Cambodia - Economic Rehabilitation Credit Project

Document of The World Bank FOR OFFICIAL USE ONLY Report No. 17210 IMPLEMENTATION COMPLETION REPORT CAMBODIA ECONOMIC REHABILITATION CREDIT Credit No. 278 1-KH December 15, 1997 South East Asia & Mongolia Country Unit East Asia & Pacific Region This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS Currency Unit = Cambodian Riel (R) At appraisal = US$1 = 2400 Riel At completion = US$1 = 2600 Riel WEIGHTS AND MEASURES Metric System FISCAL YEAR January 1 - December 31 ABBREVIATION AND ACRONYMS ADB Asian Development Bank CIB Camnbodian Investment Board CMEA Council of Mutual Economic Assistance ERC Economic Rehabilitation Credit ERP Emergency Rehabilitation Project ESAF Enhanced Structural Adjustment Facility ICORC International Committee for the Reconstruction of Cambodia IDA International Development Association IDF Institutional Development Fund IMF International Monetary Fund MEF Ministry of Economy and Finance NBC National Bank of Carnbodia NGO Non-Government Organization NPIMS National Public Investment Management System PFP Policy Framework Paper PMU Project Management Unit SAC Structural Adjustment Credit SIDA Swedish International Development Agency SDR Special Drawing Rights STF Systemic Transformation Facility TA Technical Assistance UNTAC United Nations Transitional Authonty m Cambodia Vice President Jean-Michel Severino, EAP Director Ngozi Okonjo-Iweala, EACSM Task Manager: Guy Darlan, EACSM  FOR OFFICIAL USE ONLY TABLE OF CONTENTS P reface .. .................. ..1.1......... ....................... . ... ..... Evaluation Summary .... ............. ................................................................. v PART I: PROJECT IMPLEMENTATION ASSESSMENT A. Project Objectives 1 B. Relevance of Project Design .4 C Achievement of Objectives .5 D. Implementation Record and Major Factors Affecting the Project. 6 E Project Sustainability .................. ................................. 6 F Borrower Performance .7 G Bank Performance .7 H. Assessment of Outcome .8 I. Future Operations .9 J. Key Lessons Learned .................. . 9 PART II: STATISTICAL INFORMATION Table 1: Summary of Assessments .......................................... 11 Table 2. Related Bank Operations .......................................... 12 Table 3: Project Timetable .......................................... 13 Table 4. Credit Disbursements .......................................... 13 Table 5-6: Key Indicators for Project Implementation and Operation 14 Table 7: Studies under the Project .......................................... 16 Table 8: Project Costs and Financing .......................................... 17 Table 9: Economic Cost and Benefits .......................................... 18 Table 10: Status of Legal Covenants .......................................... 18 Table 11: Compliance with Operational Manual Statements ........... 18 Table 12: Bank Resources: Staff Inputs .......................................... 19 Table 13 Bank Resources: Missions .......................................... 20 APPENDICES Appendix A: Completion Mission Aide Memoire ............................................ 21 Appendix B: Borrower's Evaluation Report submitted as a contribution to the Implementation Completion Report .................. ................ 22 This document has a restricted distribution and may be used by recipients only in the perfonnance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.   iii IMPLEMENTATION COMPLETION REPORT CAMBODIA ECONOMIC REHABILITATION PROJECT CREDIT No. 2781-KH PREFACE This is the Implementation Completion Report (ICR) for the Cambodia Economic Rehabilitation Credit (Credit 2781-KH) in the amount of SDR 25.4 million, which was approved on September 28, 1995 and made effective on December 18, 1995. The Credit was supplemented by a grant from Sweden managed by the Bank. The Credit was closed on June 30, 1997, as originally scheduled. It was fully disbursed and the final disbursement took place on February 6, 1997. The ICR was prepared by Mr. Guy Darlan (EACSM) and Ms. Annie Green (EASPR), and was reviewed by Ms. Ngozi Okonjo-Iweala (Country Director, EACSM) and Mr. Roland K. Peters (Principal Econornist, EASPR). The borrower conducted a separate evaluation of the project and provided a copy of the evaluation report to the Bank. This report is included as Appendix B. Preparation of this ICR was based on material in the project file and completed during the Bank's completion mission in October 1997. During that mission the Borrower commented on the draft ICR.   v IMPLEMENTATION COMPLETION REPORT CAMBODIA ECONOMIC REHABILITATION CREDIT (Credit No. 2781-KH) EVALUATION SUMMARY Introduction (i) In the early 1990s, after nearly 20 years of war, internal strife, social upheaval, and a command economy, Cambodia embarked on a rehabilitation and reconstruction program in its transition to a market economy. International support to the country resumed after the October 1991 Paris Peace Accords; it was first limited to the resettlement of refugees and internally displaced persons, and the preparation of national elections. After the May 1993 elections organized by the United Nations Transitional Authority in Cambodia (UNTAC), a coalition government was established. International support to Cambodia spread to all aspects of economic and social reconstruction, although it continued to be of an emergency nature. By mid-1995, economic assistance pledged to the country had reached $2 billion. The World Bank contributed to this international effort through an Emergency Rehabilitation Project (ERP, Cr. 2550-KH), followed by this Economic Rehabilitation Credit. The Economic Rehabilitation Project (ERC) (ii) The ERC was designed to provide quick-disbursing balance of payments support to Cambodia at a time when donor assistance was disbursing very slowly. When the ERC was considered, the IMF had a three-year Enhanced Structural Adjustment Facility (ESAF) in place. The ERC was prepared in the context of the reform program outlined in the 1994-96 Policy Framework Paper (PFP). (iii) The ERC was consistent with the Bank's policy on economic rehabilitation credits. It was extended in support of an economic reform program; however, the release of funds was not tied to specific policy-based conditions. Instead, the Bank was to monitor the reform program set forth in the Government's Statement of Development Policy annexed to the Report and Recommendation of the President of IDA to the Board. If, during the implementation of the operation, the Bank determined that the program, or a significant part of it, was not being carried out, Credit disbursement could be suspended. (iv) The ERC was meant to be an intermediate step between the emergency rehabilitation credit and structural adjustment lending. The Bank elected to provide balance of payments support in the form of an economic rehabilitation credit rather than a structural adjustment credit because of the continuing fragile political situation and institutional inadequacies in Cambodia. However, the Bank knew that the ERC alone could not provide the support needed by the Government to implement its program,  vi mainly because of weak implementation capacity, and the lack of dated covenants and specific conditions of disbursement. The Bank therefore prepared a Technical Assistance Project (Cr. 2664-KH) that provided the direct support required in most areas of the program supported by the ERC. Project Objectives (v) The ERC had three objectives. The overall objective was to assist Cambodia's recovery and its continued transition to a market economy. More specifically, the ERC was to support the Government's effort to stabilize the economy, finance the balance of payments without jeopardizing future creditworthiness, and support growth. The government program supported by the Credit fell into three broad areas: macroeconomic policy, administrative reform, and private sector development. Second, the ERC was to provide quick-disbursing balance of payments support to Cambodia at a time when donor assistance was disbursing very slowly. And third, the counterpart funds generated by the Credit would be utilized in budgets agreed with the Government in the context of PFP negotiations. This would make it possible for the Government to: (i) increase public expenditures on health, education, and other social programs; (ii) fully finance the Government's counterpart contribution to donor-funded development projects; and (iii) finance priority investments carried out by the Government, without donor assistance, in the provinces. Consistent with the nature of economic rehabilitation credits--or structural adjustment credits, for that matter--counterpart funds were not earmarked. It was nevertheless expected that they would increase the amount of resources available to the Government to finance the type of expenditures listed above. Implementation Experience (vi) The project substantially achieved its agreed objectives. Most of the measures/targets identified under the Statement of Development Policy were satisfactorily met. Financial stabilization was taking hold, as inflation was dramatically reduced and the balance of payments was being financed without jeopardizing future creditworthiness. Progress was also made in the transition toward a market-oriented economy. Second, the ERC provided the bridge financing that was needed to help sustain the stabilization program: the Credit met about 60 percent of Cambodia's budgetary support requirements. Finally, the ERC resources helped the Government significantly increase its expenditures for social programs, counterpart obligations, and productive investments. (vii) Based on the progress made by the Government in carrying out its program, the Bank fully disbursed its own Credit (about $40 million) and Sweden's grant (about $5.5 million). The IDA Credit was disbursed smoothly, over a shorter period than anticipated (13 months vs. 18 months). During the ERC disbursement period, from December 1995 to January 1997, the Government kept the program outlined in the Statement of Development Policy generally on track. Slippages did occur, notably in civil service reform and resource mobilization but, overall, the program was kept on track.  vii Borrower Performance (viii) Borrower performance was satisfactory. With regard to processing and management of the operation, the Borrower was diligent and efficient. Staff attribute the relative speed in project preparation to the Borrower's commitment to the IDA program and its responsiveness to staff requests. The Project Management Unit (PMU) set up for the Technical Assistance Project also managed the ERC and did so efficiently. Regarding implementation of the program supported by the Credit, Cambodia was making remarkable progress toward economic reform while the Credit was still disbursing (see Annex Table 5-6). Bank Performance (ix) Measured in terms of responsiveness to Cambodia's needs, Bank performance was highly satisfactory, as indicated in the Government's own review of this operation. One of the key elements in the Bank's program to implement its assistance strategy in this country's post-conflict situation was to provide balance of payments and budget support while measures were being taken to improve other donors' capacity to implement development programs and release aid disbursements The ERC was therefore a key component of that strategy. (x) Bank performance regarding processing and supervision was satisfactory. The Credit was processed faster than the Emergency Rehabilitation Project, and faster than the departmental average. Bank supervision was carried out through ERC supervision missions as well as joint IMF/World Bank PFP monitoring missions. A total of 4 missions took place over the relatively short period of ERC implementation (13 months), and there was no turnover of Bank staff during preparation and implementation of the operation, which provided the needed continuity in project supervision. Sustainability (xi) The Government had great difficulty sustaining financial stabilization after the ERC stopped disbursing. The ERC was successful in supporting the Government's effort to stabilize the economy, finance balance of payments without jeopardizing future creditworthiness, and provide budget support through counterpart funding. However, toward the end of the ERC period there were concerns regarding macroeconomic stabilization. These early signs of difficulty became more visible in 1997, after the ERC had been fully disbursed. (xii) For the stabilization program to be sustained, the Government needed to urgently undertake the second round of reforms that had been envisaged in the PFP. The plan was to support the deepening of the reform process with a follow-up Structural Adjustment Credit (SAC), with dated covenants and specific conditions of disbursement. Unfortunately, the Government had difficulty meeting the conditions for a SAC. This situation was compounded by the political events of July 1997, when one leader of the  viii coalition government was ousted by the other. A stable political environment and key actions to improve economic governance will be necessary preparatory steps for a SAC. Key Lessons Learned (xiii) The ERC for Cambodia yielded three main lessons: * An ERC is most effective when used as an intermediate step to a policy-based structural adjustment operation. * An ERC is also most effective when accompanied by a Technical Assistance Project. * The link between the ERC and the IMF program, although weak, is extremely useful.  1 IMPLEMENTATION COMPLETION REPORT CAMBODIA ECONOMIC REHABILITATION CREDIT (Credit NO. 2781-KH) PART I - PROJECT IMPLEMENTATION ASSESSMENT A. PROJECT OBJECTIVES The Setting 1. After the defeat of the Khmer Rouge regime in 1979, and a change in government, reforms began, albeit still within an overall context of central planning. It was not until 1989 that a process of market-oriented liberalization was initiated. As a result, the economic environment began to improve at the beginning of the 1990s. Although the initial results of the market-oriented reforms had been globally positive, these reforms had yet to yield their full benefits on the internal and external balance when the Royal Government was established in 1993. The transition from a command economy to an open market system had not been well coordinated. A clear government policy had been missing, as well as a trained civil service. Equally essential to the transition, but clearly missing, was a functioning and effective legal framework attuned to the needs of a private enterprise system. 2. In September 1993, following the free elections of May 1993 and three months of an interim government, the Royal Government of Cambodia was established. The new government called on the World Bank and the IMF to help strengthen and develop the reform program. With respect to capacity building and emergency assistance, the Bank responded by providing technical assistance through an IDF grant--followed by an IDA Technical Assistance (TA) Project--and by extending a $62.7 million credit to finance an Emergency Rehabilitation Project. The ERP's main objectives were to: (i) allow for essential repairs and rehabilitation in infrastructure, agriculture, and social sectors; and (ii) provide budget support. When the budget support provided under the ERP was fully disbursed, the Bank followed up with the ERC. The IMF provided assistance through a Systemic Transformation Facility (STF). In this context, together with the IMF, the Bank negotiated a PFP with the Government on the basis of which the IMF approved a three- year ESAF arrangement of SDR 84 million in May 1994 in support of the Government's stabilization program for the period 1994-96. The ESAF arrangement replaced the STF arrangement. Project Objectives 3. The ERC had three objectives. First, the overall objective was to assist Cambodia's recovery and its continued transition to a market economy. This was to be  2 achieved through the implementation of the reform program outlined in the Statement of Development Policy annexed to the MOP. The Statement contained many of the measures agreed with the IMF and the Bank in the context of the 1994-96 PFP. Second, the ERC was intended to provide quick-disbursing balance of payments support to Cambodia at a time when donor assistance was disbursing very slowly. Potentially, the large commitments made by donors at the 1993 and 1994 meetings of the International Committee for the Reconstruction of Cambodia (ICORC) could provide the medium-term financing required for Cambodia's reconstruction. However, donors had difficulty disbursing their funds, owing partly to the Government's weak implementation capacity and partly to donors' lack of knowledge of and experience in Cambodia. While measures were being taken to improve the Government's and the donors' collective capacity to implement effective development programs and speed up aid disbursements, Cambodia's balance of payments and budget financing needs could not be met. In concert with other donors, IDA provided quick-disbursing balance of payments financing, starting in 1994 under the ERP, and continued to do so through the ERC. IDA's effort was meant to be consistent with reasonable burden sharing And third, the counterpart funds generated by the Credit would be utilized in budgets agreed with the Government in the context of PFP negotiations. The Credit would thereby make it possible for the Government to increase public expenditures on social programs; fully finance the Government's counterpart contribution to donor-funded development projects; and finance priority investments carried out by the Government without donor assistance. 4. As it was described in the Statement of Development Policy, the government program supported by the Credit fell into three broad areas: macroeconomic policy, private sector development, and administrative reform. Whereas the ERC could only provide indirect support to the government program, the companion TA Project provided direct support--albeit limited--in program preparation and implementation. Macroeconomic Policy 5. The Government's strategy was to maintain macroeconomic stability mainly through: (i) continued fiscal restraint backed by transparent budget procedures; (ii) an expanding public investment program aimed at reconstruction, supported by aid financing; (iii) and a conservative monetary policy. 6. Budgetary Policy. The maintenance of budgetary balance depended on a substantial increase in revenue and tight control over expenditures. With regard to revenue increase, the main measures were. increasing customs duties on petroleum products; harmonizing the turnover tax with consumption tax; continuing to strengthen the Tax and Customs administrations, and initiating the first phase of the tax reform To, effectively control expenditures, the Government would need to find ways to limit defense expenditures. In this regard, the Government had started implementing a military reform designed to reduce the size of the armed forces. Another key measure was to assign Ministry of Economy and Finance (MEF) controllers to the Ministry of Defense to help prepare procurement and pay expenses directly to the suppliers. Achieving the budgetary  3 targets required technical assistance from the World Bank, the IMF, and other donors. The Bank delivered its assistance through the TA Project which was instrumental in strengthening: the budget preparation capacity of MEF, technical ministries, and provinces; budget monitoring and control mechanisms; procurement procedures, including at the Ministry of Defense; and Treasury cash management functions. 7. Public Investment. The degree of success of the Government's reconstruction program and the rate at which it would be implemented depended heavily on improving investment programming at the national level. To properly mobilize the resources needed to sustain the recovery process, the Government was taking the necessary steps to build capacity for policy formulation, macroeconomic analysis, and aid coordination. Key measures were to adopt a National Public Investment Management System (NPIMS) and to strengthen MEF capacity to prepare and manage the public investment budget. The TA Project played the lead role in helping to implement these measures. 8. Monetary Policy. Monetary policy in 1995 aimed at curbing inflation. Toward that end, a significant decline in liquidity growth was targeted, the increase in net credit from the banking system to the Government was limited to 0.2 percent of GDP, and bank lending to public enterprises would also be limited. This tight fiscal position would permit a significant increase in commercial credit to the private sector. Private Sector Development and Privatization 9. The Cambodian Government fully realized that the complex task of reconstruction and development could not be achieved through an exclusive reliance on the public sector and that the potential of the private sector had to be harnessed more fully to meet the development needs of Cambodian society and reduce poverty. The Government further realized that privatization of public enterprises was potentially one of the ways to augment the role of the private sector. The Government had just adopted a position paper on privatization providing broad guidelines for divestiture. Measures to rehabilitate the public enterprise sector included the establishment of a new legal framework for state- owned enterprises and the state with a view to identifying the responsibilities and obligations of both sides. Under this framework, ministries would no longer undertake commercial activities and the autonomy of state-owned enterprises would be ensured. The Government also set out to offer KAMPEXIM (trading company) and CKC (petroleum distribution company) for sale. The TA Project provided assistance to the Government by financing the services of an international expert to help carry out the public enterprise reform and privatization program. 10. Given the recent history of Cambodia, the country's existing legal and regulatory framework was exceedingly weak. The legal environment specific for business and investment was particularly deficient. The key measures adopted by the Government to address this situation were to: promulgate the Code of Commerce; enact the implementing regulations of the investment law; and organize the Cambodian Investment Board (CIB) as a "one-stop" service agency.  4 Administrative Reform 11. Cambodia's public administration suffered from a severe shortage of skills owing to the elimination and emigration of the educated during the 1970s and the subsequent isolation from external aid, as well as the inadequacy of middle management skills resulting from a total lack of formal education during the 1970s. To address this situation, the Government adopted a comprehensive and ambitious administrative reform that included reforming civil service management. In that context, the Government intended to reduce the size of the civil service by 20 percent by 1997. This implied the preparation and implementation of departure schemes. At the Government's request, the TA Project resources were mobilized to help prepare the strategy to reduce the number of staff in the civil service. Several options of departure schemes were developed with the help of international experts. B. RELEVANCE OF PROJECT DESIGN 12. The ERC design was appropriate. It was consistent with the Bank's policy on economic rehabilitation credits. The Credit was extended in support of an economic reform program supported by the IMF. However, the release of funds was not tied to specific policy-based conditions. Instead, the Bank would monitor the reform program set forth in the Government's Statement of Development Policy annexed to the MOP for the ERC. If, during the implementation of the operation, the Bank determined that the program, or a significant part of it, was not being carried out, Credit disbursement could be suspended The ERC would finance general imports of goods to meet part of Cambodia's short-term external financing requirements. Both private and public sector imports were eligible for financing, subject to a positive list. 13. The ERC was meant to be an intermediate step between the emergency rehabilitation credit and structural adjustment lending. The Bank elected to provide balance of payments support in the form of an economic rehabilitation credit rather than a structural adjustment credit because of the continuing fragile political situation and institutional inadequacies in Cambodia. At the time the ERC was approved in September 1995, the Region's expectation that the Government would carry out the agenda outlined in the Statement of Development Policy appeared realistic. Macroeconomic performance had been very good. Some of the policy shortfalls up to that time, such as control over the size of the civil service, could be accounted for by the exigencies of coalition politics. The coalition arrangements--two prime ministers, and ministries headed by a minister from one of the two main parties and vice minister from the other--were tense, but working. During the Board discussion on the ERC, some Executive Directors argued that the Bank may miss the opportunity created by Cambodia's heavy dependence on IDA credits for budget support by not making use of conditionalities to press for greater progress on structural reforms. But most Executive Directors agreed with the Region that SAC-type conditionality was not realistic because of institutional weaknesses; a general Statement of  5 Development Policy could be relied upon to serve as a flexible proxy standing in for the fixed targets required by the SAC format. 14. With hindsight, the reasons the Region offered for not applying conditionalities appeared reasonable and are worth noting for the general problem of how to use conditionality in any country's early post-conflict period where reestablished governance is fragile and unpredictable. In the absence of good data or in-depth analysis on many issues, it was not possible to have a high degree of confidence in the direction the Government should go. The Government might fail to meet some conditions which would turn out to be non-critical. In such a case, the Bank might have painted itself into a corner, forced into a suspension of disbursements that would have affected other policy areas that did turn out to be critical and where performance was satisfactory. The civil service downsizing is a good example. Had the Credit included that specific condition, disbursement would have been suspended when it turned out that downsizing was a political non-starter, and arguably not a critical requirement for the rest of the program in the short run. C. ACHIEVEMENT OF OBJECTIVES 15. The project substantially achieved its agreed objectives. First, the findings of the supervision missions led to the conclusion that most of the measures/targets identified under the Statement of Development Policy of the ERC had been, or were being, satisfactorily met. The exceptions were: reaching the target for local revenue and reducing the size of the civil service.' Financial stabilization was taking hold and the economy expanded at an annual rate of 6 percent from 1993 to 1996. Inflation was dramatically reduced and the balance of payments was being financed without jeopardizing future creditworthiness. Progress was also made in the transition towards a market- oriented economy: a two-tier banking system was being put in place and new large denomination banknotes were introduced to promote "de-dollarization"; most non-tariff barriers were eliminated; the tariff structure was streamlined; key public enterprises were privatized; a liberal foreign investment law was adopted; and the spread between the official and parallel market exchange rates had almost been eliminated. This rather remarkable achievement in macroeconomic stabilization notwithstanding, there remained fundamental disequilibria in the budgetary situation and the balance of payments, which were disguised by a high level of financial support from the international community. The Bank and IMF missions warned that the macroeconomic situation was not sustainable in the medium term unless strong efforts in domestic resource mobilization were made through implementing a comprehensive tax reform. The missions also pointed out that insufficient accountability remained in awarding concessions in forestry and in channeling revenues derived from the export of logs through the national budget. At first, the mission determined that the projected increase in expenditures for social programs had not taken place, but the Government later showed that this was not the case. The increase, particularly in health expenditures, was significant and was therefore judged satisfactory.  6 16. Second, as expected, the ERC did provide the necessary balance of payments financing needed by the Government before other donors could speed up their disbursements. ERC disbursements met about 60 percent of Cambodia's budgetary support requirements. They made it easier for the Government to meet the quantitative benchmarks related to these two performance criteria of the IMF program: "Net bank credit to finance the budget" and "Net official foreign reserves". 17. And third, the counterpart funds generated by the Credit boosted government revenues and made it possible for the Government to: increase public expenditures on health and other social programs; finance the Government's counterpart contribution to donor-funded development projects; and finance priority investments carried out by the Government, without donor assistance. D. IMPLEMENTATION RECORD AND MAJOR FACTORS AFFECTING THE PROJECT 18. Based of the progress made by the Government in carrying out its program, the Bank fully disbursed its own Credit (about $40 million) and Sweden's grant (about $5.5 million). During the ERC disbursement period, from December 1995 to January 1997, the Government kept the program generally on track. Slippages did occur, in civil service reform and resource mobilization but, overall, the program described in the Statement of Development Policy was being implemented successfully. The IDA Credit was disbursed over a shorter period than anticipated (13 months vs. 18 months). 19. It is interesting to note, however, that Board presentation of the ERC was postponed from June 1995 to September 1995 when doubts appeared about whether the macroeconomic situation was under control. The amount of external debt contracted by the Government on commercial terms in 1994 meant that the Government was not in fact carrying out the program described in the Statement of Development Policy, and delayed the finalization of the Second-Year PFP. The issues were the Government's inability to control external debt contracting by the Cambodian military, and the lack of clear debt accounting. This was satisfactorily resolved: the Ministry of Finance was given sole authority for external borrowing, and adjustments to the 1995 budget were made to deal with the debt. As a result, the Second-year PFP was finalized, which allowed the Board to approve the ERC. E. PROJECT SUSTAINABILITY 20. After the ERC stopped disbursing, the Government had difficulty sustaining financial stabilization. The ERC was successful in supporting the Government's effort to stabilize the economy, finance balance of payments without jeopardizing future creditworthiness, and provide budget support through counterpart funding. However,  7 toward the end of the ERC period, there were concerns regarding macroeconomic stabilization. These early signs of difficulty became more visible in 1997, after the ERC had been fully disbursed. The Government's revenue effort was inadequate, and as the budget support provided by the ERC was no longer available, this necessitated a severe compression of current expenditures. This compression fell disproportionally on public operational expenditures and economic infrastructure, because of continued high defense and security expenditures. 21. For the stabilization program to be sustained, the Government needed urgently to undertake the second round of reforms that had been envisaged in the PFP. The most important measures sought to achieve a substantial increase in government revenue through strengthening the tax and customs administrations, comprehensive tax reform, channeling log export revenues through the national budget, and control over tax exemptions to foreign investors. The deepening of the reform process would have helped sustain the achievements under the ERC. The Bank was ready to support such deepening with a follow-up SAC, which could have given the Government the time it needed to implement the measures and reach the revenue targets. The Government has repeatedly asked for preparation of a SAC since July 1996. Unfortunately, it has not been able to meet the conditions for a SAC, for two sets of reasons. First, in the first part of 1997, the Government failed to show a real commitment to revitalize the revenue collection effort. Furthermore, its management of Cambodia's forest resources has yet to produce tangible results in the control of logging activities and granting of forest concessions. For similar reasons, the EMF ESAF program lapsed in August 1997. Second, the political situation that has resulted from the violent events of July 1997 in Cambodia is now making it impossible to proceed with a SAC. A stable political environment and key actions to improve economic governance will be necessary preparatory steps for a SAC. F. BORROWER PERFORMANCE 22. Borrower performance was satisfactory. With regard to processing and management of the operation, the Borrower was diligent and efficient. Staff attribute the relative speed in project preparation to the Borrower's commitment to the IDA program and its responsiveness to staff requests. The PMU set up for the Technical Assistance Project also managed the ERC and did so efficiently. The speed with which the Credit was disbursed is indicative of the PMU's efficiency. Regarding implementation of the program supported by the Credit, Cambodia was making remarkable progress toward economic reform while the Credit was still disbursing (see Annex Table 5-6). There were slippages during the life of the ERC, but they did not affect Credit disbursement. G. BANK PERFORMANCE 23. Measured in terms of responsiveness to Cambodia's needs, Bank performance was highly satisfactory. The Bank's assistance strategy for Cambodia, as articulated in the first  8 Country Assistance Strategy (Report No. 14465-KH, May 1995), was directed at restoring growth and supporting Cambodia's transition to a market economy. One of the key elements in the Bank's program to implement that strategy in the country's post- conflict situation was to provide balance of payments and budget support, while measures were being taken to improve other donors' capacity to implement effective development programs and release aid disbursements. The ERC, complemented by the TA Project, was a key component of that strategy. Furthermore, the comerstone of Cambodia's success in reducing hyperinflation and establishing financial stabilization was the elimination of monetary financing of the budget deficit. This was achieved through substantial inflows of external budget support, of which the ERC was by far the largest source (60 percent). 24. Bank performance regarding processing and supervision was satisfactory. The ERC was processed faster than the ERP, and faster than the EAI departmental average (70 weeks vs. 97 weeks). Bank supervision was carried out through ERC supervision missions as well as joint World Bank/IME PFP monitoring missions. A total of 4 missions took place over the relatively short period of ERC implementation (13 months), and there was no turnover of Bank staff during preparation and implementation of the operation, which provided the needed continuity in project supervision. H. ASSESSMENT OF OUTCOME 25. The ERC was successful in: (i) supporting the Government's efforts to stabilize the economy and bringing about a solid growth rate during the program period; and (ii) making available to the newly elected government the resources needed to bridge the fiscal deficit and avoid monetary financing of that deficit. Macroeconomic performance in 1996 was broadly satisfactory. GDP growth for 1996 was about 6 percent, compared with the targeted 7 percent, because of the adverse impact of floods on rice production. The rate of inflation had remained under 10 percent in spite of upward pressure on food prices as a result of the floods. The exchange rate had remained stable. Gross official reserves amounted to 2.1 months of imports of goods and services, or 20 percent higher than the estimate for 1995 when measured in dollar terms. Fiscal discipline and avoidance of deficit financing through money creation remained the pillars of the Government's stabilization efforts. Finally, the Government was able to increase public expenditures on social programs, finance its counterpart contribution to donor-funded development projects, and increase priority investments carried out without donor assistance. 26. However, the ERC was also meant to buy the Borrower more time to implement the measures needed to increase domestic revenues so as to reduce the country's dependence on external budget support. Unfortunately, 1996 fiscal developments continued to show the same weakness as in the previous two years a revenue shortfall compared with the budgeted target. This led to drastic cuts in the operational expenditures of the Cambodian administration, thereby delaying the improvement in public services. To correct this situation, the Borrower will need to carry out a comprehensive tax reform, improve the tax/duty collection effort, refrain from granting excessive tax  9 exemptions to foreign private investors, and ensure that all public revenues are routed through the national budget. 27. The program weaknesses notwithstanding, the overall outcome of the operation was positive. The factors that contributed to the positive outcome were: (i) the simple design and low conditionality of the operation; (ii) the govemment commitment to implement the program; and (iii) the support provided by the companion TA Project. I. FUTURE OPERATIONS 28. The main condition for resuming preparation of an eventual follow-up SAC is for the Govermnent to negotiate a new PFP with the Bank and the Fund. This also assumes that the political situation is satisfactorily addressed. As part of the new program, the Government will need to take steps to correct the weaknesses of the previous program, namely, significantly improve revenue mobilization through tax reform and full collection of revenue from logging and log export; and ensure the sustainability of development through responsible forest management. The IDA Technical Assistance Project continues to provide support to the Government in several of the areas likely to be covered under a SAC, in particular tax reform and forest management. It could therefore play a role in reviving preparation of the SAC. J. KEY LESSONS LEARNED 29. An ERC is most effective when used as an intermediate step to a policy-based structural adjustment operation The formal conditions of a SAC provides a better tool to frame the Borrower's commitments. This is not to say that the ERC had no conditions of disbursement. The postponement of Board presentation indicated that some conditionality existed. During Board discussion of the operation, the Region in fact argued that the ERC conditionality was put into effect even before the Credit was presented for Board approval. Nevertheless, without a follow-up SAC, an ERC can be reduced to providing easy budget support. 30. An ERC is also most effective when accompanied by a Technical Assistance Project. During Board discussion on the ERC, the Region successfully argued that a low- conditionality ERC was preferable to a SAC due to the weak implementation capacity of the Cambodian Govemment and the fragile nature of the coalition govemment. To prepare for a follow-up SAC and help strengthen government capacity in key areas, the Bank and the Borrower prepared a companion Technical Assistance Project. The TA Project has played and continues to play a critical role in strengthening government capacity for macroeconomic management. It has also helped pave the way for reform in forest management, military demobilization, and private sector development by financing studies.  10 31. The link between the ERC and the IMF program, although weak, is extremely useful. The dated benchmarks of the ESAF helped complement the broadly worded covenants of the ERC. In that respect, the government implementation of the ESAF program contributed to meeting the ERC objectives. But the reverse was also true: the ERC played a critical role in helping the Government meet some of the quantitative benchmarks of the ESAF program (namely, revenue targets and external reserves). When the ERC disbursements stopped, the Government faced increasing difficulty in meeting these benchmarks  11 PART II: STATISTICAL INFORMATION Table 1: Summary of Assessments A. Achievement of obiectives Substantial Partial Negligible Not applicable Macro policies F 7l Sector policies ] El ] Financial objectives K K E] institutional development E El E Physical objectives l E l E Poverty reduction El I I Gender issues E E E [ Other social objectives El [ E [ Enviromnental objectives E E E [ Public sector management E E [II] Private sector development E El E [II Other (BOP support) K] E El E B. Proiect sustainabilitv Likely Unlikelv Uncertain C. Bank performance Highlv satisfactory Satisfactory Deficient Identification [lii| Preparation assistance | I] Appraisal Supervision L [El D. Borrower perfor ance HizhIy satisfactor Satisfactory Deficient Preparation Inplementation [ [K] Covenant compliance L El] Operation (if applicable) E. Assessment of outcome Highlv satisfactorv Satisfactory Unsatisfactory Hixhly unsatisfactory E:l El El ]  12 Table 2: Related Bank Credits Year of Loan/credit title Purpose Approval Status Preceding operations Emergency Rehabilitation Project Emergency rehabilitation and 1993 Closed budget support Technical Assistance Project Technical assistance in key 1994 Ongoing reform areas Following operations None  13 Table 3: Project Timetable Steps in project cycle Date planned Date actual Identification May 2, 1994 May 2, 1994 Preparation May 2, 1994 May 2, 1994 Appraisal October 1994 March 28, 1995 Negotiations December 1994 May 22, 1995 Board presentation February 1995 September 28, 1995 Signing April 1995 October 11, 1995 Effectiveness June 1995 December 18, 1995 Midterm review n.a. n.a. Project completion June 30, 1997 February 6, 1997 Loan closing October 31, 1997 June 30, 1997 Table 4: Credit Disbursements: Cumulative Estimated and Actual (SDR million) FY 1996 FY 1997 Appraisal estimate 12.7 12.7 Actual 17.5 7.9 Actual as percent of estimate 137.8 62.2 Date of final disbursement February 6, 1997  14 Table 5-6: Key Indicators for Project Implementation and Operation (Policy Actions) Key Implementation Indicators in President's Estimated Report Policy Area Measures Target Actual Budgetary Initiate 1st phase of tax reform 1995 Ongoin, delays. New VAT system Policy has been adopted. Implementation, initialy scheduled for Jan. 1998, will be delayed. Enact harmonization of excise 1996 Completed. Approved in the duty rates Revised Financial Law for 1995 passed by National Assembly on August 30, 1996. Assign MEF Financial July 1995 Completed. Financial controllers Controllers to Ministry of had been assigned to all ministries Defense, Education, Health, and by July 1996. Foreign Affairs to establish and implement expenditure control and procurement procedures. Issue decree announcing September Completed. Decree signed July competitive bidding for 1995 1995. government projects and contracts Foreign Debt Reschedule debt and strengthen Ongoing Done. Paris Club rescheduling took Policy debt management. Prepare for place. Paris Club debt rescheduling. Establish Debt Management Unit From Sept. Completed in 1996 in MEF 1995 Non-accumulation of new Throughout Observed. external payments arrears. the program Public Prepare a master plan for July 1995 Done. Irnplementation of the Investment National Public Investment NPIMS was announced at the July Program Management System (NPIMS) 1996 CG Meeting. Establish a system of regular December Completed, November 1996. reporting and monitoring of 1995 foreign investment PE Reform Adopt a regulatory framework for July 1995 Completed. and PEs Privatization Offer the trading company December Partially completed. Sale of CKC KAMPEXIM, and the petroleum 1995 to private firm SOKIMEX distribution company, CKC, for approved by Council of Ministers; sale proposal under consideration for KAMPEXIM.  15 Announce timetable for December Completed. List approved by the privatization of additional PEs 1995 Council of Ministers on July 1, during 1995, and finalize the list 1996. of firms to be pnvatized by end- September. Administrative Prepare a strategy and several by March Completed. The study was Reform options to help reduce the number 1996 completed in April and presented in of civil servants by 20 % by May 1996. 1997. Implement departure scheme. by end-1997 Not observed. Military Prepare a Cambodian Veterans by end-1997 Completed. The study was Demobilization Assistance Program (CVAP) to completed in April 1996 and be submitted to donors for presented in May 1996. assistance. Table 5-6: Key Indicators for Project Implementation and Operation (Project Management) Key Implementation Indicators in President's Estimated Actual Report target Establish and maintain Project Management Unit By Board date Done. and throughout project life. II. Other Indicators Not applicable.  16 Table 7: Studies Under the Project Study Purpose as defined at Status Impact of study appraisal/redefined Public Investment Prepare a master plan for Completed CDC, Ministry of Finance, Ministry of Program National Public Investment Planning, and Line Ministry now have System a framework within which to prepare PIP and set priorities PE Reform Adopt a regulatory Completed Enterprises that remain in public framework for PEs domain now have a set of basic rules by which they must be governed. Private Sector Studies for privatization of Completed The studies facilitated the privatization Development KAMPEXIM and CKC of these public companies. Civil Service Prepare a strategy and Completed However, the Government did not Reform several options to reduce the implement the recommendations of the number of civil servants study. The reduction targets were not met. Military Prepare a Cambodian Completed However, implementation of the CVAP Demobilization Veterans Assistance Program has yet to start, mamily due to donor (CVAP) to be submitted to withdrawal following July 1997 events. donors for assistance. Forest Prepare a revised forest Completed, Should help manage forest resources. Management management code with delays However, to be effective this code must wait for the results of four ongomg forest management studies. Prepare four forestry studies Ongoing; to help m concession international management, policy reform, consultants and logging control and log are carrying export monitoring out the studies  17 Table 8A: Project Costs Appraisal estimate (US$M) Actual estimate (US$M) Local Foreign Local Foreign Source costs costs Total costs costs Total IDA 40 40 40 40 Table 8B: Project Financing Appraisal estimate (US$M) Actual estimate (US$M) Local Foreign Local Foreign Source costs costs Total costs costs Total IDA 40 40 40 40 SIDA 5.5 5.5 5.5 5.5 Total 45.5 45.5 45.5 45.5 Note: Figures are rounded.  18 Table 9: Economic Costs and Benefits Not applicable Table 10: Status of Legal Covenants Cove- Original Revised Description nant Present fulfill- fulfill- of Agreement Section type status ment ment covenant Comments date date DCA for 3 02 1 C October Maintenance of PMU established ERP dated 11,1995 PMU withn MEF under earlier November with necessary project. Took 5, 1993 staffing, functions over ERC and resources and responsibilities on charge PMU with effectiveness of overall the project. PMU supervision of provided monthly project reports of implementation implementation activities throughout project period until June 30, 1997 DCA for 3.04 1 C June 30, Maintenance of Annual Audit ERP dated 1996 records and reports received November accounts. Audits on June 30, 1996 5, 1993 of records and and June 30, 1997 accounts Table 11: Compliance with Operations Manual Statements No significant variance with the Operations Manual Statements based on documents in the project file.  19 Table 12: Bank Resources: Staff Inputs Stage of Planned Revised Actual project cycle Weeks US$ (000) Weeks US$ (000) Weeks US$ (000) Through Appraisal 0.0 0.0 0.0 0.0 14.7 51.2 Appraisal - Board 2.5 12.5 1.9 5.7 5.9 36.0 Supervision 18.5 41.3 23.2 55.3 16.6 45.5 Completion 9.5 29.0 9.5 29.0 9.5 29.0 TOTAL 30.5 82.8 34.6 90.0 46.7 161.7  20 Table 13: Bank Resources: Missions Performance Rating Specialized Number Days staff Implemen- Develop- Types Stage of Month/ of in skills tation ment of project cycle year persons field represented status objectives problems Through Appraisal July 1994 3 8 E, LEG Appraisal through Nov. 1994 3 8 E, LEG Board approval Board approval - - - through effectiveness Supervision Feb. 1996 3 3 E, A HS HS July 1996 1 3 E S S Nov. 1996 1 3 E S S Completion Feb. 1997 1 5 E 1. Specialization 2. Performance Rating 3. Types of Problems E = Economist HS = Highly satisfactory F = Financial A = Administration S = Satisfactory T = Technical U = Unsatisfactory M = Managerial  21 Appendix A CAMBODIA Project Completion Mission under Cr. 2781-KH A Bank mission visited Cambodia in February 1997 and again in October 1997 to help prepare the project for closing. A number of Cambodian Government officials were interviewed during that last visit. They gave their opinions on the project and the services it rendered. Their observations are contained in this report. The missions left no formal Aide-Memoire. Instead a first draft of this ICR was prepared and given to the Government for comments. The Government also conducted a separate evaluation of the project and provided a copy of the evaluation report to the Bank. This report is included as Appendix B.  22 Appendix B CAMBODIA GOVERNMENT'S EVALUATION REPORT OF CREDIT 2781-KH Submitted as a Contribution to the Implementation Completion Report The Economic Recovery Credit (IDA 2781-KH) was used by the Royal Government of Cambodia in the National Budget with an amount of USD 40 million (equivalent to Riel 95 billion) to achieve economic stabilization and systematic reform in Cambodia during October 1995 to January 1997. In addition to this credit, on February 15, 1996, the Royal Government of Cambodia signed with the Government of Sweden an agreement on balance of payments support in the amount of SEK 40 million (equivalent to USD 6 million) as a grant to support the ongoing economic rehabilitation program in Cambodia. This amount was disbursed by the World Bank. These funds have constituted a non-qualified budget support, not bound to any specific project However, they contributed to the overall internal and external revenues of the Government to cover the budget expenditures. During the first year of the public finance reforms (1994-96), the budget support disbursed by the World Bank was used for: * balancing the current budget deficit which stood at -1.3%, -0.82% and -1,26% respectively of GDP during the three years; * strengthening the public investments under this budget for: construction and completion for rehabilitation of the runways at Pochentong, Siem Reap and Battambang airports, renovation of roads and bridges in the provinces, and especially the construction of the "Bailey" bridges, construction and rehabilitation of school and hospital buildings located in the provinces, drilling of water wells in the provinces, renewal of equipment and materials, especially equipment for the rehabilitation of the National Roads and equipment for telecommunications; * Allowing the Royal Government to cover its responsibilities for financing local costs for investment linked to direct foreign aid, as the counterpart funds, particularly for the World Bank and Asian Development Bank projects; * facilitating the depreciation of the internal debt; and  23 * helping the Royal Government to achieve some ESAF criteria "benchmarks" with IMF, especially the net foreign reserves increase by 49% and budgetary revenues by 6 5% in 1996 in comparison with 1995 year For the year of 1996, the ERC and Swedish funds (around USD 46 million) contributed to: * finance 50 % of annual budgetary support; * cover 72 % of current budgetary deficit, * finance 120 % of public investments for the local financing through the local expenses of investments financed by foreign aid. Therefore, the ERC fund with the support of ESAF-IMF played an important role, in order to consolidate macro-economic balance, assistance of monetary financing of the budget, keeping inflation at low levels, stabilization of USD/Riel parity and for promoting the growth and the development for long term and sound economic fundamentals. Similarly, the ERC funds have allowed to initiate slightly, but efficiently the readjustment of priorities for the public expenditures, by focusing on the social sector, particularly health, increasing in comparison with GDP, from 0.36% in 1995 to 0.52% in 1996. It is estimated to reach 1% of the GDP in the year 2000. Furthermore, due to ERC availability, budget expenditures could be assured for the health sector at the district level to fight against major diseases and for ensuring the supply of drugs and the campaign for basic health.