Republicof Malawi 35714 Fiscal ManagementandAcceleratingGrowthProgram(FIMAG) AdjustmentCredit(Cr. 3881 MAI) Releaseof the SecondTranchewith Requestfor Waiver of One Condition TrancheReleaseDocument I. Recommendation 1. This memorandum recommends the release of the second tranche of the Fiscal Adjustment and Accelerating Growth Program (FIMAG) Adjustment Credit (Credit No. 3881 MAI). The memorandum argues that the Government of Malawi (Borrower or Government) has made overall satisfactory progress in implementingthe program (the Program) supported by the Credit as set forth in its Letter of Development Policy (the LDP), and has met five of the six specific conditions for the release of the second tranche. Waiver for one condition relating to the reform o f the Agricultural Development and Marketing Corporation (ADMARC) i s being requested on grounds set forth in paragraphs 32-37 below. 11. Background 2. The FIMAG Credit is a SDR33.8 million (equivalent to $48.76 million) two equal tranche Adjustment Credit designed to support the objectives o f the 2003 Malawi Poverty Reduction Strategy (MPRS). The Credit assists the Government in two ways. First, the Credit provides critical balance o f payments support needed to finance a sustainable balance o f payments and fiscal framework. This enables crucial social expenditures to be maintained while arresting the growth o f domestic debt. Second, the Credit assists the Government in designing and implementing specific structural reforms to support the growth and poverty reduction agenda contained inthe MPRS. 3. Specifically, the FIMAG supports structural reforms in the following areas: (i)fiscal management, (ii)parastatal reforms, (iii)land policy and agriculture, and (iv) combating HIV/AIDS. The reforms in fiscal management are designed to strengthen the Government's capacity to meet macroeconomic stabilization targets while protecting the crucial pro-poor expenditures, and improvingthe delivery o f social services by acceleratingfiscal decentralization. The parastatal reforms are designed to reduce the burden on the budget as well as improve the delivery o f key infrastructure services. The reforms in agriculture are designed to contribute to growth by increasing the returns to smallholder farmers by creating better functioning land, tobacco and maize markets. Finally, the reforms in HIV/AIDS, which are carried out in tandem with the Malawi HIV/AIDS Project (MAP), are designed to assist in creating the policy and institutional framework for channeling increased resources and strengthening institutions for mitigatingthe health and social impacts o f HIV/AIDS. 4. The FIMAG credit was approved by the Board in April 2004, and became effective on September 10, 2004, after the new Government elected in May 2004 was able to reach an agreement with the International Monetary Fund (IMF) on a new Staff Monitored Program (SMP). The first tranche amounting to SDR 16.9millionwas disbursedupon effectiveness. 2 111. Recent Developments 5. Recent Political Developments. Malawi has had a relatively peaceful history compared to other countries in the sub-region, even during the major political transition from authoritarian rule in 1994. Malawi's democracy i s now in its eleventh year. There are two main political parties, the United Democratic Front (UDF) led by former President Bakili Muluzi, and the Malawi Congress Party (MCP) led by John Tembo. In the May 2004 elections, Dr. Bingu wa Mutharika won the Presidency as the UDF Presidential candidate, but former President Muluzi retainedhis position as party chairman. 6. Differences between President Mutharika and the UDF leadership resulted in the former resigning from UDF on February 5, 2005, and forming his own political party, the Democratic Progressive Party (DPP). While the DPP has attracted a number o f defections from the UDF and won all five seats recently contested in a by-election, the political atmosphere remains polarized. The DPP heads a minority Government, and continuing tension with the UDF and MCP resulted ina stalemate towards the endof2005 that hashinderedthe passageofkey legislation. The UDF continues to promote the impeachment o f the President inParliament. 7. Recent Economic Developments. Malawi's economic performance during 2004-2005 was influenced by two main trends. First, there was steady progress towards macroeconomic stabilization driven mainly by improved expenditure management. Second, a severe drought towards the end o f 2004 affected growth and, inflation and put a strain on the fiscal position and balance of payments. 8. Real GDP grew by 4.6 percent in 2004 compared to on average 3 percent during 2001- 2003. The increase was mainly on account of a rebound of tobacco production. Inflation continued its downward trend in the first half o f 2004 and interest rates declined from 45 percent in2003 to 25 percent by mid2004. The improvedgrowth and inflationperformanceduring 2004 was, however, adversely affected by a drought towards the end o f the 2004/2005 crop season which resulted in a fall in Malawi's agricultural production o f 7 percent in 2005 over 2004. In 2005, output of maize, Malawi's main staple food, fell by 30 percent compared to 2004, which itself was a shortage year. Overall, the drought reducedthe projectedreal GDP growth in 2005 to only 2.1 percent compared to 4.6 percent in 2004. Fortunately, better rains and Government's efforts at improving fertilizer availability are expected to result in a good harvest for the 2005/2006 crop season. 9. Achieving macroeconomic stabilization through control o f the fiscal deficit has been at the top o f the new Government's agenda. Soon after becoming the President in May 2004, President Mutharika implemented some o f the bold policies he announced in his inaugural speech, such as moving the Presidency to Lilongwe, and reducing the number o f Ministers from 46 to to 25 and Permanent Secretaries from 68 to 36. These actions combined with improved expenditure control enabled the Government to reduce the fiscal deficit from an average o f 8.2 percent over 2001-2003 to 5.9 percent in 2004. Consequently, the inflation measured by the Consumer Price Index (CPI) during 2004 was maintained at about 11.5 percent compared to around 22 percent over 2001-2003. Inflation nevertheless increased to 16 percent during 2005 mainly on account of a sharp rise in food prices resulting from the drought. 10. Malawi's external current account deficit before official transfers worsened to 19 percent o f GDP during 2004 compared to around 17 percent o f GDP during 2003 and on average 15 percent of GDP during 2001-2003. The increase in exports o f tobacco o f nearly 15 percent in 2004 was more than compensated by a sharp increase in the import bill mainly due to higher oil 3 prices. The external situation in 2005 was not markedly different from that in 2004. There was a slight further deterioration in the current account due to continued high oil prices but this was compensated by improved access to external financing as official transfers to Malawi increased by about 3 percent o f GDP. On the whole, Malawi's external situation remains structurally weak with high dependence on official transfers, few non traditional exports, and gross reserves that fluctuate at around 1- 2 months of imports. IV. ProgressTowards Meetingthe Second Tranche Release Conditions 11. As indicated in the Development Credit Agreement (DCA), Section 2.02 (d), the release o f the second tranche i s based on providingevidence that: 0 The macroeconomic policy framework of the Borrower is satisfactory, as measured on the basis o f indicators agreed between the Borrower and the International Development Association (the Association); 0 Satisfactory progress has been achieved by the borrower in carrying out the Program as set forth inthe LDP; and 0 The actions described inSchedule 2 ofthe DCA have beentaken. .Each o f these items i s discussed indetail below. A. Macroeconomic PolicyFramework , 12. Policies implemented during the past year have been successful in creating a macroeconomic framework that supports the MPRS objectives o f stimulating growth and reducing poverty. The stabilization programhas been supported by the IMF's Poverty Reduction and Growth Facility (PRGF) program approvedinAugust 2005. 13. Malawi has had a history o f weak macroeconomic performance arising from poor expenditure management resulting in frequent fiscal slippages and an unsustainable domestic debt spiral. Indeed, for the 2000 PRGF that expired in 2004, only one review was successfully completed (on October 20, 2003). When the FIMAG was declared effective and the first tranche was released in September 2004, the new Government had already demonstrated its commitment to sound economic management and administration by implementing a number o f reforms in the first few months o f beingin office (see para 9 above). The Government established a sound track record under an IMF SMP, meetingall the financial and structural benchmarks. 14. Performance under the SMP during July 2004 to June 2005 was stronger than in the previous years and consequently the Government was able to conclude a new three-year PRGF program in August 2005. Under the new PRGF, the Government has set realistic and achievable medium term objectives to achieve macroeconomic stabilization. The Government proposes to reduce domestic debt from the current levels o f 25 percent o f GDP to about 15 percent of GDP. Freeingresources in this way will allow the authorities to address priority areas such as health, education, and public infrastructure. It will also help further lower interest rates and maintain a competitive exchange rate. The reduction in domestic debt will be mainly achieved through a sustained reduction in the budget deficit. The domestic balance' will be reduced from an ' This is a true measure of the domestic fiscal effort and is definedas: the overall balance plus statistical discrepancy, excluding grants, revenue and expenditure from maize, interest, foreign financed development 4 estimated 11.1 percent of GDP in 2005 to 3.8 percent of GDP by 2008. This will allow the Government to hold the money supply growth to around 15 percent and by 2008, and reduce inflation to 7 percent from an estimated 15 percent in 2005. B. Progressin Implementingthe ProgramSupportedby FIMAG 15. The FIMAG supported structural reforms in four areas: (i)fiscal management, (ii)parastatalreforms, (iii) policyandagriculture, and(iv)combatingHIV/AIDS. Asthe land discussionbelow indicates, overall progress inall the four areas was satisfactory. 16. Financial Management. The objective of reforms in this area was to improve overall budget formulation and expenditure management. Specifically: (i)reduce the cost of runningthe Government and make it more predictable, the Government was streamlined (para. 9), and important reforms were implemented in wage policy to make the wage bill more predictable (discussed in section C, below), (ii)to improve budget execution, the new Public Finance Management Act was operationalized by issuing Treasury Instructions and by creating fully functional Internal Audit Unit and the Directorate of Public Procurement, and (iii)to improve expenditure monitoring, the Government began to regularly submit the Quarterly Expenditure Reports (QERs) to the Cabinet Committee on the Economy and the Budget and Finance Committee o f the Parliament, and post on the web the actual and budgetedpro-poor expenditures within six weeks o f the end o f the quarter. In addition to considerable progress in budget formulation and expenditure management, important steps were also taken towards decentralization (discussed in Section C, below). 17. Parastatal Reforms. The objective of parastatal reforms supported under the FIMAG was to reduce the risk o f fiscal shocks and improve their operational efficiency. The risk o f fiscal shocks was reduced by strictly controlling parastatal borrowing. A comprehensive program o f reconciliation o f arrears was prepared and a program for their elimination was launched with cabinet approval. 18. The operational efficiency o f parastatals was improved by making progress on the privatization program. The sale of Malawi Telecommunications Limited (MTL), initiated under the FIMAG operation was successfully concluded, and Blantyre Milling, Alexander Forbes, Malawi International Transport Company (MITCO), Manica and Indebank were all brought to the point of sale. Inparallel, as indicated inthe LDP, a revisedDivestitureSequence Plan (DSP) was prepared. The DSP i s being supported by technical assistance from a restructured Privatization and Utility Reform Program (PURP) operation o f the Association'. Towards the next phase of privatizations, the Government has already obtained parliamentary approval for the Electricity bill and the Energy Regulation bill prepared in line with the cabinet approved power policy. Finally, the Government has recently launched a passenger obligation study for Shire Bus Lines, to determine the extent of subsidies required for unviable routes. Once this study i s concluded, an information memorandum will be issued for Shire Bus Lines. 19. Agriculture. The FIMAG supported Government implementation o f a three track program for accelerating agricultural growth. First, to improve the efficiency of land use, the Government prepared a new land law that has been discussed by a wide range o f stakeholders and will be presented in the next sitting o f the Parliament. Ground rents on leasehold land were ~~ ~~ ~~ expenditures (including the health SWAP). The revisedPURPprovides TA for the reforms o f MTL, ADMARC, Electricity Supply Corporationof Malawi (ESCOM) and the creation o f three multi-sector regulators. 5 progressively increased from MK5O/Ha to MK1000/Ha and the land rent collection was decentralized. The Government has completed a comprehensive review o f the land tax system that also includes potential taxation of freehold land. Specific proposals for a restructuring of taxation are currently being discussed. Government's initiatives for land policy reforms are being supported by the Association's Community Based Rural Land Development Project (CBRLDP). Second, the Government has made significant progress in reducing costs and improving the efficiency o f the tobacco supply chain. Third, to improve food security, the Government has prepared a comprehensive food security policy and i s inthe process of reforming ADMARC. The progress inthe tobacco sector and inreforming ADMARC i s described below in Section C in further detail. 20. Combating HIVAIDS. The Government's program outlined in the LDP consisted of strengthening the institutional and policy framework combating HIV/AIDS and was implemented intandem with the Association's MAP project. As part ofthe measuresto strengtheninstitutions, the trust deed for the National Aids Commission (NAC) was finalized; an HIV/AIDS mainstreaming strategy for local authorities was prepared; and, HIV/AIDS coordinators were appointed in all Ministries. In an effort to protect financing to HIV/AIDS related activities, from FY2004/2005 onwards a separate budget line for HIV/AIDS related expenditures was created in each ministry budget and these expenditures were classified and monitored as pro-poor expenditures. Finally, budgetary allocations to the NAC basket funding were protected as indicated in Section C below. 21. Specijic conditions and waiver. While the Credit supported the broad reform agenda in the four areas indicated above, it was focused on six specific reforms that formed conditions for the second tranche release. As indicated in Table 1 below and discussed in Section C, the Government has fully met five o f these six conditions for tranche release. On the condition, related to ADMARC, progress has also beenmade. However, the Government has indicated that more time i s needed to formulate and implement measures to fully meet the objectives o f ADMARC reforms as agreed in the FIMAG documents. On the basis o f the implementation of the overall FIMAG program, we recommend that we agree with the Government's request and release the second tranche o f the Credit with a waiver granted for this one specific condition for the following reasons: 22. First, significant progress has been made in achieving macroeconomic stability and structural reforms. As a result o f these efforts, Malawi has entered into a new PRGF with the IMF, has restored access to the resources from the Common Approach to Budget Support (CABS) group of donors, has seen improved tobacco production, and i s successfully managing the 2005 drought. 23. Second, on the specific issue o f ADMARC reform, as discussed in Section C, paragraphs 32-37 below, much technical work has been done and the Government has approved a cabinet paper that defines a set o f principles that would govern ADMARC reform. Notably, the plans envisage that two new companies will be created out o f the current ADMARC: (i) a private commercial entity, Malawi Agricultural Warehousing and Trading Company (MAWTCO) created by separating commercial activities currently carried out by ADMARC; and (ii)a company for handling "social activities", which will retain the name ADMARC. As part o f the restructuring, ADMARC's head office and regional offices will be streamlined, resulting in a ' substantial reduction o f staff. 24. While the Government's current proposals are a step inthe right direction, the progress to date has been slow and the Government has had to make substantial efforts inbuildingan internal 6 consensus for designingand implementingthe reforms as laid out in the FIMAG documents. The new Government elected in May 2004 was understandably focused on urgent issues o f restoring macroeconomic stability as well as implementing a broad set o f structural reforms includedinthe LDP. The Government was also constrained on moving expeditiously on the ADMARC reform program by the severe drought that is currently affecting the country. 25. The Government has indicated its firm commitment at the highestlevels to move forward with the implementation of ADMARC reforms as agreed inthe FIMAG documents. However, a waiver o f this condition i s needed to give the Government more time to carry out additional technical work as well as build the necessary consensus for reform within Malawi. At the Government's request, we plan to continue to provide technical assistance to support the design and implementation o f the reformprogram. 26. Third, the ongoing effects of the drought have further exacerbated the precarious balance o f payments situation. Currently gross reserves at the Central Bank amount to less than 1.2 months o f imports. The resources from the second tranche are a key component o f the financing plan for a sustainable macroeconomic framework supported by the IMF's PRGF. Table 1: Status of Progress on Tranche Release Conditions nters incities and districts. ReformArea 3: Agriculture Land utilization Gazette and publicize inlocal newspapers and radio the Government Met notice to adjust land fees to MKIOOO/Ha for leasehold land, as per the existing Land Act. Tobacco Obtain cabinet approval and implement detailed operational strategy Met marketing and necessary legal and regulatory instruments for restructuring the tobacco sector's institution and improve the efficiency o f tobacco marketing inline with recommendations o f the institutional review. ReformArea 4: Combating: HIVIAIDS HIV/AIDS I I Government share o f 2004/05NAC basket budgeted (US$2 million) IMet and released according to agreed schedule (US$-500,000 per quarter). I 7 27. In view of the above, we request that a waiver for the ADMARC condition be granted and we proceed with the release of the second tranche o f the FIMAG operation amounting to SDRl6.9 million (equivalent to $24.38 million). Detailed descriptions o f the actions that have beentaken to fulfill the second tranche legal conditions are given below. C. Progress against Schedule 2, DCA Tranche Release Conditions. (a) Standardized and consolidated thc salary and allowance structure of its civil service to form a uniform salary structure. 28. This condition has been met. Following the effectiveness of the operation, the Government accessed technical assistance provided under the Financial Management Transparency and Accountability Project (FIMTAP) to prepare a wage policy study. On the basis o f this study, starting from the 2004/2005 budget Government consolidated the numerous allowances that were not taxed (e.g., fuel and housing) into basic pay. Pay grades were unified across the core civil service, and the number o f grades was reduced to 18 from 75. Moreover, the pay line was realigned and partly decompressed. As a result o f the reform, general gross wages rose by 25 percent, the minimumwage increased by 50 percent, pay to upper-levelprofessionals increased, andpay to top-tier contractuals was frozen. (b) Dccentralized to the District Assemblics the responsibility for primary education, primary health care centers and land rent collcction, in accordancc with the Cabinet Paper on Sector Devolution, and transferred the associated budgetary allocation reflectedin the "othcr recurrent transactions" budgetary line itcrn from the MOF to thc said Asscmblics, as sct forth in paragraph 15 of the LDY. 29. This condition has been met. The actions in this area involve the decentralization o f other recurrent transactions (ORT) funds for primary health and education and collection o f land rent to the district level, and the Association considers this condition to have been substantially met for the reasons that follow. In the case of the decentralization of primary health and education ORT, District Commissioners have been formally appointed as controlling officers responsible for District Assembly votes. Further, in the FY 2005/2006 budget, separate District Assembly votes have been created and ORT budgets for primary health and education in each district have beenpresentedwith the District Commissioners as controlling officers. 30. InMalawi, only the leasehold estates are subjected to taxation ("land rent"). Landunder customary management and freehold land i s exempted. The collection o f the land rent on leasehold estates has traditionally been carried out in two ways. For tobacco farmers, the rent i s collected at the auction floor. This i s the most convenient way o f collecting this rent and will continue. For the non-tobacco farmers, land rent was traditionally collected by issuing demand notices from three "regional" collection points - North, Center and South. The actual collection o f the land rent from non-tobacco farmers has been very low due to obsolete registers, inefficient collection services and substantial tax evasion. 3 1. UnderFIMAG, Government agreed to: (i)increase the level of landrent (see below) and (ii)decentralize to the District Assembly the responsibility for landrent collection for non- tobacco farmers. The Government has prepared an action plan for rolling out the decentralization o f land rent collection. So far, land rent collection has already started on an accelerated basis in four pilot districts supported by the IDA-financed Community Based Rural Lands Development 8 Project (CBRLDP), because the capacity o f these districts for managing rent collection has already been strengthened. The roll out o f the decentralized land rent collection in the 25 remaining districts has also started. The Government has issued a Gazette notice of delegation of powers to the Districts to collect landrent, and has set aside the requiredamount in the FY 2005- 2006 budget to recruit land officers and land clerks for all the remaining districts. The recruitment o f these officials is now underway. In line with the Action Plan submitted by the Government, it i s expected that land collection in these districts will start before end-June 2006. The Association will continue to work with the Government to ensure that the decentralized collection o f land rent i s fully operationalized, as per the Action Plan. (e) Completed the implemcntationof thc ADMARC restructuring plan as set forth in paragraph19 of Ihc LDY. 32. This condition has not been met and the Government is requesting a waiver. The tranche release condition (paragraph 19 o f the LDP) stipulates that: "Government will implement the plan for restructuring ADMARC commercial activities that has been approved by Cabinet through (i)appointing a new Board for the company, (ii) carrying out staffing reviews, and (iii) separating social marketing activities from ADMARC Limited". It was intended that implementing the three actions would, (i) reduce the large and non-transparent fiscal burden imposed by ADMARC on the budget; and (ii)focus its operations on areas where well functioning private sector marketing services as well as infrastructure do not exist. 33. Government's strategy for ADMARC reform was based on considerable technical work on restructuring the commercial activities of ADMARC, and ADMARC was one o f the parastatals includedin the Government's own Divestiture Sequence Plan (DSP) approved by the Cabinet. However, the new Government elected in May 2004 decided that further technical work was needed to prepare a comprehensive restructuring plan, including the design and operation o f social activities. As stipulated in the FIMAG documents (LDP para. 19), in early 2005 the Government recruited consultants to assist in the preparation and implementation of ADMARC restructuring plan. The consultancy was designed to work in two phases. In phase one, the consultants would prepare a comprehensive report analyzing the current situation in ADMARC and agricultural marketing in general, and present the Government with options for restructuring for achieving the reform's agreed upon objectives. In phase two, the consultants would work hand in hand with the Government in working out the details o f the chosen option and help implement the restructuring including staff retrenchment. 34. Phase one was concluded in October 2005, and the Government subsequently approved a cabinet paper inJanuary 2006 that defined the following principles that would govern ADMARC reform: Two new companies will be created out o f the current ADMARC: (i)a private commercial company, Malawi Agricultural Warehousing and Trading Company (MAWTCO), created by separating the commercial agricultural trading and warehousing activities currently carried out by ADMARC, and (ii) a company for handling "social activities", which will retain the name ADMARC. 0 Given the "social" connotation o f the brand name o f ADMARC, the institution that will carry out the "social activities" will retain the name ADMARC. As discussed inpara 18 above, Government privatized many ofADMARC's subsidiariessuchas David Whitehead, Cold Storage and Blantyre Milling. 9 a Clear and transparent criteria for determining social markets where the new ADMARC will operate will be developed duringthe second phase of the consultancy. a The new ADMARC will not trade intobacco or cotton. a ADMARC's Head office and regional offices will be streamlined, resulting in a reduction o f staff. a The investments o f the ADMARC Investment Holding Company (AIHC) would be disposed off through the Privatization Commission. 35. Expected next steps are as follows: (i)Appointing a new Boardfor the company: The Government expects to register MAWTCO by end April 2006. However, appointment o f the Board will depend on timing and modalities of the private sector participation. (ii)CarryingoutthestafJingreviews: Theconsultantshavealreadycarriedoutthestaffing reviews, on the basis o f which the Cabinet paper envisages an initial retrenchment o f 1000 out o f 3600 staff currently employed by ADMARC. As the next step, the consultants will have to prepare job profiling o f the two companies as well as identify financing before staff retrenchment can be initiated. (iii)Separatingsocial marketingactivitiesfrom ADMARCLimited: Although the cabinet decision paves the way for separating the social and commercial activities, creating two functioning companies will involve a number o f steps. First, assets related to commercial ' activities will need to be evaluated and transferred from ADMARC to MAWTCO. Second, Government will need to reach an internal consensus on a set o f social markets where the new ADMARC will operate on the basis o f clear and transparent criteria and close down remaining markets. Third, additional work needs to be carried out to determine the structure and operational policies o f ADMARC and to design a subsidy mechanism. 36. The slow progress to date in designingand implementing the ADMARC reform could be attributed to fact that ADMARC reform i s a complex socio-political issue, and the new Government elected in May 2004 was understandably focused on urgent issues o f restoring macroeconomic stability as well as implementing a broad set of structural reforms included in the LDP. The Government was also constrained on moving expeditiously on the ADMARC reform programby the severe drought that i s currently affecting the country. 37. Going forward, the Government is in the process o f launching the second phase o f its work with consultants that involves creating the two institutions carrying out the commercial and social functions, and has indicated that it could take six months to one year before key elements o f the reform are implemented. We believe that this i s realistic and achievable. There i s a broad consensus for ADMARC reform within the Government as indicated by the approval o f the cabinet paper. Further, the improved harvest expected in 2006 would facilitate the implementation o f the reforms. Granting the waiver will give the Government the additional time needed to carry out the necessary analytical work and to build internal consensus to resolve the design issues identified in 35 (iii)above. At the Government's request, we plan to continue to provide technical assistance to support the further design and implementation of the reform program. 10 (d) Published in the Borrower's official gazette a notice setting forth the new rate of leasehold land rent of one thousand Malawi K m c h a (iMK1,OOO)per hectare and publicized this new rate to nieriibcrs of the public by carrying out a public awareness campaign in the local newspapers and the radio, as set Iorth in paragraph 2 1 of the LDP. 38. This condition has beenmet. Landrent is already beingcollected at MK1000/Ha. (e) Kcccived cabinet approval of an operational strategy to rcstruclurc the Tobacco Sector Institutions and improve tobacco marketing, prepared in line with the recornmendations of the institutional review of the tobacco sector carried out by Ihc Borrower, and amended, as necessary, the governing legislative and rcgiilatory framework to put into effect the said restructuring, as set forth in paragraph 24 of the LDP. 39. This condition has been met. In February 2005, the Government hired a team of consultants (financed by the IDA-fundedEmergency Drought Recovery Project) to carry out the comprehensive institutional review o f the tobacco sector. The review's finding and recommendations were discussed at a stockholder's workshop on April 16,2005. Based on the workshop's recommendations, a cabinet paper outlining the operational strategy and action plan to restructure the tobacco institutions was prepared and approved by the Cabinet in June 2005, with the following two main objectives: (i)improve overall governance and increase the voice of small holders in decision-making in the sector; and (ii)increase competition and efficiency in the domestic marketing system for increasingthe pass through o f international prices to producers. 40. The following i s a summary o f the actions completed as per the action plan referredto in paragraph 39, above. Performance Audits o f the Tobacco Control Commission (TCC), the Auction Holdings Limited,andthe Agricultural ResearchandExtensionTrust (ARET) were completed. Smallholder representation in the Board o f TCC was increased and the National Association o f Small Holder Farmers of Malawi (NASFAM) was included in the Board o f ARET. TAMA membership and levywere made voluntary and not mandatory. The quota systemwas replacedwith registrationofplannedproduction. AHL levy was reducedfrom 3.25 to 2.5 percent of total sales proceeds. Hessian Levy was abolished. Contract-farming (already allowed for flue-cured tobacco) was extended to burley tobacco (the main production o f smallholders) on a pilot basis. Instructions clearing the way for contract farming in burley have been issued by the TCC. We expect contract farming inburleyto take off inthe 2006 tobacco planting season. Instructions for the establishment on a pilot basis o f competitive local marketing arrangements at district level (Local Commodity Exchanges-LCEs) offering local producers an efficient price discovery mechanism and a local competitive outlet immediately accessible have been issued. The establishment and operations o f these LCEs is, however, likely to take two to thee years, and the Government has requested technical assistance from the Association to make this happen. 11 (9 Allocated the amount of two millionDollars($2,000,000) in the FY2004/05 budget for HIV/AIDS interventions,to be disbursed to thc NAC in the amoiint of ilve hundredthousand Dollars($500,000) for each quarter of'thesaid FiscalYear, as set forth in paragraph 27 of thc LDY. 41. This conditionhas been met. The action inthis area under FIMAG required that US$2 million for the NAC basket fund be included in the national budget and that quarterly tranches o f US$500,000 be released. For FY 2004/2005 the US$2 million was budgeted and released to the NAC as per schedule. For the FY05/06, so far U S 1 . 2 million have been budgeted for the first half o f the year. The Government plans to allocate the remaining amount for the second half in the supplementary budget expected in February 2006. In addition to the Association's MAP operation, in FY 2004/2005, the Government successfully obtained hnds from the Global Fund for HIV/AIDS to the tune o f US$196 million to be disbursed over five years.