PROJECT INFORMATION DOCUMENT (PID)
APPRAISAL STAGE
Report No.: AB5517
Project Name
/ Local Government Strengthening ProjectRegion / LATIN AMERICA AND CARIBBEAN
Sector / Public administration- Finance (50%);Sub-national government administration (50%)
Project ID / P118026
Borrower(s) / REPUBLIC OF EL SALVADOR
Secretariat of the Presidency for Strategic Issues
El Salvador
Implementing Agency
Subsecretariat of Territorial and Local Development
Secretaria de Asuntos Estrategicos
Alameda Manuel Enrique Araujo 5500
San Salvador
El Salvador
Tel: (503) 224-9178
Salvadoran Institute for Municipal Development
El Salvador
Environment Category / [ ] A [X] B [ ] C [ ] FI [ ] TBD (to be determined)
Date PID Prepared / April 14 , 2010
Date of Appraisal Authorization / April 15, 2010
Date of Board Approval / May 27, 2010
1. Country and sector issues
Short-run challenges for local government development.
1. Over the last years the economic performance of El Salvador has remained stable, which entailed significant macroeconomic and social achievements. During the period of 2005-2008, El Salvador registered an average growth rate of 3.68 percent compared with 2.05 percent during 2001-2004. However, the global crisis starting in 2008 is showing effects on the country performance mainly caused by a decline in total exports, domestic investment and remittances income. In 2008, the GDP growth rate declined from 4.7 percent in 2007 to 2.5 percent and in 2009, 2.6 percent lower. On the fiscal front, in 2009, the tax revenues declined by 11 percent and the fiscal deficit increased by 5 percent of GDP, in contrast with the 3.1 percent deficit level registered in 2008.
2. The economic deceleration caused by the global crisis, has started to revert many of past year’s achievements in terms of poverty reduction. Between 2001 and 2007, poverty sustainably declined from levels of 43.6 to 35.5 percent. By 2008, overall poverty increased to 42.3 percent, close to the levels observed in 2001.
3. The financial crisis has also showed its effects at the municipal level. Government revenues have decreased because of the financial crisis which affected the global economy the second half of 2008 and 2009. Municipal governments have registered a loss in income of more than 15 percent in 2009. The municipalities responded to this shortfall in revenues by primarily reducing investments in service delivery infrastructure by 20 percent. Many of the municipalities are in debt and a large portion of central transfers are being used for debt service. These factors combined mean that municipalities have less money to spend on service delivery investments.
4. Decentralization service delivery needs continue to be significant. Half of the country’s houses do not have water connection and a million families (two thirds of the population) do not have sewer systems. Distance to paved roads for the poorest people living in rural areas exceeds 5 km, which doubles the distance for non-poor families.[1] In a municipal diagnostic of a representative sample of municipalities in the country, carried out for the preparation of the proposed Project, the top priorities identified by communities were improving access to potable water, rural roads, electricity and the installation of local sewer systems.
5. Country Disaster Risk Profile. El Salvador has the second highest economic risk exposure to two or more hazards, according to the Natural Disaster Hotspot study by the World Bank[2]. The number of natural disasters in El Salvador has dramatically increased during the period of 1997-2007. A total of 21 events were recorded, representing 53 percent of all natural disasters of the last 100 years. Five events (23 percent) had a geophysical origin, while the remaining 16 (76 percent) were hydro-meteorological. According to the Ministry of the Environment and Natural Resources (MARN)’s Division of National Service of Territorial Studies (D-SNET), economic losses directly linked to catastrophic events during the last 30 years amounted to almost US$4 billion. About 41 percent of the Salvadoran population resides in municipalities exposed to high risk of natural disasters (i.e. those municipalities that were affected during the period of 1980 to 2007 by three or more natural hazards: earthquakes, floods, storms, and droughts). These municipalities also concentrate 74 percent of disaster-related fatalities. During this period, there was an average of 1.5 disasters per year. Most municipalities are ill equipped to deal with natural disasters and do not have the capacity, tools and mechanisms for disaster risk management.
Medium-term challenges for local government development.
6. Historically in El Salvador, most of the public services, investments and resources have been highly centralized. From 1998, local governments started to have a more important role, but not sufficient, to cover the needs of their local populations in terms of investment and local service provision.
7. Municipalities are diverse both in terms of overall characteristics and institutional capacities. Based on a broadly accepted typology (PROMUDE-GTZ, 2007), El Salvador’s 262 municipalities are grouped into five types. Type 1 with the largest population, highest rate of urbanization and the lowest level of Unsatisfied Basic Needs down to type 5 which includes municipalities of small size, with rural population and the highest level of Unsatisfied Basic Needs. In general, municipalities’ type 1 and 2 are stronger in terms of administrative and technical capacities, whereas municipalities’ types 3 to 5 are deficient mainly in relation to procurement, financial management and technical capacities required to prepare and execute investments.
8. In a municipal diagnostic of 10 representative municipalities from types 1 to 5 municipalities conducted as part of the preparation of this operation, the areas of greatest deficiency in municipal public management were: participatory planning; procurement and contract management; financial management; functional organization structure, stability and continuity of municipal staff, transparency and internal processes and procedures; and capacity in designing, preparing and executing municipal development projects (See Annex 1 and 15).
Long-term challenges for local government development.
9. In the last 10 years, El Salvador has made important attempts to reform the public sector focusing on the modernization of the state. The new government is in the process of preparing a public sector and a decentralization strategy. Some of the current challenges to be considered by these strategies are: (a) the existing confusion in the administrative functions and responsibilities of the different levels of central and municipal governments in the Municipal and sectoral laws; (b) lack of clarity on expenditures assignations; (c) lack of information of the efficiency of the services provided by the national and municipal governments at the local level; (d) appropriate distribution formula of transfers to the local governments; and (e) the difficulty to guarantee that the national objectives are compatible at the sub-national level.
10. Municipal fiscal dependency and weak revenue autonomy. There is a lack of revenue autonomy at the municipal level and a large dependency on transfers. The current system of transfers is characterized by the dominance of FODES, the revenue sharing mechanism of the government. Currently the funding rule for FODES is 7 percent of central government’s current revenues and the funds are distributed according to a formula with four variables: population (50 percent), equal share[3] (25 percent), poverty measure (20 percent), and land area (5 percent). The population and poverty variables are weighted and so the formula is heavily biased in favor of smaller municipalities. A more efficient, accountable, and fiscally responsible decentralization system will need local governments (particularly in larger urban areas) with sources of own revenues such as the property tax (impuesto predial). El Salvador is among the very few countries in Latin America where this tax has not been assigned to local governments.
2. Rationale for Bank involvement
11. The rationale for Bank involvement is based on the following Project related aspects:
(a) The Project builds on the Bank’s knowledge and experience with regional and international good practices. The Bank has brought to bear on Project design its knowledge and experience regarding local government strengthening including participatory planning, disaster response and mitigation, and decentralization, from its analytical and project work in Latin America (Dominican Republic, Nicaragua, Mexico, Bolivia, Peru, Brazil, Chile), in Asia (India, Philippines), and Africa (Ethiopia, Senegal, Rwanda and Guinea).
(b) The Project dovetails and expands on efforts by the donor community to assist government in the decentralization process. Initiatives supported by other donors, specifically the Spanish, German and US Governments have brought about lessons learned from experience and helped establish improvements in local government management processes. The Project builds on these lessons and processes, and provides an opportunity for the GoES to consolidate the various methodologies previously used, refine approaches, broaden the scope and scale up those initiatives.
3. Higher level objectives to which the project contributes
12. The proposed Project is fully consistent with The World Bank Group’s Country Partnership Strategy (CPS) FY 2010-2012 (Report #50642-ES) discussed by the Executive Directors on October 29, 2009. The project specifically contributes to two of the strategic objectives of the CPS: (a) strengthen fundamentals for economic recovery by addressing macro and institutional vulnerabilities; and (b) increase economic opportunities, particularly for the poor. The Project will support these objectives by: promoting investment in key basic services areas identified and prioritized by communities via a municipal participatory planning process for local development; and improving local government core processes, systems and capacity to improve service delivery in the medium and long term and improve disaster risk management.
13. The Project supports the new administration’s focus on public sector and institutional development by strengthening local government’s public financial management (PFM) and increasing the transparency of local government spending.
4. Project development objective and key indicators
14. The project development objective is to improve the administrative, financial and technical processes, systems and capacity of local governments to deliver priority basic services in the medium and long-term.
15. Project Development Objective (PDO) Indicators. Annex 3 presents the Project results framework, including the indicators for the Project. For participating local governments, the expected outcomes at the end of the Project are:
(a) Locally defined and prioritized investments are financed by the Project and implemented, in accordance with fiduciary and safeguards policies as well as national standards;
(b) Participating local governments produce financial reports in accordance with acceptable auditing standards and timely budget reports;
(c) Municipalities receiving advanced TA progress by at least one capacity category on areas for which they received TA;
(d) Participating local governments have adopted and are using transparent, standardized and efficient budgeting processes, FM, procurement and safeguards procedures as specified in local FM, procurement, and safeguards procedures manual;
(e) Local governments are regularly requesting municipal administration support from ISDEM, and ISDEM is responding in a timely manner; and
(f) National risk management policy and decentralization strategy established.
5. Project description
16. The Project will finance local government investments in all 262 municipalities within the country, defined and prioritized by communities and municipal leaders, which would contribute to improving access of the population to needed basic public services. GoES is responding to a request from municipal authorities to compensate for the financial gap of the 262 municipalities caused by the financial crisis. The Project will finance, through conditional grants, an equivalent amount of about two percent of the current revenues of the national budget that the central government provides to municipalities. The grant would be distributed using the existing FODES formula for distribution, which is already widely accepted and well known by local authorities.
17. The Government wants this grant to be a one-time increase in revenues for municipalities (not a long-term liability on central resources) and has indicated that any future increase in the 7 percent fiscal transfer would be based on clarification of local and national government responsibilities, competencies as defined in the Municipal Code and Sectoral Laws and budget envelopes established for local service provisions. The government wants to define and identify more precisely the responsibilities assigned to municipalities under the decentralization process which has evolved over the last eight years.
18. Allocation of grant resources equates to a range of US$52,000 to US$736,000 available to municipalities for basic service provision investments. The distribution means that 6 percent of municipalities (17) would receive above US$400,000, 29 percent (76) would receive between US$200,000 and $399,000, 44 percent (115) would receive between US$100,000 - US$200,000 and 21 percent (54) would receive less than US$99,000 (see Appendix 1 of Annex 1 for a detailed listing of amounts allocated to each municipality).
19. The grant resources would be disbursed in two tranches. Municipalities will establish a separate restricted account for the project which requires a signature from FISDL to access the funds. Resources will be directly transferred from the Ministry of Finance (MH) to the municipalities. The first transfer would be 50 percent of the assigned transfer to municipalities along with an amount for pre-investment (US$27.75 million - US$25 million for grants and US$2.75 for pre-investment). The pre-investment would be equal to 5 percent of the total grant amount to be received from the project for municipalities receiving more than US$100,000 and those municipalities receiving less than US$100,000 will receive a 10% equivalent transfer for a total of US$2.75 million. The second disbursement would be for the remaining 50 percent of the entire grant amount (US$25 million) and would be made as soon as the Designated Account has been replenished which would be within the first six month of Project effectiveness.
20. Eligibility criteria. Specific fiduciary, safeguards and technical criteria would need to be met for all expenditures. These criteria would be confirmed by FISDL and included in the Operations Manual. In order for the municipalities to receive the first transfer and access the pre-investment resources, they need to meet the following criteria: (a) open a separate and restricted (third signature) project bank account; (b) take the mandatory procurement, financial management, environmental and social safeguards training (24 training sessions of three days will be held in four regions over a two month period); and (c) signed a project agreement with an initial estimate of investments to be financed by the project and commitment to maintain and operate the investments.