to strengthen own finances and i s committed to a full implementation of the fiscal reform program that started in 2001. Increasing own resource mobilization will be a major challenge given the existing federal -provincial assignment o f tax instruments that leaves NWFP with a non-buoyant and narrow tax base.' There i s some potential to generate higher own revenues over the medium term from revenue sources such as the Motor Vehicle Tax (MVT), Stamp Duty, Professional Tax, Urban Immovable Property Tax, Agricultural Income Tax and taxing services. However, the growth strategy also requires increasedresource transfers from the federal government and external development assistance. 90. To strengthen own revenue mobilization, the government will address corruption in tax administration, make it more effective, strengthen collection of broad based taxes and user charges. Besides improving tax administration through improved incentives, training and computerization o f tax records,' the provincial government plans to focus more intensely on relatively broad-based provincial taxes. Collection o f MVT, which i s far below potential, i s being streamlined through a more automated collection o f the tax. To improve the structure and revenue potential o f the property tax, the provincial government i s inthe process o f finalizing a survey o f properties. Key measures for rationalizing and improving the yield o f user charges include: improving the water rate formula with the aim o f making it self financing and a review o f higher education fees and user charges for health services, with adequate safety nets for the poor. Because o f these measures, the provincially collected revenue is projected to increase at an The recent amendment is likely to be continued untilsuch time that the NFC announces a new Award. Federal laws also exempt 7 out of 24 districts inthe province from paying taxes to the provincial government. Other tax administration measures include: a clearly defined and streamlined role of the Board ofRevenue (BoR) and the Excise and Taxation (E&T) Department; modernizing the mode of application of laws and administration of agricultural and land-based taxes; and improving coordination between the BoR and E&T Departments. The GoNWFP has initiateda new study to improve revenue administration inthe key revenue collecting Departments. 21 average rate of 16percent p.a. from FY05 to FY10. With federal transfers expected to increase by 15 percent p.a. overall provincial revenue i s projected to increase by 15 percent p.a. 91. The government will also continue to create fiscal space by following its strategic debt management policy to save interest payments through better debt management (in particular by retiring loans fkom the Federal Government at high (16-17 percent p.a.) interest rates). Table 4: NWFPMedium-T WO1-03 FY04 FYO5 FY06 FY06 FY07 FYO8 FY09 FYI0 Prelim. Budget 4verage Actuals Actuals WB format Proj. Proj. Proj. Proj. Proj. ~ rota1Revenuesand Grants 9.1 7.7 8.2 9.0 8.1 8.7 8.9 9.1 9.3 FederalTax Assignments (NFC) 5.1 4.7 5.2 5.3 5.3 5.3 5.5 5.7 6.0 Provincially collected revenues 0.8 0.8 0.8 0.7 0.8 0.8 0.8 0.8 0.9 Tax Revenues 0.3 0.3 0.3 0.3 0.4 0.4 0.4 0.4 0.4 Non-tax Revenues 0.5 0.4 0.4 0.4 0.4 0.4 0.4 0.4 0.4 Net Hydel Profits from WAPDA 1.5 1.2 1.o 0.9 0.9 0.8 0.7 0.6 0.6 FederalandForeigngrants 1.5 1.0 1.o 1.9 1.o 1.7 1.7 1.7 1.7 oiw Federalgrants 1.3 0.9 1.0 1.8 0.9 1.6 1.6 1.6 1.6 rota1Expenditures 9.5 8.9 8.7 10.2 9.5 9.4 9 3 9.4 9.6 Current Expenditures 7.9 6.9 6.4 7.7 6.7 6.6 6.3 6.4 6.4 Wages 3.7 3.8 3.6 4.4 3.9 3.6 3.7 3.7 3.7 Pensions 0.7 0.5 0.5 0.6 0.6 0.5 0.5 0.5 0.5 Non-Wage Operations& Maintenance 1.3 0.9 0.7 I.4 0.9 0.9 1.o 1.1 1.2 InterestPayments 1.7 1.1 1.0 0.9 0.9 0.8 0.6 0.6 0.5 Subsidies 21 0.3 0.1 0.2 0.1 0.1 0.1 0.1 0.1 0.1 Transfer paymentsto local governments 0.2 0.4 0.4 0.4 0.6 0.4 0.4 0.4 0.6 Development Expenditures 1.7 2.0 2.2 2.4 2.7 2.9 2.9 3.0 3.1 FiscalBalance (including earthquakeeffects) -0.4 -1.1 -0.5 -1.2 -1.4 -0.7 -0.4 -0.3 -0.2 FiscalBalance (excluding earthquake effects) -0.4 -1.1 -0.5 -1.2 -0.8 -0.6 -0.3 -0.3 -0.2 Drimary Fiscal Balance (incl. earthquake effects, 1.2 0.0 0.5 -0.3 -0.5 0.I 0.2 0.2 0.3 Financing (Net) 0.8 1.1 0.5 1.2 1.4 0.7 0.4 0.3 0.2 Domestic Debt 0.2 -0.2 0.2 -0.6 0.4 -0.1 -0.1 -0.1 -0.1 FederalDebt (CDL) -0.7 -0.6 -0.6 0.0 -0.7 -0.2 -0.2 -0.2 -0.2 State Bank Overdrafts -0.4 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.2 ForeignDebt, Net (incl. SAC) 0.4 1.1 0.1 0.8 1.3 1.1 1.5 0.7 0.4 ForeignProject Assistance 0.0 0.1 0.1 0.2 0.0 0.1 0.2 0.2 0.2 Budget support 0.6 1.0 0.0 0.8 1.3 0.8 1.1 0.2 0.2 Change in cashbalancesand Other Financing 1.2 0.9 0.9 0.9 0.3 0.0 -0.8 0.0 -0.1 Wemorandum Items RealGDP growth rates% 2.7 5.6 6.3 6.6 3.0 6.9 7.2 7.5 7.5 Zurrent spendingin% oftotal spending 82.6 77.3 74.1 75.9 71.1 69.6 68.3 67.9 67.3 Developmentspending in% of total spending 11.4 22.7 25.9 24.1 28.9 30.4 31.7 32.1 32.7 Social sector share oftotal spending(%) 34.0 39.4 38.6 34.1 39.4 39.7 40.1 40.5 41.1 o/w Education 26.9 30.6 30.3 25.9 30.6 30.7 30.9 31.3 31.7 Health 6.5 7.8 7.5 6.8 7.7 7.9 8.0 8.1 8.2 Debt servicing (in % of PGDP) 3/ 2.71 1.41 2.01 1.4 1.3 1.3 1.1 1.o 1.o PublicDebt (in% ofPGDP) Source:GoNWFPFiscaltablesandBank staffprojections 2/ Wheat subsidy. 3/ Interestandnormalrepaymentofprincipal. 92. Accelerating growth and facilitating access to service delivery will require not only increasing the overall level of public expenditures, but also improving the composition and effectiveness of these expenditures, with relatively more emphasis on investment and operations and maintenance, less on consumption, and better management of investment projects. In its medium-term budget framework (FY06 FYlO) the government plans to reduce overall current - 22 expenditure in terms o fprovincial GDP (from 6.7 percent inFY06 to 6.4 percent inFY10)9 while significantly enhancing spending on high-priority sectors, like education and health. A large increase (of 24 percent p.a.) is projected in Operations and Maintenance (O&M) expenditure to maintain the value o f public capital stock. Sustained retirement o f expensive federal debt will continue to lower interest payments. Regarding public investment, the government plans to increase development spending by 20 percent p.a. and raise its level from 2 percent o f PGDP in FY04 - FY05 to 3.1 percent o f PGDP over the medium term. It will invest more inpriority areas that include roads, irrigation networks, education, health and water supply and sanitation while containing the "throw-forward" o f the Annual Development Program at its current level in real terms. Reforms will also aim at raising the effectiveness of public investment spending through specific measures to improve the selection o f projects, avoid post-approval escalation o f costs and improve monitoring and supervision o f projects (in addition to procurement reforms described below). 93. Thefiscal framework also envisages measures tofully meetfuture liabilities and making the budgetprocess more effective and transparent. It will continue to buildup the Pension Fund, the General Provident Fund and the Frontier Highway Authority Funds. Drawing on the newly established Human Resource database for the civil service it will explore pension reform options by projecting pension liabilities under different reform options and scenarios. With regard to the budgetary process the government will continue to improve budget preparation through phased roll-out o f Performance Budgeting to other districts. In order to improve budget execution, it plans to launch a system in the coming fiscal year that will enable timely reporting o f the consolidated fiscal deficit (province and districts) and other key fiscal aggregates on a quarterly basis. It will attain accurate and timely information on the fiscal accounts o f district governments and TMAs on a monthly basis, and disseminate it to provincial departments and to the public. 94. By continuing fiscal decentralization reforms the Government will enable local governments tofunction more effectively and hence improve the delivery of social services." As a key step towards further fiscal decentralization the government has initiated the process o f devolving the payment o f district staff salaries through (district) Account N, and it i s possible that this can take effect from July 2006. This would provide proper incentives to districts for efficiency gains in staffing. In addition, it also intends to increase the share o f district development budgets executed through (district) Account N. It has also made headway in formulating a transparent formuldsystem o f incentive grants to Districts for good performance in service delivery, and i s considering institutingconditional grants. Inthis mechanism development funds could be transferred to the district governments (through Account N) as part o f performance agreements between the provincial and district governments. Also, over the medium term the Provincial Finance Commission should be made permanent to institutionalize fiscal decentralization and review on an ongoing basis fiscal performance o f the districts. 95. The combined effect o f the provincial government's fiscal policies and reforms over the medium term are summarized in its MTBF (see Table 4 and Annex 8, Table 4). The broad outcomes include: (i) the provincially collected revenue will remain at 0.7 percent o f PGDP in 2006107 but would increase to 0.8 percent o f PGDP in 2007108, and in hture years would increase at the same rate as nominal PGDP; (ii) the provincial government's current expenditure will increase to 6.7 percent o f PGDP, mainly due to earthquake-related expenditures, but would decline to 6.3 percent within the next two years, and then would remain at that level; (iii) The increase inrecurrent expenditure in2005/06 (to 6.7% o f GDP) i s because o f the one-time expenditure (or Rs 3.3 billion) to be incurred by the province to restore the services in earthquake affected areas. loThis also requires progress in administrative and functional devolution (see pillar IV). 23 provincial development expenditure will continue to increase as percent o f PGDP; (iv) the 2005/06 fiscal deficit will increase to 1.4 percent o f GDP due to the impact o f earthquake (on provincial income and public finances), reduction in federal grants and increase in provincial development expenditure. The fiscal deficit would drop sharply in2006/07 and would continue to decline as a percent o f PGDP infuture years; (v) the stock o f public debt will decline as a percent o f PGDP; and (vi) interest payments will on average decline by 0.1 percent o f PGDPeach year. Pillar Three: GovernanceReforms 96. Weak governance has been at the heart of the province's development challenges and going forward the focus on human development will require continued improvements in(i) public financial management, (ii) procurement; (iii) service reform; and (iv) carrying the devolution civil process forward; the latter with the goal o f improving the administration o f multi-tiered government (province/district/tehsil) and making local governments more accountable for improved service delivery. The main components o f governance reforms are discussed inAnnex D. Briefly, the thrust ofgovernance refoms is as follows: a. Publicfinancialmanagement 97. The government will continue to implement its medium-term strategy for public financial management reforms as outlined in the PFAA action plan. These reforms aim at improving the reliability and accuracy of financial data, institutionalizing the internal audit function and improving accountability and legislative oversight. See Annex 5 for more information on public financial management reforms. b. Procurement reforms 98. While the province has made substantial progress in procurement reforms, including promulgating a new Procurement Law, further work i s neededto actually make the Law effective and ensure its implementation. The government i s refining phase 3 and onwards o f its Procurement Reform Action Plan to bring procurement practices to international standard over the medium term. It will implement phase 3 o f the action plan in the near term. Among other things, this will include specifying the needed amendments in the procurement law and the Standard Bidding Documents, and putting in place a system for posting and updating market prices for use incost estimates inbiddingcontracts. C. Modernizationofthe civilservice andadministrationofmulti-tieredgovernment 99. Over the near and medium term the government will continue its current policies o f civil service cost control throughjudicious and limitedincreases inthe size of the civil service with the vast majority being hired inhighpriority areas (health and education). It will continue to increase the average time in post o f senior staff and make the monitoring results publicly known. The PPSC will continue to regulate and monitor selection, appointment, promotion and transfer o f all staff in BPS 15-21at local government and provincial levels and for professionals and technical specialists ingrades BPS 11-15 at the provincial level. Contract employment policies can be used judiciously to provide more attractive terms and conditions o f employment to fill posts in less attractive areas that often lack competent civil service staffi in particular women teachers and qualified health workers. In addition, in the near term a priority for the government i s to design and establish district services, including district and tehsil cadres. 24 100. The HRMdatabase will continue to be fully operational and be integrated with PIFRA. It will be in regular use, with reliable and timely data provided for HRMplanning and monitoring of establishment levels, appointments, promotions and transfers at provincial, district and tehsil levels. It can also be used, for instance, to monitor at provincial and district levels the success o f policies to recruit and retain female teachers at girls' schools and health workers at basic health units indisadvantaged districts. 101. Over the medium term the organizational review processes will be rolledout to all sectors after the initial reviews in health and education. The reviews will cover the functions o f all provincial, district and tehsil units with a focus on service delivery outcomes. The reviews will form the basis for an action plan for staffing, organizational structure, business process and capacity buildingand for producing results-oriented job descriptions for all posts. The action plan will be implemented over the medium term, supported by necessary amendments to laws, rules and regulations. (See also Annex 6 for further detail on civil service and administrative reform.) Pillar Four: AcceleratingEconomicGrowth 102. With the overarching goal o f reducing poverty inthe province the NWFP government's medium-term strategy also sets out to increase employment opportunities through accelerated, inclusive growth. The government, supported by the Bank's analytical work and the ground work in,recentyears, has developed an overall strategy for economic growth that will be presented at the forthcoming NWFP development forum (May 2006). The growth strategy i s supported by complementary reforms to ensure sustained human development and improved quality o f the work force. The main elements o f the NWFP government's forward-looking growth strategy are presented inAnnex 7. 103. Inbrief, the strategy for inclusive growth aims to deepen the earlier reformto strengthen the private sector, enhance the role o f the urban centers in generating growth and modernize agriculture. The component for agriculture i s drawn from government's recently announced Agricultural Policy (2005) that seeks to encourage the movement towards high value products (horticulture, livestock and others) for both domestic and international markets and thereby exploit the province's considerable growth potential in these products. Though expansion o f the livestock sector will need to remain within the carrying capacity o f the rangelands in order to maximize the earning potential o f the sector and assure longterm sustainability. 104. The next phase o f the growth strategy aims to (i) strengthen the private sector by promoting demand-responsiveness o f public sector agencies; (ii) improve the functioning of industrial estates; and (iii) strengthen the legal framework for modernizing agnculture and enhance the capacity o f small farmers and livestock holders. This will include: ensuring that the new one-window investor facilitation center coordinated by the private sector and the corresponding line agencies i s operational (i.e., that it has been staffed and has started serving potential investors); transferring management o f industrial estates to the private sector; revising the Agricultural Produce Act; and establishing Milk Producers Associations. This phase of the growth strategy will be completed in2006. 105. The government will implement a subsequent phase o f its growth acceleration strategy by 2007. This will include merging SDA and Small Industries Development Board (SIDB), transferring management control o f Bank o f Khyber to the private sector, setting up the Mines Magistrate to strengthen enforcement o f mining property rights and address labor concerns, developing an enabling framework for private provision o f power and o f municipal services, and 25 restructuring the technical and vocational training system consistent with principles of being private sector led and responsive to labor market demands. 106. The medium-term growth strategy will also promote development o f urban centers. This will involve better functioning o f urban land markets and better planning for urban development including better provision o f public services and infkastructure. The most important requirement to make the land markets function optimally i s a system that abolishes the current title ambiguities and determines title conclusively. Urban development will be improved by strengthening the capacity o f city governments to develop credible plans for improving city infrastructure, bringingBuildingByelaws and Regulations at par with international standards and integrating these with cities' integrated strategic plans and promoting public-private partnerships inmunicipal service delivery. IV. BANKSUPPORT TO THE GOVERNMENT'SPROGRAM A. Overview 107. The Bank's current assistance strategy in NWFP i s guided by the Pakistan CAS and reaffirmed by the CAS Progress Report, discussed by the Board in June 2002 and April 2004, respectively. The assistance strategy i s fully consistent with the national PRSP which sets out a program to strengthen macroeconomic stability and government effectiveness at all levels, improve the business environment (both at the federal and provincial level) for growth, and improve equity through pro-poor and pro-gender equity policies and programs, also at both the federal and provincial level. 108. Recognizing that the provinces and local governments in Palustan bear most o f the responsibility for delivering public services including education and health, but have very limited "fiscal space" to provide these services, the CAS and the CAS progress report lay out three strategic principles for which provinces will get assistance through development policy lending: (i) "pull" andselectivity; (ii) client adoption o f a programmatic approach; and (iii) reliance on partnerships. Highlightingthese principles the CAS emphasizes assisting those provinces which have embarked upon a comprehensive fiscal and economic reform program, have built credible track records on implementation and have sought the Bank's assistance. All three strategic principles are applicable to the proposed operation. NWFP has a comprehensive medium-term reform program that includes fiscal, governance and economic reform components. Consistent with the CAS objectives the overarching goal o f the NWFP provincial reform program i s to reduce poverty by promoting growth and accelerating human development, and the reform program i s fully aligned with achieving PRSP objectives at the provincial and local level. The government has high ownership o f and strong commitment to continued reforms. The Senior Minister i s the key champion o freform and there i s a core group of capable reform leaders within the administration. Together with donors such as DFID, the Bank has a strong partnership with NWFP. B. Bank Support 109. The Bank`s wider program o f support to NWFP covers both lending and non-lending activities. The Bank initiated in 2002 a program o f three single-tranche Structural Adjustment Credits over the period FY03-05 to provide performance-based budget support to enable the province to restore financial equilibrium while undertaking its Provincial Reform Program. The second o f these credits for NWFP was approved inJune 2004 for the amount of US$90 million. The following are ongoing Bank projects inNWFP: (i) the NWFP On FarmWater Management 26 Project (US$28 million IDA), which i s helping to reduce water losses and implement farmer managed irrigations system; and (ii) NWFP Community Infrastructure Project I1(US$42 million IDA), which supports community driven small infrastructure schemes. InNovember 2005 these projects were restructured with financial reallocations in response to unusual natural disasters in 2005 (floods and earthquake). The NWFP On Farm Water Management Project also received additional financing o f US$10million. The province also receives support from the Bank through several nationwide or multi-province operations: these include (iii) Palustan Poverty Alleviation Fund 11, (iv) HIV/AIDS Prevention Project, (v) Second Project to Improve Financial Reporting and Accountability (PIFRA II), (vi) Protected Areas Management Project (GEF), (vii)National Highways Rehabilitation project; and (viii) Pakistan Earthquake Emergency Recovery Credit. The proposedDPC 1i s complementary to the Bank's PRSC credits. C. Analytic and Advisory Services 110. Knowledge partnership i s a key element o f the Bank's assistance to the NWFP. Since SAC 2 the analytical base has been strengthened further with the NWFP Economic Report and related Bank ESW with a bearing on provincial policies. These include the nationwide rural factor markets study (ZOOS), the national Growth and Competitiveness Study (2006), the Country Gender Assessment (2006) and the nationwide Administrative Barriers study (2005). Previous studies that have had considerable influence on formulation o f the medium-term policy framework include the Provincial Financial and Accountability Assessment (PFAA, 2004), the Country Procurement Assessment Review (CPAR), the Devolution Study (2004) and the Palustan Public ExpenditureReview (PER, 2003). 111. The Bank has in recent years been assisting the Government o f NWFP in developing a core set o f phase I1 analytical activities with the objective o f expanding the reform agenda through knowledge partnerships with the Bank and with a network of academic and donor supported initiatives. The NWFP Economic Report that lays out a medium- and long-term development strategy for the province was prepared through such a knowledge partnership. Its joint preparation has enhanced ownership o f the strategy presented in the report, and the Government i s usingthe report as a basis for its new Provincial Development Program for FY06 -FY08, andforthedesignofthisandfollow-onoperations.Itwillalso'usetheEconomicReport as the analyticalbasis for the first NWFP Development Forum scheduled for M a y 2006. 112. The Bank foresees possible technical assistance in cooperation with donors in the following areas: in public expenditure management and budgeting where DFID i s likely to continue its technical assistance in performance budgeting and improved human resource management with particular focus on education and health, and in .the area of administrative devolution with assistance to district governments to buildhuman resource management capacity as they establish separate district services; and in teacher and school management training (NORAD and GTZ). D. Lessons from PreviousPolicy BasedLending Operations(SACS) 113. Many of the lessons inthe Implementation Completion Reports for NWFP SAC 1 and 2 remain valid for the DPCprogram. These include: (i) A strong dialogue between the Bank and the provincial government at the technical as well as the cabinet level is a key to success for a reformprogram. The increasingly strong policy dialogue, including through analytical work jointly with the Government, has also strengthened government ownership o f the reformprogram further. 27 The DPC needs to show sensitivity to local political conditions. Sequencing and prioritization of reforms, pace o f progress and achievement of outcomes can be significantly affected by changing political and social realities. The interface o f federal and provincial policies must be given more attention in subnational Bank operations in Palustan since issues o f provincial share in total revenue collections and industrial and trade policy implications are crucial for regional development. Factor in higher revenue transfers from changes inNFC Awards into the fiscal program only when an agreement on the NFC materializes. This lesson also emphasizes the need for provincial governments to explore all revenue raising measures provided for in the Constitution o f Pakistan. For programs that fund facility improvements, a maintenance program must be in place. A large part o f SAC 2 funds were spent on educational andhealthfacilities. Maintenance i s critical to preserving the gains and the districts are currently weak inthis regard. Timely and reliable M&E depends on regular updating o f performance indicators. Several indicators identified to monitor SAC 2 were long-term in nature, in particular poverty data. Real wage data can be used as monitoring indicators for poverty trends. (vii) Capacity building efforts need to track changes in levels of responsibility as a result o f decentralization. With greater responsibilities in the districts comes the need for additional capacity. For example, the large investments inschool rehabilitation need to be matched with resources to facility inspections to monitor school condition as well as teacher attendance. Another example i s the capacity in the Provincial Public Service Commission, which has taken on greater recruitment responsibilities, especially in 2004, buthas not increasedits staffcommensurately. E. The ProposedDevelopmentPolicy Credit 114. As stated earlier, the proposed DPC 1i s a transition operation that assesses progress o f the broad-based reform program o f the Government o f NWFP pursued in 2002-06 (prior actions for this operation) and then going forward, lays out the framework (triggers for the next proposed operation) for development policy lending that i s focused on human development and inclusive growth. Prior actionsfor the proposedDPC 1 115. The broad reform program supported by two SACS and the agreed prior actions of the proposed DPC 1 focused on the following: (a) Accelerating economic growth by establishing an effective and transparent enabling environment for private sector development both in the urban and rural economy; (b) Fiscal reforms to ensure fiscal sustainability and create fiscal space, adopt and follow a medium-term budget framework, enhance effectiveness and accountability o f expenditures, and strengthen resource mobilization; (c) Reforms to accelerate human development and improve service delivery in key sectors (especially basic social services), focusing on access to and quality o f services; and (d) Governance reforms in public financial management, procurement, civil service and administration o f multi-tiered government (province/distict/tehsil). 28 a. Accelerating economic growth 116. While the success o fthe growth-related reform program will depend on a comprehensive range o f measures included inthe government's overall strategy for inclusive growthdiscussed in the previous section, the following have been deemed particularly important, and are being supported by DPC 1, to enable the private sector to realize its full growth potential: (i) institu- tionalizing public-private dialogue to ensure that government decisions affecting private business are consistent with the private sector's investment and growth objectives, (ii) improving private sector's access to skilled manpower and (iii) allowing the private sector to expand into sectors previous dominatedby state owned enterprises. 117. Furthermore, agnculture i s central to economic growth in NWFP. The government recognizes this and has made agriculture a key plank in its growth strategy. The main elements supported by DPC 1 for strengthening agnculture are: (i) aligning public expenditure allocations in the sector with Agricultural Policy priorities, (ii) ensuring that agricultural research in the province is tuned to the needs o f farmers as they move to higher value added crops and (iii) strengthening extension services through Farm Services Centers to assist farmers in adapting modem technologies intheir cultivation practices. 118. The specific prior actions in the growth pillar for DPC 1, previously agreed with the government, and their current status, are as follows: 0 Establish Investment Facilitation Council headed by the Chief Minister and Investment Facilitation Committee headed by the Chief Secretary. Status: Done. "Investment Facilitation Council", Notification No. AEA (IND) 10-342, November 11, 2005 and "Investment FacilitationCommittee", Notification AEA (IND) 10-342, Nov.12,2005. 0 I n order to adopt a demand driven approach to the operation of technical and vocational training institutes to meet the skills needs of theprivate sector: include representatives of theprivate sector in the management committees of such institutions and appointprivate sector representatives as chairpersons. Status: Done. Notification No. DTE&MT/PTB/227-Vol-111/1768, 11" May 2005. 0 Restructure Sarhad Development Authority (SDA) to include an investment facilitation center; make SDA the secretariat for the Investment Facilitation Council and the Investment Facilitation Committee; and create management committees for industrial estates consisting of; and led by, private sector representatives. Status: Done. "Restructuring o f SDA & SIDB", Notification No. SDA/D (P71)/IFA-96/3492, 18th November, 2005. "Industrial Estate Management Committee", Notification No. SDA/PS-CH: 866, 18" M a y 2005. 0 Reduce government shareholding of Bank of Khyber to 65 percent. Status: Done. The government increased total capital through a new emission to the public inFebruary 2006 that reduced its share to 65 percent. 0 Re-alignpublic expenditures with thepriorities set out in the Agriculture Policy. Status: Done. Fiscal budget FY05/06 shows increasing share o f expenditures in the identified priority areas. 29 0 Initiate steps to establish an autonomous agrialtural research system consistent with thepriorities set out in the Agriculture Policy; establish 75 Farm Services Centers; and establish Multi-stakeholder District Agricultural Coordination Forums in all (24) districts. Status: Done. A total of 75 Farm Services Centers have been established and are in operation. The NWFP Agricultural Research System (Handing over) (Repeal) Act , 2005 (NWFP Act No. XV o f 2005) removed ambiguity and duplication by transferring research responsibilities to the Department o f Agnculture and Livestock under which an autonomous research body will be established. Following notification of the GoNWFP, 24 District Agricultural CoordinationForums have been established and are operational. b. Fiscal reforms 119. The government's fiscal reforms are comprehensive. The critical fiscal objectives are: (i) ensuring a sustainable fiscal position; (iii)continuing to improve effectiveness o f public investment spending; (iii)containing public consumption to maintain proper expenditure composition and balance between public investment and consumption; and (iv) raising own revenue mobilization to create fiscal space. 120. The specific prior actions inthe fiscal area inDPC 1, agreed with the government during SAC 2 preparation, and their current status, are as follows: e The FY05 Budget outcome, including overall deficit, to be in line with the medium-term budgetframework (MTBF). Maintain FY05 throw-fonuard ratio of development projects at or reduce it below the FY04 level of 3.0 years, and contain the establishment budget to the FY04 level in terms of percent of provincial GDP (3.6 percent). Status: This prior action has been met. June (Final) fiscal accounts show that: o The fiscal deficit was Rs 3 billion (0.5 percent o f PGDP), significantly less than the MTBFtarget ofRs4.1 billion. o The throw-forward ratio of development projectswas reducedto 2.7 years, below the target of 3.0 years. o The overall establishment cost was also contained at the target of Rs 21 billion (3.6 percent o f PGDP) set inthe MTBF. 0 Implement thefollowing tax administration and tax policy measures in the FY05 budget in light of policy-based studies: (i) introduce a system of bonus payments to excise and taxation staf linked to revenue collection per$ormance; and (ii) open Tax Facilitation Centers with supportfrom private sector for collection of selected taxes. Status: Done. Cash bonus incentives to tax collectors for good performance were established with Finance Departmentreleasing Rs 1.5 million to the Excise and Taxation Department. Tax facilitation centers have started operating inurban centers for collection o f Motor Vehicle Tax and other revenue items. c. Acceleratinghuman developmentthrough improved service delivery c.1 Education 121. Inthe first phase of reforms limited access to education services was deemed the most binding constraint for education in the province. Key demand side constraints were the cost o f education that effectively reduced demand for education by the poor and in particular for girls, and the highincidence o f teacher absenteeism that reflects poor monitoring of teacher attendance. Enhanced involvement by PTAs in monitoring and running operations in the schools could 30 effectively limit teacher absenteeism. The specific prior actions inthe education sector for DPC 1, agreed with the government during SAC 2 preparation, and their current status, are as follows: e Distribute free textbooks to all primary school students, and all girl middle and high school students, in government schools. Status: Done. Source: NWFP Textbook Board, District Governments. e Ensure that functional PTAs with authority to monitor teacher attendance and utilize instructional material and repair (IMM)funds will continue to exist in all primary schools; train and make PTAs fulb functional with similar authority in twenty percent (20percent) of middle and high schools; and ensure that districts release IMMfunds to all existing PTAs. Status: Done. Funds released by March 2006. Notification gives PTAs said authority. Training has been providedwith donor assistance. c.2 Health 122. Limited access to key preventive services, such as TB (tuberculosis) daily observation therapy sessions (DOTS), family planning and primary health services (through the Lady Health Worker program) and HIV/AIDS services, has been critical constraints on the health status o f the population in the province. The specific prior action in the health sector for DPC 1, agreed with the government during SAC 2 preparation, and its current status, is: e Extend the coverage of the TB DOTSprogram from 17 to all (24) districts; deploy 2,500 new Lady Health Workers to district hospitals to reach target of 13,000; and enter into at least three contracts with NGOshrivate sector organizations for the provision of HIV/AIDSpreventive sewices for vulnerablepopulations. Status: Targets for TB DOTS coverage and Lady Health Workers have been met. Three contracts with NGOs have been signed for provision o f HIV/AIDS preventive services. d. Governancereforms d.1 Publicfinancial management 123. Improving the reliability, accuracy and timeliness o f financial data has been the most important challenge in public financial management. The old chart o f accounts was lacking breakdown in a number o f categories that were needed for proper reporting and cost attribution. The agreedprior action for DPC 1and its current status i s as follows: Publish the provincial budget in aformat based on the New Chart of Accounts. Status. Done. Source: Published budget documents. Both the FY05 and FY06budgets have been publishedbasedon the New Chart o f Accounts (as the first province inthe country). d.2 Procurement 124. The key challenge regarding procurement i s ensuring that the new Procurement L a w i s aligned with international best practice and that it i s applied across all government agencies. The agreed prior action for DPC 1and its current status is as follows: e Prepare a road map satisfactory to the World Bank,for the revision of the Procurement Law to better align it with international best practice, specifying the resources, point person and timeframe neededfor such revision. Status: Done. The provincial government has presented the road map for procurement reforms in a funding request (February 21, 2006), and a subsequent letter issued by the provincial government declares that it will 31 take all necessary steps to implement the road map, including providing own financing if other funding i s not available. d.3 Civil service and administrative devolution reforms 125. The effectiveness and integnty o f the civil service has been undermined by poor human resource planning and management systems. This has led to prevalence o f ghost workers and ghost retirees and has made accurate estimation o fthe province's pensionliabilities impossible. A key obstacle to improving service delivery through devolution to district governments has been inconsistencies between various pieces o f legislation and regulation. The agreed prior actions for DPC 1and their current status are as follows: Develop, computerize and put into operation a Human Resource Management database for the provision of reliable and timely data for personnel management and planning. Status: Done. The core HR database was established in November 2005. 97 percent o f personnel records (out o f 284,000) have been completed and loaded to the system. Since November 2005, the database has been in use for the initial preparation o f the salary budget for FY07. Remove inconsistencies in the designation of the appointing authority for different levels of officers and staff of the departments devolved to the districts. Status: Done. Local Government, Elections and Rural Development Department Notification 7, October 2005, amended the NWFP District Government Rules o f Business to firther delegate the power o f appointing authority for officers and staff inBPS-1 to BPS-10 to the Executive District Officer. This removed the previous inconsistency between various regulations regardingthe appointing authority. Triggers for the follow-on operation, DPC2: 126. IDA will continue in DPC 2 to support the Governments' twin strategy of human development and accelerated economic growth. Accomplishing these objectives will require continued fiscal and expenditure reforms, as well as governance reforms. Therefore, DPC 2 will have two additional pillars to the HD and economic growth pillars: fiscal and expenditure reforms; and governance reforms. The proposed follow-on operation, DPC 2, will be triggered by specific actions that the government has committed to put in place to shift the focus o f the development strategy from broad-based reforms to more focused human development and inclusive growth. The priorities and central pillars o fthe new strategy are as follows: Pillar One: Accelerating HumanDevelopment and Improving Service Delivery a. Education Sector 127. While a wide range o f measures are necessary for substantial progress and are includedin the government's comprehensive education sector reform program, the following have been deemed particularly important and will be supported by DPC 2: (i)expand demand side interventions with a focus on regional and gender equity, (ii) improve education quality through professional development o f teachers to raise their competencies, (iii) align objectives for service delivery and outcomes through contracts between the provincial and district governments; (iv) enhance cost effectiveness in spending on facilities and enhance monitoring by involving PTAs more closely; and (iv) improve objective monitoring and evaluation to ensure accountability and 32 proper performance incentives in service delivery. The specific tnggers inthe education sector for DPC 2, agreed with the government, are as follows: Access trigger. Stipendsfor girls enrolled in grades 6-10 introduced in 7 districts where girls middle and secondary enrolment rates are less than 12percent. Quality trigger. Institutionalframework for teacher development notifed. Governance trigger. Partnership agreements signed betweenprovincial and at least SOpercent of the district governments, including monitoring targets and indicatorsfor the education sector. Service delivery trigger. Therevised guidelinesfor increased budgetary authorityfor PTAs to use both recurrent and development budgets issued and capacity building activities outlined. Monitoring and evaluation trigger. Education sector reform unit in the Department of Education strengthened with monitoring andplanningfunctions andfully staffed. b. Health Sector 128. The government strategy for improving health outcomes i s comprehensive and several initiatives are being taken, the most critical actions at this stage are deemed as follows: (i) improving the utilization and quality o f PHC services by testing o f managerial and organizational innovations. This will include contracting out management to NGOs in agreement with the affected district governments. (ii)As a first step in testing the innovations the provincial government needs to establish baseline assessments of quality in thePHC facilities o f selected districts to be contracted out. The specific healthtriggers for DPC 2 are as follows: Partnership agreementssigned with District Governmentsfor implementation of management innovations (contracting with NGOs). Baseline assessments of quality of care in PHCfacilities of selected districts contracted out. Pillar Two: Fiscal and ExpenditureReforms 129. Consistent with maintaining a sustainable fiscal position and sustaining the process o f moving towards fiscal decentralization, the trigger for DPC 2 is: TheFY07Jiscal budget to be in line with the MTBF and devolution principles. This includes that the announcedbudget shows key FY07 budgetary indicators to be inline with the MTBF agreed with the Bank and transfers o f district governments' salary budgets to district Account I V inline with the provisions of the PFC Award. Key budgetary indicators will be the overall deficit (adjusted for operational shortfall), the revenue deficit and the level and detailed composition of education and health sector budgets. Pillar Three: Governance Reforms a. Public financialmanagement 130. After the creation o f districts as new political units it has been virtually impossible for the provincial government to compile consolidated, reconciled and accurate financial reports for the province as a whole in a timely manner. The key reason i s the absence o f an integrated computerized accounting system with a uniform set of accounts for all district accounts offices. The agreed trigger for DPC2 is: 33 Achieve operational IT connectivity and productivity for 20 District Finance and District Accounts Ofice sites using uniform chart of accounts under the new accounting modeel. b. Procurement 131. The key procurement goal to be reached over the medium term i s ensuring that the new Procurement L a w and Standard Bidding Documents are aligned with international best practice and are applied across all government agencies. 132. Continued progress towards meeting this goal i s the expected outcome of the following trigger for DPC 2: SpeciJj, amendments in the procurement law and the Standard Bidding Documents, as agreed with the Bank, and put in place a system for using market based cost estimates in bidding contracts. Pillar Four: Accelerating Economic Growth 133. The growth trigger for DPC 2 focuses sharply on talung forward government's program for strengthening private sector's role in generating employment opportunities for the NWFP work force. As discussed in section 111, government has a developed a broad based strategy for strengthening the private sector. The most critical area within the purview o f the provincial government to induce more private investment i s to lower the transaction costs faced by investors. Investors have been facing high transaction costs for new investments and high regulatory costs and administrative barriers. This reflects lengthy and costly regulatory and approval processes that have involved many government agencies. Streamlining these processes to lower transactions costs i s a critical action inthis regard. To that effect, the following agreed for DPC 2. Ensure that the new one-window investmentfacilitation center coordinated by the private sector and the corresponding line agencies is operational. 34 Box 1. Triggers for DPC 2 Accelerating Human Developmentand ImprovingSocialServiceDelivery Education Access trigger. Stipendsfor girls enrolledin grades 6-10 introducedin 7 districtswhere girlsmiddle and secondaryenrolment rates are less than 12%. Quality trigger. Institutionalframework for teacher developmentnotified. Governance trigger. Partnership agreements signedbetweenprovincial and at least 50% of the district governments, includingmonitoringtargetsand indicatorsfor the educationsector. Servicedelivery trigger. The revisedguidelinesfor increasedbudgetaryauthority for PTAs to useboth recurrentanddevelopmentbudgetsissuedandcapacitybuilding activities outlined. Monitoring and evaluation trigger. Educationsector reformunit inthe Departmentof Education strengthenedwith monitoringandplanningfunctionsand fully staffed. Health Partnershipagreementssignedwith District Governmentsfor implementationofmanagement innovations(contractingwith NGOs). Baseline assessmentsofquality of care inPHCfacilities of selecteddistricts contractedout. Fiscaland Expenditure Reforms The announcedFY07 fiscalbudgetto be inline with MTBF anddevolutionprinciples. Public FinancialManagement and GovernanceReforms Achieve operationalITconnectivityandproductivity for 20 District FinanceandDistrict Accounts Office sitesusinguniform chart of accounts. Specifyamendments inthe procurementlaw andthe StandardBidding Documents, as agreedwith the Bank, andput inplace asystemfor usingmarketbasedcost estimatesinbidding contracts. Accelerating EconomicGrowth and Promoting Private Sector Development Ensurethat the new one-windowinvestorfacilitation centercoordinatedby the privatesector andthe I correspondingline agencies is operational. 1/ Detailson monitoringof these triggersandtheir linkwith outcomesare providedinAnnex 2 (policy Matrix) F. Benefitsofthe Operation 134. Support for reform.Establishinga programmatic series of Development Policy Credits to continue Bank support for NWFP's reform program i s an appropriate response to the progress made by GoNWFP across the reform spectrum. These reforms have consolidated gains achieved under SAC 1 and SAC 2 but the reform process needs to be sustained over the mediumterm to substantially improve outcomes. The DPC can help further strengthen the ongoing reformprocess inthe province. The government has a determinedstrategy to reduce poverty, improveprovision of social and other public services, improve social indicators and public sector governance, and provide better employment prospects through broad-based inclusive growth. Progress in these areas would be very valuable in pulling the province towards moderate social leanings. If the government can remain engagedwith the Bank and be provided the resources neededfor service delivery and development - important issues for the local electorate -that would help reduce the risk of policy reversal. Reform progress in the province could also induce more reform competition and learning across provinces inPalustan. 35 135. Impact on poverty and human development. GoNWFP's reform program supported by DPCswill help the province inachieving better socioeconomic outcomes andreduce poverty: the reforms are expected to accelerate human development by improving access to social services, aiming at reducing gender and regional disparities, and by improving quality o f services. The reforms are also expected to facilitate and sustain broad-based inclusive growth with rapid increase inper capita real incomes. 136. Debt restructuring. The proceeds from the DPC credit are currently transferred by the Government o f Paktstan to the province on IDA terms and with the federal government carrying the exchange rate risk. Thus, the DPC provides the GoNWFP with relatively less expensive and long-term funds which it can substitute for more expensive types o f debt. The DPC proceeds thus benefit NWFP by improving its debt profile, lowering its interest burden, and thereby creating more fiscal space for priority spending. V. OPERATIONIMPLEMENTATION A. Poverty and SocialImpacts 137. The key objectives o f the proposed operation are to reduce the incidence o f poverty and improve health and education outcomes. GoNWFP's reformprogram i s designed to achieve these goals. The reforms supported by the DPC 1 are expected to have a substantial, beneficial impact on poverty reductionand social outcomes inthe province: (i)The credit would directly go for measures aimed at povertyreduction. This includes continuing recent years' rapid expansion in real spending on social services and boosting the delivery systems. This will provide greater access and better quality education, especially for girls, aiming at narrowing rapidly the gender gap, and higher coverage o f immunization and health programs that contribute to reduced child and maternal mortality rates as well as improved equity inaccess to better quality health services. (ii)Accelerationofeconomicgrowthledbytheprivatesectorremainsfundamentaltopoverty reduction through employment growth and higher incomes. The reform strategy aims at revitalizing the private sector and increasing trade, broad-based inclusive growth and the private sector's role in service delivery. Streamlining business regulations and improving infrastructure will improve the investment climate for private sector development, benefiting in particular medium and small enterprises where the bulk o f employment growth i s expected to come. Agriculture sector reforms are expected to contribute to raising household incomes inrural areas where poverty i s most widespread and thereby directly reduce poverty. (iii)Thefiscalrestructuringfreesupmoreresourcesforpovertyreductionexpenditures. The medium-term framework i s sustainable and ensures adequate resources for social spending in a well-balanced expenditure pattern. The fiscal reforms do not require retrenchment o f staff inthe provincial administrationnor inpublic enterprises. (iv) Governance reforms o f institutions, policies and processes will improve accountability and effectiveness ofpublic expenditures, transparency and rule o f law. Improving governance inthese areas will positively affect the poor and disempowered. 36 B. Implementation,Monitoring and Evaluation 138. The Finance Department i s responsible for overall implementation o f DPC 1. The DPC Reforms Unit in the Finance Department coordinates actions among the concerned departments and agencies. Continuing the practice from SAC 2 implementation the Senior Minister chairs quarterly inter-ministerial meetings reviewing progress in reforms implementation and ensuring coordination under the DPC. The Finance Secretary chairs monthly meetings with Secretaries from the key implementing departments. 139. The Bank team's supervision plan will monitor actions and review implementation progress o f the proposed DPC. The Policy Matrix (Annex 2) o f the proposed operation provides a results framework that describes expected medium-term outcomes, as well as indicators to measure progress during the annual operations. During the supervision phase o f this first DPC, these benchmarks will be regularly evaluated and interim steps taken by the GoNWFP will be monitored. As the operation evolves, circumstances might change which could require flexibility in decision-making for achieving the intended development goals. While maintaining a clear focus on the desired impact outcomes o f the program, the Bank team also recognizes the importance o f linking ongoing monitoring to decision-mahng on appropriate adjustments to reflect these realities. 140. Monitoring will draw on data and findings from a range o f sources to monitor progress on social indicators, public service delivery and fiscal implementation. Poverty and human development outcomes will be tracked by the triannual P M S surveys which mainly help to track outcomes like net enrolment and drop out rates. The new round o f PIHS (which i s now called the PSLSMS), fielded in 2004-05, has just been released to the Bank which will serve to benchmark these indicators. Real wages will be tracked on an annual basis (based on daily nominal wage data) and used as interimmonitoring indicators for poverty trends. Service delivery can be tracked by the Core Welfare Indicators Questionnaire (CWIQ) component in the Pakistan Social and Living Standards Measurement Survey (PSLSMS) with intermediate indicators assessing access, satisfaction and use o f key services measured at the district level. The CWIQ will complement the PSLSMS and i s intended to be fielded annually. Since the CWIQ is a first time experiment in Pakistan its quality and sustainability in an annual fashion i s yet to be explored with the Federal Bureau o f Statistics, where the dialogue i s still ongoing. The first rounddata on CWIQ have also just been made available to the Bank. Information on education and health service delivery will also be provided through annual Third Party Validation surveys. It will be essential to design content o f the third party validation to ensure the direct link with prescribed indicators. In addition annual monitoring reports prepared by the Health and EducationReforms Units, monthly reports on teacher absenteeism provided by Education District Officers and other data from the government's administrative databases such as the Education Management Information System and Health Management Information System will be used. Progress infiscal implementation will be tracked using quarterly fiscal reports and annual budgets. 37 I Table 5: Selected Monitoring Indicators for NWFPDPC Indicator Prior to 2001 Most Recent Planned by and start of Observation end of DPC 3 SAC 1 (End FY08) Provincial GDP growthrate 4% 6.9%a 7-7.5% Poverty Head Count (caloric) 44 46.3%b .... Provincial Tax Revenue Growth 15% 21.4%` 18.3% Pro-poor PRSP expenditures (share) 56.9% 57.6%d 62.0 Development expenditures (share) 26% 25.9% 31.7 Reconciled fiscal data usingthe 0% 97% o freceipts and 100% N e w Accounting Model 96% o f expenditures Gross primary enrollment rate 70% e 77% e 83% Gross primary enrollment rate female 54%e 56%e 70% Primary school dropout rates 24% e 24% e 16% Girls schools with essential facilities 50% 85% 100% Fullimmunization, % o fchildren 54%e 76%' 80% 12-23months % of populationwith access to TB Control (DOTS) 20% 100 % 100 Antenatal coverage o f pregnant women by health 34% 39% 50% professionals ,Contraceptive Prevalence Rate 22% 22.5%' 35% C. Fiduciary Aspects 141. Financial Accountability Environment. NWFP is ahead o f other provinces and the federal government with regard to reforms in public financial management. The Provincial Financial Accountability Assessment provides an in-depth analysis o f the strengths and weaknesses o f the financial control environment in the Provincial Government. Its assessment i s that the system inplace does provide reasonable safeguards for reliance on government financial accountability systems to ensure that funds are used for the purposes intended. This assessment i s plannedto be updated during FY 2006, usingthe PEFA PFMMeasurement Framework, inorder to provide baseline performance indicators and their trajectory o f change over time. The notable progress also beingmade inthe province inimplementing PIFRA reforms i s demonstrative of the province's firm commitment towards the enhancement of public sector financial accountability. 142. An IMF Safeguards Assessment o f the SBP was conducted in 2001. It highlighted significant vulnerabilities at the SBP particularly as relating to its financial statements and disclosure policies which fell short o f acceptable Central Bank standards. However, since a program of reform had since been agreed with the IMF and was being implemented, the risks associated with foreign exchange management and control have been mitigated. The State Bank o f Pakistan has transitioned to producing financial statements which accord with international 38 accounting standards and formats. An independent review o f the SBP's internal audit function, as recommendedby the Safeguards Assessment, has since been completed and the recommendations implemented. The SBP has also established a formal process o f reconciling data reported to the Fundas well as implemented guidelines to prohibit operations that pledge or encumber reserves, or place restrictions on, or otherwise impair the availability of, foreign exchange reserves outside an authorized framework. Equally, the SBP's Act has been accordingly amended to strengthen and guarantee its independence and autonomy in the management o f reserves as required under the Safeguards Assessment. The financial management risk associated with the Program i s therefore rated `low'. D. CreditAdministration, Disbursements,and FiduciaryAssurance 143. Funds flow arrangements for the Credit are as follows: The Government o f Palustan shall identify a Foreign Exchange Deposit Account with the State Bank o f Pakistan (SBP) into which the proceeds o f the Credit will be disbursed on a single tranche basis upon Credit effectiveness. The Rupees equivalent o f the funds in the Account will, within two working days, be transferred into the Consolidated Fund o f the Government o f NWFP (Account No. 1- Non- Food) held with the SBP. 144. Disbursementsfrom the Consolidated Account No.1 (Non-food) by the Government o f NWFP shall not be tied to any specific purchases and no special procurement requirement shall be needed. The proceeds of the Credit shall, however, not be applied to finance expenditures in the negative list as defined in the Schedule o f the Financing Agreement. If any portion o f the Credit i s used to finance ineligible expenditures as so defined in the Schedule o f the Financing Agreement, IDA shall require the Government to promptly, upon notice from IDA, refund an amount equal to the amount of the said payment to IDA. Amounts refknded to IDA upon such request shall be cancelled from the Credit. 145. Accounting and Assurance Requirements for the Credit. The SBP, on behalf o f the Government, shall maintain an appropriate accounting system in accordance with generally acceptable accounting principles. For this Credit, no additional assurance requirements in the form o f a formal audit i s required, inthe light of the fiduciary environment as established with the management o f foreign exchange reserves by the SBP. However, within 45 days o f disbursement o f the Credit by IDA, the Finance Secretary o f the Province shall provide a certificate to IDA confirming the receipt of the Rupees equivalent o f the Credit into the Consolidated FundAccount o f the Government o fNWFP, the date o f the receipt and the exchange rate applied to translate the Credit currency into Rupees. E. Coordinationwith Other Donors 146. Achieving the reform objectives will be supported by IDA'Sclose collaboration with donors, in particular DFID, during the preparation and implementation of this series o f DPCs. DFIDhas been collaborating with the Bank inproviding AAA and technical assistance and in program-related areas such as providing funding towards the NWFP Economic Report and technical assistance inperformance budgeting. It i s expected that technical assistance fromDFID will continue. The Bank also foresees possible technical assistance from other donors inthe area o f administrative devolution with assistance to district governments to build Human Resource management capacity. NORAD and GTZ provide assistance to build capacity and facilitate reform implementation in the education sector; GTZ also to the health sector. The EU is considering providing budget support to GoNWFP aligned with the DPCs. The GoNWFP plans 39 to host its first development forum in 2006 and gather additional assistance from development partners for its medium-term reformprogram as laid out inthe series o f DPCs. F. EnvironmentalAspects 147. The Bank's Draft Country Environmental Assessment (CEA) provides a broad overview of Palustan's environmental policies and institutions. The CEA concludes that the legislative framework for environmental management i s largely in place and the country has made progress inestablishing regulatoryinstitutions for environmental management. However, implementation o f policies remains uneven with the binding constraints being insufficient resources and inadequate compliance incentives. Recognizingthese problems the Medium Term Development Framework 2005-2010 (MTDF), which was adopted in mid-2005, recommends a significant increase in the budget allocated for environmental management to support implementation o f the legislative framework. 148. With its immense altitudinalvariationNWFPis richinnaturalresources, biodiversity and cultural heritage. The Provinces natural assets have played a crucial role in providing the platform for economic development. The rangelands which cover the bulk o f the landmass, sustain a growing livestock industry, while the Province's forests play an important role in protecting watersheds, preventing the siltation o f dams and reducing the incidence o f landslides and soil erosion. However, the resource base i s under stress owing to population pressures, the influx o frefugees andpoverty. 149. There i s a highlevel o f environmental awareness inthe Province and the government has responded to these pressures by introducing the Sarhad Provincial Conservation Strategy (SPCS) which aims to promote conservation and sustainable development. Unmatched elsewhere in Palustan three districts in NWFP have integrated the SPCS into their development agenda. Environmental management within the province i s guided by the Pakistan Environmental Protection Act 1997, which requires EPA approval for the execution o f large public and private projects. NWFP EPA has three zonal offices inthe province and has established an Environment Impact Assessment (EN) training center in Peshawar. The National Environment Policy provides the framework for addressing resource management issues relating to water, air quality and forests. 150. The proposed NWFP Development Policy Credit (DPC), as the first in a series o f 3 annual credits, prescribes a series o f policies and reforms to support three overarching objectives: (i)economic growth and macroeconomic stability; (ii)improvements inhuman capital; and (iii) growth enabling fiscal and governance reforms. The staffs rapid assessment o f the environmental impact o f the policyreforms proposed inthe DPCprior actions and triggers is: Pillar I: Accelerating economic growth through (i) increased private sector investment and productivity and (ii) improvements in agriculturalproductivity. 151. Private sector activity i s to be stimulated by lowering administrative barriers and the transactions costs o f investment. The administrative reforms are not likely to have any direct environmental impact. Given the structure o f the Province's industry it i s anticipated that the bulk o f industrial development will entail broad based growth of light industries, with a modest environmental footprint and low pollution intensity. 40 152. Agnculture i s the backbone o f the NWFP economy and plays a crucial role in shaping development outcomes. The DPC envisages reforms that improve agricultural infrastructure to reduce post-harvest losses; a shift to higher value products and improvements in agncultural research and extension. The DPC also recognizes the need to protect the growth potential o f the natural resource base. Accordingly, it promotes research and extension for the protection o f common property natural resources, and calls for growth o f livestock to be limited to the carrying capacity o f common property pastures. Pillar 2: Fiscal and expenditure reforms through (i) improvements in sustainability and expenditure compositionand (ii) strengtheningthe revenue base. 153. Pillar 2 promotes fiscal discipline and stability which can be expected to raise government revenues for priority spending programs. The fiscal reforms do not recommend a reductioninresources allocated to environmental agencies. Pillar 3: Accelerating human development and improving social service delivery by (i) improving access and quality of education and (ii) improving health service delivery. 154. Pillar 3 will have no direct and identifiable environmental impact. Though there may be tenuous long run gains. Improvements in human capital should reduce poverty and lower the current over-dependence on "depletable" natural resources (e.g., biomass for fuelwood). Pillar 4: Governancereforms. 155. Pillar 4 seeks to improve the accountability and efficiency o f the public sector. To the extent that these reforms encompass the environmental agencies there will be improvements in environmentalcompliance. 156. The overall conclusion o f this assessment i s that the DPC will have no negative environmental effect and may have beneficial consequences by improving the sustainability o f common property management and promoting public sector efficiency. G. RisksandRiskMitigation 157. Risks associated with the government's medium-term reform program include: (i) political risks; (ii) stemming fi-om limited government capacity to implement reforms; (iii) risks fiscal risks; and (iv) external shocks. These risks remain relevant but some have diminished inthe last few years. (i) Political risks. The main opposition to reforms inNWFP i s likely to come fi-om government employees. Reforms will challenge privileges and lack o f accountability for certain employee groups (e.g., teachers and health personnel, revenue collectors, provincial senior civil servants etc). These groups are not regarded as a strong political force that can delay reforms that the provincial government i s determined to implement. 41 158. The elected government has a very high degree o f ownership o f the reform program. Its commitment to these reforms stems from the need to make a real change in the provincial economy and improve delivery o f social and economic services in order to stay in office. Overall it i s the staffs assessment that the reformpackage ispolitically viable. 159. Inaddition, there is the potential riskof spillover ofthe regional security situation, i.e., the continuing conflict in Afghanistan and the border area that could result in a serious deterioration of law and order and suspension o f reforms. The assessment i s that this risk i s small. The conflict inthe border areas is contained and the religious coalition governingNWFP i s firmly incontrol and engaged withdonors onreforms. (ii) Risks of limitations on reform implementation capacity exist. Experience so far shows that weak implementation capacity has at times delayed but importantly, not derailed, reform implementation. While implementation capacity i s weak, the Bank i s taking this into account by appropriately pacing and consolidating reforms in one operation. The need for capacity strengthening is also being addressed with technical assistance from donors. The government i s planning to use the occasion o f the FirstNWFP Development Forum this coming springto seek additional technical assistance and capacity buildingby donors ina wide range o f areas. (iii) Fiscal risks. Inlight o f the recent interim amendment to the NFC award that will provide additional fiscal space to the province the prospective fiscal risk over the medium term has to some extent shifted from being a risk to overall fiscal sustainability more towards a risk o f not maintaining the appropriate spending composition for achievingthe goals o f human development, facilitating growth and poverty reduction. Less judicious use o f public resources could lead to higher spending on lower priority areas - both in the composition o f the civil service through rapidrecruitment across the board as well as the spending composition on goods and services and choice o f development projects. While this could sow the seed in the near term, it would most likely only threaten overall fiscal sustainability in the outer years (after 4-5 years) if also own provincial revenue collection or the unpredictable flows o f hydel profits from WAPDA fall short o f MTBFtargets. At that time the fiscal adjustment would more likely be a squeeze on spending- ADP spending and O&M, inparticular-than a ballooning deficit since the financing o f the latter would be limited. Continuedcommitment to the MTBF and its path for high-priority expenditures and overall deficits will be required to mitigate this risk. Fiscal risks have been addressed with a comprehensive set o f measures to increase fiscal space, including increasing own revenue collection, interest savings stemming from prudent debt management, buildup o f assets in pensions fundto meet future liabilities, and containingthe civil service wage bill. (iv) External shocks. Another major risk i s possible external shocks, either in the national economy (impacting on resource transfers from the center and on own revenues), droughts that affect the majority o f the populationwhose livelihood i s linked to agriculture, or the possibility o f tensions along the borders disrupting normal commerce and possibly affecting the political environment as described above. To a limited extent increased emphasis on improved irrigation networks and water use arrangements could mitigate the effect of droughts but overall these are real risks with limited potential for risk mitigation. These risks must be recognized and weighed in the context of potential benefits. The impact on the provincial fiscal budget of lower than projected growth - national and provincial -would mainly be felt on the revenue side. The larger effect would be through lower transfers from the center. Temporary shocks to revenue could be offset by increased lending from the federal government subject to a sustainable fiscal path. Permanent shocks would need a corresponding expenditure adjustment. 42 Anne,y I Page I of 15 ANNEX 1 LETTER OFDEVELOPMENTPOLICY AND GOVERNMENTREFORMPROGRAM R~f:OMPRES-vVB( WFP-IDA)X1406/07 Dated: April 4,2006 Dear Mr-Wotfowitz. 1 am enclosing a letter of the Government of North West Frontier Pro\rinca (NWFP), addressed to the Ministry of Finance, Government of Pakistan, dated 2gt" March, 2006, delineating a broad and comprehensiverefarm agenda, through which the Government of N W P proposes to strengthen and cansatidate its economic program. The Government of N W hassought assistancefrm the International Development Association of SDR 62.7 rnilljon (US$ 90 rnifllan equlvatent) The Government of Pakistan supports this continued initiative and recommends the proposal for consideration of the InternationalDevelopmentAssociation. Wdh regards, n Sincerely, Mt. PaulWotfowitz, President, TheWarld Bank, Washington D.C.20433, U S A . Annex 1 Page 2 of 15 GOVERNMENT OF NWFP FINANCE DEPARTMENT SAC ReformsMonitoringUnit NO.FD/SAC-IIYDFID-SU~~O~~/~OO~-O~NO~-II DatedPeshawarMarch 29,2006 To Dr.SalmanShah, Advisor to Prime Minister, on Finance and Planning, Government o f Pakistan. Subject: GOVERNMENT OF ZWP-LETTER OF DEVELOPMENTPOLICY 1. The North West Frontier Province i s faced with huge challenges because of its geographical location, repercussions of situation on its western border, low investment inhuman capital and a weak private sector, factors that all contribute to malung it one o f Pakistan's poorest provinces. Poverty inNWFP i s widespread, especially in rural areas. Estimated Provincial GDP per capita in 2002/03 was only 60 percent of the average for the country. NWFP has a weaker resource base than other provinces. The Provincial economy is mostly based on relatively low value-added agriculture, services, public employment and low slulled workers' remittances from inside and outside the country. 2. It is the present elected government's tacit resolve ever since coming into power and commencement o f this program to improve the standard of living of citizens of the province. Despite encouraging progress on the broad reform program, analysis shows that without deepening and broadening human development reforms, several key MDGs will not be met by 2015. The recently completed NWFP Economic Report highlights the critical role of human development inreducingpoverty inthe province. Sustainedimprovement inhuman development indicators i s also critical for upgrading the skills of the labor force required for more rapid economic growth in the future. For these reasons, the principal focus o f the reform program in 2006-2008 will be on human development (HD) while undertaking other reforms to facilitate more rapid, inclusive growth. 3. While the core of DPCs going forward i s the program for HD improvement, it will need to be supported by continued fiscal and governance reforms to ensure that HD continues to get the importance it deserves froma fiscal andgovernance perspective. 4. Improvement inHD indicators as envisaged inthe DPC program i s expected to improve the quality of the work force. An improved supply of workers will be met by increased demand for workers via continued focus on the growth agenda. A vision document hghlighting government's program, "Provincial Development Program, 2005-08" will be approved by the Provincial Cabinet inApril 2006. The government o f the NWFP is fully committed to the growth agenda as seen in the thrust of the new provincial development strategy (2006-08) that will be presented at the provincial donor forum inMay 2006. Annex I Page 3 of 15 5. The DPC will support the following pillars o f the Government o f NWFP's reform program: 1. reform to accelerate human development and improve service delivery in social sectors, to improve education and health status particularly of girls and women, and reduction inhighfertility rate; ii. fiscal reformsinorder to ensure fiscal sustainability and follow amedium-term budget framework, enhance effectiveness accountability o f expenditures, and strengthen resource mobilization; ... 111. governance reforms in public financial management, procurement, civil service and administrationo fmulti-tier government (province/district/tehsil); and iv. accelerating economic growth by providing an effective and transparent environment for private sector development both inthe urban and rural economy. 6. NWFP and Azad Jammu & Kashmir were badly affected by a devastating earthquake on October 8, 2005. It created havoc in many districts and affected 3.5 million people of the province. Over 22,000 died and more than 40,000 were injured as a result o f this earthquake. Around 4,000 schools, mostly government schools, collapsed and thousands o f children present inthe schools died. Though most ofthe schools haverestarted functioningby malungtemporary arrangements, the reconstruction o f the schools i s a top priority for the government o f NWFP and the federal government as part o f rehabilitation strategy in the earthquake affected areas. Public infrastructure and private property crumbled down as a result o f earthquake. 7. Rs. 90 billion (US$ 1.5 billion) are required for reconstructiodrehabilitation in the earthquake affected areas. The cost o f relief, rehabilitation and reconstruction will add to public expenditure and will have significant effects on the provincial budget. The ProvincialReformProgram EducationReforms 8. Our government is increasing the emphasis on education sector reforms. We seek to improve access and quality o f education and are strongly committed to achieving universal enrolment and completion o f primary education, and to eliminating gender and regional disparities in education attainment. Our education policy framework also has the important objective o f increasing participation in quality middle and secondary education, particularly among girls. The policy framework i s designed to increase equitable access to primary and secondary education, basedon a combination o f demand and supply side policies. 9. W e have started with elementary education but also intend to expand it to secondary education. Our government has introduced a range o f policy initiatives to expand school enrolment and attendance and to address regional and gender disparities. The key demand side policies to raise school attendance are providing tuition free education and free textbooks. We have distributed free textbooks to all primary school students, and to all girl middle and high school students, in government schools. In addition, we are implementing a phased program to reduce the supply side constraints, especially for children in rural areas, by increasing essential school facilities such as classrooms, sanitation, water, and boundary walls for security; increasing the number of primary school teachers; and seeking to promote private-public partnerships in Annex I Page 4 of 15 education to enhance access. The combination o f demand and supply side initiatives have enabled the NWFP to make promising progress in increasing enrolment, especially among girls, in recent years. Total enrolment inprimary and secondary education has risen from 2.9 million students in 2002/03 to 3.2 million students in2004/05.Duringthis period, girls enrolment has increased from 0.8 million to over 1.0 million students. The rise in total enrolment has been most marked inthe primary cycle, where enrolment has increased from 2.1 million to 2.3 million during this period, with girls accountingfor morethan halfthe increaseinenrolment. 10. To make education more meaningful, critical reforms are being introducedto improve the quality o f education, supported by the development o f a strong monitoring and evaluation framework. In the coming years our government will expand middle school education by increasing school facilities at the middle school level, according to expansion targets set by districts and agreed between the provincial government and district governments. 11. The NWFP plans to introduce further policy initiatives to increase equitable access to quality education, such as upgrading schools, and launching a phased expansion to middle and secondary schools. The government also plans to introduce a policy o f providing incentives for female teachers postedinremote and rural areas. The package o f incentives that will be tried out could include a financial allowance and malung transport arrangements for teachers to attend schools where access i s a critical constraint. 12. Second, demand side interventions will be introduced with a focus on regional and gender equity. Our government will commence a program o f stipends for girls in grades 6-10 from FY07 in seven districts to attend middle and secondary schools in poor districts where female middle and secondary enrolment i s particularly low. Further, the initiative will be poverty focused, as the districts where female enrolment i s lowest are also the regions where poverty rates are highest. The emphasis on poverty focused demand side initiatives will be strengthened inthe subsequent years by introducing a program of incentives for teachers to work in remote, rural schools. 13. Third, the NWFPeducation program will place strong emphasis on objective monitoring and evaluation. Inthe near future we will establish a specialized technical unit inthe Department of Education to undertake monitoring activities. This unit will be staffed with the right slull mix to manage ongoing monitoring, establish linkages with the EMISdata, and develop linkages with district governments and to use the data analysis for policy development. W e will use Third Party Validations (TPVs) for independent monitoring and a useful external accountability instrument, assessing the quality o f the internal monitoring systems by confirming the results with ongoing departmental monitoring. 14. Free education i s now provided in government schools up to class 10. InFY03, Rs 230 million were expended on provision o f free textbooks to all primary students in government schools. InFY04, Rs 300 million were spent on free textbooks for all primary students, and girls upto the lo* class ingovernment schools. InFY06, Rs 100million are being provided for supply o f free textbooks to 300,000 students from katchi grade to 10* grade. The program will gradually be expanded to provide free textbooks to all students ingovernment schools. 15. The quality o f education has among other factors suffered from frequent absenteeism by teachers. A major reason for teacher absenteeism has been the low teacher interest inteaching in schools that are away from their homes, at current salaries. The Government has decided to amend the rules for primary teachers' recruitment to address this difficulty. Under the new rules primary school teachers (PST) are recruited on merit, 75 percent o f whom are recruited at the Annex 1 Page 5 of 15 union council level and the remaining 25 percent at the distnct level. Moreover, a schedule of preference in descending order o f qualification for recruitments has been made, to ensure teacher appointments and availability (particularly o f females inremote areas). This means that for urban area based recruitment, the standards o f pre-service training and qualification will be the most stringent, and will be increasingly less for recruitment from increasingly underdeveloped areas. In an effort to improve quality, entry qualification o f the teachers was enhanced from matric to F M S C during the last 3 years. Hence, for instance, the qualification rules for female teachers from backward areas have been relaxed considerably to encourage educated females to take up teaching as a profession. 16. Programs for teacher training and to improve the quality o f textbooks are underway. At present, one teacher from every primary school i s being trained annually around the new textbooks being developed, through funding and technical support from bilateral donors. The province also participatedin the National Student Assessment inLanguage and Math through the Provincial Education Assessment Center (PEACE) established at Abbottabad. 17. There has been a continuing shortage o f middle and secondary level teachers, partly due to recruitmentproblems andpartly due to existing rules whereby teachers inthis cadre were being promoted as a routine to high schools without having the competence to teach at that level. To address this, the Provincial Cabinet has approved rules for district based recruitment o f secondary and middle school teachers and the rules are in the process o f administrative approval. The Government also intends to introduce new legislation in the Provincial Assembly so that for promotion purposes, educational service can be treated differently from other services. 18. The government will further strengthen the teachers' training program to improve the quality o f service. Twenty elementary colleges for teacher training have been restored to offer both pre-service and in-service training for male and female teachers separately. At present training i s imparted in teaching methodology and textbooks, but the government i s considering extending the training to character buildingo f the teachers as well. Over 4,000 teachers have been imparted training in the use o f internet for educational purposes. Another 4,000 teachers at the highschool level were trained. Inaddition, 27,000 headteachers andheadmasters willbe trained in school management and computer usage. At present, about 100 high and higher secondary schools have computer laboratories set up under public-private partnerships, and another 169 are being set up inall districts under a 50/50 shared project with the Federal Government. About 122 computer laboratories are already functional and have newlyrecruited staff. 19. Education in the province has suffered in the past from poor management. The government is addressing this problem in two ways. The district education managerial staff has been given needs based training in planning and management. The government also intends to provide managerial training on a continuing basis at the Provincial Institute for Teachers' Education. Detailed job descriptions, users' manuals, and compendiums o f rules and policies have been prepared and distributed to the district governments. The government intends to select suitable staff f?om the present staff as well as fresh recruits, and provide training. Both the teaching and management cadres will be supported by strategic professional development plans and training. A strategy for professional development o f the two cadres will be developed and notified inthe current year, and implemented inthe next fiscal year. 20. Parent-Teacher Associations (PTAs) are formed in most schools. While ensuring that PTAs remain fully functional (i.e., with authority to monitor teacher attendance and utilize funds for instruction materials and repairs (IM&R) received from government) in all primary schools, we have also established and made PTAs fully functional in twenty percent (20 percent) o f Annex 1 Pclge 6 of 15 middle and high schools. The PTAs have been trained in the past and continue to be trained by using donor funding. We will in the near future issue revised guidelines for increasedbudgetary authority for PTAs to use both current and development budgets, and outline capacity building activities. 21. Our government has taken steps to commence the long-term development o f the college sector. A Frontier Education Foundation was established in the early 1990's to stimulate private sector investment in college education. A Regulatory Authority was instituted in 2001 to accredit private colleges and ensure minimum quality standards in the private sector. The Department o f College Education has been supporting the expansion o f public colleges, especially for girls, to future policies and actions. 22. Inorder to ensure propermonitoringandevaluation aneducationsector reformunitinthe Schools & Literacy Department will be established. Partnership agreements will be signed between provincial and at least 50 percent o f the district governments, including monitoring targets and indicators for the education sector. Health 23. Our objective inthe health sector remains to significantly improve healthindicators inthe province over the medium term. Over the last year we have refined our health sector strategy further. We aim at improving the management structure, reorganizing the healthcare system and having a multi-level referral system, focusing on preventive and primary health care, removing obvious gaps infacilities, increasing budgetary allocations as well as user charges, and increasing reliance on the private sector with adequate regulation. Towards this end, we have already taken a number o f steps and several more are planned. Reforms to improve access have in particular focused on access to key preventive services including TB DOTS and Mother-Child Healtmamily Planning. 24. The health sector reforms have implemented a number o f programs such as expanding TB DOTS, increasing neonatal tetanus coverage, and improving access to family planning and primary health care services by increasing substantially the number o f Lady Health Workers to district hospitals. The TB DOTS program has expanded fkom 10 to all 24 districts inNWFP, as targeted. By September 2005, the population coverage had increased from 20 to 100 percent. The immunization rate o f children under two has increased from 57 percent to 73 percent. Hepatitis B vaccination has been introduced across the province with a reported coverage o f 73 percent; neonatal tetanus campaigns have been completed in all highrisk districts increasing coverage o f pregnant women from 39 percent to 45 percent. The polio campaign i s on track with 42 percent reduction inthe number o f new cases inthe last three years and only 3 established cases o f polio have been reported by September 2005. The EPI program was approved which has made functional 15 new centers in FY03 and will fill gaps in manpower, cold chain, enhancing managerial support to the districts, and expanding social mobilization activities and opening new EPIcenters. 25. In additionto a plannedbroadening of healthsector reforms outlinedbelowwe will continue our reformefforts in a number of areas: The government intends to continue its emphasis on family planning. The most recent estimate o f the Contraceptive Prevalence Rate (CPR) inthe province i s 33 percent. The previous target inour Provincial ReformProgramwas to increase the CPR from 30 percent inFY03 to 40 percent by FY10 and to 48 percent byFY15. A s fertility rates remain high in the NWFP and unmet contraceptive need i s 35 percent the government will reinforce its efforts to raise the CPR to meet a revised target o f 40 percent by Annex 1 Page 7 of 15 FY06 and 50 percent by FY15. To improve district management and implementation, the government will appoint a focal person at the ED0 level to coordinate family planning supplies inPopulationWelfare with the Reproductive HealthProject. 26. The Roll Back Malaria Program will continue to expand and improve service delivery by ensuring prompt treatment within 24 hours, increasing preventive measures, promotion of treated bed nets and selective indoor residual spraying. A Provincial Laboratory i s proposed in the Peshawar EDO's office for the next phase o f the program. Malaria officers were made redundant during downsizing in2001 but a revival plan has been submitted for this cadre. 27. InimplementingstepstoenhanceaccesstoHIV/AIDS services for vulnerable subgroups o f the population. Three contracts with NGOs have been signed for provision o f services in different areas o f the province targetingsex workers and intravenous drug users. The MV/AIDS Programwill expand coverage and continue working with the NWFP A I D S consortium. Monthly and quarterly surveillance reports are to be collected and submitted regularly. Registration o f blood banks, safe blood banking and scrutiny o f blood banks is to be strengthened. Mapping for high-risk groups is to be continued, and treatment for patients at the centre established in the Hayatabad Medical Complex i s to be consolidated and improved. Technical evaluation of BCC services will be undertaken. The draft monitoring and supervision plan prepared for all activities undertaken at the provincial and district level has to be approved and implemented. Technical capacity buildingo fpathologists and blood bank offices as well as quality assurance standards for safe blood transfusions will continue. 28. Public-Private Partnership:Workmg with NGOs and the private sector i s to be further enhanced especially for TB Control, HIV/AIDS, Roll Back Malaria, immunization coverage, Family Planning and RH during FY05-08. PP Partnership will be monitored and evaluated; Standard Operating Procedures have been prepared by the Health Foundation and approved by the ChiefMinister, NWFP for public private partnership. The government will assure economic access to health care for the poor. 29. The government intends to organize workshops for community mobilization, creating awareness and skills development of district community committees and other stakeholders to increase the community's role in accountability and better service delivery. In other programs, the government i s committed to provide access to safe water, sanitation, universalprimary female education and gender equity to enhance progress o f health outcomes over the medium and long term. 30. Capacity building: The government recognizes that the overall health management capacity i s limited in the province to make decentralization effective in improving service delivery. To address this limitation, the government has planned to develop skills and communication at the appropriate level. Workshops and short training sessions to ensure strong commitment at all levels o f government will be conducted to make and maintain effective changes inthe health system. The government will also make a training need assessment for the relevant staff. Training for planning and budgeting will be undertaken for EDOs in 8 districts. In addition, induction o f CME/CPD and in-service training is planned at the district level. 31. The government is committed to Standardization of DHQ hospitals. Standardization implementation in the first 8 districts i s to be initiated and a Planning Commission-I (PC 1) will be processed in FY05-06. 25 percent o f the total construction work for Standardization in 8 districts has been completed till 30th June 2005. The remaining work will be completed by FY06. Annex 1 Page 8 of I 5 Indicators for monitoring and evaluation have been developed and baseline data collected from all the DHQhospitals o fNWFP will be analyzed. 32. The Department o f Health was restructured in line with the Devolution initiative with a substantive shift o f staff and resources, and significant delegation o f administrative and financial powers to the districts. Good progress was made to build capacity o f District Managers with training in planning and budget formulation. A management cadre i s in the process o f being created, and the separate male/female cadres o f doctors were merged. A Health Sector Research and Reform unit was established to strengthen capacity for planning and monitoring the reform process. Four tertiary hospitals have been given financial and administrative autonomy with the aim o f achieving financial self-sufficiency inthree years, and a study has been initiated to protect access o f the poor through safety nets. To ease the critical shortage o fnurses and improve quality o f care at the district and sub-district hospitals, posts were created as part o f the rationalization program and 318 trained nurses have already been recruited. Rationalization and standardization o f District Headquarters Hospitals have been initiated in 22 districts. The institutional reforms to improve district health care are underway so that district health facilities can treat more non- serious or non-urgent cases. This has resultedinseven district hospitals being upgradedto A level with capability in 24 medical specialities. Facility specific contracts have been introduced to reduce absenteeism. 33. Our government has developed and approved a long-term plan for health sector reform. We will broaden reforms in this next phase o f health sector reforms. W e will: i)test innovative approaches to strengthen the management and organization o f primary and secondary health services; ii)build partnerships with the non-state sector; iii)increase managerial autonomy; and iv) enhance accountability inthe public sector through significantly strengthening monitoring and evaluation. 34. Our strategy for improving health outcomes is comprehensive and several initiatives are being taken. The most critical actions at this stage are deemed as: i)improvingthe utilization and quality o f Primary Health Care (PHC) services by testing o f managerial and organizational innovations. This will include contracting out management to NGOs in agreement with the affected district governments. ii)As a first step in testing the innovations our government will establish baseline assessments o f quality o f care in the PHC facilities o f selected districts. Inthe near future we will sign partnership agreements with District Governments for implementation o f management innovations (contracting with NGOs). Baseline assessments o f quality o f care in PHC facilities o f selected districts will be contracted out. Fiscal Reforms 35. The central strategy for fiscal reforms till now has been to restore fiscal sustainability and to create fiscal space for highpriority spending areas like infrastructure and law & order. These steps coupled with measures in fiscal decentralization are aimed to provide additional resources to local governments for better performance. 36. The main thrust o f the fiscal strategy i s to reduce heavy debt burden by premature retirement o f expensive debts and by improving the composition and effectiveness o f spending. This strategy has been successfully implemented during these reforms. The debt service burden declined from 2.2 percent o f PGDP inFY02 to 1.3 percent inFY05. Public debt ratio declined to 12 percent o f PGDP in FY05, and is likely to decline to 9 percent over the medium term. Premature retirement o f expensive debt helped in creating fiscal space for spending in social sector. The share o f social sector spending was 39 percent in FY05, 10 percentage points higher Annex I Page 9 of 15 than in FY02 with full focus on education and health sector development expenditure. A three fold increase was noticed in the development expenditure from FYOl to FY05 while rationalization of the development portfolio in recent years has increased the effectiveness o f development spending, and as a result, the Throw Forward ratio o f the Annual Development Program was reducedto 2.8 years, below the target o f 3 years. 37. The federal government recently made an amendment in the National Finance Commission Award o f 1997 as a result o f which the provinces will get higher share from the Federal Divisible Pool. NWFP will get an increase o f Rs. 5.6 billion in FY07 while it i s likely to get Rs.52 billion in the next 5 years compared to the trajectory without the recent change in the award. 38. The Government o f NWFP has tried to mobilize additional revenues to meet its major objectives o f improving public services. Additional revenues have been mobilized through further tax reforms, accelerating and rationalizing user chargers, and improving tax administration. Tax reformmeasures includedrestructuring and reducingthe number o fprovincial taxes; imposing an income-based Agricultural Income Tax (AIT) to complement the province's land-based tax; and harmonization o f AIT and Motor Vehicle Tax rates with other provinces. User charges have been raised for tertiary-level social services and irrigationwater. Collection o fprovincial own revenues will be 0.7 percent o fthe PGDPinFY07 butwould increaseto 0.8 percent o fPGDPinFY08 39. W e have ensured a sustainable fiscal outcome for FY05 in line with the medium-term budget framework (MTBF). The fiscal deficit was 3 billion (0.5 percent o f PGDP) against the MTBFtarget o f Rs4.1 billion. Overall establishment cost o f Rs 21billion (3.5 percent o fPGDP) also remained within the limit set in the MTBF. In order to mobilize more own provincial revenue cash rewards to the tune o f Rs 1.5 million were paid to the employees o f Excise & Taxation Department for good revenue collection performance while Tax Facilitation Centers for Motor Vehicle Tax and other revenue items have started operating in Peshawar, Mardan and Abbottabad. Our government will continue to ensure fiscal sustainability in coming budgets. Budgetary indicators for FY07 will also be inline with the MTBFand devolution principles. 40. The Government of NWFP has also instituted several reforms in the preparation, processing, and execution o f the budget, such as posting fiscal data on the web economic classification o f expenditures in budget documents; piloted preparation o f program and performance budgeting; initiated computerization o f updated land records on a pilot basis; online linking o f the Provincial and District Budgets; and establishing a professionally staffed Budget Analysis Unit, which i s now fully functional and playing an important role in tracking and reporting on the consolidated fiscal deficit andkey fiscal indicators on a quarterly basis. 41, Substantial progress has been achieved inthe area o f fiscal decentralization. NWFP was the first province to use a needs-based formula (based on population and indicators o f social development and backwardness) for budgetary transfers to the districts starting FY02. All non- salary recurrent expenditures and district development spending were devolved to the districts during FY03 and FY04. The PFC Awards o f FY04 strengthened fiscal devolution by providing matching incentive grants to Districts for additional revenue mobilization and enhancing non- salary allocation o f Districts by 10 percent; directly transferred Octroi grants to Tehsils (instead o f the Districts) to ensure timely transfer o f funds; and piloted devolving the Urban Immovable Property Tax (UIPT) in two districts. Another key step in this direction i s that from this coming fiscal year, FY07, the salary budget o f district staff will be disbursed through district Account-IV. We will also pilot conditional grants to increase development budget for districts in line with Annex 1 Page 10of 15 assessed service delivery needs, and pilot a performance contract based system for staff inat least two districts. GovernanceReforms 42. Our government recognizes that weak governance has been a main obstacle to reducing poverty in the province and engender social development. The government has therefore launched a wide range o f reforms in (i) civil service and administrative devolution; (ii) public financial management; and (iii) public procurement. ;(iii) latter with the goal o f and making the local governments more accountable for improved service delivery. (i) Civil service reform and administrative devolution 43. By the time PRP started in 2001/02, decades o f neglect had taken its toll on governance inthe province, as inthe rest ofthe country. The resultwas excessive staff, poor compensation at higher levels, declining quality o f civil servants, over-centralization o f decision-malung, complaints o f widespread corruption and malfeasance, poor management systems, frequent transfers o f staff, including o f high-level staff with resultant little time and experience inthe post, and cumbersome and costly procedures. To address these challenges reforms have been initiated inthe area o fpersonnelmanagementanddevolution. 44. The provincial government wants to improve the efficiency, effectiveness and ethical standards o f the civil service in order to raise levels o f public service delivery. Our reforms also aim at making civil servants more accountable to users through administrative decentralization and raise their levels o f competence and integrity 45. Our vision on maintaining merit inpublic sector employment is visible inpractice. Initial steps have been taken to lessen recruitment delays, increase tenure, and respond to actuarial liabilities. Complaints o f excessive and out-of-turn postings and transfers within the bureaucracy have been addressed. We have reduced the level o f `churning' amongst the Secretary cadre and have successfully contained growth instaffing levels. 46. The province initially took the lead in implementing administrative and operational aspects o f devolution o f power including hlly devolving 12 Provincial Departments to the districts, and placing 200,000 out o f 280,000 provincial employees in districts. Other measures have also been taken to institute administrative devolution. 47. As many as 24 Departments o f the Provincial Government were identified either for staff reduction, amalgamation or closure. A s a result o f their re-organization the number o f Departments was reduced from 46 to 23, and a surplus pool o f 6000 staff members created, most o f whom have now been absorbed in new vacancies in the Districts. The pool has now been reduced to just over 1500 employees. At least 90 percent o f new sanctioned posts have been in Health, Education or Police and in Basic Pay Scale 5 or above. The remaining sanctioned posts are increasing by no more than 3 percent (new sanctioned posts increased at the ratio o f 1.7 percent inbudget for FY2005/06) per annum. This policy will be continuedinthe coming years. 48. The rules governing the management o f civil servants have been revised and simplified. The Annual Confidential Report Form (staff performance assessment) has also been simplified to make reporting easier, and the procedure prescribed to make these timely and definite. An amendment in the administrative rules was made to strengthen the Public Service Commission and make it autonomous. Annex I Page I1 of 15 49. The government has changed its human resources management systems to respond to the requirements of the Local Government Ordinance (LGO) and devolution and has put into operation a computerized HR database that will allow it to monitor compliance with human resources management polices and with the size o f the civil service establishment. The core HR Database was established in November 2005 and has since then been in use for the initial preparation for the salary budget for FY07. 97 percent o f the personnel records (out o f 284,000) have been completed and loaded to the system. The records o f 77,000 out o f 99,000 civil pensioners are ready for periodic updating. 50. The Finance Department has already initiated a performance based budgeting process covering 201 service delivery units in health, education and agriculture within Peshawar and Kohat districts. Tight budgetary targets will however make this challenging. Ifour civil service is to be more effective, the levels o f efficiency must also rise; it will no longer be a question o f maintaining within affordable limits the current staff doing their work in the same way. Policy, management and service deliveryjobs will have to be redesigned and staff will have to learn new ways o f workmg in more effective organizational structures. These new ways o f working and organizational structures will include responding to the needs o f devolution and in particular to the requirements of the LGO to create district services. Our government must also delegate the appropriate levels o f fiscal authority to local governments so that the managers are empowered to do their newjobs. 51. Inconsistencies with regard to the devolution o f appointing authority has been addressed. Specifically, the inconsistency between the NWFP Civil Servant Act o f 1973 and other regulations has been removed to make them consistent with the District Service Rules. NWFP district rules o f business have been notified while District Coordination Officers have been declared as the appointing authority for the staff in Basic Pay Scale 11-15 and the Executive District Officers have been declared as the appointing authority for the staff inBasic Pay Scale 1- 10. (ii)-Public Financial Management 52. Our province has since 2001 been implementing reforms in Public Financial Management. It has satisfactorily implemented the key elements according to the medium term action plan: i)improving the reliability and accuracy of financial data, ii)institutional reforms to strengthen internal audits, and iii)improving accountability and legislative supremacy. The main emphasis o f public financial management reforms in the province has been on establishing an integrated, automated accounting system that connects all provincial level and district accounting offices to provide real time information. While work has also been ongoing in institutional reforms and improving accountability and legislative watch, the emphasis will shift increasingly to these areas infuture operations. 53. Reliability of financial reporting has improved markedly. The reconciliation levels o f fiscal accounts achieved by the NWFP continue to exceed those reported for all other provinces. As on June 30, 2005, reconciliation levels for expenditures, revenues, suspense accounts and intergovernmental accounts had reached 97 percent, 95 percent, 100 percent and 100 percent, respectively. This achievement would be further enhanced with the operation o f a uniform chart o f accounts that started this year, FY06, for the entire province. Fiscal and financial data distortion and unreliability, hitherto a common feature within the province, would now be reversed and province-wide data aggregation according to functions, major and minor heads will more reliably be generated with timeliness. Annex I Page 12of I 5 54. Our province remains fully committed to embracing financial management reforms as reflected in the performance under our medium-term program of actions and has made very substantial progress - unparalleled in Pakistan - towards achieving reliable, comprehensive, accurate, and timely information pertaining to provincial and district governments' financial transactions. The provincial government has supported the 24 district governments inthe key area o f converting the district governments' budget for FY06 from the legacy chart o f classification to the New Accounting Model (NAM)-based new chart o f accounts. The budget computerization unit o f the Department of Finance, supported by PIFR4, has enabled this successful conversion and the implementation rollout o f the provincial government's adopted new chart o f accounts to the 24 districts inthe province. The province o f Punjab i s the only other province that has also, in FY06, achieved this transition to a uniform chart o f accounts for the provincial and district governments but has a lower number o f integrated FMIS productive sites. We aim at achieving operational IT connectivity and productivity for 20 District Finance and District Accounts office sights usinguniform chart o f accounts under the New Accounting Model. (iii) Procurement reform 55. NWFP has since the start o f the Provincial Reform Program been the country's leading province with regard to procurement reforms. Government o f NWFP passed Procurement Ordinance in 2002 as the first government (federal and provincial) in the country. Continuing with its lead on procurement reforms, in2003 our government passed a new Procurement Law for goods, works and services, again a first inthe country. 56. W e have prepared a road map to revise the procurement law and relevant regulations in order to bringthem to international standard and ensure their implementation over the next two years. This includes amendments in the procurement law and the standard bidding document as well as their implementation, andputtinginplace a system for posting and updatingmarket prices as a basis for cost estimates in bidding contracts. The provincial government has requested the World Bank to provide an IDF grant inorder to revamp the procurement reforms. Private Sector Development and Growth Oriented Reforms 57. Our government intends to reduce poverty through accelerated broad based economic growth led by the private sector. Hence improving the investment climate for private investment i s pivotal in the provincial government's growth strategy. The provincial government recognizes that federal policies in this area will have a strong bearing on the success o f provincial efforts. The provincial government has developed strategies to improve the investment climate, enhance productivity in agriculture and water use efficiency, reduce the role o f the public sector in commercial and industrial activities, and promote public-private partnerships. 58. Government o f NWFP continues to realize the significance o f private sector led growth. Early outcomes from the March 2005 investor conference demonstrate good resonance with the private sector regarding the measures taken. These efforts undertaken under the championship o f the Department o f Industries were widely recognized, and there i s a need to spread them across other departments; in particular those that have a direct bearing on sectors where NWFP has a comparative advantage. As part o f the NWFP Economic Report a number o f sector studies were carried out. Based on specific recommendations in these studies our government will operationalize the broad strategy into action plans to be implemented immediately and over the medium term. We also intend to seek technical assistance from the Bank group and other donors to strengthen the capacity o frelevant agencies to implement reformmeasures. Annex I Page 13 of 15 59. Our strategy for Private Sector Development i sbased on the following initiatives: 1. Institutionalizing public-private dialogue to promote demand-responsiveness of public sector agencies and policy-making bodies; ii. Creatinganenablingandcompetitiveenvironment;and iii. Expandingtheroleoftheprivatesector. 60. Furthermore, our government introduced a new Industrial Policy in 2005. Key features o f the new policy are: (a) exempting industrial units in the industrial estates o f NWFP from the imposition o fproperty tax for a period o f 5 years. (b) Similarly, all new units that will be set up in the NWFP will also be exempted from payment o f property tax for a period o f 5 years. (c) The provincial government has decided to do away with the unnecessary labor inspections. Any industrial unit which ensures compliance of labor laws (by filling a Performa to be provided by the Directorate of Labor) will be exempted from labor inspections for a period o f three years. Further exemptions can also be obtained in the same manner. The units will, however, provide their production data and other details to the Directorate o f Industries and Labor every year. (d) In order to reduce the number o f taxes that industry has to pay, the provincial government has decided to exempt the industrial units in NWFP from the payment o f Education Cess, which i s recovered by the Workers' Children EducationBoard. 61. With regard to institutionalizing public-private dialogue our government has established an IndustrialFacilitation Council to be headedby the Chief Minister, having members from both the public and the private sectors. It will work as the apex body for facilitating investment in NWFP and will take high-level decisions to address the problems faced by the industrialists in NWFP.The IndustrialFacilitation Committee headedby Chief Secretary NWFP will meet more frequently to settle the problems o f the industrial sector inthe province. 62. In order to ensure growth it is imperative that the province creates the enabling environment to position itselfto take advantage o f its natural endowments and Hydel power i s an obvious candidate. W e have leased out 7 o f 9 hydel plants to the private sector and will lease out the remaining two which are currently undergoing refkbishing. Leasing out these plants should be seen as just one step o f an overall effort to involve the private sector more deeply in this sector. 63. To adopt a demand driven approach for technical and vocational training institutes whereby labor skills needs o f the private sector are met, our government is planning private sector representation on the boards o f such institutions with the boards beingheaded by a chairman from the private sector. The government has restructured Sarhad Development Authority to act as secretariat and investment facilitator for both bodies. Aiming at fostering an enabling environment for transfer o fmanagement o f industrial estatesto the private sector, our government has set up Management Committees for Industrial Estates that include, and are headedby, private sector representatives. 64. Privatization initiatives are also progressing in order to expand the role o f the private sector. A Provincial Privatization Board has been constituted with the Secretary Industries inthe chair. It utilizes the services o f private sector professionals such as Chartered Accountants and Lawyers on needbasis. The privatizationnotification authorizes the privatization boardto dispose o f loss malung government owned entities. Our government has startedreducing its share holding inthe Bank of Khyber, the first phase of which has been successfully done after the recent P O Annex I Pnge 14 of 15 for 41 million shares. This has reduced the government's share holding to 65 percent. We plan to o f f load a further 14 percent to institutional investors by September 2006 which will reduce the government's shareholding to 51percent. 65. In addition to policy reforms cutting across sectors we have also undertaken sector specific reforms. Mining 66. In accordance with the National Mineral Policy 1995, the Government of NWFP established the Directorate General Mines and Minerals (DGMM) in August 2001 by integrating three existing mineral related departments, Mineral Wing o f DICMD, Mineral Wing o f SDA and Inspectorate o f Mines. The aim i s to provide a one window facility to attract as well as facilitate national and overseas investment in the mineral sector o f the province. Currently there are more than 1200 mining concessions for different minerals in the private sector, earning about Rs.140 million per year for the government. Investment friendly regulatory and fiscal regimes are being introduced by modifying mining concession rules to facilitate and promote investment in the mineral sector of NWFP. 67. In April 2005 the Government of NWFP through Gazette notification announced the North West Frontier Province Mining Concession Rules. These rules cover and address wide range o f issues pertaining to various types o f licenses and issuance o f licenses for both large scale and small scale miningpurposes. The notification has laid down comprehensive list o f rules and regulations encompassing reconnaissance license, exploration license, mineral deposit retention license or mininglease, and financial matters includingroyalties. Agriculture 68. Agricultural growth is probably the most effective mechanism for poverty reduction, and a main propeller o f growth in NWFP. Inview o f the importance for future growth, Government o f NWFP has constituted a committee under the Minister for Agriculture, Livestock, and Cooperatives Department with the Chief Secretary NWFP, Secretary Agriculture, and private sector stakeholders as members. The vision o f the government is to achieve food security with exportable surpluses to generate employment and income opportunities inthe province. 69. The aim of Agriculture Policy i s to uplift the economy and reduce poverty in the province. The goals o f the policy will be achieved by pursuinga number o f objectives: 0 Poverty reduction 0 Food security and self sufficiency 0 Integration and improvement o f service delivery system 0 Capitalizing on the comparative advantages 0 Strengthening public-private partnership 0 Farming community participation indecision making 0 Conservation o f water resources Annex I Page 15 of I S * Tax reliefmeasures 0 Gender mainstreaming 70. The agriculture sector has been receiving the lowest per capita allocations wen though it has a higher proportion o f poor people depending on agriculture for their livelihoods. The provincial government has realigned public expenditure towards priorities identified in the agriculture policy. The budget for FY06 shows increase in share of expendituresinthe identifiedpriority areas. 71. Our government has initiated steps to establish an autonomous agricultural em consistentwith the priorities set out inour Agriculture Policy announced have demerged the university and research institutes with a view to - removing ambiguity and duplications that hindered progress in the area for many years. We will strengthen the linkages betweenagriculture research& extension and the farmers to align research and extension priorities with farmer needs and market trends. We will also help develop further varities of certain high value horticulture tailored to specific backward areas and districts andpromote private milkprocessingplants. Our government will continue to build the capacity of small farmers through the development of f m e r organizations. We will inthe near future help th ate sector establish milk producers associations, and horticultural co-group of pr s, processors and traders at the provincial level. 75 farm services centers have beenestablishedand are fully operational. Apart from this, 24 district agricultural coordination forums have been established and are operational. 72. Our government is l l l y committed to the reforms program outlined above. We are determined to implement this program. We believe that the program is strong and focused. It is built around an integrated monitoring framework. It presents a new, ambitious, and holistic vision o f our medium term economic development based on a strategic prioritization o f key actions agreed upon after extensive consultations and intensive lesson learning. It within the overall PRSP framework for Pakistan. We submit this program to seek support for it by International Devel Association, starting with a US$90 million credit as the first in a series o f three pment Policy Credits to support our Medium-TermReformProgram for FY06-F With warm regards, Yours Sincerely, Go ernrnen f pG2?*py I I. . . .9ah I a: E. 0 Q I 8 3 a K E 1 c - 0 .2`5 li ki I D x - > E 3 W 0 N .-S ? E C i B * c ! i L i r I L i 0 U I I I e 0 Annex 3 Page 1 of 9 ANNEX 3 POVERTYAND EMPLOYMENT INNWFP Poverty trends in NWFP 1. NWFP is Pakistan's poorest province, both in terms of the aggregate level of economic activity generated within the province vis-&vis its population and the household income and consumption levels. Poverty in the province has remained high and has increased since the late 1990s. Poverty estimates show that more than 44 percent of NWFP's population lived below the poverty line in 1998199, which by 2001/02 had increased to 46 percent (see Figure l)." Poverty in rural areas of the province exceeded that in the urban areas by considerable margin. In 2001/02, about 48 percent of the population in rural areas belonged to households below the poverty line, compared with 35 percent in urban areas. Moreover, this gap between the rural and urban poverty has been widening. The share of the poor population in rural areas increased by seven percentage points between 1990/91 and 2001/02, while in urban areas it shrank by two percentage points duringthe same period. Figure 1: PovertytrendsinNWFPandPakistan(WorldBankpovertylines) Percent of population consuming below the poverty line _ _ I"- NWFP Pakistan L 2o 10 90-91 93-94 98-99 2001-02 90-91 93-94 98-99 2001-02 .. Urban -Rural -Overall Source: HIESiPIHSfor relevant years 2. Notwithstanding the level of poverty, a significant number of the NWFP's population has remained vulnerable to even small changes in income. In 2001/02, about 57 percent of the province's population was concentrated close to the poverty line (i.e. having consumption in the range of plus or minus 25 percent of the poverty line). This implies that a relatively small reduction inincome can pusha significant number ofpeople below the poverty line. I'The estimate o f poverty reported in this annex are World Bank staff estimates derived by using different Household Income and Expenditure Surveys (HIESs) for most o f the 199Os, and Pakistan Integrated Household Survey (PIHS) for 1998/99 and 2001/02. These poverty estimates are based on the poverty lines that are held constant in real terms from the early 1990s to 2001/02 to assure proper inter-temporal comparisons. The Basic Needs poverty lines used in the annex are Rs 680 and Rs 767 per adult equivalent per month for rural and urban areas, respectively. These are somewhat different from the poverty line adopted by the government o f Pakistan (Rs 674 per month per equivalent adult male in 1998/99 Rs.) i s arrived at by estimating an expenditure level that is required to attain a minimum threshold o f calorie consumption (2350 calories per equivalent adult per day). However, a few methodological issues surrounding the measurement o f poverty using this line remain to be settled, and there is no consensus yet on the provincial poverty estimates (the government's recently published PRSP contains no province level estimates o f poverty incidence).5 Annex 3 Page 2 of 9 3. Extreme poverty accounted for a relatively small share o f the poor in the NWFP, as only 13 percent o f NWFP's population in 2001102 has consumption below 75 percent o f the poverty line 2001102. ProJiIing thepoor 4. Examining other characteristics (than consumptiodincome) o f the poor helps not only to better understand the multi-dimensional nature o f poverty, but also identify the characteristics that keep the poor inthe cycle o f low earning potential and low capability. 5. Land ownership: Estimates show that in rural NWFP, like other rural areas Figure 2: Distributionof rural population in NWFP inPalustan, ownership ofagnculturalland by land ownership i s closely associated with poverty. I Households owning no land constituted almost 70 percent o f the rural poor population in 2001/02, whereas households with more than 1 hectare constituted less than 10 percent o f the ruralpoor population (Figure 2). 6. Land distribution in NWFP appears to have marginally deteriorated no !and in O