Honduras Economic and Financial Management Project Credit No. 34149HO Proposed Amendment of the Development Credit Agreement 1 I submit for your approval the following memorandum and recommendation on a proposed project restructuring of an existing credit to the Republic of Honduras in the amount of SDR 14.4 Million, equivalent of US$ 19.0 Million, on standard IDA terms. 2 The purpose of this Memorandum is to recommend changes to the 3414-HO project components and approval of the corresponding amendment to the Development Credit Agreement (DCA). This credit-restructuring proposal attends to the Borrower's request presented in the letter attached below. 3 After reviewing the Borrower's request and the project's status basedon the last two supervision missions, I hereby recommend the approval of the project's restructuring and DCA amendment based on the following considerations: I Background l 4 The 3414-HO DCA (Economic and Financial Management Project - EFMP) was signed on October 24th, 2000 and became effective as of April 3rd, 2001..The closing date for the credit is August 31st, 2004. 5 The development objective of the project is to deepenpublic sector reforms by: a) improving transparency and accountability in the allocation and use of public resources; b) developing budgetary planning and evaluation capacity in the Borrower's Secretariat of Finance (Secretaria de Estado en el Despacho de Finanzas -SEFIN), and other participating Secretariats; and c) assisting the Borrower in the carrying out of the institutional restructuring within the telecommunications, ports and postal sectors and strengthening the technical capacity of regulatory entities. 6 To date, after almost two years of operation, the credit has disbursed around US$5.8 million out of a total US$19.0 million equivalent credit. The Presidential Commission for the Modernization of the State (CPIVIE) is the primary entity responsible for the implementation of the project; but Part B of the project (aimed at strengthening financial control systems) is carried out by the Comptroller General Office, recently converted into the Superior Accounting Tribunal (Tribunal Superior de Cuentas - TSC). 7 During the first two years of the project's implementation, the Borrower reached some important achievements related to the project development objective. SEFIN has been strengthened,both in its technical and organizational capacities, an Integrated Financial Management Information System (SIAFI) had been developed and its implementation within the public sector is in its early stages.Modem information technology instruments are being installed in this Secretariat and there is an implementation plan that aims to complete this process during the coming years. 8. Control capacities within the public sector are also being strengthened, such as through the recent creation of the TSC, which aims to implement a more independent and effective fiscal control system. The project supported the government to prepare and present the TSC Law to Congress. Since its approval, there has been a need to implement new regulatory provisions and to strengthen the new entity's capacity. 9 The project has also supported the Borrower in the preparation of a new Civil Service Law that will be presented to Congress shortly. The Borrower's Civil Service Directorate is preparing an implementation plan, in order to develop the country's capacity on human resource administration and to gradually introduce meritocracy in the civil service. Although major delays have been observed in the implementation of this part of the project, the government has reiterated its commitment to continue working towards achieving the objectives of this component. 10 A new Public Procurement Law was prepared by the current administration and approved l by Congress in 2002. A comprehensive plan is now about to be implemented in order to strengthen public sector capacities in this areaand to provide more transparency in public procurement activities. Given that the IDB prepared a larger and more complete project to support the Borrower's efforts in this area,the Association's DCA will no longer provide assistancein this component. Nevertheless, the Association's supervision activities would continue to monitor progress made in reaching the project development objective. 11 Finally, regarding the public services reforrn component, the project supported the Birrower's efforts to provide better services in the telecommunications, ports and postal sectors. Privatization strategies have been developed and they are being implemented. Regulatory entities are about to be strengthened and a new regulatory system will be placed to promote competitiveness within the reformed sectors. In addition to the areasincluded in the project objectives, a new legal framework for water and sanitation services was approved. 12 The new administration that took power in early 2002 is committed to project l implementation. However, it has requested some changes to the project structure in order to reflect its new priorities and to introduce new activities in some of the components to better fit the Borrower's program. II 0 Reasons for the Change 13 As the new administration took over on 2002, ongoing projects were aligned to new priirities and a renewed momentum was recovered for their implementation. In the case of the EFMP, the Borrower paid special attention to complete those activities related to reforms of infrastructure sectors, financial management systems and new institutional framework for auditing and control systems. 14. Despite the strong Borrower's commitment to the Human Resource Management reform, minor achievements were reached in this area.The discussion of the Civil Service Law was delayed and the need of other prior actions to implement such reform was identified. Within this framework, the Borrower decided to carry out a comprehensive reengineering process of the whole public sector, in order to identify individual reform strategies for each agency before a broader civil service reform is implemented. 15. Given the experience of implementing civil service reforms in changing environments, the Borrower's proposal appearsquite reasonable and recommendable. In fact, it might reduce the risk in a complex implementation process. In order to accommodate this proposal, the EF&IP would need to seechanges in its scope by adding a new component related to this objective. 16. Another areathat might need to be adjusted is related to the country's procurement system reform, on which the project was supposedto provide specific technical assistance. Certainly, addressing this issue would need much more effort than anticipated by the project. Therefore, the Borrower, with the support of the Association, asked the IDB to develop a broader TA operation in this area, which aims at the development of a long-term strategy to improve transparency and efficiency in the public procurement system. As a result, EF1MI)proceeds will no longer be necessaryfor this component and can be reallocated to reinforce other parts of the project. 17 Finally, recent institutional adjustments within the Borrower that had an impact on the agencies in charge of the project implementation create the need to update the institutional arrangements in the project organization. III 0 Objectives of the Amendment 18 The purpose of the proposed amendment is to introduce changesto some of the components and to create new activities that would facilitate the accomplishment of the project development objectives, considering those priorities stated by the new Honduran administration. 19 None of the core activities of the original project will be changed and the project development objective will remain as stipulated in the PAD and approved by the Board in 2000. However, new activities will facilitate both a more focused implementation of some of the components, and the harmonization of the project objectives with government priorities. 20 This project amendment would update the project to fit the new country context. Further, it would allow the Association to support the Borrower in accomplishing the fiduciary requirements for the implementation of both the CAS and the Poverty Reduction Support Credit (PRSC), which is currently being prepared. Moreover, new activities would facilitate the implementation of the recommendations that would come from the ongoing CPAR and CFAA. IV Recommended Changes l 21 In order to reflect the necessary changesin the project activities requested by the Borrower, the following amendments to the DCA would be needed: Project Component - Public ~un~gement and Internal Control (Part A) 22 No changes are expected in the substanceof this part of the project. The project will continue to support the development and implementation of SIAFI within SEFIN and other line Secretariats. However, in order to expedite the project implementation, SEFIN will be directly in charge of executing this component. Project Component - Reorg~niza~on of the Comptroller General's Office (CGR)/Strengthening Financial Control Systems (Part B) 23 The project will continue to support the country's strategy to promote transparency and accountability in the public sector and government affairs. However, as the CGR has been substituted by the new TSC, the project will focus on strengthening the new agency's capacity. Other activities would be maintained as originally designed. 24. The executing unit for this component would be under the new TSC. Project Component - Human Resources ~~n~gernent (Part C) 25 Given the delays in the approval of the Civil Service Law, activities to establish a modern human resources management policy, and design and implement a comprehensive human resource management system (SIARH), would be rescheduled. As a consequence, according to the Borrower's new strategy, fewer resources would be necessaryfor this component than originally expected. Project Component - Developing Performance Evaluation Capacity (Part D) 26 The scope of this component will be reduced and its implementation strategy will be changed. As the Borrower is currently promoting a comprehensive reengineering of the public sector, a new performance evaluation system would be developed once the government restructuring process is completed. 27* The new evaluation system would be focused on results evaluation and would provide efficiency and effectiveness indicators for public sector performance oversight. Civil society engagement would also be promoted throtIgh this evaluation instrument, particularly in the areas related with PRSP implementation. Costs would be less than the amounts originally allocated for this part of the project. Project Component - Public Procurement (Replaced') 28 As the Borrower has agreed with IDB on a larger project for development and implementation of a new Public Procurement policy and its instruments, the Association would no longer support this component. In coordination with the IDB, the team would continue supervising progress in this areain order to ensure that the project development objective is properly accomplished. Nevertheless, it is not expected that this change would impact the ' See paragraph 32 below. objective of the project, which aims at improving transparency and accountability in the allocation and use of public resources.Other components and new activities will largely strengthen the Borrower's capacity to achieve such development objective. Project Component - Consolidating Regulator Reforms (Part F) 29 The project will continue supporting the Borrower's efforts to reform the telecommunications, postal and ports sectors by introducing private participation and strengthening capacities within the country's regulatory system. 30 As requestedby the Borrower and recommended by a recent Association mission to the country, the component would include a new activity to encompass technical, financial and legal studies to support the Borrower in the petroleum sector reform. Project Component - Project Management (Part G) 31. This component would receive additional support, given the new activities that have been introduced to the project and the need for the close supervision of its implementation. New Component - Administrative Reform and Public Sector Reengirteering (New Part E) 32. A new component would be included in the project to support the Borrower in carrying out a comprehensive study for reengineering of the public sector and other administrative reforms strategies, such as decentralization of public services, e-government and simplification of administrative procedures. 33 These studies would provide the foundation for the overall public sector restructuring efforts, and the government would need to addresssome of the recommendations before fully implementing the new civil service legislation and the performance evaluation system. 34 The new component would also support the Borrower in the policy dialogue processby l implementing a communication campaign to build public support for the reform. This activity has been identified as critical for the successof similar reform processesin the Latin American region. 35. Resources would be reallocated from other components to finance these new activities. 36 As a result of the proposed changes,resources would be reallocated as shown in the following table: HONDURAS Economic and Financial Management Project Credit Resource Reallocation (US$ Millions) Component Original Proposed Public Finance Management and Internal Control 6.61 5.97 Reorganization of the Comptroller General's Office (Currently Tribunal Supefkv de Cue&as) 2.33 2.33 Human Resource Management 2.06 0.92 Developing Performance Evaluation Capacity 1.72 0.28 Public Procurement 1.20 0.00 Consolidating Regulatory Reforms 4.00 4.82 Administrative Reform and Public Sector 0.00 3.10 Reengineering Project Management 1.08 1.58 Total Project Costs 19.00 19.00 37 No reallocation of resources among DCA disbursement table categories is expected at this time. As a new part of the project, the new component (Administrative Reform and Public Sector Reengineering) would be financed with existing resourcesunder Categories (1) (a), (2) (a) and (3) (a) in the Schedule 1 of the DCA. V New arrangements for project implementation l 38 Non-substantial changes are expected in the institutional framework for project implementation. The Borrower already strengthened the central Project Coordinating Unit (PCU) by centralizing most of the project responsibilities under the CPME, a technical division reporting to the Minister of the Presidency. 39 The secondary Project unit (the PU under the new TSC) would remain as an independent Project unit. Part A of the project would be carried out directly through SEFIN; Part B would be carried out through the PU under the responsibility of the new TSC; and Parts C, D, E, F and G would be carried out through the PCU under the responsibility of CPME. 40. To enable new institutional arrangements the Borrower has: (i) contracted or made available qualified accountants to maintain records in the PCU and in SEFIN; (ii) contracted or made available procurement assistancewith experience in IDA's procedures for the PU and SEFIN; (iii) submitted the 2002 audit report; and (iv) prepared and presentedFinancial Monitoring Reports (FMR) as of March 31,2003. VI 0 Reexamination of Project Assumptions and Risks 41 Most assumptions identified in the Project Appraisal Document presentedto the Board of Directors on August 15, 2000, remain the same although there have been project delays and a change of administration. This is to be expected as we are dealing with long-term policies and reforms that would impact the country's situation in a longer period. 42 It is remarkable that the approval of the new legal framework for the creation of the TSC, l one of those critical assumptions, had been achieved during this period. Other legal reforms are on their way to be approved as well, creating a more favorable environment for the project to achieve its development objective. 43 Most of the risks reflecting those assumptions were rated as modest or substantial. Looking to the progress to date, its fair to say that those risks remain and the project would need continuous support and commitment from the government and the Association and IDB to overcome such risks. Measures identified to minimize risks have been implemented and would need to be strengthened. 44 Specifically, regarding the proposed new component, the project risk table would be updated as follows: Assumption Risk Risk Rating Risk Minimization Measure Borrower continues its Political and corporate S Public communication commitment to implement interests and pressures campaign would be launched in reforms and to reduce current interfere with Borrower's order to gain public support for expenditures and increase decisions. reforms. efficiency through public agencies restructuring. New civil service incentives would motivate public servants to support proposed changes. The World Bank 1818 H Street N.W. (202) 477- 1234 INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT Washington, DC. 20433 Cable Address: INTBAFRAD INTERNATIONAL DEVELOPMENT ASSOCIATION U.S.A. Cable Address: INDEVAS $2003 Lit. Arturo Alvarado Secretario Secretaria de Estado en el Despacho de Finanzas Tegucigalpa, M.D.C. Honduras Re 0 Credit No. 3414-HO l (Economic and Financial Management Project) First Amendment to the Credit Agreement Dear Sir: Please refer to the Credit Agreement (the Credit Agreement) between the Republic of Honduras (the Borrower) and the International Development Association (the Association), dated October 24,2000, with respect to the above-captioned Project. Based on discussions with your representatives, we are pleased to inform you that the Association hereby proposes to amend the Credit Agreement to read as set forth in Attachment A to this letter (the specific changesmade in arriving at those amendedtexts are reflected for your convenience in Attachment B to this letter). Please confirm your agreement with the foregoing amendments by signing and dating the two originals of this letter and returning one fully signed original to us. The amendment set forth in this letter will become effective as of June 1, 2003, upon receipt by the Association of (i) one fully executed original of this letter and (ii) a copy of the Subsidiary Agreement referred to in Section 3.04 of the Credit Agreement, together with legal opinions (from the Borrower and the TSC), satisfactory to the Association and issued by counsel acceptable to the Association, confirming that said Subsidiary Agreement has been duly authorized or ratified by, and executed and delivered on behalf of, the party on whose behalf the opinion is issued and is legally binding upon such party in accordancewith the terms of such Subsidiary Agreement. Sincerely, INTERNATIONAL DEVELOPMENT ASSOCIATION JaneArm&age Director Central America Country Management Unit Latin America and the Caribbean Region AGREED: REPUBLIC OF HONDURAS BY.. Authorized Representative Name: Date: