DOCUMENT OF THE INTER-AMERICAN DEVELOPMENT BANK
EL SALVADOR
IDB COUNTRY STRATEGY WITH EL SALVADOR
OCTOBER 2005
This document was prepared by RE2/OD3, with collaboration from the RE2 operations divisions (EN2, SC2, FI2, and SO2); other Bank departments (RES, SDS/POV, SDS/ENV, INT/ITD); and COF/CES.
CONTENTS
EXECUTIVE SUMMARY MATRIX OF THE BANK’S COUNTRY STRATEGY WITH EL SALVADOR INTRODUCTION ............................................................................................................................ 1 I.
OVERVIEW ........................................................................................................................ 2 A. B. C.
II.
THE PRINCIPAL DEVELOPMENT CHALLENGES................................................................. 3 A.
B. C. III.
The challenges facing El Salvador ........................................................................ 4 1. Accelerate economic growth and improve the country’s competitiveness . 4 2. Continue to reduce poverty and improve opportunities for the poorest segments of the population......................................................................... 11 Macroeconomic prospects for 2005-2009 .......................................................... 15 Execution of the government “País Seguro 2004-2009” program .................... 17
EVALUATION OF THE PREVIOUS STRATEGY AND PORTFOLIO PERFORMANCE.............. 18 A. B.
IV.
Political context...................................................................................................... 2 Social context ......................................................................................................... 2 Economic context................................................................................................... 3
The 2000-2003 Strategy and its Implementation ............................................... 18 1. Priorities and achievements ......................................................................... 19 2. Lessons learned from the 2000-2003 strategy ............................................ 20 Loan portfolio performance................................................................................. 20 1. Evolution and performance.......................................................................... 20 2. Lessons learned from the portfolio.............................................................. 21
BANK STRATEGY FOR 2005-2009 .................................................................................. 21 A. B.
C. D. E. F. G.
Objective of the Strategy ..................................................................................... 21 Strategic objectives and guidelines ..................................................................... 22 1. Strategic Objective I: Promote sustainable economic growth by increasing competitiveness........................................................................................... 22 2. Strategic Objective II: Strengthen human capital and improve opportunities for the poorest segments of the population......................... 28 The 2005-2009 Operations Program................................................................... 31 Monitoring indicators for the Strategy................................................................ 35 Risks for implementing the strategy.................................................................... 35 Coordination with other donor agencies ............................................................. 37 Country Dialogue Program.................................................................................. 37
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ANNEXES
Annex I
Bank Operational Program for 2005-2009
ELECTRONIC LINKS TO TECHNICAL ANNEXES
Annex II Annex III Annex IV Annex V Annex VI Annex VII Annex VIII Annex IX
Annex X Annex XI Annex XII Annex XIII Annex XIV Annex XV
Bank Instruments for Implementing the Strategy http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575376 El Salvador and the Millennium Development Goals http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575395 Portfolio in Execution in Support of the BCS-ES http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575419 Country Financing Parameters http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575450 Exposure Indicators http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575456 Inclusion of OVE recommendations in the BCS-ES http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575460 Operations Related to CAFTA-DR with IDB Support to El Salvador http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575464 Guidelines for Strategic Partnerships with the Private Sector in El Salvador http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575468 Participation of Other Cooperating Parties by BCS-ES Area http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575474 Indicators of the BCS-ES http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575478 Important Achievements of the 2000-2003Country Strategy http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575483 Execution of the Government Program “País Seguro 2004-2009” http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575487 PRODEV Areas of Work http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575489 Bibliographic References http://idbdocs.iadb.org/WSDocs/getDocument.aspx?DOCNUM=575492
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ABBREVIATIONS
ARENA BCS-ES CABEI CACM CAFTA-DR CBI CDU CFAA CFP CONACYT
Alianza Republicana Nacionalista [Nationalist Republican Alliance] Bank Country Strategy with El Salvador Central American Bank for Economic Integration Central American Common Market Central American-Dominican Republic Free Trade Agreement Caribbean Basin Initiative Centro Democrático Unido [United Democratic Center] Country Financial Accountability Analysis Country Financing Parameters Consejo Nacional de Ciencia y Tecnología [National Council for Science and Technology] CPAR Country Procurement Assessment Report DIGESTYC Dirección General de Estadísticas y Censos [Directorate of Statistics and Census] DPL Development Policy Loan EDUCO Educación con Participación Comunitaria [Education with Community Participation] EU European Union FDR Frente Democrático Revolucionario [Revolutionary Democratic Front] FISDL Fondo de Inversión Social y Desarrollo Local [Social Investment and Local Development Fund] FMLN Frente Farabundo Martí para la Liberación Nacional [Farabundo Martí National Liberation Front] FODES Fondo de Desarrollo [Development Fund] FOSALUD Fondo para la Salud [Health Fund] FOVIAL Fondo para la Conservación Vial [Road Maintenance Fund] FSO Fund for Special Operations FUNDAINNOVA Fundación para la Innovación Tecnológica [Foundation for Technological Innovation] FUSADES Fundación para el Desarrollo Económico y Social [Foundation for Economic and Social Development] GDP Gross Domestic Product HDI Human Development Index HIV/AIDS Human Immunodeficiency Virus IMF International Monetary Fund INSAFORP Instituto Salvadoreño de Formación Profesional [Salvadoran Vocational Training Institute] MAG Ministry of Agriculture and Livestock MDG Millennium Development Goals MINEC Ministry of Economy MSE Medium and small-sized enterprises MSME Micro, small and medium-sized enterprises
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MSPAS OVE PBL PCN PDC PER PPP PPSC PRI PRODEV RE2 SEP SIEPAC SWAp TC TSP UNDP USAID WB
Ministry of Public Health and Social Welfare Office of Evaluation and Oversight Policy-Based Loan Partido de Coalici贸n Nacional [National Coalition Party] Partido Dem贸crata Cristiano [Christian Democrat Party] Public Expenditure Review Puebla-Panama Plan Partido Popular Social Cristiano [Christian Social Popular Party] Private Sector Department Program to Implement the External Pillar of the Medium-term Action Plan for Development Effectiveness Regional Operations Department 2 Social Entrepreneurship Program Mesoamerican Energy Interconnection Initiative Sector-wide Approach Technical Cooperation Technical Secretariat of the Presidency United Nations Development Programme United States Agency for International Development World Bank
EXECUTIVE SUMMARY
The Bank’s Country Strategy with El Salvador (BCS-ES) is designed to support the Government of El Salvador during the 2004-2009 period, which began with the election of President Elías Antonio Saca in March 2004. The economic context is marked by the need to accelerate economic growth and continue to improve the tax revenues. As a result of the economic reforms carried out over more than a decade, the Salvadoran economy has made significant progress in terms of macroeconomic stability, prudent fiscal management, and low interest rates. In the political sphere, after the signing of the Peace Accords in the early 1990s, El Salvador has made major progress to achieve political stability. Although no political party has an absolute majority at the present time in the Legislative Assembly, the Executive Branch has managed to secure approval of important initiatives, including the CAFTA-DR, tax reform, and the financing of the 2005 budget. In the social arena, it has made noteworthy progress to reduce poverty, especially considering the consistency and pace of improvements in the 1990s. However, although social indicators have improved in the last decade, it is still necessary to continue efforts to reduce poverty. Based on their respective analyses, both the IDB and the Government of El Salvador concur that the principal development challenges facing El Salvador are: (i) to accelerate economic growth and improve the country’s competitiveness; and (ii) to continue to reduce poverty and improve opportunities for the poorest segments of the population. During the 1990s, improvements in the macroeconomic environment gave rise to rapid growth which, combined with the social policy, greater social spending, and increased remittances from emigrants, produced a sustained reduction in poverty. In the mid-1990s, however, growth began to slow and so did the reduction in poverty. Thus, the two principal challenges for El Salvador are to speed up economic growth and continue reducing poverty. The main purpose of the Bank’s Country Strategy with El Salvador (BCS-ES) for the 2005-2009 term is to reduce poverty. In order to achieve this goal, the BCS-ES proposes two interrelated strategic objectives that are consistent with the government “País Seguro 2004-2009” plan: (i) To promote sustainable economic growth by increasing competitiveness; and (ii) to strengthen human capital and improve opportunities for the poorest segments of the population. It is necessary to foster a sustained acceleration in economic growth, while at the same time improving access by the very poor to basic services and optimizing the quality of these services, so as to provide the population with opportunities that enable them to benefit more from the country’s economic growth. This, in turn, will foster sustainable increases in productivity and set the stage for stronger growth. Two scenarios were defined for sizing the operations program, designed jointly by the Government of El Salvador and the IDB. These correspond to different macroeconomic conditions that are determined by the degree of improvement in the country’s fiscal
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situation, increased efficiency in financial management, and the strengthening of financial supervision. The base and high scenarios range from US$380.9 to US$540.9 million, respectively. The triggers that activate the high scenario are the level of current public sector savings, the progress made to implement the recommendations of the CPAR and the CFAA, and the strengthening of financial supervision. These triggers offer the country incentives for maintaining fiscal discipline (without affecting public investment decisions), promoting greater efficiency in government, and creating conditions that will boost investor confidence. According to the sequence of the strategy, IDB support will initially focus on accelerating economic growth, mainly through the portfolio in execution, especially the Sector Program for Competitiveness Reforms, a group of key technical-cooperation projects to improve the investment climate, and the operations of the IDB Private Sector Group. In the initial stage (base scenario), the new loan program with the Government of El Salvador focuses on the social sectors, through operations to diminish poverty and strengthen human capital (Support to Red Solidaria, Basic Education for All, Social Sector Reform, and Strengthening of the National Statistics System). It also includes operations to promote sustainable economic growth (Multiphase Program for Sustainable Roads in Rural Areas, Rural Electrification, Improvement of Higher Education, and the facility for Natural Disaster Prevention). As improvements are made in the country’s fiscal capacity, in financial management, and in financial supervision, the IDB’s operational program (high scenario) will be able to take advantage of the greater fiscal capacity to make public investments in essential infrastructure needed to continue promoting sustainable development (Local Development Program III and Integrated Urban Transport System), and to consolidate the financial sector (Modernization of the Financial Sector Program). The principal risks of the strategy are the relative weight of the different parties in the Legislative Assembly and their willingness to reach political consensus with the Executive Branch on matters of national interest; the difficulties of further strengthening the fiscal situation; the challenges of competition facing Salvadoran exports in an increasingly demanding environment; and the country’s high vulnerability to natural disasters. Some of the actions described in the BCS-ES will make it possible to attenuate some of these risks.
MATRIX OF THE BANK’S COUNTRY STRATEGY WITH EL SALVADOR
IDB Objective and Strategy
Country Objective and Strategy
Actions of other Agencies
Actions of the IDB Portfolio*
Proposed
Monitoring Indicators IDB
Country**
Core objective: Support poverty reduction Expected performance of macro variables. Poverty 2009 (% population): 36.9%. Baseline 2002: 42.9%. GDP per capita 2009: 1.6%. Baseline 2004: -0.4% Strategic objective I: Promote sustainable economic growth by increasing competitiveness Loans Competitiveness Loans Social Sector World Bank, GTZ Competitiveness To consolidate fiscal sustainability. Contribute to improving the Programs Reforms (100%) To strengthen the institutional investment climate and business Diversified growth Modernization InstitutionWorld Bank framework associated with a productivity, in a stable Financial Sector Strengthening functioning market, and create macroeconomic environment. MSME Strengthening UES Financial Sector conditions for economic growth EU, USAID Strategy Regulatory Bodies based on high productivity. TC (71%) (i) Maintain a stable Agricultural Implementation of Strategy macroeconomic environment development Competition Act TC Improve efficiency and rationalize World Bank, IICA, by strengthening the fiscal Creation of Social Strengthening public investment. Increase the tax Japan, Chile situation and the financial Capital through Consumer revenues by modernizing control system. Fiscal Reform Protection Agency arrangements. Strengthen the SSF. (ii) Modernize the legal framework Tax Reform for Support to Modernize the legal framework for for investments. Human Competitiveness trade and investment. Development in CA (iii) Develop the institutional and Innovation framework for competitiveness. Create the El Salvador Eficiente Strategic Plan Strengthening presidential program. Information (iv) Improve the efficiency of the Technical System. Banco Design and implement a policy of financial intermediation Capability MAG Central de Reserva comprehensive support for process. MSMEs. PRI and IIC Mapping of (v) Strengthen the national Pro-Credit Capital Instruments for Define the technology technological innovation Market Expansion MSME Support development policy. system and job training, and Operations create a technical training Strengthening UES Establish a rural public investment Financial strategy. program. Modernize the public Institutions I. A. Strategic guideline
Objective
By June 2006, bank supervision in El Salvador using best international practices. Strategic plans of CONACYT and INSAFORP being implemented.
By 2006, budget policy to generate nonfinancial public sector current savings of at least 0.5% of GDP. Baseline 2004: -0.3% GDP. Progress made to comply with recommendations of the CPAR and the CFAA for 2006. Financial Supervision Act on the floor of the Legislative Assembly. Tax revenues represent at least 14.6% of GDP in 2008. Baseline 2004: 12% GDP. Credit rating with credit ratings companies maintained. Baseline 2004: Baa3 (Moodys), BB+ (Standard &
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IDB Objective and Strategy (vi) Promote the development of formally established, competitive, and sustainable enterprises.
Country Objective and Strategy institutions that support the sector. Create an agricultural outreach program. Design a rural development strategy in coordination with a local development strategy. Develop the presidential programs “Agenda de Conectividad”, Discovering Productive Potential, Productive restructuring of the agricultural sector.
Actions of other Agencies
Actions of the IDB Portfolio* PRI Partial Credit Guarantee for Banco Comercio Mortgage Bonds (100%) Nonfinancial Fiscal sustainability: The case of ES Tax policy diagnostic and options for reform CFAA CPAR
Proposed MIF Facilitating Migrant Investment in SMEs Strengthening Ports and Maritime Authority Enterprise Development with Technology Base Technical Assistance for SMEs Exporting to USA (Regional) Facility for Business Climate Initiative (Regional) SEP Four projects with vulnerable groups Nonfinancial Guidelines for Strategic Partnerships with Private Sector
Monitoring Indicators IDB
Country** Poor’s) and BB+ (Fitch).
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IDB Objective and Strategy I. B. Strategic guideline
Country Objective and Strategy Objective
Upgrade basic support infrastructure To strengthen production support infrastructure. for production, especially in rural areas. Strategy Strategy Invest in the strategic road network and continue FOVIAL. (i) Rehabilitate rural roads. (ii) Improve the quality and safety Improve efficiency at the port of Acajutla and cargo operations at of public transportation Comalapa airport. Support services. construction of Puerto Cutuco. (iii) Increase the coverage of rural Support regional electrical electricity and promote integration including review of the institutional strengthening in sector framework so as to ensure the sector. competitive rates. (iv) Improve port and airport efficiency. (v) Expand coverage and improve quality of potable water and sanitation services. (vi) Promote private investment in infrastructure through concessions.
Actions of other Agencies Roads CABEI Ports CABEI, JBIC Urban infrastructure CABEI Access markets rural areas USAID Water and sanitation UNDP, KFW Reconstruction JBIC
Actions of the IDB Portfolio*
Proposed
Monitoring Indicators IDB
By 2009, public investment in Sustainable Rural infrastructure at least Roads Prog. II 4% GDP. Baseline By 2009, 60% increase 2004: 2.3% GDP. Integrated Urban in potable water and Potable Water and Transport System sanitation coverage in By 2009, 2.48 pp. Sewerage Programs 62 localities. Baseline reduction in population (98%) Rural 2000: 35%. without access to Electrification Competitiveness better water sources. Reforms (100%) PRI Baseline 2002: 26.3% (MDG). TC Support Transport Support for MINEC Concession on Power Markets Power Generation Model for Water Facilities Resources Oceanic Digital Management Communications MIF CA Infrastructure Regulation San Fund Salvador Urban Transport System IIC Loans Sustainable Rural Roads Prog. I (30%)
Loans
Operations S. Energy MIF Strengthening Ports Authority
By 2009, at least two concessions for infrastructure works.
Country**
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IDB Objective and Strategy I. C. Strategic guideline
Country Objective and Strategy Objective
Actions of other Agencies Trade USAID, GTZ
To take advantage of international trade flows. Border development Strategy EU Strategy Promote labor legislation that establishes optimal conditions for (i) Strengthen capabilities for supervising implementation of workers, competitiveness, and the CAFTA-DR and other trade productivity in the labor sector. agreements. Deepen the trade liberalization (ii) Support competitive transition strategy, seeking negotiations with potential partners. to free trade with the United States. Strengthen the Trade Policy Division of the Ministry of (iii) Strengthen competitive Economy and other agencies participation in the CACM. involved in trade negotiations. (iv) Promote energy integration Create the Presidential “Agenda de within the framework of the Conectividad� Program. PPP. Tap opportunities offered by trade liberalization and regional integration.
Actions of the IDB Portfolio* Loans Retooling AgroEnterprise (96%) Competitiveness Reforms (100%) SIEPAC (100%) MIF Sanitary and phytosanitary standards
Proposed TC Institutional strengthening and development MINTRAB MIF Technical assistance to exporting SMEs Nonfinancial CAFTA and rural economy
TC Program Support Sector analysis and Trade Negotiations competitive products Analysis of the Impact of CAFTA on Rural Households in CA Tactical Plans Clothing and Textile Industries Rural Economy and CAFTA
Monitoring Indicators IDB By 2009, 4% annual growth in exports to USA (with in-bond assembly). Baseline 2004: 2% (US$2,156 million). By 2009, 1.5% annual growth in exports to CACM. Baseline 2003: 0.78% (US$746 million).
Country** By 2008, exports (excluding in-bond assembly and coffee) represent at least 9% of GDP. Baseline 2004: 8% GDP.
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IDB Objective and Strategy I. D. Strategic guideline
Country Objective and Strategy Objective
Actions of other Agencies Protected areas World Bank, CABEI
To promote economic growth while protecting the environment. To develop a national Environmental environmental policy to furnish the management Strategy World Bank, EU, country with a specialized legal USAID, KFW, framework and efficient (i) Protect public assets and GTZ improve the capacity to prevent, regulations. mitigate, and manage the risks Environmental Strategy of natural disasters. pollution Strengthen the institutional KFW (ii) Manage the economic and framework of the environmental social impact of disasters more sector. efficiently. Ensure transparency in the (iii) Strengthen institutions environmental certification responsible for enforcing process. environmental legislation and Consolidate the institutional regulations. framework and legislation on water (iv) Improve environmental resources. pollution control, waste management, and policymaking for water and forestry resources. Strengthen environmental management and natural disaster prevention.
Actions of the IDB Portfolio*
Proposed
Monitoring Indicators IDB
By 2008, IDB risk Loans Loans management index Decontamination of Natural Disaster rises to 160. Baseline Prevention control critical 2000: 142. areas (93%) TC IDB Action Plan to By 2009, coverage of TC garbage collection National Capacity Improve Natural services in targeted Disaster Financial urban municipios Management and Management reaches 80%. Baseline Natural Disaster Safety Studies of 2000: 60%. Risk Reduction Hydroelectric Dams Municipal Nonfinancial Environmental Country Action Plan Environmental Analysis: Environmental Impact of Coffee Competitiveness and sustainable Production in development Central America
Country** By 2009, 3pp. reduction in population without access to better sanitation services. Baseline 2002: 15.7% (MDG).
Workshop on Country Environmental Analysis
Strategic objective II: Strengthen human capital and improve opportunities for the poorest segments of the population. II. A. Strategic guideline
Objective
Improve the targeting and efficiency To offer comprehensive care to of social spending, focusing it on vulnerable groups, specifically achieving the MDGs. families living in extreme poverty.
Social management KFW
TC Loans Strategy to Create a Social Sector Program Social Safety net Building Social Capital through
By 2009, 100,000 families in the 100 municipios with the most extreme poverty receive direct support.
By 2009, 7 pp. reduction of extreme poverty. Baseline 2002: 19% (MDG).
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IDB Objective and Strategy
Country Objective and Strategy
Strategy
Strategy
(i)
Create social safety net.
Improve the efficiency of spending on priority social sectors by promoting reform in social spending, protecting priority lines of expenditure, and targeting, coordinating, and monitoring same.
(ii) Design and implement a social safety net that responds comprehensively and effectively to the problems of families living in extreme poverty.
Actions of other Agencies Gender UNDP
Actions of the IDB Portfolio* Fiscal Reform
Create National Youth Secretariat and the presidential El SalvadorPaĂs Joven program. Create the presidential Oportunidades para la Mujer Jefe de Hogar program.
â–ŞEducation:
Country**
Support to Red Solidaria
Nonfinancial Impact of remittances on poverty and income distribution in ES Policy dialogue workshop in the social sector
Objective
Increase the coverage and quality of To achieve quality education for basic social services all. Strategy
IDB
By 2009, public By 2009, 7 pp, reduction in rural Local Development spending on social safety net increases to poverty. Baseline Program III 0.8% of GDP. Baseline 2002: 57.7% (MDG). TC 2000: 0.5% GDP. Evaluation of Red Solidaria
(iii) Consolidate a national framework for local public investment in priority social sectors.
II. B. Strategic guideline
Proposed
Monitoring Indicators
To achieve universal health coverage.
Education EU, World Bank, USAID, KFW, JICA Health World Bank, EU,
Loans Loans Local Development Support to Red Program II (29%) Solidaria Support for Educational Technologies
By 2009, reduce repeating rate in basic education to 4.2%. Baseline 2002: 8.5%.
Local Development Program III By 2009, reduce malnutrition rate by
By 2009, net basic education rate improved to 94%. Baseline 2002: 88%. (MDG).
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IDB Objective and Strategy (i)
Country Objective and Strategy
Expand coverage of preschool To help every Salvadoran gain access to a decent home. and basic education.
(ii) Improve the quality of preschool and basic education for all.
Strategy
Actions of other Agencies
Improve efficiency and quality of MSPAS health services.
(ii) Implement pilot projects to expand health service coverage through outsourcing. â–ŞHousing: (i)
Reduce the housing shortage through support for financing instruments and institutional strengthening of the sector.
Portfolio*
UNDP, USAID, Program (33%) Japan, KFW, GTZ Health Sector Modernization Housing European Union, Program (55%) KFW, Japan
Design and implement 2021 National Education Plan. Develop Infrastructure alternative secondary school (iii) Strengthen community participation and gender equity. options so as to expand coverage. EU, KFW Reconstruction Deepen modernization of the (iv) Consolidate managerial and institutional improvements as health system. Expand coverage in World Bank, EU, UNDP rural areas. well as decentralization of MINED. Promote and facilitate investment mechanisms for housing projects. â–ŞHealth: (i)
Actions of the IDB
Housing Program (96%)
Proposed
Monitoring Indicators IDB
Basic Education for 2.5 pp. in boys and girls between 0 to 5 All years. Baseline 2004: TC 10% (MDG). Strategic Plan for Human Resources Development in Health National Education Plan 2021 Social Inclusion in the Social Safety net Nonfinancial Policy dialogue workshop in the social sector Remittances, Poverty, and Income Distribution
Country** By 2009, infant mortality rate 19 per 1000 births. Baseline 2002: 25 per 1000 births (MDG). By 2009, maternal mortality 150 per 100,000 births. Baseline 2002: 172 per 100,000 births. (MDG).
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IDB Objective and Strategy
Country Objective and Strategy
Actions of other Agencies
Actions of the IDB Portfolio*
Proposed
Monitoring Indicators IDB
Country**
Statistical database on population and housing updated (2007); on agricultural activity and family budgets (2009).
Statistical database on population and housing updated (2007); on agricultural activity and family budgets (2009).
Strategic objective II: Strengthen human capital and improve opportunities for the poorest segments of the population. II. C. Strategic guideline Increase the efficiency and transparency of governance. Strategy (i)
Improve the efficiency and transparency of the actions of the Legislative Assembly.
(ii) Improve governance at the central and local levels. (iii) Promote development of the national statistics system.
* **
Loans Loans Modernization Local Development To promote ethical and transparent Legislative Branch Program III governance. Modernization (63%) justice system Strengthening of To facilitate development at the Local Development World Bank, the National local level. Program II (29%) USAID Statistics System Strategy TC Executive Branch Strengthen local government Modernization Transparency financial and administrative TC public sector Program management capacity. World Bank, EU TC operations of Support for the PRODEV Validate and adopt national Administration of Preparation of the Action Plan strategy for local development lands Sixth Population designed by the FISDL Advisory World Bank and Fifth Housing Institutional Group. strengthening Decentralization National Census DIGESTYC Create Office of Transparency and GTZ Nonfinancial Public Responsibility at executive CFAA level. Draw up Code of Ethics. CPAR Strengthen internal audit of Executive Branch bodies. Objective
In parentheses: % to be disbursed In boldface: triggers for high scenario
Public safety UNDP, EU
By 2006, progress made in implementing CPAR and CFAA recommendations.
INTRODUCTION The Bank’s Country Strategy with El Salvador (BCS-ES) is designed to assist the government during the present administration’s term of office 2004-2009, which began with the election of President Elías Antonio Saca in March 2004. Since the early 1990s, when the Peace Accords were signed, El Salvador has made substantial progress in achieving political stability, reducing poverty, and implementing pro-market economic reforms on a foundation of macroeconomic stability. During the last ten years, it has moved forward to consolidate a modern democratic system, where different political movements coexist freely and are represented in the different bodies of the branches of government. Since the civil war, El Salvador has become a model of the political, economic, and social progress that is possible in the wake of an armed conflict. To consolidate this progress and make improvements in other public policy areas, the Government of El Salvador formulated its plan (“País Seguro 2004-2009”) for the present mandate. The IDB strategy is one of the elements that support this plan. It systematizes the main development challenges facing El Salvador, and indicates that accelerated economic growth and poverty reduction are the country’s most pressing challenges. This BCS-ES is based on research conducted in 2003 and 2004 by the IDB1 and other institutions, the findings of which were used to formulate the Policy Dialogue Paper (Accelerating Growth) delivered to the government in August 2004. Later, in January 2005, the IDB proposed “Guidelines for Strategic Partnerships with the Private Sector,” which were used as input for drawing up this strategy and incorporated into it. The BCS-ES was enriched by a broad-reaching process of participation and consultation, which included consultation with civil society, meetings with the Office of Evaluation and Oversight (OVE) to review the Country Program Evaluation, and the active involvement of all other Bank Departments. The BCS-ES reflects the consensus achieved in that process. This document comprises four chapters. Chapter I discusses the political, social, and economic settings that frame the new country strategy. Chapter II identifies the country’s principal development challenges, briefly describes the progress achieved under the government program (“País Seguro 2004-2009”) and examines the macroeconomic outlook for the term of the present administration. Chapter III evaluates the previous strategy (2000-2003) and portfolio performance during that period, highlighting the lessons learned. Chapter IV presents the new Bank strategy, and describes its objectives, strategic areas, the 2005-2009 operations program, monitoring indicators, and the program for dialogue between the IDB and the Government of El Salvador. Lastly, Annex I outlines the IDB’s operations program for the 2005-2009 term.
1
Annex I lists the nonfinancial products designed by the Bank for the BCS-ES.
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I.
OVERVIEW
1.1
The new BCS-ES is set in an adverse international environment characterized by rising oil prices and the impact of Asian textile exports (in-bond assembly) throughout the world. The principal domestic factors framing the BCS-ES are described below.
A.
Political context
1.2
In the March 2004 presidential elections, the candidate of the ARENA party (Alianza Republicana Nacionalista) was elected with 57.7% of the votes, compared with 35.7% for the candidate from the main opposition party (Frente Farabundo Martí de Liberación Nacional-FMLN). Since the beginning of his administration, the new president has organized “roundtable discussions” to examine the principal topics of national interest as part of a policy of opening up to and communication with the different political parties. In late November 2004, FMLN withdrew from the roundtable discussions, alleging political differences on the priority of the issues under discussion.
1.3
Currently, none of the political parties has an absolute majority in the Legislative Assembly,2 which is made up of 84 representatives elected for the 2003-2006 term. Given the composition of the Assembly, the governing party (ARENA) can obtain a simple majority (43 votes) or a qualified majority (56 votes) by negotiating coalitions with other parliamentary groups, including some FMLN representatives.3 In this way, the Executive Branch has been able to approve important initiatives including the Central American-Dominican Republic Free Trade Agreement (CAFTA-DR), tax reform, Fondo Solidario para la Salud (FOSALUD), and the financing of the 2005 fiscal budget.
B.
Social context
1.4
When compared with the rest of Central America and Latin America, the progress made in El Salvador to reduce poverty has been significant, especially considering the consistency and speed at which poverty diminished during the 1990s. In the early 1990s, the percentage of people living in poverty was 65% (31.5% in extreme poverty and 33.5% in relative poverty). By 2004 it had fallen to 41% (15.2% in extreme poverty and 25.8% in relative poverty). This progress in reducing poverty is attributable to steady economic growth, a consistent social policy, larger budgetary allocations to the social sector, and the complementary impact of
2
The present breakdown is FMLN 27 representatives, ARENA 29, PCN 14, CDU 5, PDC 2, PPSC 3, and 4 are representatives who were expelled from the FMLN and formed a new party (FDR).
3
Financing of the 2005 budget was approved with votes from two FMLN representatives who were subsequently expelled from that party.
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remittances. The achievement is particularly praiseworthy because it occurred despite the impact of the 2001 earthquakes on the living conditions of the population, especially in rural areas. 1.5
El Salvador’s poverty figures place the country in a better position than the average for Latin America and the Central American Common Market (CACM). This is because the progress has been permanent and has enabled El Salvador to surpass the average results of the Central American region. Nonetheless, El Salvador still faces a major challenge if it is to bring poverty levels down to levels that approach those of Costa Rica and Panama.
C.
Economic context
1.6
Broad-based economic growth has been one of El Salvador’s major achievements, and it is the principal factor contributing to poverty reduction (real per capita GDP rose by 13% between 1993 and 2003). After the mid-1990s, economic growth slowed in spite of the country’s stellar performance in structural reform and macroeconomic management. GDP growth fell from a 6.2% annual average in the early 1990s to 3.1% in the last half of the decade (due in part to the impact of the 2001 earthquakes and the crisis in coffee prices), and did not exceed 2% in 2003 and 2004.
1.7
The fiscal situation in El Salvador has been stable, despite the major fiscal cost of reconstruction in the aftermath of the 2001 earthquakes, and the cost of moving to the new pension system (the liabilities of the public pension system have been made transparent). In 2004, the tax ratio was approximately 12% of GDP, the second lowest in Central America. In late 2004, the government promoted a tax reform that is expected to boost revenues by slightly more than 1% of GDP in 2005, with a view to increasing the tax ratio to 15% of GDP by 2009. In addition, to ease the fiscal pressures of pension system expenditures, another reform was enacted in June 2004 whereby simultaneous requirements of retirement age and years of service must be met to qualify for retirement, which reduced the pressure on spending by between 0.2% and 0.3% of GDP. II. THE PRINCIPAL DEVELOPMENT CHALLENGES
2.1
Based on their respective analyses, both the IDB and the Government of El Salvador agree that further development in El Salvador will depend on making substantial progress: (i) to accelerate economic growth and improve the country’s competitiveness; and (ii) to continue reducing poverty and improving opportunities for the poorest segments of the population.
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A.
The challenges facing El Salvador 1. Accelerate economic growth and improve the country’s competitiveness
2.2
An analysis of the patterns of total factor productivity (TFP) in El Salvador for the 1991-1996 and 1997-2001 periods reveals the factors underlying the change in the economic growth trend. The principal finding is that the difference between the annual growth rates of the two periods is primarily due to a decline in productivity.4 In addition, since 2001, the country has experienced major shocks (two earthquakes, the coffee price crisis, the rising cost of oil, and growing competition from Asian in-bond textile assembly), all of which contributed to an economic slowdown in the last five years.
2.3
For growth to recover in the near future, enterprises must increase productivity. This will require expanding the country’s production frontier through a dynamic process entailing a recovery in private investment (both national5 and foreign6). Although this seems simple enough, the challenge of speeding up growth is significant, especially because of the more and more demanding conditions of an increasingly competitive environment. Because of the volume of remittances from migrants7 and their macroeconomic impact,8 the prices of nontradable goods in the Salvadoran economy grow faster than the prices of tradable goods, pressuring the real exchange rate to a steady and gradual appreciation, regardless of the nominal exchange rate regime. This is a structural process that brings permanent competitive pressure to bear on the sectors that produce tradable goods. Therefore, the most expeditious way to achieve a recovery in growth is to increase business productivity and strengthen the country’s competitiveness. Lastly, the phasing-out of the Multifiber Agreement in early 2005, the changes in the fiscal treatment of Export Processing Zones (EPZ) that will enter into effect shortly, and the growing competition from Asian producers heighten the momentum and complexity of the competitive challenge faced by El Salvador, and underscores why discovering new export niches is of high priority in economic policy.
4
Several studies (IDB, 2004; Larraín, 2004; and Acevedo, 2003) reach this same conclusion to explain the slowing of growth in El Salvador.
5
In the past five years, private investment averaged only 13% of GDP, below the average for Central America (23.5% of GDP) and for Latin America as a whole (19% of GDP) during the same period.
6
During the past five years, foreign direct investment has averaged around 1.7% of GDP.
7
In 2004, revenues from remittances grew at a record 24% over the total for 2003 (around US$2.5 billion and representing nearly 15% of GDP), confirming remittances as the principal factor balancing external accounts.
8
The Salvadoran economy can be analyzed as a typical case of structural “Dutch disease,” since the real exchange rate is affected by the massive inflow of resources from abroad.
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(i)
Consolidate macroeconomic stability
2.4
The Salvadoran economy has made major efforts to achieve macroeconomic stability9 through prudent management of economic policy during the past fifteen years. Macroeconomic stability is a necessary condition for stimulating private investment and accelerating economic growth. It is therefore a priority of the Government of El Salvador to consolidate and make further progress on the fiscal and tax fronts, and to press ahead with efforts to strengthen regulation and supervision of the financial system.
2.5
El Salvador has continued to manage its public finances responsibly, despite the heavy outlays in response to the 2001 earthquakes and the cost of changing the pension system. To cope with these expenditures (and to make the investments needed in infrastructure and the social sector), and to avoid a recurrent increase in the public debt, El Salvador needs to reduce its deficit.10 Herein lies the importance of the government’s efforts to increase tax revenues over current levels and to continue to control current spending through savings and a more efficient use of resources. El Salvador’s level of debt is among the lowest11 in the Central American region, despite the clip at which debt has accelerated in recent years (nearly 10% of GDP in the 1999-2003 period) because of the 2001 earthquakes and the cost of pension reform. The pace of debt accumulation has fallen in the past two years, and the government is continuing to manage public finances responsibly, which will enable El Salvador to continue enjoying its good sovereign risk rating.12
2.6
After a determined effort during the past fifteen years to reform financial regulations and supervision, increase private sector involvement, and open up the country to international competition, El Salvador now has a sound and modern financial system, one of the most dynamic in the region. The government aims to continue strengthening the financial system by deepening reforms in financial regulations and supervision, and by regulating and controlling securitization of assets, factoring, and investment funds. It will also work to integrate financial supervision bodies (superintendencies) so as to achieve more effective supervision of financial conglomerates and prudential regulation of banking. Because the stock
9
10
Despite slowing growth, during the past six years inflation in El Salvador has averaged 2.5%, the country has the lowest interest rates in all of Central America, and although remittances have had an impact on the real exchange rate, it is stable. In the last four years, the average fiscal deficit of the nonfinancial public sector (including expenses for reconstruction and pensions) was 3.9% of GDP.
11
El Salvador’s total foreign public debt is among the lowest in the region (amounting to nearly 30% of GDP by December 2004). In addition, its total domestic public debt represented nearly 15% of GDP at the end of 2004.
12
The public debt bonds issued in international markets have been rated Baa3 (investment grade) by Moodys, BB+ (one notch below investment grade) by Standard & Poor’s, and BB+ (one notch below investment grade), with a stable outlook, by Fitch.
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market is not very diversified,13 being composed primarily of short-term instruments, there is a limited supply of investment instruments available in the domestic financial system. The stock and bond markets are very small, and it is difficult to finance innovative activities (venture capital). In addition, financing for micro, small, and medium-sized enterprises (MSMEs) is limited. For this reason, the government is now working to adapt the legal framework so as to promote greater diversification of investment instruments and increase the access of MSMEs to credit. (ii)
Upgrade support infrastructure for production
2.7
Over the past ten years, El Salvador has made substantial headway in rehabilitating and developing basic infrastructure that had deteriorated through years of internal conflict and lack of investment. Now, the quality of its principal airport and its road network is recognized throughout Central America. In addition, it is constructing one of the most important ports in the region at La Unión, and has an efficient road maintenance system in operation (FOVIAL). However, to promote new investments and restore economic growth it must further expand the basic production support infrastructure to bring it into line with the requirements of a globalized economy; this will require the participation of the private sector. To this end, the government is designing initiatives to facilitate private investment in infrastructure.
2.8
El Salvador needs to improve the quality and reduce the cost of its transportation services. To that end, the government is working to improve the regulations governing freight and passenger transportation, strengthen the secondary road network in rural areas, and foster greater private investment in roads and ports. In the electricity sector, it is working to deepen competition, designing incentives for investing in renewable energy sources, and strengthening the market’s regulatory body. Lastly, in the water and sanitation sector, more investments are needed to increase coverage and quality (especially in the areas of greatest poverty). To this end, the government intends to redesign the sector’s institutional framework by separating the functions of planning, regulation, and service delivery. As explained further on, this sector has an important impact on competitiveness and poverty, given its synergies with health and nutrition policies. (iii)
2.9
13
Improve conditions for competitiveness
To put economic growth in El Salvador on the fast track, further improvements will be needed to enable companies to develop their productive potential. To this end, a
The process to create the pension savings system did not include measures and incentives to develop the stock market or long-term fixed-income markets; for this reason, 85% of the portfolio of the Pension Fund Administration (AFP) is invested in public bonds.
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comprehensive framework of support for production, technological innovation, and training for the work force needs to be enhanced and expanded. 2.10
The continuity given to the previous administrations’ investment promotion policies has yielded a network of public-private support services for investments, exports, and production. To accelerate growth, coordination and integration of the institutional framework for investment development needs to be improved. While there is no shortage of unskilled labor in El Salvador, the availability of skilled manpower still limits the possibilities of boosting productivity. The quality of the educational system, including universities and technical education, needs to be improved, as well as the national professional training strategy followed by the Instituto Salvadoreño de Formación Profesional (INSAFORP). The aim is that they be keyed to corporate demand and include mechanisms for coordinating action between the public and private sectors.
2.11
Among the challenges being addressed by the Government of El Salvador for attracting new private investment is to identify new activities and sectors where productivity increases will be sufficient to enable them to compete in an increasingly demanding international market. This will require a high degree of coordination and cooperation between the public and private sectors, and should underpin a strategy to promote new private investments. Also, given the limited capacity to foster technological innovation and assimilation, coordinated efforts by the public and private sectors will be needed to promote technological innovation for the production of goods and services. In this connection, support should be given to the joint effort between the Fundación para el Desarrollo Económico y Social (FUSADES) and the Government of El Salvador to establish a national policy and strategy for technology innovation and development. Lastly, the country should increase nonfinancial support services to MSMEs. Although considerable progress has been made in this area, the system can still be improved by coordinating government involvement in the sector and by integrating the supply of support services, especially in rural areas.14 (iv)
2.12
14
Improve the investment climate
An important way to stimulate economic growth is by improving the investment climate. Since the internal conflict of the 1980s, El Salvador has made great strides to improve legal certainty and physical security. Nonetheless, to ameliorate the investment climate, further advances are needed in the legal framework and in security conditions.
In this connection, the government is promoting a micro-credit program in rural areas, under the “Oportunidades” program described further on.
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2.13
The legal and institutional framework for business activity is one key area that must be strengthened. Some surveys suggest that the limited efficiency of the justice system inhibits investment, especially: (i) the slow pace of legal proceedings and the need to consolidate conciliation and arbitration centers; (ii) the need to update the Commercial Code; (iii) the need to upgrade judges’ training to equip them to deal with commercial questions; (iv) the need to improve bankruptcy legislation and legislation governing the enforcement of guarantees; and (v) the need to implement recently approved legislation promoting competition and regulating the market power of large companies. In this connection, the Consumer Protection bill was promoted and the Competition Act was passed to foster competition through the prevention and elimination of anti-competitive practices.
2.14
Legal certainty and citizen safety are of vital importance for attracting and promoting investments, and for improving the quality of life of the Salvadoran people. The government “País Seguro 2004-2009” plan includes efforts to strengthen governance and legal certainty, strengthen social cohesion, and increase citizen safety in the country. In 2004, the government launched a number of programs: Super Mano Dura (to reduce crime), Mano Amiga (to resettle youths who drop out of gangs), and Policía Rural (to improve safety in rural areas), and changed the mechanisms for the control and regulation of firearms. Since these areas are targeted by other donor agencies operating in El Salvador,15 they were not included among the strategic objectives of the BCS-ES. Despite the progress made in personal security,16 however, investors still consider that the legal framework is weak and that citizen safety problems generate high costs for companies.17 (v)
2.15
Tap opportunities offered by the CAFTA-DR, other free trade agreements, and regional integration with the CACM
The CAFTA-DR, other free trade agreements, and the Central American Common Market (CACM) offer El Salvador opportunities for stimulating economic growth and expanding its productive potential. In the area of textiles, the CAFTA-DR offers clear advantages over the Caribbean Basin Initiative (CBI), and efforts have been launched to attract foreign investments in this and other areas. The accumulation of origin also creates a great opportunity for El Salvador by allowing for value-added chains (“clusters”) of national and regional scope. Moreover, El Salvador’s ethnic/nostalgic market in the United States is one of the main business
15
A US$18 million project to support modernization of the judiciary is being launched with World Bank funding to strengthen and improve the effectiveness of the legal system; the European Union has a program under way on social prevention of violence and juvenile delinquency (US$11 million); and the UNDP is implementing a program on violence in a society in transition (US$2.5 million).
16
Although criminal activity fell from 53,799 crimes in 1999 to 44,751 in 2002 (according to National Civil Police data), violence and crime rates continue to be high.
17
Around 80% of the companies consider that street crime is the principal obstacle in the business environment (“The World Business Environment Survey,” World Bank).
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opportunities that can be developed through the CAFTA-DR. Accordingly, the strengthening and deepening of Central American integration has more than commercial importance. It also means job creation and income generation. Under the Puebla-Panama Plan (PPP), efforts to further strengthen integration have sparked strategic region-wide investments, particularly in the road and electrical interconnection project, as well as moves to speed up the creation of the customs union. 2.16
The CAFTA-DR also poses certain challenges, especially pertaining to compliance with legal standards (plant health, labor, environment, etc.),18 competition of agricultural products, and intellectual property rights. The CAFTA-DR represents a true challenge to Salvadoran competitiveness. Having free access to the United States market is not enough to spur an immediate increase in exports. The CAFTA-DR only offers opportunities and opens the door to the world’s largest market. In order to tap these opportunities, Salvadoran firms must raise their competitiveness. In most sectors, the most important constraints on increased production and trade are on the supply side. This underscores the need for a policy that facilitates the development of comparative advantages in new activities with greater value added and higher technological content.
2.17
Although El Salvador’s trade performance in the CACM is satisfactory,19 there is still room for improvement. The CACM is the principal target market for El Salvador’s nontraditional, non-in-bond assembly exports,20 absorbing the greatest percentage of its manufactured goods (compared with third markets); it is also where Salvadoran SMEs are most active. Despite the growth of exports of nontraditional, non-in-bond assembly exports in recent years, however, their individual export volumes and individual share of total exports is still very low. An analysis of all products with more than a 1% share of total exports in 2002 shows that the exports of 16 products21 grew by more than 100% between 1993 and 2002. While this shows the emergence of new activities with greater value added, higher technological content, and substantial capacity for growth, their share in total
18
Environmental issues and compliance with standards are of key importance for reaping the benefits of the trade agreements and ensuring their sustainability.
19
According to an analysis using the global Trade Performance Index with the CACM (IDB, 2004), El Salvador has managed to significantly increase its market share in certain successful food products such as cacao derivatives (+33% between 1997 and 2001) or grain-based products (+20%). It has also increased its share, albeit at a lower rate, in successful manufactured products such as toilet paper, organic surface agents, and containers.
20
This is an aggregate that includes exports of agricultural and agroindustrial goods other than coffee, sugar, and shrimp (traditional exports), and exports of manufactured goods other than those produced by assembly processes (textile in-bond assembly and others).
21
The most important of these are medications, the type of paper used for toilet paper, paper and cardboard packaging and containers, prepared foods, organic surface agents, cleaning products, plus ten other products.
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exports is still marginal. Each success story should be carefully studied to identify its competitive advantages and the lessons learned that can be replicated and taken advantage of by other production sectors in El Salvador. (vi)
Protect sources of growth and diminish the risk of natural disasters
2.18
In order to ensure sustainable economic growth, enterprises need to boost their productivity. This should occur in a context that develops the sources of long-term growth (human and natural resources) and diminishes the impact (on growth and poverty) of natural disasters in El Salvador.
2.19
Upgrading environmental management is one of the vital areas that will support competitiveness of Salvadoran firms and strengthen human development in the country. The weakness of environmental regulatory and control institutions, problems with solid waste and wastewater management, a high degree of deforestation, and slash-and-burn agricultural practices increase environmental risk and undermine business competitiveness. El Salvador has serious challenges to address in the area of environmental quality and natural resource management, both of which impact on the costs of enterprises and on workers’ health. With regard to environmental governance and institutional development, the country has taken important steps to establish a legal and institutional framework for environmental management, but there still remains the challenge of enforcing environmental laws and regulations more effectively, and ensuring appropriate technical and financial assistance for environmental management.
2.20
Mitigating the impact of natural disasters is also of major importance for avoiding substantial economic and social costs. Due to its small size and high population density, El Salvador is exposed to greater environmental risks than its Central American neighbors.22 Consequently, the effectiveness of its development agenda will be influenced by the progress it makes in safeguarding its investments in assets, and in improving its ability to reduce and manage the risks of natural disasters. It is of strategic importance to avoid potential crises and minimize the economic and social impact of disasters. Therefore, financing to cover the cost of risk should be planned in advance, capabilities for monitoring risk should be consolidated, and public investments should be planned strategically.
22
It is vulnerable to seismic and volcanic activity, and its river systems and mountainous terrain are a source of frequent landslides and flooding.
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2. Continue to reduce poverty and improve opportunities for the poorest segments of the population 2.21
Accelerated economic growth is merely the basis for continuing efforts to reduce poverty. The government is working to consolidate this process and to support improvements in the living conditions of the population. To accomplish this aim, the priority objective of its social policy is to achieve the Millennium Development Goals (MDG). This will make it possible to use public resources to augment the positive effect of remittances from Salvadorans living abroad.
2.22
Poverty levels in El Salvador have continued to fall during the past five years, although at a slower pace than in the 1990s. This is related to the slowdown in economic growth, the impact of the 2001 earthquakes, and slumping coffee prices. Despite the progress made, total poverty and extreme poverty continue to be high and concentrated in rural areas. The structure of poverty by geographical area still reveals significant inequalities. On average, the level of poverty in rural areas is 1.6 times higher than in urban areas, and 1.3 times higher than the national average, showing that further progress is needed to reduce poverty. To address the problems associated with poverty, public access to basic social services must be improved as must opportunities for the very poor. (i)
Improve the quality and coverage of social services
2.23
El Salvador compares favorably with the average of the CACM countries in terms of certain social indicators, the Human Development Index (HDI), and public social spending (UNDP, 2003). However, the country ranks below Chile and Panama and, for certain indicators, Costa Rica and Mexico. According to the HDI, El Salvador ranks 105th in a sample of 175 countries. In 2001, El Salvador earmarked 8.1% of GDP for public social spending, which is three percentage points less than the CACM average, surpassing only Guatemala. Even though public social spending in El Salvador is relatively low, it is focused primarily on the poorest segment of the population, and the resources are executed increasingly at the local level.
2.24
Education was a high priority during the last decade in El Salvador, and the impact of educational reforms on coverage, equity, and performance is evident. In addition, the internal efficiency of the system also improved. The average years of schooling increased from 4.8 in 1995 to 5.5 in 2002, and there was an important expansion in coverage, especially in rural areas.23 The reform’s emphasis on expanding basic education coverage in rural areas, combined with the success of innovative programs,24 has led to a more rapid increase in school enrollment in rural areas than
23
Educational coverage in rural areas grew from 3,554 sections in 1995 to 11,222 sections in 2002.
24
These programs include Education with Community Participation (EDUCO), healthy schools, alternative or multilevel classrooms, and distance learning programs.
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in urban areas. This is reducing the educational gap and moving the country closer to universalization.25 There is still a high degree of educational inequality between rural and urban areas, however, as well as low coverage in some rural municipios, and poor quality basic and secondary education. Fifteen percent of first graders repeat their grade, and of the total number of students who enroll in first grade, only 40% complete secondary school. The most important challenge, then, is to improve the quality of basic and secondary education, as well as school effectiveness, especially for the most disadvantaged sectors. 2.25
Although the most important indicators26 for health and nutrition have improved in recent years, the coverage and quality of health services is still limited. This produces inequities that leave nearly one third of the rural population and the lowincome urban population without health protection. El Salvador has a dual challenge with regards to its health policy. On the one hand, it lags behind in the situation of infectious diseases; on the other, it must address new problems associated with longer life expectancy and demographic changes. Compounding these problems, the 2001 earthquakes damaged important parts of the country’s hospital network (particularly in the Departments of La Libertad, Usulután, La Paz, and Cuscatlán), further weakening the health system. The situation was already very complex because health system reform was at a standstill due to a lack of consensus on the direction it should take. Nutrition indicators are still troubling. Some 19% of children under 5 are behind in growth (height/age), and 10.3% are underweight for their age. Also, recent studies indicate that nutrition in rural areas has been affected by low coffee price, and there is a high correlation between nutrition and fluctuations in rural incomes. This underscores the need to apply a social safety net policy in areas of greatest social risk.
2.26
The economic reforms launched in last decade redefined the State’s role in the housing sector to give it a regulatory function and to promote the participation of private enterprise. The new housing policy gives the private sector responsibility for formulating, constructing, financing, insuring, and marketing housing units. The average housing supply, however, is insufficient to meet potential demand, with 53% of demand being unsatisfied. Since 78% of the demand for new housing is from households whose incomes are less than two monthly minimum wages, they cannot purchase housing without some kind of government financial support. Although some efforts are under way to help low-income households secure decent housing, these efforts are limited. Thus, a segment of the population is bypassed by the formal housing process, and the participation of private developers has not been
25
Between 1999 and 2002, annual enrollment grew by 10% in rural areas and by only 1.7% in urban areas.
26
Between 1995 and 2002, life expectancy at birth rose from 68.2 to 70.4 years, with symmetrical improvements for men and women. Also, the infant mortality rate (per thousand live births) declined from 41 in 1988/93 to 24.6 in 2002/2003, and the chronic malnutrition rate in children under 5 fell from 31.7% in 1988 to 18.9% in 2003.
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suitably included in sector policies. Appropriate long-term mortgage financing instruments are needed to improve the access of low- and middle-income families to housing. 2.27
As a result of the progress described above, El Salvador is among the Latin American countries best-positioned to meet the MDG. According to the government’s recent Progress Report (2004), several goals have already been met and others have been classified as likely or very likely to be fulfilled (see Annex III). However, the likelihood of meeting poverty goals in rural areas is considered low, as is the likelihood of meeting the goals for maternal mortality, HIV/AIDS, and the environmental goals for protected and forest areas. This underscores the need to support the government in focusing financial and human resources on key operations that will contribute to achieving the Millennium Development Goals. (ii)
2.28
Develop a social protection system for the poorest segment of the population
During the 1990s, there was an increase in informal employment in El Salvador, and natural disasters had an important impact on society. In response, the Government of El Salvador designed a social strategy called “Oportunidades,” to orient its action in five areas (health, integral development of youths, Red Solidaria, micro-lending, and information technology use). This made the development of efficient social policies and sufficiently broad-reaching programs a priority task of the government plan “País Seguro 2004-2009.” Under the strategy, the government aims to improve the coverage of social programs and the coordination among the different government organizations that run them. It will focus these programs on the poorest areas (urban and rural), and equip them with monitoring and evaluation systems so as to be able to optimize costs, measure immediate results, and evaluate the medium- and long-term impact on poor families. To this end, the government has drawn up a poverty map, and will use the results to target public social investment and strengthen intersector coordination mechanisms to serve the needs of municipios with extreme poverty. (iii)
Improve governance
2.29
It is not enough to allocate resources to poverty reduction plans and projects; resources need to be used efficiently, the different levels of government need to work in a coordinated fashion, and there should be sufficient and timely information available for evaluating the use of the resources.
2.30
El Salvador has moved forward to improve transparency in recent years. It passed a new Procurement Act that provides a solid legal framework, then signed and ratified the Inter-American Convention Against Corruption. It is also promoting citizen access to information held in the different spheres of government. There is
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still room for improvement, however, especially with regard to the Corte de Cuentas (Court of Accounts), civil service careers, and training for civil servants on the new Procurement Act. These important matters are addressed in the government plan “País Seguro 2004-2009” and are being targeted by the actions of other donor agencies.27 They are therefore not included among the strategic objectives of the BCS-ES. In this area, IDB action will be limited to supporting specific requests from the government. 2.31
As El Salvador is divided into 262 municipios, each with an average population of 25,000 people and measuring about 80 km2, it is necessary to consolidate the functions of many municipios into micro-regions28 so as to make municipal administration, and the delivery of basic social services and support services for production, efficient and economically profitable. In addition, the relationship between the central government and local governments must be strengthened through a process of decentralization that fosters financial sustainability, transparency, and the generation of own revenues. El Salvador has made some headway in different aspects of decentralization and local development by creating the Fondo de Inversión Social y Desarrollo Local (FISDL), by financing municipalities through the Fondo de Desarrollo (FODES)—which receives 7% of current government revenues—and by fostering partnerships between central government institutions and the municipalities to solve local infrastructure problems. Municipal governments need more technical support, however, to strengthen their financial situations, consolidate local management, and improve accountability. This will enable local governments to play an important role in efforts to reduce poverty and improve business competitiveness.
2.32
The country’s principal sources of information have shortcomings related to the timeliness, quality, access, and use of economic and social statistics. The challenges to be addressed in this area are insufficient budget allocations, outdated census information, deterioration of basic technological infrastructure, and structural weaknesses of the statistics system. One of the government’s priorities is to overcome these shortcomings with a plan to update the statistical database; this will include conducting economic, agricultural, population, and housing censuses, as well as a new survey on family incomes and spending. The high priority placed by the government on updating the statistical database responds to the need to
27
The Government of El Salvador, through the “Probity and transparency” component of its government plan, is creating a presidential-level Office for Transparency and Public Accountability, strengthening internal audit functions in the different agencies of the Executive Branch, and will publish all information relative to government procurement (needs and conditions for adjudication). In addition, the Program Ruling Justly: More Responsive, Transparent Governance is being launched with US$20 million in USAID funding to promote greater government transparency and accountability.
28
One of the main tasks identified in the National Land-Use and Development Plan (PNODT) is to organize municipios into micro-regions.
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evaluate the impact of development policies, analyze the competitiveness of economic sectors, and support monitoring of the Millennium Development Goals. B.
Macroeconomic prospects for 2005-2009
2.33
The macroeconomic prospects for 2005-2009 are shaped by three basic factors: (i) the business climate and its effect on national and foreign investment; (ii) the tax revenues and the public sector’s fiscal situation; and (iii) the external environment and the entry into force of the CAFTA-DR. The BCS-ES addresses two possible macroeconomic scenarios, which differ depending on the progress made in the fiscal situation and the dynamics of private investment (national and foreign).
2.34
The base scenario (transition toward acceleration) assumes that prudent management of public finances and the implementation of policies to improve competitiveness will produce changes in the investment environment and a moderate increase in private and foreign investment during the period. Improved investment will make it possible to deepen trade within the CACM, and better tap advantages afforded by the CAFTA-DR and other free trade agreements. This would bring about 3% average year-on-year GDP growth between 2005 and 2009.29 In this scenario, the tax ratio during the period would rise from 12% in 2004 to 14.6% in 2009, in line with government estimates. At the same time, management of current spending would help improve current public sector savings, which would create a degree of fiscal latitude that would make it possible to increase public investment by up to 5% of GDP in 2009, without impairing public or external accounts. This would bring the fiscal outcome to a manageable level and stabilize the public debt ratio as a percentage of GDP, which would maintain the country’s current sovereign risk rating.30
2.35
For its part, the high scenario (structural change) assumes greater improvements in the fiscal situation,31 implemented at a more rapid pace than in the base scenario. It also assumes major changes in the conditions (legal, institutional, and technological) shaping the economy’s competitiveness. These two factors would spur an increase in both domestic investment and direct external investment during the period, which would give a substantial boost to exports (assuming a favorable external environment). These improvements would begin to be seen essentially in
29
This GDP growth rate, the improvement in tax ratio, and the reduction of the fiscal deficit are in line with the medium-term projections of the Government of El Salvador, and are consistent with the base scenario developed by the IMF in the 2005 Article IV Consultation and by the World Bank in its Country Assistance Strategy.
30
El Salvador’s current risk rating is Baa3 (investment grade) according to Moody’s, BB+ (a level below degree of investment) according to Standard & Poor’s, and BB+ (one notch below investment grade), with a stable outlook, according to Fitch.
31
This scenario assumes an increase in the tax ratio of 4% of GDP in the 2005-2009 period as a result of additional tax-related measures.
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2007, and would raise the average year-on-year growth to 4% in 2009.32 Given these assumptions, the overall fiscal situation of the public sector improves more substantially and more rapidly than in the base scenario, creating a greater margin for public investment, and turning the trend of the total public debt ratio slightly downward. This would give El Salvador a better risk rating and a “degree of investment grade” rating by the other two principal rating agencies. 2.36
For the two projected scenarios, it is assumed that the government will meet its financing needs basically with foreign borrowing. In late 2004, the country’s public sector borrowing was relatively low, with total external public debt of nearly 30% of GDP, total nonfinancial public sector debt of 40.4% of GDP, and total public debt of nearly 45% of GDP. Under only relatively extreme conditions (such as much lower tax revenues than estimated for the transition scenario or new natural disasters) that produce global fiscal outcomes below -3.5% of GDP on average, and year-on-year growth rates below 2%, would total public debt begin to grow until reaching around 50% of GDP.
Table II-1 Macroeconomic prospects for 2005-2009 El Salvador: Macroeconomicprospects for 2005-2009 Base Scenario Est. Projections 2004 2005 2006 2007 2008 2003
2009
(% of GDP, unless otherwise indicated)
2005
High Scenario Projections 2007
2006
2008
2009
(% of GDP, unless otherwise indicated)
Real growth of GDP (percentage) Inflation (percent., end of period)
1.8 2.5
1.5 5.4
2.5 2.5
3.0 2.5
3.0 2.5
3.0 2.5
3.0 2.5
3.0 2.5
3.5 2.5
4.0 2.5
4.0 2.5
4.0 2.5
Tax ratio Public sector current savings (1) Public sector fiscal outcome (1)
12.1 -0.6 -3.7
12.2 -0.3 -2.4
12.8 -0.3 -3.1
13.0 -0.6 -3.3
13.5 0.0 -2.8
14.0 0.9 -2.3
14.6 1.8 -2.6
13.6 0.4 -2.3
14.0 0.5 -2.3
14.5 1.1 -1.7
14.5 1.6 -1.6
15.3 2.8 -1.6
Nonfinancial public sector debt Total public sector debt
40.7 46.1
40.4 44.8
41.9 46.2
42.8 47.1
43.1 47.4
42.9 47.2
43.1 47.4
41.6 45.9
42.1 46.4
40.6 44.9
39.4 43.7
38.3 42.6
Current acc. outcome-balance of pay. Net. intern. reserves (import months) Exports (percent increase)
-4.9 5.2 4.7
-4.4 4.5 1.8
-4.0 4.3 2.0
-4.2 4.3 6.1
-4.3 4.3 5.0
-4.3 4.3 6.4
-4.2 4.3 6.6
-3.5 4.6 2.5
-3.3 4.6 6.5
-3.2 4.6 6.5
-3.0 4.6 8.0
-3.0 4.6 8.0
1.5 18.5
1.5 18.5
1.6 17.1
2.5 18.3
2.5 19.5
2.5 21.0
2.4 21.0
Direct foreign investment 0.5 1.0 0.9 1.5 1.5 Gross dom. investm. 16.6 15.8 16.7 17.1 18.2 Source: IDB calculations, based on Ministry of Finance information and IMF and World Bank estimates. (1) Includes spending on pensions and reconstruction
32
This GDP growth rate, the increase in the tax ratio, and the reduction in the fiscal deficit are in line with the medium-term projections of the Government of El Salvador, and consistent with the Active Scenario developed by the IMF in the 2005 Article IV Consultation and by the World Bank in its Country Assistance Strategy.
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C.
Execution of the government “País Seguro 2004-2009” program
2.37
The economic and social policy of the Government of El Salvador, set out in the “País Seguro: Plan de Gobierno 2004-2009,”33 program focuses on the need to improve the well-being of the Salvadoran population through equitable economic progress. To this end, the government has established 16 lines of action grouped into five program areas, which are described in detail in Annex XIII. Substantial progress was made in implementing the program during the first year of government.
2.38
The five programmatic areas represent the priorities of the Government of El Salvador. The first aims to strengthen and modernize the country’s institutional framework in key areas required for equitable development. Here, progress has been made to improve physical security and legal certainty through the implementation of security initiatives, criminal code reform, and measures to ensure the operation of competitive markets. The second area focuses on creating a framework of macroeconomic stability and conditions to ensure greater participation in the benefits of progress through local development and human, geographic and territorial integration. For this area, during the second half of 2004, the government approved tax reforms aiming to reduce tax evasion and expand the tax base, and further to pension reform to rationalize the system. Also, priority was given to public investment in the social sector and to local development in the poorest municipios. The third programmatic area aims to boost productivity, competitiveness, and connectivity so as to strengthen the country’s integration in world production and trade processes. In this area, the government was able to approve the CAFTA-DR in early 2005, affirming its leadership in regional integration and trade liberalization initiatives. It also began building the port at La Union, which will enhance the country’s competitiveness, and is laying the groundwork for promoting private participation in road infrastructure works. The government is also moving forward with different initiatives to remove obstacles that currently block private investment in the agricultural and tourism sectors (See Annex XIII).
2.39
The fourth programmatic area will work to strengthen human and social development capabilities by satisfying the most basic needs and by furnishing tools that will make it possible to take advantage of opportunities. To achieve this objective, the government is implementing a program called “Oportunidades,” the aim of which is to improve the quality of life of Salvadorans through five initiatives: Fondo para la Salud (FOSALUD); JÓVENES, which promotes integral development of young people to keep them away from gangs; CONÉCTATE, which promotes the productive use of information technologies; MICRO
33
The full “País Seguro: Plan http://www.casapres.gob.sv/plan.htm
de
Gobierno
2004-2009”
program
can
be
found
at
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CREDITOS, which promotes a credit program for families with microbusinesses; and Red Solidaria, which will provide families in the poorest municipios (especially in rural areas) with access to basic social services through a social safety net. Under the latter, actions will be taken to help families living in extreme poverty to improve their quality of life, through three lines of action: Red Solidaria a la Familia (which will assist families living in extreme poverty through conditional cash transfers), the Basic Services Network (to provide basic services in the poorest municipios), and the Family Sustainability Network (providing technical assistance and micro-credits to rural families). In addition, in the areas of education and health, the government is promoting an agenda to improve the coverage, quality, and equity of educational and health services (see Annex XIII). Lastly, the fifth programmatic area focuses on environmental recovery and respect as a tool that will contribute to sustainable socioeconomic development. A Protected Natural Areas Act is in place and a Water Resources Act is being drawn up to govern the generation and use of water. III. EVALUATION OF THE PREVIOUS STRATEGY AND PORTFOLIO
PERFORMANCE34 A.
The 2000-2003 Strategy and its Implementation
3.1
The IDB Country Strategy with El Salvador for the 2000-2003 term had as its purpose to promote sustainable economic and social development. The strategy focused on three priority areas of action: (i) reactivation of economic growth and competitiveness; (ii) reduction of poverty and strengthening of human capital; and (iii) modernization of the State and governance. This strategy was framed in an adverse international context (high oil prices and falling coffee prices), decelerating economic growth, the earthquakes of 2001, and the subsequent process of reconstruction.
3.2
The macroeconomic context for the 2000-2003 strategy was relatively stable with modest growth, a substantial decline in real interest rates, low inflation, sound fiscal management (despite outlays for reconstruction and pensions), and the growing impact of remittances on the country’s external accounts. During the term of the strategy, El Salvador continued making significant inroads to reduce poverty.
3.3
One factor in particular had a significant impact on the implementation of the IDB strategy. This was the complex and sometimes lengthy negotiation process between the Executive Branch and the Legislative Assembly to approve and ratify priority loans from the IDB and other international lending institutions to the government.
34
Some of the lessons learned described in this section were also noted in the Country Program Evaluation (CPE) by the Bank’s Office of Evaluation and Oversight (OVE) (See Annex VII).
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This complex process to secure Legislative Assembly approval held up for quite some time the initiation of loans approved by the IDB,35 and was one of the main reasons some loan operations were cancelled. 1. Priorities and achievements
3.4
In 2000-2003 the IDB approved loans amounting to US$475 million, which represents 88% of the program proposed for the base scenario. In that same time frame, the Bank disbursed US$410 million, or 47% of the cumulative value of the portfolio at the end of the period. Technical-cooperation grants for at least US$10 million were also approved, including US$4 million from the FSO.
3.5
The IDB’s effectiveness in supporting development in El Salvador during that period can be measured with project outcome indicators. However, since some areas of the strategy and projects did not have specific outcome indicators, did not identify baselines, or had indicators that could not be evaluated because of problems of definition (reliability, clarity), it was necessary to use output indicators and, in some cases, to infer the project outcomes by indirect means to assess the IDB’s performance under the strategy. This is one the most important lessons learned from the previous programming process.
3.6
It is important to note that the reconstruction process after the 2001 earthquakes did not alter, but rather strengthened, the strategy’s objectives with the country. Another important lesson learned from the previous programming and execution cycle is that strategies should be flexible and clear procedures should be in place for using the loan portfolio and programming constructively to support the country in times of emergency. In this connection, it is important to highlight the leadership exercised by the IDB during the emergency and the post-earthquake reconstruction process, when it organized and chaired the Madrid Consultative Group36 and helped the government follow up on the commitments of the different donors.
3.7
Overall, the strategy provided effective support to the country’s efforts in the three aforementioned areas, especially in creating the road maintenance fund (FOVIAL), strengthening the regulation of the financial system, rehabilitating and equipping schools, designing a strategy to expand health service coverage for the poor, executing decentralized social infrastructure projects, and implementing an integrated financial management system in public agencies. Annex XII summarizes the most important outcomes achieved for each of the three strategic objectives of
35
Even operations approved by the Legislative Assembly, such as the Modernization of the Health Sector project, made particularly slow progress because of political discussion on the direction the reform should take.
36
The Consultative Group for El Salvador (Madrid, March 2001) brought together 20 countries and 23 international organizations, which made commitments to support reconstruction efforts for a total of US$1,408 million, of which US$404 million were grants and US$1,004 million loans.
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the previous strategy (2000-2003). However, the complex political approval process in the Legislative Assembly led to the cancellation of five approved loans and delayed the startup of five others. This caused inefficiencies and undermined the possibility of attaining some objectives of the strategy in the areas of public safety, health, transparency in governance, watershed conservation, and support for microbusinesses. 3.8
As to the private sector facilities, during this strategic cycle the Multilateral Investment Fund (MIF) played a key role in developing regulatory frameworks, supporting medium and small-sized enterprises (MSEs), and strengthening the financial sector. For its part, the Inter-American Investment Corporation (IIC) approved three operations. Although the Private Sector Department (PRI) was able to lay the groundwork for future activities, its first operation in the country did not materialize until December 2004 despite these efforts. The activity of these facilities was also limited by Salvadoran investors’ ready access to financial and capital markets. 2. Lessons learned from the 2000-2003 strategy
3.9
The Bank’s Country Strategy with El Salvador in 2000-2003 yielded five main lessons, which were taken into account in the new BCS-ES. (i) The complex process in the Legislative Assembly to secure political approval of international financing operations can be very lengthy and can delay loan operations and increase the risk of having some of them cancelled. This makes the political situation the principal risk for implementing the IDB strategy in the country. (ii) IDB strategies and projects should have indicators not only for outputs, but also for outcomes and impact; they should also have baselines to make it possible to assess their effectiveness. (iii) Strategies should be flexible and procedures clear so that the loan portfolio and programming can be used constructively to support the country during emergencies. (iv) Supporting the decentralized execution of social infrastructure projects with social investment funds is effective not only because of the impact on service delivery, but also because it creates institutional capacities for project execution. v) The action of the private sector facilities should be expanded, furthering the important role played by MIF operations and strengthening the participation of the PRI and the IIC, which could be stepped up to provide examples in key development areas for the rest of the private sector.
B.
Loan portfolio performance 1. Evolution and performance
3.10
The loan portfolio with El Salvador during term of the 2000-2003 strategy grew from US$1,045.9 million to US$1,211.3 million (15.8%), while the amount to be disbursed increased from US$350.9 million to US$418.8 million (19.4%).
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3.11
The average annual disbursement level between 2000 and 2003 was US$136 million, ranging from US$169.8 million in 2001 to US$96.2 million in 2003. On average, IDB disbursements represented 25% of annual public investment in El Salvador between 2000 and 2003, making the IDB the country’s principal source of funding for development projects. This level of disbursement is attributable to the experience of the executing units of the IDB projects in the country, and the supervision and monitoring exercised by the Technical Secretariat of the Office of the President (STP), which responded effectively to reconstruction needs. In addition, by automating and streamlining procedures, the Bank’s Country Office in El Salvador significantly improved project execution efficiency, streamlining the cycle of operations, and reducing operational and fiduciary risk.
3.12
During the term of the 2000-2003 strategy there was a notable improvement in the portfolio’s performance indicators. By late 2003 there were no problem projects and the fulfillment of all project development objectives was “likely” and “very likely.” Implementation was considered unsatisfactory for only three operations, due to delays in disbursement arrangements. The improvement in performance indicators, combined with the capacity of the different executing entities to implement IDB contracting, procurement, and audit procedures, make El Salvador one of the most efficient countries in Central America in executing loans. 2. Lessons learned from the portfolio
3.13
The last two Portfolio Review Reports (PRR)—for 2003 and 2004—call attention to important lessons learned: (i) the need to strengthen project executing units should continue with a view to equipping them from the outset with institutional, training, and operating mechanisms that will allow them to execute projects more autonomously and effectively, especially to prepare them to deal with staff turnover and exceptional circumstances, such as the reconstruction; (ii) the marked improvement in portfolio performance indicators demonstrates the timeliness and quality of the project supervision and monitoring exercised by the STP; and (iii) the automation, simplification, and harmonization of procedures with national legal requirements enabled the Bank’s Country Office in El Salvador to improve project execution efficiency. IV. BANK STRATEGY FOR 2005-2009
A.
Objective of the Strategy
4.1
The core objective of the Bank’s Country Strategy with El Salvador (BCS-ES) in 2005-2009 is to reduce poverty.37 To achieve that goal, the BCS-ES proposes two
37
This objective is in line with the Government Plan, which aims to reduce poverty by one percentage point annually in order to achieve the Millennium Development Goals.
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intertwined strategic objectives that are consistent with the “País Seguro 2004-2009” program: (i) to promote sustainable economic growth by increasing competitiveness; and (ii) to strengthen human capital and improve opportunities for the poorest segments of the population. 4.2
The declining pace of poverty reduction in El Salvador is directly linked to the country’s economic slowdown, which makes it essential to spark sustainable economic growth. A parallel effort should be undertaken to strengthen human capital, improve the poorest people’s access to basic services, and optimize the quality of these services, in order to improve opportunities to benefit from economic growth. This, in turn, will foster sustainable increases in productivity and consolidate the bases for more dynamic growth.
B.
Strategic objectives and guidelines 1. Strategic Objective I: Promote sustainable economic growth by increasing competitiveness
4.3
Economic growth will be promoted through a recovery in private investments. The Bank’s action in support of the government’s initiatives will be based on four strategic guidelines:38 (a) to help improve the investment climate and business productivity in a stable macroeconomic environment; (b) to upgrade basic support infrastructure for production, especially in rural areas; (c) to tap opportunities afforded by trade liberalization and regional integration; and (d) to strengthen environmental management and natural disaster prevention. Efforts coordinated between the government and the Bank’s different facilities in these four areas will increase private investment, accelerate economic growth, and create better jobs. a. Help improve the investment climate and business productivity in a stable macroeconomic environment
4.4
38
To stimulate private investment, the BCS-ES will support the government’s efforts to maintain a stable macroeconomic environment by strengthening the financial system and improving competitiveness. This will be accomplished through a new sector loan program (Modernization of the Financial Sector), portfolio operations (Sector Program for Competitiveness Reforms and Institutional Strengthening of Financial Sector Regulatory Institutions), technical-cooperation projects, and
These are consistent with the “Guidelines for Strategic Partnerships with the Private Sector” (See Inset 1 and Annex IX) and are framed by the Initiative to Improve the Business Climate, agreed upon by the Bank and El Salvador in late 2004.
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nonfinancial IDB products already in execution.39 Here, the IDB’s work will be supplemented by the activities pursued through World Bank development policy loans (DPL) in El Salvador that seek to create incentives for improving the tax ratio, fostering growth, and supporting macroeconomic stability. The IDB’s activities will focus on shoring up macroeconomic stability by ensuring a sound financial system, improving the country’s competitiveness, upgrading bank regulation and supervision as part of the regional expansion of Salvadoran banks,40 and efforts to bring down the production costs in the country. Inset 1: Guidelines for strategic partnerships with the private sector in El Salvador The purpose of these guidelines is to establish and coordinate the strategic priorities of the IDB units that support the private sector, with a view to improving the effectiveness of the IDB group’s actions to promote sustained growth in private investment in El Salvador. The guidelines were developed as input for the country strategy and were fully incorporated into Strategic Objective I (Promote sustainable economic growth by increasing competitiveness). Accordingly, the guidelines set out in this BCS-ES will serve as a framework for the work of the IDB’s different facilities to improve the business climate and promote private investment, thus contributing to economic growth and job creation. The guidelines defined herein expand the strategic priorities of the IDB group in El Salvador, which aim to facilitate private sector action, identify and take advantage of productivity niches, and spur a long-term sustainable process of private investment. These strategic priorities include actions by the different facilities of the IDB group to: (i) develop an institutional framework for competitiveness; (ii) modernize the legal framework in order to improve the business climate; (iii) create a national technology innovation system; (iv) support efforts to strengthen economic integration; (v) facilitate private investment in infrastructure; and (vi) strengthen financial markets.
4.5
Second, in order to develop a good investment climate, the IDB will work with the Government of El Salvador to improve the functioning of the market and the State’s regulatory capacity. The BCS-ES proposes to back the country’s efforts to modernize the legal framework for investments. To that end, through the Initiative to Improve the Business Climate, the IDB will support the government in preparing, regulating, and implementing new legislation to improve the investment climate and modernize the framework for doing business. It will also provide technical-cooperation projects to support implementation of the recently passed Free Competition Development Act; training judges in commercial law; and provide legal and institutional strengthening for the Superintendencia de Libre Competencia [Free Competition Superintendency] and the Consumer Protection
39
The technical-cooperation operations are: Creation of Social Capital through Fiscal Reform, Tax Reform for Human Development in Central America; and Strategic Plan for Information Systems of the Banco Central de Reserva; the nonfinancial products are: Fiscal Sustainability: The Case of El Salvador, Tax Policy Assessment and Proposed Reform, the CFAA and the CPAR.
40
The MIF, through a regional operation in its portfolio, is supporting the Consejo Centroamericano de Superintendentes de Bancos in the design and implementation of consolidated regional supervision systems.
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Agency. In addition, the IDB group41 intends to help the country develop an institutional framework for competitiveness for improving coordination between private service providers in order to support export promotion and technological innovation, identify new products and sectors, provide worker training, assist SMEs, and attract foreign investment. 4.6
IDB support in this area has already begun with the Sector Program for Competitiveness Reforms, which was designed to support enactment of free competition legislation, improve job training systems, and foster development of a technological innovation system. This program will be supplemented by technical-cooperation projects and MIF operations.42 Moreover, specific new activities will be carried out in the immediate future to promote competitiveness, based on the Guidelines for Strategic Partnerships with the Private Sector described in this document, the actions to be agreed with the government under the Facility for the Business Climate Initiative, and a nonfinancial product to study competitive export sectors and identify the lessons learned so they can be replicated in other sectors or with other products.
4.7
Third, in order to maximize the Salvadoran financial system’s contribution to growth, the BCS-ES proposes to improve the efficiency of financial intermediation. This will be done by helping the private sector develop and issue long-term financial instruments, improving the financial sector’s regulatory framework, and redefining the functions of the public banking system. It will also continue to promote private banking initiatives to expand the access of MSMEs to credit, develop instruments for processing remittances, and provide technical assistance for evaluating and designing investment funds and venture capital. Operational support will be provided through the IDB’s Modernization of Financial Sector Program, a PRI operation just getting under way (Partial Credit Guarantee of Banco de Comercio Mortgage Bonds) one technical-cooperation project in the portfolio, and two new MIF operations.43
4.8
Fourth, to boost business productivity, the BCS-ES proposes to support the Government of El Salvador in strengthening the national technological innovation system, improving job training, and establishing a technical training strategy. This is addressed by the Sector Program for Competitiveness
41
The IDB group comprises the Private Sector Department (PRI), the Inter-American Investment Corporation (IIC), the Multilateral Investment Fund (MIF), and the Social Entrepreneurial Program (SEP).
42
Technical-cooperation projects: Support for Competitiveness and Innovation; Implementation of the Competition Act; Strengthening of the Consumer Protection Agency; and Strengthening of Technical and Management Capacity of MAG. MIF operations: Business Development with a Technological Base and Technical Assistance to MSEs for Accessing the USA market (Regional).
43
The technical-cooperation project: Mapping the Support Instruments for Micro, Small and Medium Enterprises, and the MIF operations Facilitating the Investment of Salvadoran Immigrants in MSMEs and Improvement of the Framework Movable Guarantees to Facilitate Access to Credit.
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Reforms, which will provide assistance for the design and implementation of national strategies for technological innovation and vocational training. In addition, a new operation, Strengthening of University of El Salvador, will encourage academic centers to turn their attention to the country’s development needs, by modernizing and improving the quality of the University of El Salvador. These operations will be complemented by technical-cooperation projects to strengthen the institutional capabilities of the regulatory bodies for the technology and training sectors (Consejo Nacional de Ciencia y Tecnología-CONACYT and Instituto Salvadoreño de Formación Profesional-INSAFORP), and to foster innovation. This IDB effort supplements the Ministry of Economy initiative to design a technological innovation development program (FundaINNOVA), which will involve FUSADES.
4.9
Lastly, in order to support MSMEs, the BCS-ES will promote the development of competitive, legally established, and sustainable companies, with a focus on rural areas and high-risk groups in particular. It will do this by strengthening the supply of basic public goods and services, fostering strategic public-private partnerships, creating incentives for the legal establishment of enterprises, and coordinating investments to improve the profitability of production chains. IDB support in this area will be provided through a loan operation that is just being launched (Retooling of Agro-Enterprise), two new areas of work to be explored by the MIF in El Salvador (Support for the legal establishment of enterprises through incentives for entering the formal economy, and Simplification and streamlining of transactions for running businesses), as well as with four new operations of the Social Entrepreneurial Program (SEP).44 b. Upgrade basic support infrastructure for production, especially in rural areas
4.10
44
In order to improve business competitiveness and help reduce poverty, the IDB will continue to support the government’s efforts to provide the basic infrastructure to compete in global markets, by improving the quality and coverage of infrastructure services that will help reduce production costs. To this end, the IDB will help the government: (i) rehabilitate rural roads; (ii) improve the quality and safety of public transport services; (iii) expand rural electricity coverage and promote institution strengthening in that sector; (iv) improve port and airport efficiency by strengthening regulatory bodies and by outsourcing services; (v) extend the coverage and improve the quality of water and sanitation service; and (vi) promote
Promoting Local Productive Development, Linking Artisans with the Decorative Articles Market, Supporting MSEs in the Management of Solid Waste in the San Andrés Valley and Rural Consolidation of Agricultural Enterprises. These SEP projects will be implemented in rural areas and will focus on high-risk groups (female heads of household, the handicapped, and youth leaving gangs).
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private investment in infrastructure through concessions and public-private partnerships. 4.11
These activities will be carried out through new loans included in the BCS-ES, (e.g. Multiphase Program for Sustainable Roads in Rural Areas - Phase II) projects (Integrated Urban Transport System and Rural Electrification), PRI operations (Oceanic Digital Communications) and a MIF operation45 (Strengthening of the Ports and Maritime Authority). A number of operations in the current portfolio are already providing assistance in this area (Multiphase Program for Sustainable Roads in Rural Areas - Phase I, the Potable Water and Sewerage Program, the Sector Program for Competitiveness Reforms) as are several technical-cooperation operations.46
4.12
In order to stimulate private investment in infrastructure, a coordinated and sequenced effort is being proposed among the different units in the IDB group that work with the public and private sectors. Priority will be given to activities in the electricity sector (to consolidate reform of the electricity market by developing the market for long-term electricity-generation contracts, and to identify projects with the private sector that are eligible for IDB group assistance), in the water and sanitation sector (to upgrade the legal, institutional, and regulatory framework), and the transportation sector (to promote public-private partnerships for road construction and operation, and for port reform and concessions). c. Tap opportunities afforded by trade liberalization and regional integration
4.13
In this area, the IDB strategy will consist of assisting the government in its efforts to strengthen economic integration and trade policy. The IDB proposes to: (i) upgrade capacity to supervise implementation of the CAFTA-DR and other trade agreements, through IDB operations that support El Salvador with the CAFTA-DR (see Annex VIII); (ii) support competitive transition to free trade with the United States, with special emphasis on MSMEs and the agricultural sector; (iii) strengthen El Salvador’s competitiveness in the CACM, including harmonization of customs procedures with countries that provide Salvadoran output with access to the Atlantic Coast (Guatemala and Honduras); and (iv) promote energy integration within the framework of the Puebla-Panama Plan. Many of these actions are already under way in operations that have recently been launched, including loans (Retooling Agro-Enterprise, Sector Program for Competitiveness Reforms, and Central American Electric Interconnection System (SIEPAC)), technical-
45
The MIF is studying the possibility of an operation to support concessions or public-private partnership arrangements.
46
Support for the MINEC in Electricity Markets and Water Resources Management Models.
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cooperation projects,47 and regional MIF projects.48 These will be supplemented by a new technical-cooperation initiative to strengthen the Ministry of Labor. 4.14
The three strategic guidelines described earlier are fully consistent with the “Guidelines for Strategic Partnerships with the Private Sector” defined in this BCS-ES (see Annex IX). As a result of the joint efforts of the IDB, the Government of El Salvador, and the private sector, investment (national and foreign) is expected to rise substantially, in response to more competitive conditions and a more attractive business climate, efforts to maximize infrastructure in support of production, and the opportunities afforded by trade agreements. This will encourage the development of new products and sectors which, in turn, will accelerate economic growth and create new sources of employment that improve the incomes and opportunities of Salvadorans. This shows how the two strategic objectives of the BCS-ES are mutually reinforcing, since faster growth is the most efficient way to reduce poverty. d. Strengthen environmental management and natural disaster prevention
4.15
Under the CAFTA-DR and other trade agreements, the issues of pollution and natural resource management are a priority. Also, the country’s exposure to a variety of risks makes it important to minimize the economic and social costs of any natural disaster. The strategy here consists of supporting the government in: (i) protecting the nation’s wealth and improving its capacity to prevent, mitigate, and cope with natural disasters; (ii) managing more efficiently the economic and social impact of disasters, by designing plans to finance the cost of risk, making further progress to monitor risk in the country, and strategically planning public investments; (iii) strengthening the institutions responsible for enforcing environmental legislation and regulations, particularly in the context of CAFTADR and other trade agreements; and (iv) improving environmental pollution control, waste management, and water and forest resources policy.
4.16
To execute this strategy, the IDB has portfolio operations (e.g. Decontamination of Critical Areas, just now getting under way), and several technical-cooperation projects49 to support risk management and address environmental issues. It also has
47
The technical-cooperation operations are Support for Trade Negotiations Program, Analysis of the Impact of CAFTA on Rural Households in Central America, Tactical Plans of the Clothing and Textile Industry, and Support for the Agricultural Sector and the Rural Economy.
48
Market Access and Regional Integration through Technical Standards in Central America and Technical Assistance to SMEs for Accessing the USA Market.
49
National Capacity for Financial Management and Risk Reduction in the Event of Natural Catastrophes; Environmental Action Plan for Municipalities; and Environmental Impact of Coffee Plantations in Central America.
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a new loan operation that focuses specifically on this issue (Natural Disaster Prevention) which will be supplemented by a technical-cooperation project.50 2. Strategic Objective II: Strengthen human capital and improve opportunities for the poorest segments of the population
4.17
For El Salvador to consolidate and deepen the substantial progress it has made to reduce poverty, in addition to accelerating the pace of economic growth, it will also need to improve the access by the poor to basic social services, and promote human capital accumulation. To this end, and in line with the social policy set out in the government’s “País Seguro 2004-2009” plan through the program “Oportunidades,” the BCS-ES presents three strategic guidelines: (a) improve the targeting and efficiency of social spending, focusing it on achieving the Millennium Development Goals; (b) enhance the coverage and quality of basic social services; and c) enhance the efficiency and transparency of governance. a. Improve the targeting and efficiency of social spending, focusing it on achieving the MDG
4.18
The IDB will support the government’s efforts to focus social policy on the neediest sectors, especially in rural areas. The Bank’s action will seek: (i) to improve spending efficiency by promoting reform in social spending; protecting priority lines of expenditure; targeting, coordinating, and evaluating social spending, strategically directing it to achieving the MDG more quickly; (ii) to design and set up a social protection system that responds comprehensively and effectively to the problems faced by families in extreme poverty, promoting the role of women as family welfare advocates, especially in rural areas, by strengthening the social safety net and basic services network, and by providing direct support to families through conditional cash transfers; and (iii) consolidate a national framework for channeling local public investment to priority social sectors, improving living conditions in poor and very vulnerable municipios. In this context, the IDB will focus its action on supporting the government’s efforts to design a mechanism for coordinating social policy between the central government, the municipios, and the decentralized agencies, to ensure a comprehensive response in priority areas. To begin with, the government has determined that the social safety net (Red Solidaria), created under the program “Oportunidades,” will target the 100 poorest municipios in the country and create a registry of beneficiaries that will be used to guide the work of centralized and local public agencies more efficiently.
4.19
Assistance in this area will be provided through three new loan operations: Social Sector Reform Program, Support to Red Solidaria, and Local Development Program III. Two technical-cooperation projects have been proposed to supplement
50
The technical-cooperation project Studies on Dam Safety for Hydroelectric Power Plants.
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these actions: one in the portfolio to evaluate spending efficiency (Building Social Capital through Fiscal Reform), and a new one that is being formulated to support the design of an evaluation system for Red Solidaria. b. Increase the coverage and quality of basic social services
4.20
The IDB will use individual loan operations to support the government’s plans to expand the coverage and improve the quality of basic social services. In addition, resources will be allocated through Red Solidaria to expand education, health and nutrition, water and sanitation services, targeting its actions on the 100 poorest municipios in the country and on rural areas. In this way, the Bank will be ensuring that families are receiving support through needed services (conditional cash transfers), while coordinated efforts are being made at the same time to expand the supply of basic services (coverage and quality).
4.21
In education, the quality of basic education and school effectiveness must be upgraded, especially in rural areas. The BCS-ES proposes to support implementation of the “Estrategia de Educación 2021” [2021 Education Strategy], backing the government’s efforts to expand coverage of preschool and basic education in rural areas, improving the quality of education by improving reading, writing, and maths skills, and strengthening teacher training support systems. It will also work to strengthen community involvement and gender equity. One operation that supports this strategy (Support for Educational Technologies) is already under way, and a new loan operation (Basic Education for All) is being proposed
4.22
In health and nutrition, the BCS-ES proposes to continue modernizing the Ministry of Health (MSPAS) in a move to upgrade the quality of its services by strengthening institutional capacity and implementing pilot activities to expand health service coverage through outsourcing. The IDB already has an operation under way in this area, Modernization of the Health Sector Program, which will be supplemented by a new technical-cooperation project to assist the MSPAS in designing a strategic plan for human resources in the health sector. In addition, given the close connection between health and nutrition activities and those in the area of water and sanitation, the IDB will earmark funds from the Support to Red Solidaria operation to support government actions to improve water and sanitation in rural areas. The actions in health and nutrition proposed as part of the network will be underpinned by a plan for investment in water and sanitation.
4.23
In the area of housing, the IDB will help the government achieve its goal of reducing the housing shortage through the government housing program it is now launching. The aim of the program is to strengthen institutions in the housing sector (Fondo Social de Vivienda and Vice Ministry of Urban Development), help strengthen the mortgage market through the issue of long-term bonds, and improve poor neighborhoods with direct and transparent subsidies.
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c. Improve the efficiency and transparency of governance
4.24
In this area the IDB will help the Government of El Salvador strengthen governance by: (i) improving the efficiency and transparency of the Legislative Assembly’s actions; (ii) enhancing governance at the central and local levels, while at the same time improving the purchasing and procurement systems; and (iii) strengthening the national statistics system by upgrading the Directorate of Statistics and Census (DIGESTYC), and by conducting population and housing censuses, an agricultural census, and the national family budget survey.
Inset 2: Country procurement assessment report (CPAR) and Country financial accountability assessment (CFAA) 2004. The most important recommendations of the CPAR (which was prepared jointly by the IDB and the World Bank) include: (i) approve and implement the regulations of the Public Sector Procurement and Contracting Act (LACAP) and to provide training in their application to the institutional purchasing and procurement units (UACI); (ii) review the programs for strengthening and providing comprehensive training for the UACIs, in the short and medium terms; (iii) design a plan to strengthen the Corte de Cuentas and its relationship with the institutions’ internal audit systems; (iv) continue to upgrade the electronic procurement system (launching of the payment portal and public procurement publication); (v) formulate harmonized models for the bidding documents and contracts of the different public agencies; (vi) conduct an independent technical evaluation of the turnkey contracting system; and vii) design a strategy for continuing war on corruption, as well as a detailed plan for implementing it. The principal recommendations of the CFAA (also prepared jointly by the IDB and the World Bank) for improving the performance and transparency of budget management institutions are: (i) improve and strengthen external audits of public financial statements by the Legislative Branch as a means of increasing transparency; (ii) improve the effectiveness of internal audits of public agencies and increase the number of financial reports that receive unqualified opinions; (iii) increase the coverage and quality of public financial information, especially to cover municipal finances and special off-budget funds; (iv) improve coordination between public sector reform and the processes to improve financial management, and to upgrade the technological platform of the financial management system (SAFI); (v) merge the public investment monitoring process with the budget preparation process; (vi) deepen coordination between the internal revenue, customs, and treasury departments, to facilitate a sharing of information on taxpayers and improve tax collection; and (vii) improve cash management in the public sector and move toward the centralization of payments.
4.25
51
The IDB will work in these areas through two portfolio operations (Modernization of the Legislative Branch and Local Development Program II), three technical-cooperation projects that are under way,51 two new loan operations (Local Development Program III and Strengthening of the National Statistics System), and
The Program for Transparency in the Executive Branch and Governance by Results and the technicalcooperation project Support for Preparation of the Sixth Population and Fifth Housing National Census.
- 31 -
technical-cooperation projects to strengthen the DIGESTYC and support the population and housing censuses. 4.26
In 2004, the IDB prepared (with the World Bank) the Country Financial Accountability Analysis (CFAA) and the Country Procurement Assessment Report (CPAR) (see Inset 2) to help the Salvadoran government upgrade the efficiency and transparency of public spending; it is also currently involved in an evaluation of public spending.52 In addition, to strengthen the areas of procurement and management by results, the BCS-ES proposes to help the government implement the recommendations of these studies and launch the Program to Implement the External Pillar of the Medium-term Action Plan for Development Effectiveness (PRODEV). Through PRODEV, El Salvador will receive support for strengthening its capacity in: (i) investment program planning and evaluation; (ii) project cycles, including design, execution, and monitoring; (iii) modernizing budgetary and financial processes; (iv) the procurement, audit, supervision, and control systems; and (v) information and statistics systems for management by results. These five areas of joint effort between the IDB and the Salvadoran government are outlined in Annex XIV; the action plan for initiating the activities is currently being drawn up.
C.
The 2005-2009 Operations Program a. Dimension and sequence
4.27
The Operations Program designed by the IDB for implementing its 2005-2009 Strategy proposes two loan scenarios, Base and High (see Annex I). These were determined jointly with the government to support its development efforts in the aforementioned strategic areas. The transition from the base scenario to the high scenario depends on the degree to which increases occur in the country’s fiscal capacity, improvements are made in financial supervision, and greater efficiency is achieved in the use of public resources. These two scenarios correspond to the macroeconomic scenarios of Transition to Acceleration and Structural Change, respectively.
4.28
The base scenario corresponds to the government’s fiscal projections for the public sector, which are consistent with the macroeconomic projections of the IMF and the World Bank. In this scenario, which consists of eight loans, for a total of US$380.9 million, the financial flows from the loan operations are included in the financial programming. Here, the IDB’s initial support for government efforts to spur economic growth is essentially found in the portfolio in execution, especially the Sector Program for Competitiveness Reforms, several key technical-cooperation projects to improve the investment climate, and the IDB group’s program of
52
Through a regional technical-cooperation project (Building Social Capital through Fiscal Reform) that is evaluating the efficiency of public spending in Central America.
- 32 -
operations with the private sector. These operations are intended to help draft legislation on competition, improve the efficiency of maritime and air transport, design and implement a national strategy for innovation and professional training, and strengthen the regulatory bodies in the financial system. This will make it possible to focus the base scenario’s new lending program on tackling the problems of poverty in the short and medium terms, and developing the human capital needed for sustainable economic growth. The level of economic growth assumed for this scenario, combined with the moderate increase in IDB disbursements to the public sector (to an average 0.73% of GDP during the period), and the IDB group’s work with the private sector, will make it possible to maintain a stable public sector debt ratio (all other things being equal). 4.29
A shift to the high scenario will occur as further improvements are made in the country’s fiscal capacity (through greater public sector savings), in the purchasing and procurement system, and in financial supervision. In this scenario, it is assumed that government action during the first years of the administration, combined with IDB support for improving the investment climate, successful implementation of the government’s tax reform, and a favorable external environment, will contribute greater economic growth and produce a more comfortable fiscal situation. This will open up greater fiscal opportunities in financial programming, which will be drawn on for public investment in infrastructure to promote further sustainable development. In addition to the operations of the base scenario, the high scenario includes three more loans (for US$160 million), for a total of eleven loans and US$540.9 million. The emphasis in this stage will be on financing key infrastructure works, especially at the local level and in the transport sector, and to consolidate the financial sector. Since economic growth is greater in this scenario than in the base scenario, the improved fiscal situation will heighten the government’s borrowing capacity. Thus, the public sector’s debt ratio (all other things equal) does not increase despite more financing (IDB disbursements to the public sector will average 0.80% of GDP during the period).
4.30
The “triggers” of the high scenario ensure that the lending program helps improve the country’s sovereign risk rating (maintaining the public debt ratio within reasonable bounds), fosters more efficient use of public resources, and strengthens the financial system and keeps it solvent. These triggers are: •
53
Approval in 2006 of a budget formulation policy keyed to current nonfinancial public sector savings of at least 0.5% of GDP.53 In 2004, current savings of the nonfinancial public sector (including spending on pensions) was -0.3% of GDP; thus, this goal represents a net fiscal effort of 0.8% of GDP.
Current savings of this amount corresponds to a nonfinancial public sector deficit of 2.3% of GDP, including the cost of transition to a new pension system.
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4.31
•
Further progress made to implement the principal recommendations of the CPAR and CFAA, including at least more progress in complying with recommendations (i) and (iv) of the CPAR, which are summarized in Inset 2.
•
Delivery to the Legislative Assembly of the Financial Supervision Act, which takes into account the recommendations of the Financial Sector Assessment Program (FSAP) regarding consolidated supervision and the strengthening of banking supervision.
These triggers are consistent with the government’s fiscal policy and will ensure that the IDB loan program offers the country incentives to maintain fiscal discipline (without affecting public investment decisions). They will also promote efficient use of public resources and further consolidate the financial system, thus preserving investor confidence in the country’s macroeconomic situation. b. Financial impact of the flows of resources
4.32
The net flow of loans in the two scenarios represents on average a 10.4% annual change in the country’s outstanding debt in the base scenario, and 12.5% in the high scenario. Therefore, they will not significantly affect the country’s net debt level or its repayment capacity. This is because of El Salvador’s low level of total debt and external debt (one of the lowest in the Central American region), and because of the country’s preferred access to international capital markets.
4.33
In addition, since repayments and interests are on an ascending curve because the loans are maturing, the IDB’s net flow of resources with the country are negative during the three last years of both scenarios. Even so, the average absolute value of the net flows of resources is just 0.21% of GDP in the base scenario and 0.15% in the high scenario, representing therefore a very small portion of the country’s financing requirements (4.6% and 3.6% of GDP on average for the Base and high scenarios, respectively). Hence the IDB’s net financial ratio with the country will not adversely affect debt sustainability nor the country’s future repayment capacity. On the contrary, projections of the net flows of resources during the period considered in the strategy will make El Salvador a net payor with the IDB (see Table IV-1 and Annex VI). The Salvadoran government is aware of this situation and has taken into account the financing requirements in its financial planning.
- 34 -
Table IV-1 Exposure indicators (in US$ million) Item
Base Scenario 2004
Approvals1 Disbursements1 Repayments2 Net flow of loans Interest and charges2 Net flow Total debt with IDB IDB exposure (<18%) External debt service/exports Debt service IDB2/exports (<8%) Debt service IDB2/External debt service2(<30%) Total public debt3 (US$ million)
High scenario
2006 110.0 187.6 89.0 98.6 68.9 29.7 1,764.4 2.5% 25.0%
2007 145.0 147.9 97.0 50.9 71.0 -20.1 1,815.3 2.5% 22.4%
2008
2009
52.2 78.0 -25.8 55.4 -81.2 1,615.2 2.6% 21.1%
2005 125.9 132.4 81.8 50.6 55.2 -4.6 1,665.8 2.5% 20.9%
93.0 114.0 -21.0 74.9 -95.9 1,804.1 2.2% 20.0%
2005 125.9 132.4 81.8 50.6 55.2 -4.6 1,665.8 2.5% 20.3%
2006 110.0 187.6 89.0 98.6 68.9 29.7 1,764.4 2.5% 24.2%
2007 145.0 147.9 97.0 50.9 71.0 -20.1 1,815.3 2.5% 21.1%
2008 150.0 124.8 106.0 18.8 75.0 -56.2 1,834.1 2.4% 19.1%
2009 10.0 151.0 114.0 37.0 76.6 -39.6 1,871.1 2.3% 18.5%
115.8 106.0 9.8 73.8 -64.0 1,825.1 2.3% 20.6%
4.1%
4.2%
4.6%
4.6%
4.6%
4.6%
4.2%
4.5%
4.5%
4.5%
4.4%
19.7%
20.1%
18.3%
20.7%
22.5%
23.0%
20.5%
18.6%
21.2%
23.4%
23.6%
6,041
6,802
7,247
7,660
7,975
8,238
6,688
7,116
7,457
7,716
8,102
Source: 1 COF/CES and RE2/OD3 projections based on BCS-ES (base or high) scenario 2 Ministry of Finance projections 3 Nonfinancial public sector debt. Ministry of Finance projections
c. Instruments
4.34
Based on the IDB’s experience in El Salvador54 and the capacity of the country’s executing agencies, it was decided that investment loans and policy-based loans (PBL) would be the most suitable instruments for implementing the BCS-ES (see Annexes I and II). Investment loans will be used for infrastructure projects, with the multiphase arrangement in at least one of them. In social sector projects, the sectorwide approach (SWAp) will be used to harmonize the activities of donors and reduce transaction costs.55 Policy-based loans will be used to encourage reforms. Moreover, as the IDB group’s operations in support of the private sector will play a key role, a series of operations are planned by the PRI, the IIC, the MIF, and the SEP, which will use the various facilities at their disposal. d. Country Financing Parameters
4.35
According to the new IDB financing policies approved in early 2005, Country Financing Parameters (CFPs) are established on a case-by-case basis in accordance with the situation of each country. This represents an effort to adjust expenditure eligibility to specific needs rather than applying a “one-size-fits-all” approach. The
54
Investment loans and sector loans have been very successful in El Salvador. An analysis of their implementation and impact can be found in section III of this document and in Annex XII.
55
This is the case of the Social Safety net project, which is being implemented jointly with the World Bank using the SWAp approach.
- 35 -
country financing parameters for El Salvador, as set out in document GN-2331-5, were adjusted and adapted to the IDB using the parameters formulated by the World Bank (El Salvador’s Country Financing Parameters are detailed in Annex V).56 As to the financing matrix or shared costs, the IDB can finance up to 100% of the costs of individual operations. For recurrent costs, the IDB may finance such expenses for specific projects, if so requested by the government. The IDB will analyze the short- and medium-term impact on the fiscal situation and on indebtedness to determine whether they can be financed and, if so, to what extent, on a case-by-case basis. The IDB can finance local costs in foreign exchange, at the request of the country, if the expenses are eligible. No policy restrictions apply, except expenditure eligibility, when a project’s local costs are financed with local currency. Lastly, taxes and rates are considered to be reasonable and nondiscriminatory in El Salvador, which means they can be covered by IDB financing. D.
Monitoring indicators for the Strategy
4.36
To facilitate the evaluation process, strategic indicators have been devised for each guideline of the BCS-ES. These indicators, set out in the IDB Strategy Matrix and in Annex XI, are of two types: (i) those corresponding to the IDB, which have to do with programming and facilitate the evaluation of IDB actions to implement the proposed strategy (detailed in Annex XI); and (ii) those corresponding to the country, which track longer-term phenomena and serve to ascertain the Bank’s contribution to achieving important goals in the country. The IDB indicators are intermediate in nature, and support the broader government indicators and the Millennium Development Goals, which are long term.
4.37
The IDB’s indicators were chosen and defined, insofar as was possible, as outcome indicators. They are fundamentally linked to the expected outcomes of projects planned or under way in each strategic area. Indicators of greater coverage and impact were selected for the country indicators; they are linked to the MDGs and to the results of the present administration’s most important economic and social policies. The choice of the MDG as indicators of achievement for the Government of El Salvador demonstrates its firm commitment to attaining those goals.
E.
Risks for implementing the strategy
4.38
The principal risks of the strategy are political, macroeconomic, external, and environmental in nature.
4.39
Political risk. The principal risk for implementing the BCS-ES is the relative strength of the different parties in the Legislative Assembly and their willingness to
56
The Country Financing Parameters for El Salvador were approved by the Manager of RE2 on 17 May 2005.
- 36 -
build political consensus with the Executive Branch on matters of national interest. The complex process of negotiation between the Executive Branch and the Legislative Assembly to achieve parliamentary approval/ratification held up the governmentâ&#x20AC;&#x2122;s efforts to move important public sector reforms forward and to secure approval of international loans.57 This situation poses a risk to implementation of the BCS-ES. While the government was able to advance several important legislative initiatives in 2004 (including further reforms to the pension system, tax reform, and approval of CAFTA-DR), the uncertainty surrounding parliamentary approval may hinder government action. The outcome of the forthcoming legislative elections (slated for March 2006) will also be important to the BCS-ES since it will change the composition of the Legislative Assembly for the May 2006April 2009 term, and will therefore have an impact on Bank operations. Although this risk can be partially mitigated through political agreements reached between the Executive Branch and the Legislative Assembly on the technical and financial content of individual projects, it cannot be eliminated entirely. Political agreements and commitments are by definition unstable, and approval of previously negotiated operations cannot be guaranteed. 4.40
Macroeconomic risk. This risk is associated with the economic policies implemented by the Government of El Salvador. If the continued improvement in the countryâ&#x20AC;&#x2122;s fiscal situation founders without progress in the capture of tax revenues, the macroeconomic situation could become a source of risk. However, the government is committed to maintaining macroeconomic stability, as evident from the advances in financial and fiscal policies. The necessary studies are being designed (with nonfinancial products) within the framework of the BCS-ES to help the government consolidate fiscal stability and maintain a macroeconomic environment that is consistent with the objectives of the BCS-ES.
4.41
External risk. Developments in the external situation can impact negatively on El Salvador, which would affect the success of the country strategy. Possible sources of external risk are the unrestricted entry of Asian textiles into the North American market, rising oil prices and international interest rates, and a slowdown in world economic growth. The impact of these three factors on the growth of Salvadoran exports, private investment (domestic and foreign), and the direction of capital flows could have a significant impact on the achievement of BCS-ES objectives. In an effort to contain the impact of possible external shocks to a manageable level, the IDB will support the government in maintaining a healthy fiscal situation; it will also promote diversification of exports and help develop a sound and well-supervised financial system so as not to affect the sovereign risk rating of Salvadoran debt.
57
During 2000 and 2001 as many as eight Bank projects were held up in the approval/ratification process by the Legislative Assembly. In addition, the 2004 Fiscal Budget was approved by the Legislative Assembly in late June 2004, more than six months after the expected approval date.
- 37 -
4.42
Environmental risk. El Salvador’s vulnerability to natural disasters is a contingent risk that could affect fiscal accounts, its competitive position, and the social situation; it would have a significant impact on the BCS-ES because of the need to reorient operations. To mitigate this risk the country strategy proposes to strengthen the government’s capacity to prevent and mitigate natural catastrophes.
F.
Coordination with other donor agencies
4.43
The main coordination effort associated with the BCS-ES concerns the program of loans and nonfinancial activities making up the World Bank’s recently approved Country Assistance Strategy (CAS). The World Bank’s program will rest on: (i) accelerating sustained, broad-based growth and job creation; (ii) increasing equity by strengthening human capital and expanding access to socioeconomic infrastructure and markets; and (iii) improving legal certainty and personal security by reducing social and institutional vulnerability. It will make use of two types of operations: development policy loans (DPLs) and investment loans, for up to a total of US$580 million during the period. These operations dovetail well with the program being designed by the IDB for the term of the BCS-ES, especially in connection with education and the social safety net, which will be designed jointly by the two institutions. The Support to Red Solidaria operation will be designed as a SWAp operation, and will have a joint project team and a single project document. The sector analysis for the education sector will be coordinated between the two institutions, with the IDB working in basic education (Basic Education for All) and the World Bank on secondary education. Lastly, the World Bank’s DPLs will promote improvements in the tax ratio and in the country’s competitiveness, while the IDB’s PBLs will focus on reforming the social sector and the financial system.
G.
Country Dialogue Program
4.44
Under the BCS-ES, various mechanisms will be used to maintain a fluid dialogue with the country on public policies. The main objectives of this dialogue are to: (i) make sure the Bank’s strategy continues to focus on the country’s priorities; (ii) ensure the government commitment to the operations program, and facilitate the continuity and sustainability of IDB operations so they have the expected impact on development; and (iii) monitor implementation of the country strategy to ensure satisfactory implementation.
4.45
Regular IDB mechanisms for fostering dialogue include: quarterly and annual portfolio reviews; sector missions and special workshops; project administration missions; annual updates of the operations program; and midterm evaluation of strategy implementation. The topics for the dialogue include: (a) progress made to strengthen the fiscal situation; (b) strategy for moving to free trade conditions and for implementing trade agreements; (c) implementation of the Facility for the Business Climate Initiative and monitoring of specific activities in accordance with
- 38 -
the Guidelines for Strategic Partnerships with the Private Sector described in this BCS-ES; and d) other topics that may arise during the dialogue between the Government of El Salvador and the IDB.
Annex I Page 1 of 4
BANK OPERATIONAL PROGRAM FOR 2005-2009 LOAN PROGRAM (MILLIONS OF US$)
Project
Scenario Base
High
2005-2006 ES-L1001 ES-L1003 ES-L1002 ES-0160 ES-0159 ES-0140
Multiphase Program for Sustainable Roads in Rural Areas - Phase II Strengthening of the National Statistics System Support to “Red Solidaria” (SWAp) Strengthening of the University of El Salvador-UES Basic Education for All Social Sector Reform Program (PBL)*
55.4
55.4
13.5 57.0 25.0 85.0 100.0
13.5 57.0 25.0 85.0 100.0
5.0 40.0 -
5.0 40.0 50.0 10.0 100.0
2007-2009 ES-L1004 ES-0153 S/N ES-0154 ES-0125
Natural Disaster Prevention Rural Electrification Local Development Program III (FISDL) Urban Transport Integrated System Modernization of Financial Sector Program (PBL)* Total 2005-2009
*
The PBL Programs will be subject to the IDB’s lending framework.
380.9
540.9
Annex I Page 2 of 4
PRIVATE SECTOR GROUP 2005-2009 (MILLIONS OF US$) Project PRI Partial Credit Guarantee for Banco de Comercio Mortgage Bond Program (2004) Development of Oceanic Digital Communications mobile telecommunications network Partial Credit Guarantee Operations to support bond Issues in the local capital markets* Creation of the Central American Infrastructure Investment Fund (Regional) Construction of power generation facilities* Support for the capital expenditures associated with a Transportation concession* Total PRI IIC Pro-Credit Expansion (2004) Project with Financial Institutions* Project with Energy Sector* Total IIC MIF Promoting Migrant Investment in SMEs Strengthening the Ports and Maritime Authority Enterprise Development with Technological Base MIF Delegation Facility to COF/CES Secure Transactions to Facilitate Access to Credit for SMEs Technical Assistance to Exporting SMEs (Regional) Facility to Business Climate Initiative (Regional) Total MIF SEP Local economic development of Nonualcos and RĂo Grande de San Miguel Commonwealths (FUNDE)* Incorporating Young People at Risk into Productive Chain Competitive Handcraft Value chain (MOJE)* Support of Waste Management Micro enterprises in Valle de San AndrĂŠs (FUSAI)* Rural Consolidation of Small Farmers Enterprises CREA (CRS)* Total SEP * Projects in the initial stage of identification
Amount 20,0 25,0 45,0 2,0 2,0 0,40 0,50 2,00 0,75 0,70 4,35 0,91 0,41 0,33 0,67 2,32
Annex I Page 3 of 4
TECHNICAL COOPERATION PROGRAM FOR 2005 (THOUSANDS OF US$) Number Objective I
Title
Amount
Promote sustainable economic growth by increasing competitiveness
ES-T1027
Strengthening of Technical and Management Capacity of Policies and Strategies (FSO)
130.0
ES-T1026
Support to Competitiveness and Innovation (FSO)
145.0
ES-T1016
145.0
ES-T1028 ES-T1023
Institutional Strengthening of the DYGESTIC (FSO) Strengthening and Institutional Development of the MINTRAB according to ISO 9001:2000 standards (FSO) Support for the Free Competition Superintendence (FSO) Strengthening of the Consumer Protection Agency (FSO)
145.0 130.0
ES-T1021
Overcoming Barriers in Family Micro-Ranching (TC Funds)
130.0
ES-T1130
Studies on Dam Safety for Hydroelectric Power Plants (TC Funds)
199.0
ES-T1024
Objective II ES-T1025 ES-T1022 ES-T1019 ES-T1031 ES-T1032 ES-T1033 ES-T1035
130.0
Strengthen human capital and improve opportunities for the poorest segments of the population Support to the Strategic Plan for Human Resources Development in Health (FSO) Red Solidaria Evaluation (FSO) National Education Plan 2021 (TC Funds) Corporate Social Responsibility in the Education Sector (TC Funds) Social Inclusion in the Social Protection Net (TC Funds) Monitoring of Millennium Development Goals and Local Development (TC Funds) Community Building through Opportunities for At-Risk Youth (TC Funds) TOTAL
145.0 145.0 90.0 60.0 130.0 65.0 150.0 1,939.0
Annex I Page 4 of 4
NONFINANCIAL PRODUCTS AND ANALYSIS REPORTS 2004-2005 Documents and Analysis
Year
Responsible Unit
Fiscal Sustainability Analysis Tax Policy Diagnostic and Options for Reform
2004 2004
OD3 AER
Country Financial Accountability Analysis (CFAA, BID/BM)
2004
SC2
Country Procurement Assessment Report (CPAR, BID/BM)
2004
SC2
How to recover growth
2004
AER
Policy Dialogue Paper: Accelerating growth
2004
OD3
Strategic Guidelines to Support Private Sector Rural Economy and CAFTA
2005 2005
FI2 EN2
Country Environmental Analysis: Competitiveness and Sustainable Development
2005
EN2
Remittances, Poverty and Income Distribution in ES
2006
SO2
Public Expenditure Analysis in El Salvador
2005
AER
Competitiveness of New Sectors and Products in El Salvador
2006
OD3
Policy Dialogue Meeting
2004
OD3
Social Policy Dialogue Meeting
2005
SO2
Country Environmental Analysis Meeting
2005
EN2
Meetings