37785 September 2006 · Number 92 A regular series of notes highlighting recent lessons emerging from the operational and analytical program of the World Bank`s Latin America and Caribbean Region. BRAZIL Designing a New Loan Prototype to Meet Client Needs Ruxandra Burdescu and Chris Parel1 "SWAps give us the opportunity to respond to client demand, to align our processes with country institu- tions, and by broadening our focus to whole sector programs, to scale up the impact of our work." - David de Ferranti, Special Advisor and former Vice President, Latin America and Caribbean Region of the World Bank By 2003-4, the accumulated burdens of slow growth Adapting Lending to Client Needs and debt overhang weighed heavily on Brazil's state governments. The State of Ceará was no exception. Two key questions faced those preparing the loan. Discretionary expenditures were frequently cut to a First, how can disbursement be made to the Treasury third of their budgeted amounts, and funding had dried and at the same time help Ceará meet its sectoral up for priority programs and even essential services. development agenda priorities? And second, how The state's development agenda was shelved as Ceará can incentives be provided and resources ensured struggled to survive. for critical sector programs without funding them directly? The solution combined two World Bank Desperate for help, the Government of Ceará, lending instruments ­ the Sector-Wide Approach supported by the Federal Government, sought the (SWAp), which disburses against client program assistance of the World Bank. The challenge for the expenditures; and the Adaptable Program Loan Bank and State officials was to craft an operation that (APL), which provides sequenced loans for long-term addressed fiscal needs while supporting development development support. This new modality has been agenda objectives. Even in Brazil, one of the Bank's coined as the SWAPL (SWAp + APL) (See Box 1). most prolific borrowers, there were no sub-national lending models for this kind of work. Clearly The Ceará SWAPL consisted first of a $150 million something new was required. loan to be followed by a $90 million operation. Because the loan disburses directly to the Treasury, Bank and State officials pooled their knowledge and the State can use the funds to manage its indebtedness came up with such a prototype operation ­ the Ceará problem. At the same time, the State has agreed to Multi-Sector Social Inclusion Development Project. The meeting: (i) predetermined expenditure levels in nine loan addressed the State's fiscal needs by disbursing key budget programs across five line sectors, and directly to the State Treasury. At the same time, it (ii) annual macroeconomic and sectoral benchmarks supported the development agenda by incorporating that constitute disbursement conditions. Hence, the a strong results-based management (RBM) framework loan rejuvenates key sector programs and re-launches based on the objectives already established by the the State's development agenda, comprising fiscal State. Working across a half dozen sectors, the RBM sustainability, social inclusion, state modernization framework turned the State's priority fiscal and social and sustainable growth. targets into disbursement- linked indicators. 1- Ruxandra Burdescu and Chris Parel work with the Public Sector Management Group in the Latin America and the Caribbean Region of the World Bank Key SWAPL Features operations. Operational innovations. The Ceará SWAPL incorporated over a dozen significant lending 2. The public sector management (PSM) component innovations. The most important of these included the served as an umbrella, under which the other sector following: programs were structured. Innovative results-based management initiatives oriented work in each of the 1. Unlike traditional SWAps that normally support a other sectors. single large Government sector program, the SWAPL worked in six main line sectors, namely education, 3. Thirteen benchmarks were established in the six environment, health, water resource management, water sectors -- two or three per sector. These benchmarks, and sanitation, and public sector management. By which were derived largely from the State's development addressing numerous sectors under one loan, it generated agenda, became disbursement-linked conditionalities, results that could only have been achieved by multiple each one worth about $2 million for the fourth and Box 1: Overview of the SWAp and APL instruments Sector-Wide Approaches (SWAps) leverage Bank funds by disbursing against large, priority client program expenditures. For instance, if the Bank approves of a country's rural health program, it may choose to implement a SWAp, disbursing the Bank loan at a rate of 10-20 percent of the annual client rural health expenditures each year. SWAps originated in Africa and South Asia in the mid-1990s, and were used mostly to support social sector objectives. SWAps meet demands for flexibility and harmonization with Bank Country Assistance Strategies (CASs) and client strategies. SWAps also minimize transaction costs associated with more traditional Bank approaches, such as the need to detail loan components, procure goods and services, and then account for them through statement of expenses, supervision missions, and audits. Using client systems also can simplify the process. Expected Development Benefits of SWAps derive from their being vehicles for strengthening governance and implementation capacity by encouraging: - Stronger country ownership - Coordinated and open policy dialogue - Rational resource allocation based upon priority programs - Scaling-up of program benefits throughout the country - Sector-wide accountability and strengthening of fiduciary and environmental/social safeguards - Upgrade of client capacity, systems and institutions - Reduction in unnecessary bureaucracy and transactions costs - Greater results focus. An Adaptable Program Loan (APL) provides phased support for long-term development programs. The APL requires Bank- client agreement on (i) the phased, long-term sector development program supported by the loan; (ii) development priorities for sector investments and recurrent expenditures within the sector; and (iii) the evolution of sector policies in each APL phase. APLs have triggers, or conditions that define when the next sequential loan can initiate operations. APLs are used when sustained changes in institutions, organizations, and client behavior are essential to successfully implementing a pro- gram. Such reforms generally take a long time to implement, requiring sequenced activities, specifically investments, insti- tutional strengthening, policy reforms and constituency building. The APL provides incentives along the way, through stag- gered disbursements, for clients to implement such long run programs. Key advantages for clients include: - Reform realism: Arbitrary front-loading of policy conditionality is replaced by realistic phasing of reforms. - Continuity: Long-term planning and sustainable institution-building are supported by bridging electoral cycles and administration changes. - Financial Charges: Commitment fees are reduced. 2 · September 2006 · Number 92 fifth disbursements. Other `global' conditionalities doing the equivalent of CPARs (Country Procurement included completion of prototype sector strategic plans, Assessment Report) and CFAAs (Country Financial primary surplus targets and satisfactory performance by and Accounting Assessment) in Brazilian states, and the Bank's other three loans to Ceará (two were rated both were conducted in Ceará. Findings supported unsatisfactory at the time the SWAPL was prepared). the decision to rely on client systems. The State Procurement Assessment Report (SPAR) resulted in the 4. Nine Eligible Expenditure Programs (EEP) --SWAps SWAPL funding ongoing procurement reform initiatives disburse against program expenditures--were selected in its technical assistance component. The State from among the five line sectors' most important budget Financial and Accounting Assessment (SFAA) identified programs that were also linked to benchmarks. Annual some weaknesses in the State's audit capacity, which budgets were projected for each of the EEP, and a were addressed in a large technical assistance component condition was established that disbursement against during project preparation. The component was sector indicators would take place only if 70 percent of subsequently funded by an Inter-American Development the projected expenditures had been spent in the relevant Bank (IDB) nationwide loan, designed to strengthen sub- period. In this way, sectors were assured of receiving national audit capacity. resources required to carry out the EEP. Technical assistance component. The loan provided 5. EEP expenditures were pooled for the purposes of for a substantial technical assistance (TA) component calculating loan disbursement. A loan disbursement supporting sector objectives. The TA emphasized results- percentage of up to 35 percent was used, meaning that if based management and strengthened fiscal and fiduciary the client projected $100 million of pooled expenditures control mechanisms and systems, and institutional in a six-month period, the Bank could disburse up to $35 strengthening of the Controller and procurement. million. Five disbursements were projected at roughly six-month intervals ­ four of these against projected Strong Monitoring and Evaluation (M&E) framework. expenditures. Each disbursement was capped at an The SWAPL has been cited as a best practice in terms amount that would not jeopardize the primary surplus, of its managing-for-results focus and M&E design. while providing an incentive to meet benchmarks. The indicators and disbursement conditionalities were developed collaboratively, and with them, the M&E 6. The SWAPL forged collaboration between line and framework. And because the indicators came out of central secretaries, replacing the contention and irregular the Government's development agenda, ownership was funding that resulted from central secretaries' weekly assured. The Ceará Government rightly takes pride decisions on how to allocate scarce budget resources. in what it has helped to create. M&E is simplified The State Secretaries now receive program funds to for the Bank, as the Government is obliged to present meet SWAPL benchmarks thereby assuring the flow of evidence of fulfillment of conditions of disbursement in loan proceeds to the State Treasury. order to receive loan funds. It is noteworthy to mention that one 2005 health indicator will not be met. When Reliance on country systems and procedures. An this fact became apparent, Ceará formed a multi-sector important element of SWAps is the use of client commission to investigate the causes. The result was the organizations and systems wherever possible. development of an action plan of reforms that will have Consequently, a small Project Implementation Unit (PIU) much broader consequences for the State. of full-time staff was established under the immediate supervision of the head of the Secretary of Planning's Lessons Learned/Challenges Research Institute (IPECE)--the same unit that took the Overview. It is de riguer at the Bank to extol the lead in loan preparation. virtues of simplifying and focusing: Hence, `Christmas tree' loan design, which include numerous different Bank fiduciary oversight also relied upon Ceará's sector objectives, generally are avoided, disbursement financial systems and reports, once they had been conditionality is not done outside of adjustment loans approved by financial management specialists. This and other forms of conditionality are minimized. Yet, is a first for a sub-national government. The Bank is in some circumstances, a `Christmas tree design' with September 2006 · Number 92 · 3 conditionality is very likely the best way to minimize risk product of a joint Bank-client diagnostic of priority and ensure that `easy', important and often interconnected actions for each sector. reforms across multiple sectors are implemented. The sector diagnostics identified numerous sector During loan preparation the project design was roundly indicators that were considered important by sector criticized for not limiting sectors and conditionality. specialists but not sufficiently important to be either But subsequent experience with the Ceará SWAPL has disbursement conditions or triggers. These other demonstrated that the design works. Hopefully future indicators were included in the Project Appraisal SWAPL's will be easier to prepare. It is also instructive Document annex to support the Government of Ceará to note that this loan could never have been done had and sector managers in their efforts to spearhead a it not been for the ardent support of the Government cultural change endorsing results-based management. of Ceará, which saw in the multi-sector conditionality For this administration, this has happened. a means of reaffirming its development agenda and commitment to its constituency. The SWAPL has a third tranche condition requiring the Government to produce six Bank-vetted Strategic Sector Number of sectors. The team originally wanted to work Plans with measurable indicators. These Plans are to in eight sectors, but was obliged to limit it to six, owing be mainstreamed into priority setting, budgeting, budget to the highly innovative, hence `risky' nature of the execution, and M&E in a continuous cycle dovetailing SWAPL. Each sector component is the equivalent of a with Multi-Year Budgeting Plans (PPA) and State small, but important, sector loan in terms of goals and systems and procedures. The State went much further, objectives to be achieved. Hence, one real advantage of requiring every sector to develop, submit, and refine in this `Christmas tree' approach is that the Bank and Ceará an iterative process a results-based sector strategic plan. optimized the operation's development impact, taking Whether this impressive initiative will withstand the advantage of development synergies through integrated, rigors of regime change is yet to be seen, but phase two cross-sectoral approaches. The inclusion of an umbrella of the Ceará SWAPL is intended to support results based PSM sector is also an innovation worthy of replication, management initiatives. as it included important results based management, fiduciary and fiscal initiatives that linked the line to the Risk aversion. The Bank is generally risk averse and center sectors, ensuring comprehensive sectoral reforms. promotes simplification, focus, and minimizing or eliminating conditionalities. But this may not always A second justification for multi-sector operations is that be what is needed. Furthermore, the negotiating a single sector SWAp program in some small countries governments are also risk averse when it comes to and most sub-national entities may not be big enough to disbursement conditionalities. Strong client support justify the necessary Bank disbursement, hence, aggregating and ownership are critical remedies for overcoming risk programs across a number of sectors becomes a necessity. aversion in SWAPLs. Number of indicators. The advantage of this SWAp is Conclusions that the `global' and 13 sectoral indicators/conditions of An innovative SWAp variation has been approved disbursement (with price tags of about $2 million each) that opens up numerous new possibilities to governing the fourth and fifth disbursements are also strengthen the design of SWAps and other loans in included in the loan agreement. Other than adjustment order to enhance loan impact. There is significant loans, conditions for disbursement rarely have been interest in Brazil and elsewhere in replicating the incorporated into Bank loans hence it is important that Ceará SWAPL. Project and reform implementation they support key client priorities. Finally, there are 17 appear to be on track. Perhaps the most important APL triggers across the six sectors--also exceeding the conclusion is to understand that the Bank is Bank's guidelines for well-focused APLs. Even so, sufficiently flexible to allow enterprising staff and the expectation is that most will be met or exceeded. It clients to design the sorts of operations that will is noteworthy to recall that these indicators were the optimize development impact. "en breve" is produced by the Knowledge Team of the Operations Services Department of the Latin America and the Caribbean Region of the World Bank - http://www.worldbank.org/lac 4 · September 2006 · Number 92