Report and Recommendation of the President to the Board of Directors

Project Number: 41373 September 2010

Proposed Loan and Grant for Subprogram 2, and Grant Assistance Kingdom of Cambodia: Public Financial Management for Rural Development Program

CURRENCY EQUIVALENTS (as of 25 August 2010)

Currency Unit – riel (KR)

KR1.00 = $0.00024 $1.00 = KR4,239

ABBREVIATIONS

ADB – Asian Development Bank APR – audit peer review CAR – Council for Administrative Reforms CFBA – Commission on Finance, Banking and Audit CSP – country strategy and program DIC – Department of Investment and Cooperation FMM – financial management manual GDP – gross domestic product GGF – good governance framework MAFF – Ministry of Agriculture, Forestry, and Fisheries IRRPP – implementing rules and regulations for public procurement MAFF – Ministry of Agriculture, Forestry, and Fisheries MEF – Ministry of Economy and Finance MOWRAM – Ministry of Water Resources and Meteorology MRD – Ministry of Rural Development NAA – National Audit Authority NPAR – National Public Administration Reform NZOAG – New Zealand Office of the Auditor General NSDP – National Strategic Development Plan PAM – project administration manual PFM – public financial management PFMRDP – Public Financial Management for Rural Development Program PFMRP – Public Financial Management Reform Program PFSL – Public Financial System Law PPPF – post-program partnership framework SOP – standard operating procedure TA – technical assistance

NOTES

(i) The fiscal year (FY) of the Government of Cambodia and its agencies ends on 31 December. FY before a calendar year denotes the year in which the fiscal year ends, e.g., FY2010 ends on 31 December 2010.

(ii) In this report, "$" refers to US dollars.

Vice-President C. Lawrence Greenwood, Jr., Operations 2 Director General K. Senga, Southeast Asia Department (SERD) Director J. Ahmed, Financial Sector, Public Management, and Trade Division, SERD Team leader P. Jena, Senior Governance Specialist, SERD Team members F. Ahmed, Principal Results Management Specialist, Strategy and Policy

Department E. Ginting, Senior Country Economist, Indonesia Resident Mission, SERD R. Hattari, Economist (Fiscal Management), SERD S. Ismail, Trade and Finance Specialist, SERD J. Mendez-Santos, Administrative Assistant, SERD C. Ouch, Program Officer, Cambodia Resident Mission, SERD R. O’Sullivan, Principal Counsel, Office of the General Counsel E. Talja, Associate Project Analyst, SERD Peer Reviewer S. Shresta, Governance and Capacity Development Specialist, Regional and

Sustainable Development Department In preparing any country program or strategy, financing any project, or by making any designation of or reference to a particular territory or geographic area in this document, the Asian Development Bank does not intend to make any judgments as to the legal or other status of any territory or area.

CONTENTS Page

PROJECT AT A GLANCE

I. THE PROPOSAL 1 II. THE PROGRAM 1

A. Rationale 1 B. Impact and Outcome 3 C. Outputs 3 D. Program Costs and Financing 6 E. Implementation Arrangements 6

III. GRANT ASSISTANCE FOR CAPACITY DEVELOPMENT 7 IV. DUE DILIGENCE 9 V. ASSURANCES 10 VI. RECOMMENDATION 10 APPENDIX 1. Design and Monitoring Framework 11 2. List of Linked Documents 14 3. Development Policy Letter 15 4. Policy Matrix 19

PROJECT AT A GLANCE 1. Project Name: Public Financial Management for Rural Development Program (subprogram 2) 2. Project Number: 41373-05-2 41373-04-2 41373-01-3 3. Country: Cambodia 4. Department/Division: Southeast Asia Department Financial Sector, Public Management, and Trade Division 5. Sector Classification

Sectors Primary Subsectors Public Sector Management Public expenditure and fiscal management Agriculture and natural resources Agriculture production and markets Agriculture and rural sector development Fishery Forestry Irrigation, drainage, and flood protection Land-based natural resources management Livestock Water-based natural resources management

6. Thematic Classification: Themes Primary Subthemes Capacity development Institutional development

Economic growth

Widening access to markets and economic opportunities Promoting economic efficiency and enabling business environment

Environmental sustainability Natural resources conservation

Governance Public administration (national, decentralized, and regional)

6a. Climate Change Impact: 6b. Gender Mainstreaming:

Adaptation Mitigation

Gender equity theme Effective gender mainstreaming

7. Targeting Classification: 8. Local Impact: Targeted Intervention Rural High

Urban National High Regional

General Intervention Geographic

dimensions of inclusive growth

Millennium Development

Goals

Income Poverty at Household

Level

9. Project Risk Categorization: Low 10. Safeguard Categorization:

Environment C Involuntary resettlement C Indigenous peoples C

11. ADB Financing: Sovereign/Nonsovereign Modality Source Amount ($ million)

Sovereign Project grant Asian Development Fund 5.0 Sovereign Program loan Asian Development Fund 10.0 Sovereign Program grant Asian Development Fund 10.0 Total 25.0

12. Cofinancing: No Cofinancing available 13. Counterpart Financing:

Source Amount ($ million) Government 0.5

14. Aid Effectiveness: Parallel project implementation unit Yes Program-based approach Yes

I. THE PROPOSAL

1. I submit for your approval the following report and recommendation on (i) a proposed loan, and (ii) a proposed grant, both to the Kingdom of Cambodia, for subprogram 2 of the Public Financial Management for Rural Development Program (PFMRDP); and (iii) a proposed grant for institutional and capacity building.

2. The program’s objective is to assist in implementing public financial management (PFM) reforms in three rural development ministries, including support to strengthen the capacity of the National Audit Authority (NAA). The program and related project will improve the overall governance framework and support government efforts to meet PFM benchmarks essential to allocating resources efficiently and managing expenditures effectively, transparently, and accountably.

II. THE PROGRAM

A. Rationale

3. High rural poverty. In Cambodia, 85% of the population lives in rural areas, where the main source of livelihood and income is agriculture. About 73.5% of agricultural workers in rural areas are women. The recent robust economic growth reduced the overall poverty rate from 47.0% in 1997 to 27.5% in 2008. However, the incidence of rural poverty is 35% compared with 22% in urban areas. Rural poor have limited access to basic goods and services. Only about 16% of rural households have effective irrigation systems and only about 25% have access to improved water sources. 4. Agriculture is essential to rural development. Employing 70% of the rural population and accounting for about one-third of gross domestic product (GDP), agriculture is an important source of jobs, enterprise formation, and poverty reduction. However, the sector remains vulnerable to external shocks and unfavorable weather conditions. The potential of the agriculture sector needs to be developed, and investment in sector infrastructure is required to improve productivity and reduce the vulnerability of rural populations to the effects of climate change. Cambodia’s agriculture is characterized by lower inputs in terms of fertilizers, machinery, irrigation, and extension services than its neighboring countries. This reflects the low level of private and public investment as well as external financing. Despite significant increases since 1993,1 Cambodia’s rice yield remains the lowest in the region. While agriculture accounts for 59% of all employment, agro-industry provides less than 1% of total employment and accounts for only 1.9% of GDP. Cambodia’s share of agriculture value added in GDP has declined since 1993 because of the expansion of the industry and service sectors. The global economic crisis is exacerbating the vulnerability of Cambodia's narrow economic base, which relies heavily on the garment industry, tourism services, and construction.2 Climate change is having a significant impact on agriculture and natural resources. 3 Improvements in water productivity will likely be vital for Cambodia, because rainfall will be more variable and its spatial distribution will be changed. Better water harvesting, storage, and management will be needed.

1 The yield was 2.75 tons per hectare in 2008. 2 These account for 42% of non-agriculture GDP. 3 R. Wassmann, Y. Hosen, and K. Sumpleth. 2009. Agriculture and Climate Change: An Agenda for Negotiation in

Copenhagen (for Food, Agriculture, and the Environment Overview). International Food Policy Research Institute. Washington D. C. (May).

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5. Rural development is a government priority. Growth in rural areas is a key thrust of the government's development strategy. Much more investment in the sector will be needed to raise agriculture productivity, but line ministries are underfunded and institutionally weak. The government's sector-related strategies and programs target implementing the Rectangular Strategy to promote rural development and help achieve the Millennium Development Goals.4 The three line ministries that support rural development in Cambodia—the Ministry of Rural Development (MRD); the Ministry of Agriculture, Forestry and Fisheries (MAFF); and the Ministry of Water Resources and Meteorology (MOWRAM)—are among the most underfunded. This hinders the delivery of services to the poor. At about 11.5% of GDP, government revenue is lower than in other developing countries in Asia (16.0% of GDP). Accurately estimating what portion of public resources goes to rural development or the rural population is very difficult. However, about 3.3% of recurrent budget allocations are provided to the three ministries (known as the rural development ministries), an increase from 0.5% in the mid-1990s. While the level of expenditure has increased from the 1990s, the resources allocated to this sector continue to be insufficient. Spending on agriculture by development partners has also been low, generally about $30 million–$40 million of a total of $500 million–600 million (or 5%–7%). 6. Underfunded budgets exacerbate public expenditure inefficiencies. The three program ministries use an incremental approach to planning and budgeting that limits their expenditures to new and predominantly investment projects financed by development partners. They suffer from weak coordination mechanisms within and across ministries, and tend to operate within “policy silos". Despite recent initiatives, such as the joint strategic plan for water and agriculture, policies overlap in many areas. Furthermore, the 2003 and the ongoing 2010 integrated fiduciary assessment and public expenditure review, and the 2007 governance risk assessments of the MRD and the MOWRAM, stressed the need for substantial improvements in the institutions, processes, and capabilities relating to PFM. 7. Public financial management and rural development. Reducing poverty requires appropriate policies and institutions, including the identification of poverty-reducing spending in the budget. At the same time, links with PFM—as a major crosscutting agenda—need to be strengthened. Sustaining rapid economic growth over the long term will require economic diversification and closer links between the agriculture and service sectors. These include (i) reforms in agriculture; (ii) increases in public capital spending; and (iii) PFM reforms. Therefore, the institutional framework supporting rural development requires sustained support in PFM mechanisms. In an effort to establish an effective and efficient PFM system, the government instituted the multistage Public Financial Management Reform Program (PFMRP). The initial activities targeted strengthening budget credibility, including budget comprehensiveness, and aggregate realism, the budget cycle, cash management and predictability of cash releases (platform 1). Later platforms are intended to address financial accountability, policy based budgeting and accountability for performance.5 With a 10-year planning and implementation horizon, the PFMRP is being supported through a sector-wide approach with financing from a number of development partners, primarily through a multi-donor trust fund. In the three program ministries, it will be important to build commensurate capacity by prioritizing the rollout of the training program and other measures designed under the PFMRP.

4 Government of Cambodia, 2008. Rectangular Strategy for Growth, Employment, Equity and Efficiency (Phase 2).

Phnom Penh; Government of Cambodia. 2008. National Strategic Development Plan (NSDP, 2006–2010). Phnom Penh; Government of Cambodia. 2008. NSDP Update, 2009–2013; and the Strategy for Agriculture and Water, 2006–1010. Phnom Penh.

5 In Cambodia, the concept of stages was introduced. Stage one dealt primarily with platform 1, but included some preparatory activities for later platforms. See Sector Assessment (Summary): Public Sector Management (Appendix 2).

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8. Public financial management to support good governance. ADB's support for the PFMRP in rural development is consistent with the priorities of the country strategy and program for Cambodia and ADB's Second Governance and Anticorruption Action Plan, which has PFM and procurement as central themes for improving governance. 6 In addition, to maximize harmonization and government ownership, and to minimize transaction costs, ADB and other development partners are using a sector-wide approach to support PFM. This approach is informed by key lessons from implementing complex PFM reforms in a capacity-constrained environment that requires the gradual introduction of PFM changes. Progress will require long time frames for external assistance given the weak starting points. 9. Synergy and close coordination are required between crosscutting public sector management reform initiatives, such as the PFMRP (financial management), decentralization and deconcentration reforms (restructuring of sub-national administrations), and public administrative reforms (personnel management). Public administration reforms, including attractive pay and other incentives for civil servants, have a strong link with PFM that entails probity and higher-level commitments. These reforms could help Cambodia provide significantly better, more cost-effective and more citizen-responsive public services and programs. The PFMRDP is adopting a phased approach, and provides the groundwork for future decentralization and deconcentration programs in Cambodia.7 B. Impact and Outcome

10. The impact of subprogram 2 will be to strengthened prioritization of resource use and improved governance. The outcome of subprogram 2 will be improved PFM subsystems in three rural development ministries, which will be achieved through a set of program outputs. C. Outputs

11. Link between subprograms 1 and 2. The PFMRDP, approved by the Board as a program cluster on 4 December 2008, comprises two single-tranche subprograms for implementation from June 2006 to December 2010 within a well-defined, medium-term framework. 8 Subprogram 1 comprised (i) a grant of $6.71 million and (ii) a grant of $4.10 million to support institutional and capacity development. Subprogram 2 will continue the PFM reforms initiated under subprogram 1, and has 11 key reform actions to achieve three broad objectives over the medium term that are intended to strengthen (i) the financial management framework to increase accountability, (ii) financial management in the rural priority sectors to improve the delivery of services, and (iii) external audit as a pillar of accountability. Subprogram 2 also will support the capacity development needs of the program ministries in the areas of PFM subsystems, and assist the NAA with implementation of key public policy audit reforms under subprogram 2. The updated matrix reflects the policy actions the government has already accomplished (Appendix 4). The design and monitoring framework with relevant updates is in Appendix 1. The sector assessment (summary) is in Appendix 2.

6 ADB. 2007. Country Strategy and Program: Cambodia, 2005–2009. Manila; and ADB. 2010. Second Governance

and Anticorruption Action Plan. Manila. 7 The PFMRDP is complemented by the proposed Water Resources Management Sector Development Program

(Project Number 38558). 8 ADB. 2008. Report and Recommendation of the President to the Board of Directors: Proposed Program Cluster,

Grant for Subprogram 1, and Grant Assistance to the Kingdom of Cambodia for the Public Financial Management for Rural Development Program. Manila (Grant 0132 and 0133-CAM).

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12. Progress in the implementation of policy actions under subprogram 2 is in Appendix 4. This is to be read with Sector Assessment Summary in Appendix 2 and paras. 35–48 of the RRP for subprogram 1 (see Footnote 7).

1. Pillar 1: Strengthening Financial Management Framework to Increase Accountability

13. The government has sustained the momentum in PFM reforms since December 2008. Independent evaluations undertaken in 2007 and 2010, including a Public Expenditure Financial Accountability Assessment (PEFA) suggest that the PFM reform program has contributed to achieving improved budget credibility, in what is a very challenging post-conflict environment with substantive institutional and capacity constraints.9/10 Greater revenue collection and an efficient macro-fiscal and revenue forecasting has contributed to the overall credibility of the budget through more timely and predictable release of funds. Budget comprehensiveness has also improved with the introduction of medium-term budget strategy plans for all line ministries. Good expenditure control measures are in place. These measures resulted in aggregate fiscal discipline that supported the government's fiscal management in 2008 and 2009 in response to the global financial crisis. 14. Stage 2 includes a full rollout of the PFMRP to all line ministries and institutions. The Ministry of Economy and Finance (MEF) has strengthened efforts to finalize the ministerial action plans to ensure that all line ministries have a clear perspective of targeted outputs. The MEF recently established the PFM coordination working group for MRD, MAFF, and MOWRAM. This group provides a platform for continuing dialogue on sector issues, including efficient public expenditure management. Following the PFMRP annual retreat in January 2010, the MEF identified key impediments, and proposed finalizing a set of activities to accelerate implementation of stage 2 of the PFMRP. 15. Several positive developments have strengthened budget execution and reporting. The Department of Public Procurement supported the line ministries in the preparation of procurement plans and organized training courses for procurement staff in 2009. Stronger cash management, the creation of the Treasury single account, and the use of the banking system for transactions have improved budget execution. The proposed financial management information system will further strengthen reporting and transaction processing efficiency under the PFMRP. 16. Challenges remain in finalizing the draft procurement law. 11 The first draft of the framework for the sovereign procurement law of Cambodia is expected to be reviewed and finalized in 2010. When enacted into law, it will merge the two existing procurement systems—one for state-budget financed procurement, the other for procurement financed by development partners. In the interim, the government has updated the Implementing Rules and Regulations for Public Procurement, 1998 (IRRPP), which was issued as supplementary rules and regulations under the Sub-Decree on Public Procurement, 1995.

9 Government of Cambodia. 2007 and 2009. The 2007 and 2009 External Advisory Panel Report and 2010 Public

Expenditure and Financial Accountability Assessment. Phnom Penh. 10 The PEFA program comprising seven agencies led by the World Bank aims to strengthen recipient and donor

ability to assess the status of country public expenditure, procurement, and financial accountability systems. 11 The current legislative and regulatory framework for procurement under national budget is governed by many

ministerial or inter-ministerial regulations (Prakas); Sub-Decree or legislative documents such as the Implementing Rules and Regulations for Public Procurement, 1998 (IRRPP) under the Sub-Decree on Public Procurement issued in 1995.

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17. Civil service pay initiatives, as part of broader national public administration reforms, have gained momentum. Average salaries have quadrupled since 2004 to almost $90 per month in 2010. The Council for Administrative Reforms (CAR) has initiated consultations with a wide range of stakeholders to finalize the National Public Administration Reforms, 2009–2013 and to reform the whole compensation system to achieve long–term sustainability while maintaining fiscal prudence. Several initiatives are being adopted: a labor market survey, an operational review, a census to map skills and expectations, introduction of new identification cards to foster organizational efficiency, and ensure that civil servants uphold the four core values of motivation, loyalty, professionalism, and service orientation. In order to further improve the quality of service delivery, a new scheme -Priority Operating Costs (POCs)–has been introduced to provide a standardized incentive payment for selected civil servants.12 18. The government has continued to strengthen the institutional capacity for debt management through training and capacity development. A draft public debt sub-decree, which will include provisions for debt and risk management, government on-lending, and government guarantees, is under consideration. The government is also finalizing a public debt management strategy, which will help ensure that its borrowing needs are met efficiently.

2. Pillar 2: Strengthening Financial Management in Rural Priority Sectors to

Improve Service Delivery to Rural Population 19. The program ministries have continued to demonstrate strong ownership of the government-led PFMRP. The establishment of the PFM reforms working group in MRD, MAFF, and MOWRAM has improved the institutional framework. Ministerial action plans for the PFMRP have been prepared and are being implemented. The government-wide capacity development undertaken by the Economic and Finance Institute has improved PFM capacity through short- and long-term training, including that provided under the PFMRDP in the rural development ministries. In 2009, the institute trained 64 staff from the three rural development ministries. This was complemented by a comprehensive PFM training plan with ADB support focusing on budget planning, accounting, procurement, and internal audit. In the program ministries, the budget formulation process has improved with the adoption of strategic budget frameworks, a key tool for preparing their medium-term and annual expenditure plans. The draft 2010 budget is the first to include allocations to the program ministries for domestically funded investment expenditures. In previous years, these ministries had received the bulk of the domestically funded investment after it appeared in the budget as a line item. The MAFF and MRD have also been involved as pilot ministries in the introduction of program budgets since 2007, which aim to improve the relevance of public spending by aligning resources more closely with policy priority areas. 20. Budget execution, including procurement planning and practices, has continued to improve and are within ±5% of Budget Law allocations, drawing on PEFA best practice. The MRD, MAFF, and MOWRAM have continued to report to the MEF regular progress under deconcentrated procurement procedures. Rural development ministries have improved in their use of and compliance with the government's standard operating procedure, financial management manual, and procurement manual for externally aided projects, as well as in their

12 Priority operating costs (POCs) is an interim scheme defined as the costs of operating inputs necessary to achieve

agreed outputs or results within the context of development programs, projects or activities. POCs payments are not compensation or salary supplements.

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adherence to the good governance framework.13 Compliance is monitored through the annual joint country portfolio performance review by the MEF, ADB, and the World Bank. Internal audit oversight in the program ministries has continued to make progress. A strategic audit plan for 2010–2012 has been prepared, and an internal audit manual is being produced.

3. Pillar 3: Strengthening External Audit as Pillar of Public Accountability

21. The NAA established in 2002 following the enactment of the Audit Law, 2000, continues to be strengthened. The number of audits performed by NAA has increased from 2 in 2002 to 58 in 2008 and 83 in 2009. However, the NAA needs to accelerate capacity development to be in a position to extend audit coverage to 2,700 auditable entities within its jurisdiction. The NAA published its first public audit report in 2009. An international audit peer review of the NAA by the New Zealand Office of the Auditor General addressed the institutional constraints and established a baseline for a road map for long-term capacity development. D. Program Costs and Financing

22. The size of the program is based on considerations of a number of factors required to support implementation of reforms supported by the Program. This was determined by (i) the relative importance of the reform program, the weight of the sector and the benefits from the reform program; (ii) the leverage necessary to counter resistance from interest groups opposed to transparency enhancing reforms and (iii) the policy adjustment costs incurred by the Government and other stakeholders in implementing and complying with the reforms and (iv) the need to conform with the overall financing requirement from the Country Partnership Strategy period. ADB staff estimate that the long run benefits of the reform program are approximately $180 million - or about 1.5 % of GDP - from savings in the national government budget from increased competition and transparency in procurement systems, savings from improved budget execution and internal control systems and better public debt management, and from the second round effects of more efficient delivery of public goods and services.14 The policy adjustment cost, arising from administrative, enforcement, and compliance costs, to the government is estimated to be about $16 million in aggregate over the program implementation period. This includes (i) administrative cost to implement the PFMRP; (ii) investment cost to set up Integrated Financial management Information System; (iii) administrative cost to comply with the internal audit and procurement procedures; and (iv) administrative cost to implement the peer-review recommendation of the NAA. To support the government reform initiatives outlined in the Program, the government has requested a loan of an amount not exceeding the equivalent of $10 million and a grant of $10 million from ADB’s Special Funds resources to help finance subprogram 2. The loan will have a 24-year term, including a grace period of 8 years. The annual interest rate will be 1% during the grace period and 1.5% thereafter. The program financing will be subject to such other terms and conditions substantially in accordance with those set forth in the draft grant and loan agreements. E. Implementation Arrangements 23. Program oversight and management. Implementation arrangements established 13 All ADB-financed program and projects for Cambodia include a good governance framework. The framework

includes fiduciary risk mitigation measures that the government needs to implement related to (i) procurement (identification of procurement hotspots where risks occur, and mitigation measures); (ii) fiduciary management; (iii) complaint and remedy mechanisms; (iv) code of ethical conduct; and (v) sanctions.

14 See para 10-12 of the Subsector Analysis: The Public Financial Management Reform Program and Rural Development Ministries

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under subprogram 1 will continue. As the executing agency, the MEF will be responsible for overall implementation of pillars 1 and 2 of subprogram 2, as well as the post-program partnership framework (PPPF), including program administration, disbursements, maintenance of all program records, and reporting to ADB. Key implementing agencies are the MRD, MAFF, MOWRAM, and CAR. The PFMRP steering committee, chaired by the MEF secretary of state and including the director general or secretary general in charge of finance from all ministries, will continue as the program steering committee responsible for coordinating program implementation. It will be supported by the Reform Committee Secretariat and the PFM reform working groups at all program ministries for subprogram 2 implementation. The NAA is the executing agency for pillar 3, and will also responsible for relevant action under the PPPF. 24. Procurement and disbursement arrangements. Implementation of Subprogram 2 is from January 2009 to 31 December 2010. The program loan and grant will be released in a single tranche upon completion of all the tranche conditions, and following loan and grant effectiveness. The closing date of the loan and grant will be 31 April 2011. The government will primarily use the local currency counterpart funds generated by the grant and loan proceeds to meet program expenditures and associated costs of reform. The proceeds of the program loan and grant will be disbursed in accordance with the provisions of ADB's Simplification of Disbursement Procedures and Related Requirements for Program Loans.15 Before withdrawing any funds, the government will open or nominate deposit accounts with the National Bank of Cambodia to receive the loan and grant proceeds. The accounts will be managed, operated, and liquidated in accordance with terms satisfactory to ADB. Subprogram 2 will provide for retroactive financing for eligible expenditures incurred by the government up to 180 days before grant effectiveness. ADB will retain the right to audit the use of the grant and loan proceeds, and to verify the accuracy of the government’s certification for the withdrawal application. 25. Post-program partnership framework. Given the strategic reorientation in stage 2 of the PFMRP and the long-term nature of some of the critical reforms such as decentralization and deconcentration and public administration reforms, the government agreed to establish a PPPF for 2 years. This will allow continual policy dialogue and engagement during 2011–2012. Incorporated in the revised policy matrix (Appendix 4), the PPPF focuses on the government's priorities. In coordination with the program steering committee, ADB will carry out periodic reviews of the implementation progress of the PPPF and assess the impact of the PFMRDP.

III. GRANT ASSISTANCE FOR CAPACITY DEVELOPMENT

26. In response to the government’s request to design a second phase of the existing project, a separate grant project for capacity development has been formulated. Given the varying pace and unevenness of PFM progress in the program ministries, implementation of PFM reforms under the PFMRP will require additional technical inputs and targeted on-the-job support. The knowledge and skills will ensure that the policy and institutional reforms will be sustained beyond the PFMRDP and that objectives under the PFMRP are achieved. The proposed capacity development project will have four outputs. The first will continue to support the three rural development ministries in PFM subsystems, including internal audit, monitoring, and evaluation. The second will support the MEF (Department of Investment and Cooperation) in public debt management issues. The third output will support two activities of the CAR within the scope of NPAR 2009–2013. The fourth output will support the NAA in strengthening audit capacity in selected areas. The project is estimated to cost $5.5 million. ADB will finance $5 million from its Special Funds Resources (Asian Development Fund), including applicable taxes, 15 ADB. 1998. Simplification of Disbursement Procedures and Related Requirements for Program Loans. Manila.

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duties, and relevant bank charges. The government will contribute the equivalent of $0.5 million through in-kind contributions of counterpart staff and facilities. The project investment plan and the financing plan are summarized in Table 1 and 2.

Table 1: Project Investment Plan

($’000) Component Total Costa A. Base Costb 1. Consultants

2. Equipment c 3. Trainingd

4. Project management supporte

2,482.00 322.00 1,580.00 679.00

Subtotal (A) 5,063.00 B. Contingenciese 437.00 Total 5,500.00

a. Includes applicable taxes, duties, and bank charges amounting to $40,000. b In mid 2010 prices. c . Includes computers, printers, LCD projectors, computer software, vehicles, and photocopiers. d . Provision for training seminars and study tours. e Includes costs for contract negotiations, preparation of report, communications, translation, project management

cost to be financed by Asian Development Bank ($179,000) and government financing ($0.5million) in kind. f. Contingencies at approximately 9% for base costs. Source: Asian Development Bank.

Table 2: Financing Plan

($’000)

Source Amount ($ million)

Share of Total (%)

Asian Development Bank 5.00 90.91 Governmenta 0.50 09.09

Total 5.50 100.00 a Government financing initially estimated at $0.5 million in kind in terms of office accommodation,

counterpart staff allowances, and salaries, meeting facilities, etc. Source: Asian Development Bank.

27. The project will be implemented from January 2011 to March 2013. At the request and on behalf of the government, ADB will engage the consultants and administer their contracts in accordance with the Guidelines on the Use of Consultants (2010, as amended from time to time) and other arrangements satisfactory to ADB. This continues the arrangement established for subprogram 1, approved in December 2008. The ADB administration of the project is to overcome the governance and inter-ministerial coordination problems, and to ensure that project activities are synchronized across a wide range of agencies. The PAM details the objectives, scope of the project components, and project implementation arrangements.16

Table 3: Implementation Arrangements Aspects Arrangements Implementation period January 2011–March 2013 Estimated completion date 31 March 2013 Management (i) Oversight body Components 1–3: MEF (Vongsey Vissoth, secretary general)

Component 4: NAA (Ouk Saravudh, secretary general) (ii) Executing agency Components 1-3: MEF and component 4: NAA (iii) Key implementing agencies Component 1: MRD, MAFF, and MOWRAM; component 2: CAR; component 3: MEF-

DIC (iv) Implementation unit Components 1–3: MEF, 3 staff; component 4: NAA, 1 staff

16 Project Administration Manual (Appendix 2).

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Aspects Arrangements Procurement National competitive bidding Multiple (3 or above) Between $100,000 and

below $250,000 Shopping for works Multiple (6 or above) Below $100,000 Shopping for goods Multiple (3 or above) Below $100,000 Direct shopping Multiple Below $10,000 Recruitment of consulting firms:

quality-and cost-based selection method

Components 1 and 3: 67 person-months (international) 74 person-months (national)

Components 1 and 3: $1,960,000

Consulting services Recruitment of individual consultants

Components 2 and 4: 15 person-months (international) 30 person-months (national)

Components 2 and 4: $2,482,000

The grant proceeds for financing works under the EA-administered portion will be disbursed in accordance with ADB’s Loan Disbursement Handbook (2007, as amended from time to time). On the other hand, all disbursements under the ADB-administered portion will be carried out in accordance with the ADB’s Technical Assistance Disbursement Handbook (2010 as amended from time to time). For program loan/grant: The $25 million program loan/grant will be disbursed in single tranche.

ADB = Asian Development Bank; CAR = Council of Administration Reforms; DIC = Department of Investment and Cooperation; MEF = Ministry of Economy and Finance; MAFF = Ministry of Agriculture, Forestry, and Fisheries; MOWRAM = Ministry of Water Resources and Meteorology; MRD = Ministry of Rural Development; NAA = National Audit Authority; TA = technical assistance. Source: Asian Development Bank.

IV. DUE DILIGENCE

28. Economic and financial. The program will produce economic gains through efficient resource use. It will have no fiscal impact since its main thrust is to build capacity in the three rural development ministries. 29. Governance. The design of the PFMRDP is anchored in the governance framework. The government is committed to key governance reforms in the PFMRP, and good progress has been made. The enactment of the Anticorruption Law in March 2010 and the implementation of broader public administration reforms that incentivize civil service will improve public sector governance and strengthen the accountability framework. ADB's Anticorruption Policy (1998, as amended to date) was explained to and discussed with the MEF, CAR, NAA, MRD, MAFF, and MOWRAM. The specific policy requirements and supplementary measures are described in paragraph 80 of the PAM (footnote 18). 30. Poverty and social impact. The PFMRDP, a general intervention aimed at supporting sustainable economic growth, is expected to have an indirect positive effect on poverty reduction. The program will improve the delivery of services in rural areas where the poor are concentrated, and where women comprise the majority of the workforce (73.5% of agricultural workers). Details are in the summary poverty reduction and social strategy.17 31. Safeguards. PFMRDP Subprogram 2 does not trigger the safeguard policies and is categorized as C for environment, involuntary resettlement, and indigenous people. 32. Risks and mitigating measures. Subprogram 2 of the PFMRDP assumes macroeconomic and political stability in Cambodia over the medium term. However, implementation of subprogram 2 could face a number of risks for which mitigation measures

17 Summary Poverty Reduction and Social Strategy (Appendix 2).

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have been put in place. Major risks and mitigating measures are summarized in Table 4 and described in detail in the risk assessment and risk management plan (Appendix 2).

Table 4: Summary of Risks and Mitigating Measures

Risks Mitigating Measures Political. Sustainability of reforms in a post-conflict country is a potential risk. Elections in 2008 and border tensions had raised the risk of a reform slowdown.

The highest level of political leadership has strong commitment to the public financial management reforms, and there exist a broad consensus on the direction of reforms.

External. Challenges such as the global financial crisis underline the vulnerability of the economy and may undermine macroeconomic stability.

Cambodian banks do not have significant borrowing exposure to international banks, and the capital market is in its early stage. Continued business environment reforms and trade policy reforms will improve growth prospects in the medium to long term.

Institutional. The comprehensive nature of the program will place significant demands on the capacity of government’s key institutions.

Sustained support by a large number of development partners, including Asian Development Bank, ensures continual financial and technical resources for technical and organizational capacity development for complex PFM reforms.

Implementation. The Public Financial Management for Rural Development Program may be undermined by lack of inter-ministerial coordination.

The PFM coordination working group for rural development ministries will ensure appropriate coordination between the Ministry of Economy and Finance and the ministries.

Source: Asian Development Bank.

V. ASSURANCES

33. In addition to the standard assurances, the government has given the following assurances, which will be incorporated in the legal documents: (i) keep ADB informed of policy discussions with other stakeholders about measures to ensure effective implementation of the PFMRDP, (ii) give ADB the opportunity to comment on relevant studies and draft laws or decrees that are likely to affect PFMRDP objectives and implementation, and (iii) implement in a timely manner the polices and reform actions indicated in the PPPF.

VI. RECOMMENDATION

34. I am satisfied that the proposed loan and grants would comply with the Articles of Agreement of the Asian Development Bank and recommend that the Board approve

(i) the loan in various currencies equivalent to SDR6,671,000 to the Kingdom of Cambodia for the Public Financial Management for Rural Development Program – Subprogram 2 (Subprogram 2) from ADB’s Special Funds resources with an interest charge at the rate of 1.0% per annum during the grace period and 1.5% per annum thereafter; for a term of 24 years, including a grace period of 8 years; and such other terms and conditions as are substantially in accordance with those set forth in the draft financing agreement presented to the Board;

(ii) the grant not exceeding $10 million to the Kingdom of Cambodia, for Subprogram 2, from ADB’s Special Funds resources, on terms and conditions that are substantially in accordance with those set forth in the draft financing agreement presented to the Board; and

(iii) the grant not exceeding $5 million to the Kingdom of Cambodia, for the Public Financial Management for Rural Development Project 2, from ADB’s Special Funds resources on terms and conditions that are substantially in accordance with those set forth in the draft grant agreement presented to the Board.

Haruhiko Kuroda

President 6 September 2010

Appendix 1 11

DESIGN AND MONITORING FRAMEWORK

Design Summary

Performance Targets

and/or Indicators

Update on Subprogram I

May 2010

Data Sources and/or Reporting

Mechanisms

Assumptions and Risks

Impact Strengthened prioritization of resource use; and improved governance

Alignment of budget allocations with the National Strategic Development Plan, and priority sectors maintained overall budget share (2008 baseline: 3.0%) By 2012, the World Bank governance indicators for government effectiveness and control of corruption increased by 2 percentile compared to 2006a

Update: 2009 share for rural development ministries was 2.8% (year of fiscal crisis) 2010 budgeted share for RDMs is 3.3% Governance indicators for (i) government effectiveness improved from 17.1 in 2006 to 19.4 percentile in 2008, and regulatory quality from 26.3 to 34.3 percentile in 2008, and (ii) control of corruption improved from 7.3 in 2006 to 8.7 percentile in 2008 Anti-Corruption Law was promulgated in 2010

2010 External Advisory Panel Report on the PFMRP World Bank’s Worldwide Governance Indicators

Assumptions Macroeconomic and political stability Strong financial and technical support from development partners Risk Weak political governance and ownership of reforms

Outcome Improved PFM in the RDMs

MAP implemented by three RDMs to at least 90% average achievement by mid-2011 relating to (i) strategic budget plan and program budgeting; (ii) internal audit; (iii) use of SOP, Procurement Manual, and FMM for all externally-assisted projects

Update: Three RDMs have prepared MAPS based on Consolidated Action Plan for PFMRP Stage 2 activities, and implementation progress is reported to MEF monthly (MAFF) and quarterly (MRD and MOWRAM).

PEFA Assessment Reports from three RDMs to MEF

Assumptions MEF commitment to pursue PFMRP Effective coordination between the MEF and rural development ministries Risk Limited institutional capacity to implement policy reforms

Outputs 1. Strengthened financial management framework to increase accountability

Budget calendar, budget circular and the timely budget approval (predictability) Expanded use of the banking system Debt management strategy; quality of domestic and foreign debt records and reporting

Update: Second Stage of PFMRP began implementation in 2009; budget 2010 anchored in the revised PFSL; as of 30 December 2009, staff in 36 of 38 line ministries and/or institutions had opened bank accounts; and 26 are using the bank accounts for salary payments. Payment through banking system: 82.14%. Public debt management sub decree and draft public debt management strategy drafted and discussed during 2010

Annual Budget MEF PFMRP quarterly and annual monitoring reports

Debt Management Strategy IMF Article IV reports 2009 and 2010 budget

Assumption MEF and line ministries committed to implementation of key target areas under stage 2 of the PFMRP Risk Long lead time in adapting to financial management information system design and implementation

12 Appendix 1

Design Summary

Performance Targets

and/or Indicators

Update on Subprogram I

May 2010

Data Sources and/or Reporting

Mechanisms

Assumptions and Risks

2. Strengthened financial management in rural priority sectors to improve service delivery to rural population 3. Strengthening external audit as a pillar of public accountability

BSPs

Budget execution rates, including efficient procurement and use of banks accounts in three RDMs

Internal audit unit fully staffed in three RDMs, and all relevant staff completed training by 2010 500 staff from three RDMs (including staff from provinces) working in PFM related trained by end of 2010

Number of auditors trained in auditing externally assisted projects, and increase in number of audits of externally-assisted projects starting from 2010

Update: FY2009–2010 BSPs prepared by three RDMs Budget execution rates for the three RDMs in 2008 were MAFF 99%, MRD 94%, and MOWRAM 106%. In 2009 the rates were MAFF 102%, MRD 86%, and MOWRAM 83%. All three ministries submitted procurement reports to DPP (MEF) Internal audit unit, comprising 48 staff in three RDMs received training. 64 staffs from MRD, MAFF, and MOWRAM were trained by EFI in 2009. In addition, targeted training under the ADB projectc was provided to 353 people covering 22 ministries, besides five ministry seminars (300 people) and six IT courses (180 people). All training materials uploaded to project website. Update: NAA audited four externally aided projects in 2009, and the number of its overall audits has increased from 2 in 2002 to 58 in 2008 and 83 in 2009

Budget execution reports MAFF, MRD, MOWRAM ministry records Evaluation report of training provided under ADB project ADB project output (component 1 and 2) NAA audit findings on externally-assisted projects ADB project output (component 4)

Assumption Capacity development plan adequately resourced and implemented Risk Lack of capacity and political will to implement reform agenda Assumption Operational independence of NAA Risk Insufficient budget allocation for NAA

Activities with Milestones for Subprogram 2, and the Project

Inputs

1.1 Annual financial law (budget) for 2010 prepared and approved. MTEF 2011–2013 updated; workshop on MTEF 2010–2012 held; and improvements made to the presentation of the 2009 and 2010 budget. 1.2 PFM coordination working group for RDMs established and the first meeting was held in May 2010. 1.3 The draft Procurement Law under finalization and to be discussed with stakeholders during 2010. 1.4 CAR finalized the modalities for putting in place the salary incentives in the form of POCS in July 2010; Sub-decree on public debt and a draft public debt management strategy was prepared and will be discussed by the PFM Reform Commission in June 2010. 2.1 Ministerial action plans for implementation of stage 2 of PFMRP were submitted to MEF by the three RDMs.

ADB program grant of $10 million for subprogram 2 Loan of $10 million equivalent for subprogram 2 ADB grant assistance of $5 million for institutional and capacity development for subprogram 2 related project Government in-kind contribution of $0.5 million

Appendix 1 13

Activities with Milestones for Subprogram 2, and the Project

Inputs

2.2 RDMs submitted procurement activity reports to MEF regularly from 2009. 2.3 Training and workshops undertaken in SOPs, FMM, and procurement procedures for externally aided projects 2.4 DIC continued to monitor, and support compliance with the provisions in the GGFs for ADB-financed projects in 2010. 2.5 Internal audit processes and control standards enhanced through training in core principles and adaptation to the specific internal control needs of the RDMs. 2.6 Training strategy covering three levels—general information, ministry workshops, and individual sessions—developed, with time-bound master plan under implementation, based on specific needs analysis of the RDMs in implementing PFMRP. 3.1 Peer review of NAA was undertaken by the New Zealand Office of the Auditor General in 17–29 May 2010; and an action plan will be developed by NAA based on peer review recommendations for implementation during 2011-2013.

ADB = Asian Development Bank, BSP = budget strategic plan, DIC = Department of Investment and Cooperation, DMFAS = debt management and financial analysis system, DPP = Department of Public Procurement, EFI = Economics and Finance Institute, FMIS = financial management information system, FMM = Financial Management Manual, GDP = gross domestic product, GGF = good governance framework, IMF = International Monetary Fund, IRR = implementing rules and regulations, MAP = Ministry Action Plan, MDG = Millennium Development Goal, M&E = monitoring and evaluation, MEF = Ministry of Economy and Finance, MTEF = Medium-Term Expenditure Framework, MAFF = Ministry of Agriculture, Forestry and Fisheries, MRD = Ministry of Rural Development, MOWRAM = Ministry of Water Resources and Meteorology, NAA = National Audit Authority, NPAR = national public administration reforms, NSDP = National Strategic Development Plan, PEFA = Public Expenditure and Financial Accountability, PFM = public financial management, PFMRP = Public Financial Management Reform Program, PFSL = public financial system law, POC = priority operating cost, RDM = rural development ministry, SOP = standard operating procedure, TA = technical assistance. a Government effectiveness and control of corruption are two important worldwide governance indicators prepared by the World

Bank, based on country policy and institutional assessment and various perception surveys and data sources provided by different organizations. These provide the basis for measuring these indicators.

b MAFF, MRD, and MOWRAM. c ADB. 2008. Report and Recommendation of the President to the Board of Directors: Proposed Grant for Subprogram 1 to the

Kingdom of Cambodia for the Public Financial Management for Rural Development Project. Manila (Grant 0133-CAM).

Endorsed by: Approved by: ___________________ ______________________ Jaseem Ahmed Kunio Senga Director, SEFM Director General, SERD

14 Appendix 2

LIST OF LINKED DOCUMENT http://www.adb.org/Documents/RRPs/?id=41373-05-2

1. Financing Agreement 2. Technical Assistance Grant Agreement 3. Project Agreement 4. Sector Assessment (Summary): Public Sector Management 5. Project Administration Manual 6. Contribution to the ADB Results Framework 7. Development Coordination 8. Country Economic Indicators 9. International Monetary Fund Assessment Letter 10. Summary Poverty Reduction and Social Strategy 11. Risk Assessment and Risk Management Plan 12. List of Ineligible Items 13. Subsector Analysis: Public Financial Management Reform Program and Rural

Development Ministries 14. Subsector Analysis: Summary of Performance of the Agriculture and Rural Sectors 15. Subsector Analysis: Decentralization and Deconcentration Reforms

Appendix 3 15

DEVELOPMENT POLICY LETTER

16 Appendix 3

Appendix 3 17

18 Appendix 3

Appendix 4

19

POLICY MATRIX Table A4.1: Revised Program Policy Matrix – Subprogram 21

Objective

PFMRDP 2 Policy Actions (Core Reforms are Bolded)

Post –Program Partnership Framework

Expected Medium Term Results

2009–2010 1. Strengthened Financial Management Framework to Increase Accountability

1. PFM Coordination Working Group for Rural Development Ministries established and meetings held in 2010 2. Procurement Law drafted and discussed with stakeholders in 2010

3. Council for Administrative Reform to undertake the public service census to map skills and expectations as defined in the National Program for Administrative Reform (NPAR) 2009-2013 (including study on options for sequencing compensation reform). 4. Submission of the draft Public Debt Subdecree covering debt and risk management, Government on-lending, and Government guarantees to the MEF PFM Reform Commission by 2010 5. Debt management strategy developed and discussed by the MEF PFM Reform Commission in 2010

Implement PFM sub-systems, including undertaking consultations off procurement law, strengthening internal audit, FMIS and accounting and reporting functions under PFMRP Stage 2 activities Undertake capacity development in pubic sector management for civil service at all levels in order to progress the government's public administration reforms for more sustainable civil service systems Implement the provisions of public debt sub-decree and institutionalize the regulatory framework for public debt management with emphasis on continued capacity development

Strengthened public financial management and Increased transparency and efficiency in the use of Government expenditure Improved transparency and quality in the delivery of public service Effective debt management system

2. Strengthened Financial Management in the Rural Priority Sectors to Improve Service Delivery to Rural Population

6. Rural development ministries to submit monthly procurement activity reports to MEF regularly from 2009 7. Trainings and workshops undertaken for externally –aided projects, and standard operating procedures, financial management and procurement procedures being applied to ensure compliance for all ADB and the World Bank financed projects by 2010 by the

Implement Ministerial Action Plans, Consolidated Action Plan – Stage 2 and the revised catalyst activities to accelerate PFMRP to progress PFM capacity in three rural development ministries in implementing of PFMRP stage 2 priorities

Undertake training and on the job guidance in M&E framework with international good practices,

Increased budget comprehensiveness and transparency in budget execution in rural priority sectors Reduced fiduciary risks and increased efficiency of procurement in the rural development ministries

1 An update on policy actions separately provided in Table A4.2: Revised Program Policy Matrix-Subprogram 2 (Update on Core Policy Actions).

20

Appendix 4

Objective

PFMRDP 2 Policy Actions (Core Reforms are Bolded)

Post –Program Partnership Framework

Expected Medium Term Results

2009–2010 RDMs 8. DIC continued to monitor, and support compliance with the provisions in the Good Governance Frameworks (GGFs) for ADB-financed projects in 2010 9. Mainstreaming of internal audit processes and control standards being enhanced through training in core principles and adaptation to the specific needs of the rural development ministries 10. Training strategy covering 3 levels – general information, ministry workshops and individual sessions- developed, with time bound master plan being implemented, based on specific needs analysis of the rural development ministries in implementing PFMRP. Web-based library of training materials in Khmer and English created.

including capacity development in managing for development results (MfDR) approach to monitor and evaluate the implementation of NSDP projects, externally assisted development projects, and the annual budget.

MRD, MAFF, and MOWRAM adopt and implement functional assignment frameworks, within the framework of the National Program for Democratic Development at Sub-National Level

Enhanced service delivery at subnational level

3. Strengthening External Audit as a Pillar of public Accountability

11. Action Plan under development and implementation progressed, based on Peer review recommendations.

Implement (i) peer review recommendations (Action Plan) on institutional development aspects of NAA, and (ii) “implementing sub decree” on clarifying and strengthening NAA operations and audit effectiveness

More effective oversight by external audit and NAA strengthened in areas of financial audit and performance audit

ADB = Asian Development Bank; CAR = Council for Administrative Reform; D&D = deconcentration and decentralization; DMFAS = Debt Management and Financial Analysis System EFI = Economics and Finance Institute; FMIS = Financial Management Information System; FMM = Financial Management Manual; FWUC = Farmer Water User Communities; GGF = Good Governance Framework; MAP = Ministry Action Plan; M&E = Monitoring and Evaluation; MEF = Ministry of Economy and Finance; MAFF = Ministry of Agriculture, Forestry and Fisheries; MRD = Ministry of Rural Development; MOWRAM = Ministry of Water Resources and Meteorology; NAA = National Audit Authority; NSDP = National Strategic Development Plan; PFM = Public Financial Management; PFMRP = Public Financial Management Reform Program; PFMRDP = Public Financial Management for Rural Development Program; PFSL = Public Financial System Law; PM = Procurement Manual; SOP = Standard Operating Procedure; WG = Working Group. Source: Asian Development Bank.

Appendix 4

21

Table A4.2: Revised Program Policy Matrix – Subprogram 2 Update on Core Policy Actions

Objective Core Policy Actions

Actions Taken

1. Strengthened Financial Management Framework to Increase Accountability

1. PFM Coordination Working Group for Rural Development Ministries established and meetings held in 2010 2. Procurement Law drafted and discussed with stakeholders in 2010 3. Council for Administrative Reform to undertake the public service census to map skills and expectations as defined in the National Program for Administrative Reform (NPAR) 2009-2013 (including study on options for sequencing compensation reform) by end of 2011

1. The Government issued Prakas No. 262 in March 2010) to establish the PFM Coordination Working Group to facilitate implementation of PFM reform at MAFF, MRD, and MOWRAM. The first meeting of the Working Group was held on 19 May 2010 under the Chairmanship of the Secretary-General of MEF. The meeting discussed key sector developments, issues, challenges, and constraints and implications for ADB support to PFM, including roles, responsibilities and on going PFM activities in MAFF, MOWRAM and MRD. Progress in PFM, and challenges were addressed and recommendations made to further improve capacity.

2. The first draft of the Framework for the Sovereign Procurement Law of Cambodia is expected to be reviewed by the Public Procurement Law Adviser in end July/early August 2010, and will be circulated to stakeholders in the third week of August 2010. Preliminary discussions will be undertaken with relevant government agencies after August 2010. The draft is expected to be finalized by end of 2010 (Source: MEF, PFMRP, How to accelerate Stage 2 Implementation of the PFMRP?). The draft Framework was reviewed by the procurement expert engaged under the ADB Grant 0133-CAM (component 1).a According to the expert’s assessment, the draft bill on Public Procurement represents a significant improvement over the current regulatory framework. This is work in progress. 3. The Council for Administrative Reforms (CAR) has developed a comprehensive National Program of Administrative Reform (NPAR- 2009-2013 – the third such program), which addresses five policy areas: (i) improving transparency and quality in the delivery of public services; (ii) improving accountability and efficiency in public services; (iii) developing human and institutional capacity of ministries; (iv) improving HR management and compensation; and improving cadre management and deployment – including establishment control and keeping total number of civil servants to sustainable level. The draft NPAR is well advanced and now needs to be finalized.

The CAR has adopted a cautious approach in regard to salary supplementation and merit based pay incentives. In the context of

22

Appendix 4

Objective Core Policy Actions

Actions Taken

4. Submission of the draft Public Debt Subdecree covering debt and risk management, Government on-lending, and Government guarantees to the PFM Reform Commission by 2010 5. Debt management strategy developed and discussed by the PFM Reform Commission in 2010

the framework of harmonizing different donor financed salary incentives system, and following the termination of the Merit Based Performance Initiative (MBPI) scheme for 2010, the CAR reviewed and adopted salary incentives in the form of Priority Operating Costs (POC) in July 2010. Collectively, the government and the development partners agree that this is an interim scheme defined as the costs of operating inputs necessary to achieve agreed outputs or results within the context of development programs, projects or activities. As such payments to cover POC stop when planned outputs/results are met or completed. POC payments are not compensation or salary supplements. This interim measures will link to the broader public administration reforms, and facilitate the implementation of NPAR related reforms, including reforms relating to HRM, HRD and compensation.

4. The draft public debt sub decree was completed in May 2010 with provisions for debt and risk management, government on-lending, and government guarantees. The draft sub-decree was discussed by the MEF PFM Reform Commission1 on 23 June 2010. The draft Public Debt Management Subdecree is benchmarked to a standard of international best practices (specifically IMF/World Bank), not just minimum requirements. The MEF led capacity building workshops on the technical and key issues involved in legal framework. The MEF led extensive consultations and revisions with the broad group of PDM stakeholders, including representatives from central bank, key departments, etc. 5. The Government formulated the draft debt management strategy in May 2010, and revised it twice based on initial consultations through June. Broader consultations with external and internal PDM stakeholders are taking place in July and early August. The draft strategy is expected to be completed in mid August 2010. The PFM Reform Commission (see footnote 1) will review and discuss the Strategy in meeting in August or September 2010.

1 The MEF has its own PFM Reform Commission, chaired by the Minister attached to the Prime Minister, Secretary of State, and Chairman of the PFMSC and

comprises of secretary general, deputy secretaries general, directors general, and department directors of MEF to coordinate, implement and monitor the PFM reform program within the MEF.

Appendix 4 23

Objective Core Policy Actions

Actions Taken

2. Strengthened Financial Management In The Rural Priority Sectors to Improve Service Delivery to Rural Population

6. Rural development ministries to submit monthly procurement activity reports to MEF regularly from 2009

7. Trainings and workshops undertaken, and financial management and procurement procedures being applied to ensure compliance for all ADB and the World Bank financed projects by 2010

8. DIC continued to monitor, and support compliance with the provisions in the Good Governance Frameworks (GGFs) for ADB-financed projects in 2010

6. Submission of regular reports is an ongoing activity, and is being supervised by the PFM working groups in each ministry, and the monitoring responsibility is with the Department of Procurement, MEF. MAFF and MOWRAM have compiled with this requirement since January 2009. There was initial delay of submission for MRD, but it has been accomplished since May 2010.

7. ADB has adopted the Government’s Standard Operating Procedures (SOPs) SOPs for externally financed projects, the associated Procurement Manual, and the Financial Management Manual in the administration of ADB financed programs/projects. MAFF, MRD, and MOWRAM have adopted SOP/PM/FMM for donor projects. Specific issues related to the use of the Manuals, and the issues of enhancing or further enforcing the implementation of SOP/PM/FMM have been discussed in every Quarterly Portfolio Performance Review/Meeting JCCPR for ADB/WB funded projects since 2008. The Government’s objective is to enforce the implementation of SOP/PM/FMM to all externally financed projects/programs in Cambodia. In 2009, training on the use of SOP/PM/FMM were provided for project staff of the Eastern Rural Irrigation Development Project (2 workshops) and Rural Water and Sanitation Project (1 workshop). Training and workshops on SOP/PM/FMM will be conducted for the rural development ministries with ADB project support in 2010. Capacity building in this area to be able to effectively undertake effective project implementation is high on ADB agenda. Commencing in June 2010, ADB projecta team will organize and conduct a series of procurement training sessions, primarily for procurement officials from the three participating rural development ministries. One of the objectives of the on-going series of training sessions will be to deepen the understanding of the concerned officials to apply the SOP/PM/FMM in donor-financed projects, as well as to ensure compliance for all projects.

8. The Government has implemented GGFs for ADB-financed projects. The workshops conducted by the ADB projecta under the policy action will also include material on the GGF. ADB financed projects for Cambodia since 2007 have incorporated Good Governance Frameworks (GGFs) to ensure that fiduciary risks to

24

Appendix 4

Objective Core Policy Actions

Actions Taken

9. Mainstreaming of internal audit processes and control standards being enhanced through training in core principles and adaptation to the specific needs of the rural development ministries

10. Training strategy covering 3 levels – general information, ministry workshops and individual sessions- developed, with time bound master plan being implemented, based on specific needs analysis of the rural development ministries. Web-based library of training materials in Khmer and English created

project implementation are reduced. The GGFs include fiduciary risk mitigation measures in areas such as: (i) procurement (identification of procurement hotspots where risks may occur and mitigation measures), (ii) fiduciary management, (iii) complaints and remedies mechanisms, (iv) a code of ethical conduct, and (v) sanctions. Compliance with the requirements of GGF’s in implementation of all current and future ADB programs and projects are monitored by project team. In addition, ADB will continue to support Government efforts in this area through awareness, and capacity development training, and workshops. 9. The internal audit departments (IADs) of the three rural development ministries have prepared a 3-year rolling Strategic Audit Plan from 2011 to 2013. A staff development and training plan is also prepared by the IADs of Rural Development Ministries. One training program had been completed and two more training workshops are scheduled in 2010 with support from the ADB project,a and will fully cover the 48 internal audit staff in 3 rural development ministries.

10. 64 staffs from MRD, MAFF, and MOWRAM were trained by EFI in 2009 under the capacity development activities under the PFMRP. In addition, targeted training under the ADB projecta during 2010 will be to hold: 22 training courses in EFI (40 people each), 18 ministry seminars (60 people each) and 33 IT courses (50 people each) within ministry facilities – a total of approximately 2,950 person-courses and addressing the training of some 1,500 staff. As at June, 8 EFI courses have been given (353 people covering 22 ministries), 5 ministry seminars (300 people) and 6 IT courses (180 people). All training materials have been uploaded to project website.

3. Strengthening External Audit as a Pillar of Public Accountability

11. Action Plan under development and implementation progressed, based on Peer review recommendations

11. The international Peer Review was undertaken by the New Zealand Office of the Auditor General in May 2010, which established a clear baseline for long-term capacity development. While recognizing the strong public audit mandate in Cambodia and accomplishments of the NAA within eight years of its establishment, the peer review has evaluated the NAA’s current institutional and practices, which disclosed compliance focus in audit, capacity and resource constraint to widen its audit coverage and need for strengthening external relationship. The peer review has recommended among others, systems to build internationally

Appendix 4 25

Objective Core Policy Actions

Actions Taken

benchmarked methodologies and audit practices, develop strategy for wider contribution to the PFM reform, continue implementing its strategies for developing its infrastructure including its workforce and a comprehensive and sustainable ICT platform, develop independence and accountability framework through implementation Sub Decree and working procedure with Commission No. 2 of the National Assembly, establish systems for coordination with the Internal Audit, Inspection Units and Anti-Corruption Units, establish performance audit practice , revisit the Strategic Development Plan to establish short/medium term and long term strategy for comprehensive capacity development, coordinated development partner assistance and synergy with partner SAIs. The draft peer review report is under examination in the NAA. The NAA will formulate an action plan to address development and capacity issues based on the peer review recommendations by August 2010. NAA will implement key recommendations of the peer review during 2011-2013, and will require support of development partners such as the ADB and the World Bank.

CS = Competitive Shipping, EFI = Economic and Finance Institute, ICB = International Competitive Bidding, FMM = financial management manual, GGF = good governance framework, ICT = Information and Communication Technology, IMF = International Monetary Fund, JCCPR = Joint Consultative Committee for Portfolio Performance Review, MAFF = Ministry of Agriculture, Forestry, and Fisheries, MOWRAM = Ministry of Water Resources and Meteorology, MRD = Ministry of Rural Development, NAA = National Audit Authority, NCB = National Competitive Bidding, NPAR = National Public Administration Reforms, NZOAG = New Zealand Office of the Auditor General, PDM = Public Debt Management, PFM = public financial management, PFMRP = Public Financial Management for Rural Development Project, PM = Procurement Manual, POC = Priority Operating Cost, SOP = standard operating procedure, WB = World Bank. a Grant 0133-CAM: Public Financial Management for Rural Development Program, Subprogram I.

26

Appendix 4

Table A4.3: Program Policy Matrix – Subprogram 2 Update on Non-Core Policy Actions

Non- Core Policy Actions Progress

1. Strengthened Financial Management Framework to Increase Accountability 1a. Strengthen public financial management (PFM) policy framework and incentive system

(1) Implementing instructions for PFSL identified and discussion on draft started at PFM steering committee meetings by fourth quarter 2009

Annual financial law (budget) for 2010 prepared in accordance with new budget classifications and chart of accounts; (ii) guidelines on program budgeting was prepared and disseminated; (iii) MTEF 2011-2013 was updated. In addition, improvements made to the presentation of the 2009 and 2010 budget and more detailed information disclosed on the Domestic Capital Budget MEF did not foresee the need for exclusive implementing instructions and focused on specific strategy and direction to further improve the comprehensiveness and integration of the budget within the scope of the PFSL.

(2) Implementation of PFM ministry action plans (MAPs) in rural development ministries commenced in 2009

All the three RDMs have prepared MAPs, MAFF reports monthly progress against MAP, and MRD and MOWRAM quarterly.

(3) Procurement audit office fully operational in MEF by June 2009, including monitoring and enforcement of MEF instructions

Key outputs for DPP for 2010 include plans to develop a strategy for post review and a performance monitoring and evaluation of procurement by line ministries.

(4) MEF conducts ex-post reviews of rural development ministries' procurements by third quarter of 2009

DPP conducted post audit on 16 Ministries and 22 provinces (Progress Report 2009 on PFMRP, prepared by the Secretariat of the PFM Reform Steering Committee, 16-17 January 2010).

(5) MEF procurement website operational by the beginning of 2009 Work in progress to develop an electronic procurement Bulletin (e-PPB) and/or Procurement Website by end December 2010.

1b. Improve expenditure efficiency (6) Expanded use of the banking system for Government revenue

and expenditure transactions in all ministries by 2010. Budget execution has seen Treasury Single Account strengthening with a reduction of bank accounts from about 3000 in 2006 to only 6 accounts which are maintained at provincial level. The payment through banking system has expanded significantly. 26 Ministries have used banking system for salary payments as of December 2009. Customs and tax revenue collected through the banking system has been more than 90% of the tax revenue collected in 2009. Budget holders have been increasingly able to commit expenditure in line with budgets and cash flow forecasts. Pilot projects of commercial banking service use have been implemented in selected provinces. Quarterly, bi-annual, and annual performance report formats of budget execution prepared and circulated to priority line ministries.

(7) Annual budget document, MEF budget execution reports and audited annual financial statements after submission to National Assembly published

In 2008, the MEF published the first budget summary, setting out the main spending and revenue features of the budget and the budget objectives. This was a major step towards more fiscal transparency. In-year budget execution reports are published on the MEF website. Although they are not updated regularly, their frequency is increasing. A year-end budget settlement report is prepared and audited by the NAA. Efforts under the PFMRP continued to ensure that audited financial reports are current and made public by the

Appendix 4 27

Non- Core Policy Actions Progress

government. Based on Public Financial Law, reports on macro-economy and public finance were presented twice to the Parliament. Budget briefs were issued; and 2006 Audit Report was published.

1c. Strengthen debt management (8) Operationalize middle office function in Debt Management Office

(risk analysis and debt portfolio management) by June 2010 Staff focused on middle-office (MO) work started in January 2010, and have undergone a variety of MO training and work, all on-going.

(9) Training provided to MEF Debt Management Division on using all modules of the DFMAS database and debt sustainability analysis by 2010 and regular debt reporting to MEF Department of Budget occurring

The implementation of DMFAS has been further improved through having established more work stations and upgraded staff's capacity. DMFAS has been used to administer data of grant and concessional financing. Staffs in charge were sent to attend local and overseas training and workshops on debt management, DMFAS use and analysis on risk management (Philippines, Malaysia, and Switzerland). Workshops on debt management strategy and DMFAS's functions were conducted for officials of the DIC and other relevant departments.

(10) Implementation of new Chart of Accounts and new budget classification with respect to capital investment expenditures by 2009

PFM Reform Secretariat is seeking to engage a Data Integration Specialist to support DIC to implement the new Chart of Account (COA) and Budget Classification (BC) with respect to capital investment expenditures.

2. Strengthened Financial Management in the Rural Priority Sectors to Improve Service Delivery to Rural Population 2a. Strengthen integrated water resource management framework specially with respect to participatory planning water management framework

(11) Adoption of FWUC subdecree on water user charges for sustainable management of national irrigation system adopted by MOWRAM and implementation commenced by 2009

The Farmer Water User Communities (FWUC) sub decree has been drafted and is now with Council of Ministers for approval. Besides, MOWRAM have produced 3 other sub-decrees which have been submitted to the Council of Ministers for approval and onward transmission to the National Assembly (i) Water Quality Control, (ii) Water License and (iii) River Basin Management. Furthermore a final draft has been made of the Underground Water sub-decree.

2b. Improve budget comprehensiveness (12) Rural development ministries to prepare budgets which include all

Government-financed expenditure and at least 50% of donor-financed expenditure by 2010

This is work in progress. 2010 budget includes domestically funded public investment programs for the three rural development ministries. In each Ministry there is a sector strategy. The ADB projecta team has trained staff in all 3 ministries linking sector strategies with budgeting mechanisms in February 2010; these linkages are institutionalized in MAFF and MRD. The budget preparation in MAFF and MOWRAM is based on the strategic plan, with both the planning and finance departments having formed a budget formulation committee. MAFF and MRD are using program budgeting to some extent which is partially an attempt at costing the sector plan. This aspect will be replicated in MOWRAM who at present are still operating in the traditional method of putting together budgets. For the budget 2009 and 2010 there is a demonstrated shift towards strategic allocations of budgets and MRD has experienced 25 % budget increases due to strategic issues in each of the last 3 years. However,

28

Appendix 4

Non- Core Policy Actions Progress

the overall allocation of budget resources to the rural sector is experiencing a decreasing trend. Based on available data it is estimated that total expenditure for rural development calculated as the sum executed by the three line ministries (MAFF, MOWRAM, and MRD) was 4.4% of recurrent expenditure in 2006 declining to 3.3% in 2010.

2c. Strengthen budget execution and improve public procurement in rural development ministries

(13) Rural development ministries posting all bidding opportunities on the Government procurement website by 2010

MAFF & MRD have a website, but MOWRAM does not have a website – these facilities need to be enhanced - Refine and link with the efforts of DPP.

2d. Improve budget accounting, monitoring and reporting (14) Implementation of budget classification system for functional and

program classifications in MAFF, MRD and MOWRAM by 2009 ADB current capacity development grant projecta is training staff for all 3 RDMs in the new chart of accounts and revised budget classifications.

(15) FMIS pilot rolled out in MAFF and MRD by 2010 The MEF FMIS system is not expected until 2012, and this will delay pilot roll out to MAFF and MRD.

(16) Expansion of M&E framework to MRD and MOWRAM by 2010 M&E system in MAFF is being implemented. Manuals have been distributed along with targeted training across the whole ministry. MAFF has allocated 30 million riel to M&E. ADB projecta will build upon the MAFF M&E system to be replicated in MRD and MOWRAM, and provide manuals with training in 2010.

(17) All relevant staff of pilot ministries trained in M&E by 2010 (18)

2e. Improve audit oversight in the rural development ministries (19) Internal audit units in rural development ministries fully staffed and

submitting reports to MEF and NAA by 2010 Internal Audit Units in the 3 RDMs have been established and are staffed - audit staff will complete training in 2010 with support from ADB project. a One (1) training on Strategic Audit Planning conducted for Senior Management (Directors ad Deputy Directors) of three rural development ministries including MEF was held in 2009. Internal Audit Manual prepared and finalized. Training on Internal Audit Methodology (Risk-based Process-focused) conducted from April-May 2010.Strategic Audit Plans (three-year rolling plan) are prepared by IADs of rural development ministries. Pilot testing on the application of the Internal Audit Methodology by the IADs of three rural development ministries including MEF-IAD is planned for 2010. Audit Reports are envisaged to be produced by pilot-test audit teams in 2010 with support from ADB project. a

(20) Mechanisms and procedures established for effective follow up of

audit recommendations by MAFF, MOWRAM and MRD senior management by 2010

The Audit Manual and the Audit Approach to be introduced will enable the IADs to plan and execute their audits and report the results of the same more effectively, including the procedures for the follow-up of audit recommendations.

2f. Improve the framework for decentralized service delivery

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(21) Rural development ministries plan and implement new roles and responsibilities for service delivery at subnational level by 2010

Following the passing of the Organic Law in May 2008, D&D committees have been established in each line ministry as well as a joint MEF-MOI technical working group to coordinate the reform agenda across the Government, to finalize the draft Law on Sub-National Finance, and to coordinate public financial management and decentralization reforms. An ADB TA - Developing an Institutional Framework for Decentralized Reforms – has commenced implementation from July 2010, and will assist MEF and MOI in the area of functional assignments, the legal and regulatory regime for inter-governmental financing arrangements and strengthening institutional coordination arrangements and capacity.

(22) Rural development ministries implement new financial arrangements for service delivery at the subnational level by 2010

MEF has taken the lead on fiscal decentralization. They oversee the commune intergovernmental transfer and financial management systems, delegating some tasks to their provincial departments. The PFMRP also includes fiscal decentralization responsibilities, and is managed by MEF. A draft Financial Regime and State Property Management Law for Sub-National Governments has been prepared and submitted to National Committee for Deconcentration and Decentralization. MEF has also prepared a draft on tax revenue for the sub-national levels. Fiscal decentralization is still in the planning stages with the draft Law on sub-national finance (revenue and expenditure assignments and fiscal transfer modalities) continues to be discussed within the Government.

2g. Strengthen PFM capacity in rural development sectors 3. Strengthening External Audit as a Pillar of Public Accountability

3a. Strengthen the effectiveness of NAA (23) Training / capacity development for projects auditing and on-site

review for donor-funded projects by 2010 One training program on audit of externally funded projects was organized in December 2009, and seven training programs for donor funded projects planned for 2010 on the Manual for audit of donor-funded projects and pilot audits (2). Four externally aided projects have been audited by the NAA in 2009, comprising of (i) - ADB-LN1969: Mekong Tourism Development Project; (ii) ADB-LN1939: Tonle Sap Environmental Management Project; (iii) WB-IDA3822: Provincial and Rural Infrastructure Project-executed by Ministry of Public Works and Transport; and (iv) WB-IDA3822: Provincial and Rural Infrastructure Project-executed by MRD. 6 projects are proposed to be audited in 2010, including 2 pilot audits under ADB grant support - ADB-0133-CAM (Component 4) to establish model framework of audit of donor funded projects.

(24) Implementation of Sub decrees to support the law on Audit clarifying role and functions of NAA

(28) Draft Implementation Sub-decree developed by the consultant under ADB projecta is under review in the NAA. The sub decree will facilitate implementation of the Audit Law and will provide regulations on the following: obligation of the auditees in relation to external audit, deadlines for preparation and submission of the audited financial statements and budget settlement accounts to the national assembly; NAA’s role in the context of ongoing reforms

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in financial management decentralization and de-concentration; the relationship between the NAA and the CFBA of national assembly and the senate; process for publishing and tabling the audit reports; the provisions of the law relating to restriction of disclosure of information contrary to public interest; the process of selecting an independent auditor; and the interface between internal audit and the NAA etc.. The sub-decree will serve as a basis to clarifying the definitions of the processes, procedures, and organizational interfaces for NAA; strengthening the independence of the NAA; and improving communication between the various external agencies and the institutions the NAA deals with.

(25) Mechanisms and procedures introduced for internal audit report to meet reporting requirements under the audit law and generally accepted audit standards

A draft protocol for synergy between the external and internal audits has been prepared with support under the ADB projecta and is under consideration by the NAA in coordination with the MEF. This will synergize the two audits and improve coordination and cooperation between NAA and the Internal Audit Departments.

ADB = Asian Development Bank; CAR = Council for Administrative Reform; CFBA = Commission of Finance, Banking and Audit, D&D = decentralization and deconcentration; DMFAS = Debt Management and Financial Analysis System; DPP = Department of Public Procurement; EFI = Economics and Finance Institute; FMIS = Financial Management Information System; FMM = Financial Management Manual; FWUC = Farmer Water User Communities; GGF = Good Governance Framework; MAP = Ministry Action Plans; M&E = Monitoring and Evaluation; MEF = Ministry of Economy and Finance; MAFF = Ministry of Agriculture, Forestry and Fisheries; MRD = Ministry of Rural Development; MOWRAM = Ministry of Water Resources and Meteorology; MTEF = Medium-Term Expenditure Framework; NAA = National Audit Authority; PFM = Public Financial Management; PFMRP = Public Financial Management Reform Program; PFMRDP = Public Financial Management for Rural Development Program; PFSL = Public Financial System Law; PM = Procurement Manual; RDM = Rural Development Ministries SOP = Standard Operating Procedure; WG = Working Group; TA = Technical Assistance.. a Grant 0133-CAM: Public Financial Management for Rural Development Project, Subprogram 1. Source: Asian Development Bank.