Report No. 42392-KG Kyrgyz Republic Country Fiduciary Assessment Update 2007 November 10, 2007 Operational Policy and Services Europe and Central Asia Region Document of the World Bank Kyrgyz Republic - Country Fiduciary Assessment Update Abbreviations and Acronynts P F M Public Financial Management PIFC Public Internal Financial Control P I U Project Implementation Unit PIP Public Investment Program POM Program Operations Manual PPB Public Procurement Bulletin PPER Public Programmatic Expenditure Review PPL Public Procurement Law RFP Request for Proposal SA1 Supreme Audit Institution SAPPMR State Agency on Public Procurement and Materials Reserve SO State-owned Enterprise STD Standard Tender Documents SIDA Swedish International Development Cooperation Agency SWAP Sector-wide Approach UAA Union o f Accountants and Auditors U S A I D United States Agency for International Development Regional Vice President: Shigeo Katsu, ECAVP Country Director: Annete Dixon, ECCU8 Acting Sector Director: Sunil K.Bhattacharya, ECSPS Sector Manager: John Hegarty, ECSPS Task Team Leader: Naushad A. Khan, ECSPS The CFAU team comprised Naushad Khan, Lead Procurement Specialist (Team Leader); John Otieno Ogallo, Senior Financial Management Specialist; Nurbek Kunnanalie\,. Procurement Specialist (ECSPS); Gulnara Suyerbayeva, Consultant; and Altyiay Beishenalieva, Consultant, The C F A U team received valuable inputs from the PPER team, led by Eka Vashakmadze and Roland Clarke; as well as Irina Goncharova, Program Assistant, ECCKG. 111 I.. Kyrgyz Republic - Country Fiduciary AJJessnieiit Updare 1\01 errlher. 200 - - KYRGYZREPUBLIC COUNTRY FIDUCIARY ASSESSMENT UPDATE 2007 TABLE OF CONTENTS 1.OVERVIEW OF PUBLIC FINANCIALMANAGEMENTIF THE KYRGYZ REPBULIC 8 .... 2. ACCOUNTING AND REPORTING ..................................................................................... ........I2 3. SALARY AND NONSALARYEXPENDITURES ...................................................................... ..18 4. INTERNAL CONTROL AND INTERNAL AUDIT .................................................................. ..22 5. EXTERNAL AUDIT ........................................................................................................................ 29 6. PUBLIC PROCUREMENT ........................................................................................................... 35 7. FIDUCIARY ISSUESIN BANK-FINANCED PROJECTS ........................................................ 48 ANNEX 1 ............................................................................ ...................... 53 SUMMARY OF RECOMMENDATIONS.................................................................... .................53 ANNEX 2 ,.. ............................................................................. UNIMPLEMENTEDMAJORRECOMMENDATIONS OFTHE 2002 CPAR ......................... V Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 KYRGYZREPUBLIC COUNTRY FIDUCIARY ASSESSMENT UPDATE 2007 EXECUTIVESUMMARY Introduction 1. The World Bank staff, in collaborationwith government officials, assessed the public procurement system of the Kyrgyz Republic. The Country Procurement Assessment Report (CPAR) was finalized in December 2002, and the Country Financial Accountability Assessment (CFAA) in 2003. A Public Expenditure Review (PER) was finalized in 2004; and in early 2006, the Public Expenditure and Financial Management Assessment (PEFA). These reports made recommendations to strengthen public financial management, including procurement. This report takes stock o f developments since 2002 within the Public Financial Management (PFM) Framework. It identifies the recommendations that have been implemented, and it lays out a road map to implement remaining reforms. It provides a basis upon which the Government o f the Kyrgyz Republic (GOK) can formulate a capacity-building plan to improve its fiduciary system. Donors can use the results o f this update in two ways-first, to develop strategies for assisting the capacity development plan, and second, to mitigate risks in individual operations. The country can use the information to monitor its fiduciary systems and the extent to which ongoing reform initiatives are improving performance. 2. This assessment was prepared in close collaboration with government counterpartteams and other donors. The teams analyzed relevant pieces o f legislation, gathered feedback through workshops, and conducted interviews with the Government, the private sector, and civil society. The report incorporates comments on earlier drafts and suggestions received from the government, including the Ministry o f Finance (MOF), the Chamber o f Accounts (COA), Ministryo f Economic Development and Trade and the State Agency on Public Procurement and Materials Reserve (SAPPMR). Progress towardPFM reform 3. An actionplan developedin June 2006 signifiedthe government's commitment to work closely with development partners on PFM reforms. The 2006 action plan addressed key elements o f the public finance management structure. Albeit uneven, some progress has beenmade in implementation. A new budget classification was introduced in January 2007, consistent with GFS 2001 principles. The new classification serves as a basis for consistent and transparent reporting, and it provides greater flexibility for budget organizations duringbudget execution. A new chart o f accounts has also been developed with support from DFID and the World Bank. 4. USAID has provided assistance to introduce international accounting standards in the public sector. A report recommending cash-based Public Sector International Accounting Standards (IPSAS) was sent to the government at the end o f 2006. There appears to be general support for implementation o f the cash-based IPSAS, and the Ministryo f Finance has issuedOrder No. 109to improve public sector accounting 1 Kyrgyz Republic - County Fiduciay Assessment Update November 2007 and reporting. The new chart o f accounts has not been implemented, because views on it differ among government officials. The new Division o f Methodology of Financial Reporting and Internal Audit inthe Ministryo f Finance i s expectedto develop a roadmap to introduce accounting standards and the new chart o f accounts. Technical assistance will be required to support the new division as the ministry lacks expertise on international accounting standards. 5. IPSAS and the new chart of accounts will require trained personnel. The Ministry o f Finance should seek donor support to outsource public sector financial management and accounting training to well-experienced training organizations in the Kyrgyz Republic. This will help to ensure continuity o f training and consistent quality standards. To create a critical mass o f trained officials to sustain reforms inpublic finance management, the ministry should seek donor assistance to establish a training center for public sector accountants. Additional training inbudget classification i s required for staff o fbudget organizations and Treasury and for staff inthe regions. 6. Developingthe new chart of accounts is running in parallel with modernizing Treasury operations under the Governance Technical Adjustment Credit (GTAC) program. This involves installation o f a computerized Treasury system with minor overhaul o f Treasury business processes. The Treasury, with the support o f DFID and the World Bank, has presented draft formats for new cash planning processes to the Ministry o f Finance. These will result in significant business process changes, including incorporationof commitments into treasury procedures, ifapproved. 7. The Ministry of Finance should finalize the chart of accounts and implement the cash-based IPSAS as recommended under the USAID-funded project. These measures will help to unify accounting among budget organizations and to ensure reliability and comparability o f financial reporting. The Government should also seek technical assistance in moving toward consolidated financial statements for the government as a whole. 8. Personnel and payroll processes are still decentralized. Line ministries are responsible for payroll within accepted remuneration guidelines. Decentralization o f payroll to line ministries has resulted in a lack o f effective, consistent controls. The quality o f authorization and audit trail procedures over payroll i s also questionable. The Government should centralize and automate the payroll function. A unifiedpay scale for civil service, tied to job descriptions, should eliminate the current, complicated multiple pay scales and simplify payroll tracking. In addition, control weaknesses associated with bonus distribution need to be strengthened. Related legislation in this area provides little guidance, which leaves too much room for managerial discretion and the potential for fraud. A pilot project in the Ministry o f Finance will attempt to develop a unified pay scale and a more transparent performance management system to simplify payroll tracking and rationalize bonuses. 9. The Government should create a secure, centralized database of public sector employees. Payroll processing should be computerized to strengthen internal controls. 2 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 The Government should also initiate review o fbonuses and allowances to public officials. The structure o f allowance payments should be based on transparent criteria, such as performance appraisals. 10. Several initiatives have introduced the internal audit function to the public sector. A working group o f government officials and experts from development partners has developed a legal framework for internal audit. A draft law on internal audit was distributed to line ministries for comment before final submission to the Government in April 2007.. The UK Department for International Development (DFID is providing technical advice to the Ministry o f Finance to help resolve disputes over the draft law. Subsidiary regulations and standards are also being prepared. A new Division o f Methodology o f Financial Reporting and Internal Audit was created as part o f the restructuring o f the Ministry o f Finance. The new division should play a coordinating role in facilitating dialogue. 11. With donor support, several line ministries have created internal audit units. Their effectiveness has not yet been assessed; however, significant training to develop skills and enhance the internal audit function has been provided under the DFID program. The Union o f Accountants and Auditors (UAA) is also participating in training. A draft audit manual i s being usedas the basis for training. DFID has also undertakenjoint audits with the Ministry o f Health and the Mandatory Health Insurance Fund. Further joint audits during the second half o f 2007 should provide additional hands-on training. 12. Despite some progress, internal controls and internal audit concepts are still a source of confusion among many authorities. A legal framework for internal control and internal audit has not yet been set up. There are too few trained public sector officials capable o f performing internal audits. Even inthe ministries and agencies where internal audit functions have been formally established, the focus i s frequently on intermittent inspections rather than continuous internal controls. Technical assistance may be needed from donors to build permanent frameworks that institutionalize managerial accountability and internal audit. The lack o f a robust, overarching legal framework greatly impedes units that are currently trying to put internal audit into operation. Development partner agencies should support accelerated enactment o f the Law on Internal Audit. 13. Needto clarify role of Ministry of Finance in internalaudit function. The role o f the MOF Financial Control Division needs to be clarified to remove ambiguity and address doubts over the direction taken by the Government to establish a modem internal audit function. Fears should be addressed that the control and revision units will be revived, which would duplicate the work done by the COA. 14. Little progress has been made on external audit capacity. Despite a much improved legal framework for external audit, the Chamber o f Accounts, the supreme audit institution for the country, functions largely as an inspection and control unit that ensures compliance with regulations. The chamber does not apply auditing standards for planning and conducting its work. Inthe absence o f consolidated government statements 3 Kyrgyz Republic - County Fiduciay Assessment Update November 2007 (even for line ministries), no financial statements audits have been possible. COA recently conducted its first pilot performance audit o f the Rural Education Project o f the Ministry o f Education, with support from USAID and using JNTOSAI audit standards. Suchjoint pilot audits are encouraged, as they help build COA capacity to perform audits as requiredby law, while applying modern audit techniques. 15. The Chamber of Accounts needs significant capacity building.This is necessary in order to make the transition from an inspection or control body to an external audit institution capable o f providing third-party assurance on the use o f public funds. COA will benefit from a twinning program with the UK National Audit Office, made possible under the Manas Taalimi Health Reform Program. An IDF grant has also been approved by the World Bankto develop capacity andhelp the chamber inthe reform process. 16. The independenceof the Chamber of Accounts is a matter of concernfollowing a constitutionalamendment in November 2006. The amendment granted power to the President to hire and fire the COA chairman without parliamentary approval.' External audit reform could therefore be held hostage to political whims. A review o f the legislation to grant the Chamber o f Accounts independence from the executive i s needed. COA should also strengthen its institutional base, develop a long-term strategic framework, and transform itself into a credible institution effectively representing transparency and accountability inpublic expenditure management. Publicprocurement 17. The PublicProcurementLaw (PPL) of the Kyrgyz Republiccame into effect on May 24, 2004. The PPL provides for a decentralized procurement system. Tenders must be announced publicly, which greatly strengthens transparency. The State Agency on Public Procurement and Materials Reserve (SAPPMR) i s responsible for assisting public entities inconducting procurement according to the law. 18. The Government implemented most of the Bank's recommendations in designing the Public Procurement Law, and many recommendations for organizational reform have been implemented. One o f the most important developments since the 2002 CPAR was the establishment o f the National Procurement Training Center (NPTC), which was supported by a grant from the World Bank. There are concerns about the sustainability o fNPTC when the Bank grant comes to an end. 19. Implementationof the 2004 public procurementlaw has been weak. Despite a comprehensive legal framework, the public procurement system suffers from significant deficiencies in practice. The PPL assigns a support and oversight role to SAPPMR; however, SAPPMR is unable to fulfill this role efficiently or objectively. SAPPMR lacks adequate capacity. Moreover, its involvement in the actual conduct o f procurement-clearly the responsibility o f procuring entities-conflicts with its function inoversight. At all levels ofgovernment, procuring entities are poorly organized. There 1Informationbased o n an amendment to the Constitution signed by the president o n November 9, 2006. A subsequent amendment was passed inDecember 2006. It is not clear whether this provision was affected by that amendment. 4 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 i s a general lack o f qualified procurement professionals; and as a result, poor practice prevails from procurement planning to contract implementation. 20. Significantweakness in the system need to be addressed urgently. Information provided in tender notices i s too often incorrect and misleading. Bidding documents are often unavailable to interested bidders. Technical specification quality is poor. Bid preparation time i s too short. Contract award decisions are frequently based solely on the lowest price, not the lowest evaluated price. Tenders are sometimes cancelled without notice or explanation. Contract management practices are poor. Contracts are sometimes terminated without justification. The complaint resolution mechanism appears to lack objectivity and transparency. Overall, it i s hardly surprising that providers o f goods, works, and services express general distrust o fthe system. 21. Procurement should begin with planning; however, budget formulation currently consists of little more than a list of items with estimated costs for budgeting.There is no multiyear planning. After a nationalbudget is approved, adequate procurement plans are neither prepared nor made public, which would help providers to adequately prepare responses to tenders. Procuring entities receive funds late inthe fiscal year, leaving insufficient time to conduct procurement efficiently and economically. 22. On January 9, 2007, the prime minister issued a resolution to reinforce adherence to the PPL. It is clear that the Government now needs to take even stronger measures to translate the legislative mandate into results. Benchmarking against international standards 23. The World Bank team and SAPPMR staff jointly analyzedthe Kyrgyz public procurement system. The system was benchmarked against international standards as described in "Methodology for Assessment o f National Procurement Systems Based on Indicators from OECD-DAC/World Bank Round, dated July 17, 2007.2 The OECDDAC methodology i s based on four pillars-legislative and regulatory framework (I); institutional framework and management capacity (11); procurement operations and market practices (111); and integrity and transparency o f the public procurement system (IV). Each pillar includes several baseline indicators (BLIs) and subindicators that describe formal and functional features o f the system. A score o f 0 to 3 i s assigned to each subindicator and then aggregated ina single score for the indicator. A zero indicates failure to meet the standard. A score o f 1 indicates that substantial work is needed. A score o f 2 shows less-than-full achievement, with need for improvement. A score o f 3 indicates that the standard was fully achieved. 24. Figure 1is a graphic that summarizesresultsfrom the benchmarking. The four points o f each diamond represent the four pillars (see previous paragraph). The area encompassed within the black diamond represents an "ideal" system that would 2 This methodology also includes compliance/performance indicators (CPIs), which require monitoring data to determine compliance with the formal system. CPIs were not used inthis assessment because of the lack o f data. 5 Kyrgyz Republic - Country Fiduciury Assessment Update November 2007 theoretically conform perfectly to international standards as defined by OECD-DAC definitions and methodology. The smaller reddiamond (within the black diamond) shows the Kyrgyz public procurement system compared to the ideal system. l a Figure 1. Kyrgyz Procurement System Benchmarked Against international Standards (OECD-DAC Methodology) Legislative Framework (I) ., Integrity& *- The "ideal'J Proc Operations & Markets I I AI,/ 25. As shown in the figure, the points of the diamond are determined by the composite scores for each of the four pillars transferred to the x and y axes. The highest Kyrgyz composite score is 2.1, representing the legislative and regulatory framework axis (Pillar I). Inother words, accordingto the BLIassessment, the laws and regulations in Kyrgyz Republic basically meet an acceptable international standard. By contrast, in institutional and management capacity (Pillar II), average score i s 1.0. the This means that institutional arrangements necessary to implement the legislation have not evolved accordingly. Inprocurement operations and market practices (Pillar 111), the average score i s 0.7. This reflects a strong need to initiate partnerships between the public and private sectors to strengthen existing external controls, to establish internal controls, and to implement the anticorruption program in an effective manner. In the integrity of public procurement (Pillar IV), the average score i s 1.2. This means that integrity and transparency needs substantial strengthening, not only internal and external controls o f public procurement but also measures to implement an anticorruption program inpublic procurement. 26. Annex 2 summarizes the main, prioritized recommendations of this report, based on resultsfromthe benchmarking. Some recommendations include: preparing a detailed implementation regulation; providing adequate staffing resources to the 6 Kvrmz Republic - Countw Fiduciaw Assessment UDdate November 2007 SAPPMR and helping procuring entities organize themselves to carry out procurement economically and efficiently in compliance with the PPL; and strengthening the National Procurement Training Center and making it sustainable by providing budgetary resources for training. There i s also need to improve the budget processes so that procuring entities receive timely allocations before the endo fthe fiscal year. 27. In addition, a mechanism is needed to collect, maintain, and disseminate procurementdata. The 2002 CPAR also included this recommendation. It is hoped that this recommendation will now be implemented. There is also need to improve bidders' trust in the system by improving the complaint resolution mechanism, the quality of tender documents, technical specifications, and the accuracy o f the information in tender and contract award notices. Finally, the integrity and transparency o f the public procurement system should also be improved by better alignment the PPL with anticorruption legislation, as well as increased training in public procurement to strengthen internal and external controls. 7 Kyrgyz Republic - County Fiduciay Assessment Update November 2007 1.OVERVIEW OFPUBLICFINANCIALMANAGEMENTINTHE KYRGYZREPBULIC Country EconomicContext 1.1. The Kyrgyz Republic remains one of the poorest countries of the Former Soviet Union (FSU), with GDP per capita of US$540. Following the collapse o f the Soviet Union in 1991, the Kyrgyz Republic underwent a severe economic crisis caused by loss o f transfers from the Union budget o f about 13 percent o f GDP and disruption o f economic links with other former Soviet republics. 1.2. The Kyrgyz Republicbegan market-based reforms in the early 1990s. Together with a benign external environment, these reforms led to an economic recovery during 1996-99, when annual real GDP growth averaged 5.5 percent (faster than most CIS countries, whose average was 3.1 percent). After the Russian financial crisis in 1998, growth slowed to 2.9 percent in 1998-99. The external current account deficit widened to 23 percent o f GDP in 1998, exposing the economy's vulnerability to external shocks. 1.3. Fiscal laxity in the 1990s, exacerbated by poor debt managementand the shock from the 1998 Russian crisis, increased external debt. This was compounded by the willingness o f the IFIs to finance imbalances to protect the social fabric o f a country considered a rapid reformer among CIS countries. Inaddition, overly optimistic forecasts o f growth undermineddebt repayment capacity. As a result, external debt rose from about a third o f GDP in 1995 to more than 100 percent o f GDP by the early 2000s. Tighter fiscal management in recent years has reduced debt to about 70 percent o f GDP. During 2000-05, the country achieved macroeconomic stability; and prompted by growing awareness o f the debt overhang, authorities stabilized the debt ratios through fiscal consolidation. With enhanced coordination among the IFIs, the fiscal deficit was reduced from 12percent o f GDP in 1999 to 3.1 percent o f GDP in2006. PFM Scenario 1.4. Reforms to public expenditure management began in the mid-l990s, and formed an importantelement of the NationalPovertyReductionStrategy (NPRS) of 1996-2005. The foundations o f public expenditure management were subsequently introduced, including a legal framework, budget management procedures, and a treasury system. NPRS recognized PFM as a pillar o f poverty reduction and economic growth. Donors have supported these reforms through bilateral technical assistance and implementation o f policy actions in budget support lending operations (such as Governance Sector Adjustment Credit (GSAC)). Donors have also undertaken several diagnostic studies o f the country's PFM framework. These studies have helped to informed the reform agenda. They have resulted in implementingactions such as revising the Law o f the Chamber o f Accounts (COA) and enactment o f a new Public Procurement 8 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 Law (PPL). In the Country Development Strategy (CDS) o f 2006-1 0, authorities recognize the persistence in problems in PFM) and that improvement is essential for poverty reduction and economic growth. The authorities have recently begun implementing an action plan supported by all donors, and they have adopted the strengthened approach to P F M reform. The PFM Action Plan o f June 2006 was prepared by the Ministryo f Economy and Finance3 in collaboration with donors. The plan is a systematic approach to define major (albeit feasible) reforms based on analyses such as the Country Financial Accountability Assessment (CFAA), Country Procurement Assessment Report (CPAR), Programmatic Expenditure Review (PPER), Public Expenditure and Accountability (PEFA), and various technical notes on budget preparation and execution. 1.5. Progress has been mixed after nearly a year of implementation. Progress has occurred in some areas but has been slow in others because o f poor management o f reform, lack o f clear champions, lack o f qualified staff, and inadequate technical capacity in reform areas. There is consensus that future Bank ESW should prepare strategic technical notes in conjunction with the authorities, including technical assistance to complement the implementation. The Bank makes use o f several tools for providing PFM assistance, including the PPER, which together with other donors continues to help authorities implement priority reforms in the PFM action plan. In addition, the PPER is also supporting capacity building in partnership with the Swedish International Development Cooperation Agency (SIDA), SEC04, and DFID, as well as technical notes with recommendations. Rationalefor the CFAU 1.6. The most recent analysis of public procurementwas the Country Procurement Assessment Report (CPAR) in 2002. The Country FinancialAccountability Assessment (CFAA) carried out in 2003 and publishedin 2004. A Public Expenditure Review (PER) was finalized in 2004. In early 2006, the Public Expenditure and Financial Management (PEFA) Assessment was finalized. These reports highlighted strengths, weaknesses, and recommendations for strengthening PFM, including procurement. Some o f these recommendations have been implemented; others have not. The Bank, the Government, and other partners needed to examine subsequent developments, identify reforms that have been implemented, and devise a roadmap for implementing those that remain. This report updates the analytical knowledge and technical assistance to authorities in accounting and reporting, public internal financial control (PIFC) framework, external audit, and procurement. 1.7. The PEFA assessment (2006) did not reach conclusions in the areas of salary and nonsalary expenditures or timeliness and regularity of accounts reconciliation. The PEFA assessment covered only internal controls inthe Treasury, not internal control inthe public sector as a whole. Moreover, post-PEFA developments inexternal audit and N o w Ministry o f Finance, after reorganization o f the Government SECO- Swiss State Secretariat for Economic Affairs 9 KyrgvzRepublic - Country Fiduciary Assessment Update November 2007 internal audit needed to be updated. In this context, the present CFAU examines the impact o f changed circumstances such as the new Constitution and institutional changes in the government. It reviews the PFM legal and regulatory framework to identify strengths and weaknesses and makes recommendations for improvements. 1.8. The CFAA and other PFM diagnostics provided useful input to the PEFA assessment that was carried out in late 2005.5 The PEFA assessment also benefited from the first stage o f the Programmatic Public Expenditure Review (PPER), carried out by the World Bank in 2005, which focused on key elements o f the PFM framework- budget formulation and execution processes, and monitoring and evaluation. PEFA findings provide a framework for decisions on the use o fcountry systemsand procedures. They provide an understanding o f the overall PFM architecture to enable development partners to design capacity development activities in close collaboration with the Government. The PEFA assessment also benefited from the Institutional Fiduciary Assessment (IFA) o f the health sector in 2005 under the National Health Reform Program-Manas Taalimi. The IFA focused on the capacity and risks associated with elements o f public financial management in the health sector. It made recommendations now being implemented for capacity buildingand risk mitigation measures. 1.9. Although the government has undertaken several reforms in the past few years, challenges remain and new developments affect the PFM. The CFAU provides the Bank, other donors, and the Government with an updated understanding o f the PFM framework, including fiduciary risks in general and risks related to donor development assistance in particular. The CFAU identifies progress made since earlier diagnostic assessments (CFAA, CPAR, PEFA, IFA), and provides tools to help the government prioritize actions to build capacity for public expenditure risk management. The present fiduciary update will help development partner agencies and the government reach a common understanding on the remaining or emerging PFM reform issues and how their resolution can assist inattaining agreed upon development objectives. 1.10. The CFAU also creates a basis for sustained dialogue with the Governmenton PFM and procurement reforms aimed at more efficient and effective use of public sector resources. The CFAU focuses on reviewing development o f the action plan initiated by the government as part o f its strengthenedapproach to PFM reform, but with emphasis on: (a) internal control and internal audit; (b) accounting and financial reporting; and (c) external audit. The CFAU also involves an in-depth assessment of the national procurement system using OECD-DAC/World Bank methodology, which compares actual practice against international standards. It provides information to monitor performance while identifying weaknesses in current systems and procedures. The CFAU informs development o f possible fiduciary risk mitigation and capacity buildingmeasures that, if successfully implemented, assure authorities that funds will be properly used. It provides the basis for more flexible management o f the annual budget. These measures will enable the World Bank and other development partners to make decisions about relying on the country's PFM systems and procedures in managing 5"Kyrgyz Republic-PFM PEFA Assessment Report," OxfordPolicyManagement,January 2006. 10 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 development assistance. 1.11.Taking account of the findings of diagnostic studies (including the PEFA assessment), the CFAU focuses on elements of the PFM system that directly affect the use of country systems. These include internal control and internal audit, accounting and reporting, external audit andprocurement. The CFAU examines current strengths and weaknesses in the PFM framework and focuses on fiduciary risks in the use o f public resources due to the identified weaknesses, as highlighted in the PEFA assessment and other studies. Weaknesses include weak internal controls that are compounded by the absence of a well-developed internal audit function, weak external audit, and weak public procurement capacity. The CFAU assesses progress made in implementing some recommendations of the CFAA and CPAR to address the weaknesses. 11 KyrgyzRepublic - County Fiduciary Assessment Update November 2007 2. ACCOUNTINGAND REPORTING 2.1. Governmentaccountingin the Kyrgyz Republicis performedat two levels. The first i s by line ministries, using a hybrid accrual-based approach for financial accounting. The second is by Treasury, using a cash-based approach for budget accounting. Line ministries (spending units) following the hybridaccrual basis record liabilities as incurred but record revenues only when received. Line ministries maintain their own accounting records in the prescribed formats using a double entry system. The basic goal of accounting in sectoral ministries is to keep track o f expenditures relative to the allocated appropriations, although this duplicates accounting done at the Treasury. 2.2. The goals and principles of accounting and reporting in national budget institutions (that is, ministries) are set forth in "Instruction on Accounting in National Budget Institutions" (No. 3/3, February 5, 2001). The procedure o f accounting in Treasury i s reflected in normative acts that regulate treasury activities. In other words, duplication o f accounting by line ministries and Treasury i s not based upon the legislation. Duplication would seem to contradict the goals and functional duties of every participant o f the budgetary process. However, there i s ongoing verification between the Treasury and national budget institutions on Open Credits and Cash Expenditures. Key IssuesIdentifiedin PreviousDiagnosticReports 2.3. The 2004 Country Financial Accountability Assessment (CFAA) identified a number of weaknesses in public sector accounting and reporting. It noted that the financial reporting system needed a major overhaul. These weaknesses are discussed in the following paragraphs. 2.4. There are no consolidatedfinancial statements. Although line ministries prepare accrual-based financial statements and submit them to MOF, consolidated financial statements for the government as a whole are not prepared. Legislation requires only that a report on budget execution-comparing cash spent and received against the budget, together with an explanatory note-be submitted to the President and Parliament. The cash-based statements prepared by Treasury were used for cash management purposes and for presentation to Parliament. There was no consolidated reconciliation o f the accrual-based financial reports and cash-based Treasury reports, which would have ensured accuracy o f the consolidated reports to Parliament. Financial reports were rarely usedfor planning or management. 2.5. Budget institutionslack financial management skills. Budget institutions spend substantial time producing financial reports and statements, but there is no evidence that these reports are actually used by department management. This is despite the fact that the point o f an accrual-based accounting plan was to facilitate financial management, 12 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 particularly o f liabilities. The Central Treasury, which received consolidated statements from line ministries, did not analyze these statements, though they contained information on liabilities that could be useful incash planning. This was attributed to lack o f financial management skills at the departmental management level, and to the fact that the budget execution process was focused on the availability o f cash from Treasury. Managers were constantly preoccupied with the availability o f funds rather than focusing on broader financial management issues. 2.6. There are delays in MOF submission of budget executionreports.6The Law on Budgetplaces responsibility for preparing a report on budget execution on the MOF. The report on budget execution together with an explanatory note i s to be submitted to the President and Parliament no later than May 15 o f the year following the budget year. There were delays in meeting this deadline, sometimes o f a month. Although the report has detailed information on the budget (amended versus actual) for both republican and local budgets, as well as for special means, the explanatory notes did not have information on arrears accumulated during the year. The report also did not include information on guarantees issued or invoked during the year. 2.7. Accounting standards and a chart of accounts were deficient. The Accounting Methodology Department in the MOF prepared comprehensive regulations ("Regulation on Accounting by Budget Institutions," February 2001). The regulations contained formats of registers and supporting documents, as well as instructions for conducting accounting in a budget institution. The regulations also included a chart o f accounts. However, the chart o f accounts had numerous deficiencies, such as combining debtors and creditors in one account code, and merging payments and liabilities under the same group. Regulations were incomplete in some respects, as they did not include formats o f required reports. Budget institutions continued to be guidedby outdated instructions fkom 1994. The regulations provided no guidance on how to account for settlements and offsets. 2.8. There is a lack of trained accountants to manage accounting in budget institutions.There are about 3,000 budget institutions, many without trained accountants. The Law on Budget does not require budget institutions to establish finance and accounting units headed by a finance officer or accountant. The "Regulation on Accounting in Budget Institutions" (February 2001) specifies that heads o f departments are to maintain adequate accounting functions. In some institutions-for example, the central office o f the Ministry o f Agriculture and Water Resources-accounting was handledby non accountants. Some institutions had experienced bookkeepers who lacked skills in management accounting and reporting. There was a lack o f understanding o f financial management on the part o f managers, and there was no demand for management accountingreports. This information was contained inthe CFAA report conducted in2002 and completed in2004.The CFAU mission was informed by Treasury that the 2003,2004,2005, and 2006 annual reports were submitted to the Government and Parliament before the deadlines set inthe legislation o f the Kyrgyz Republic, that is, by May 15 o f the year following the reporting year. However, these reports were submitted before being audited. 13 Kyrgvz Republic - Country Fiduciary Assessment Update November 2007 2.9. Accounting at budget institutions was manual and labor intensive.Accounting required the maintenance o f several registers and production o f numerous paper reports. As a result, the methodology had inherent weaknesses in accuracy and timeliness. There was no provision for management accounting data to provide managers with useful information on costing and performance accounting. Much staff time was spent on reconciling figures rather than producing useful information for control and decision making by management. 2.10. Commitments were not recorded in Treasury ledgers. Treasury maintained accounts on a cash basis and recorded transactions when money was received or a payment made on behalf o f a budget institution. Regional Treasury offices maintained Treasury General Ledgers with individual accounts for each institution. Allocations received from the central Treasury office were recorded in each account to track actual payments vis-&vis allocations. Treasury ledgers were maintained manually. This facilitated analysis and tabulation, but was unwieldy to maintain and prone to errors. Treasury is currently considering revised processes to implement commitment accounting. DevelopmentsandReformssince 2004 2.11, The CFAA made several recommendations.The recommendations were aimed at improving reliability and timeliness in financial reporting in particular and improving accounting and reporting systems in general. The recommendations included:(a) preparing consolidated financial statements for the government as a whole; (b) adopting International Public Sector Accounting Standards (PSAS); (c) introducing uniform and integrated accounting and reporting software in budget institutions (using the same database as Treasury and adhering to the principle o f "one transaction - one data entry - one record"; (4training for line ministry accounting staff on accounting regulations and financial management concepts; and (e) training departmental managers in understanding and interpreting financial management reports. With the exception o f a new budget classification and some progress toward adopting a new chart of accounts and public sector accounting standards, little progress has been made to implement these recommendations. Implementing the new budget classification 2.12. The PPER' noted that the government, with support from DFID and World Bank experts, developed and introduceda new budget classification consistentwith GFS 2001 principles, starting from 2007.' Initially the introduction was difficult for many organizations, as the final version o f the classification was approved only a few days prior to its introduction, leaving no time for training. Nevertheless, in the first quarter o f the year the Ministryo f Finance, with support from DFID, organized training inthe new classification for regionalbudget organizations. 7 The Programmatic Public Expenditure Review (PPER) was conducted inparallel with the CFAU. The Kyrgyz Republic adopted the new economic classification of revenues, expenditures, assets and liabilities and the new administrative classification under an Order dated January 11,2007. 14 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 2.13. Introducingthe new budget classificationwas complicated. MOF and Treasury requested budget organizations to submit budget requests at the lowest level o f expenditure codes, thus increasing the volume o f work at the local level as well as for the Central Treasury. The authorities regarded this as a temporary measure to ensure proper understanding o f the new codes. From April 2007, budget requests are required in a summary form. Budget organizations have been allowed greater flexibility to manage resources within broad economic classifications. Only reporting i s carried out at the more detailed level. 2.14. In using the classification, it was recognizedthat minor modificationswould be required.The mainissues ineach dimension ofthe classification are described below. (i)Economic classijkation. Budgetary institutions, regional treasuries, and the Central Treasury have started classifying transactions in accordance with the new economic classification from the start o f the 2007 fiscal year. To facilitate implementing the new economic classification, the Ministry o f Economy and Finance (now Ministry o f Finance) took two important steps. First, it published the new classification and implementation guidelines. Second, it conducted extensive training for staff. However, M O F may needmore training, not only for staff o fbudgetary institutions and treasuries but also for staff inlocal budgets. (ii)Administrative classification. The new administrative classification uses a seven digit code. The first three digits identify the ministry or the agency and the last four identify the cost center o f the respective ministry or agency. No problems have been encountered with this classification. (iii)Functional classz$cation. Functional classification has been finalized with help from DFID, and is awaiting approval by the Ministry of Justice. There is a need to linkthe functional classification with the new chart o faccounts. (iv) Classzjjing funding sources. Identifying funding sources, coding, and linking them with transactions are essential requirements o f reform. These should be included the action plan for developing the new chart o f accounts. (v) Program classzjkation. Developing program classification may take some time. Four or five digits are needed for program classification inthe coding structure. Work on all elements i s underway in preparation for the new treasury system. DFID and the World Bank arejointly providing technical assistance. Analytical reports on consolidated transactions and cash operations 2.15. With World Bank support, Treasury has begun use the new budget classificationto prepare all required summary reports. Advice and technical support will continue to be provided to the Treasury to ensure that reports are prepared according to the provisions o f GFS 2001. Under the PPER, such advice will be provided as assistance to Treasury in consolidating transactions relating to nonfinancial assets, financial assets, and liabilities. International accounting standards 15 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 2.16. USAID has been helping authorities introduce cash-based International Accounting Standards in the public sector (IPSAS). However, responsibilities for accounting reform within MOF remain unclear. Following restructuring, a new division was created inMOF to be responsible for accounting and internal audit methodology. The Ministry o f Finance and the Division o f Accounting and Internal Audit Methodology need technical support to develop a roadmap for introducing the accounting standards in line with MOF Order No. 109 (on improvements in public sector accounting and reporting). Chart of accounts 2.17. Technical support from DFID has enabled the government to prepare a draft chart o f accounts, currently being considered by the Ministryo f Finance. The ministry supports an integrated chart o f accounts and budget classification. The head o f Treasury appointed the deputy head to lead the chart o f accounts reform effort together with the newly appointed head o f the Division o f Accounting and Internal Audit Methodology. It i s hoped that collaboration will strengthen dialogue on the chart o f accounts reform. 2.18. The new chart of accounts needs to be finalized urgently, given that MOF has invited tenders for procuring software to help modernize Treasury. An action plan was agreed with MOF to develop the structure o f the chart o f accounts by the first week o f May 2007 and the detailed chart o f accounts by August 31, 2007. Actions such as drafting detailed descriptions o f each account, pilot testing, and developing financial reporting formats are to be completed by November-December 2007. It i s also expected that technical support provided by DFID and the Bank will be used to form a group o f experts to assist M O F inimplementing the action plan. Challenges andNext Steps in the ReformAgenda 2.19. With support from USAID, the government has been implementing a three- year public sector accounting program. This includes reviewing and updating o f legislation and appropriate accounting standards. These activities are running parallel to modernizing Treasury operations under the GTAC program, which involves installing a computerized Treasury system with a major overhaul o f Treasury business processes. Implementing appropriate accounting standards for government accounting should be an integral part o f wider budget system reform and an overall transformation o f public sector management. These activities have been delayed by organizational and staffing changes inthe Ministryo fFinance. 2.20. The transition to the new budget classificationsystem and manualoperationby Treasury is a major problem for budget execution reports. Regional Treasury departments have problems processing and entering the significantly larger volume of data. This has delayed the Treasury reports. Meanwhile, M O F must develop the skills to prepare and interpret and use the financial statements and to utilize the information inthe line ministry accrual-based accounting reports. As suggested in the CFAA, departmental managers, including Treasury managers, need training to fully understand and interpret the data inthe various financial reports. Such training will require financial support from 16 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 the developmentpartner agencies. 2.21. Budget organizationsneed revised accountingregulations. These should reflect changes in public sector accounting, especially adoption o f cash-based IPSAS. Regulations should specify procedures for higher-level consolidation, including instructions for netting out transfers and inter-office balances. The three-year USAID- financed program referred to in paragraph 2.19 provides for modernization and harmonization of the current accounting regulatory and methodological framework. Illustrative government financial statements have been prepared that are compliant with IPSAS cash requirements. Further, USAID assistance i s helping to draft the Law on Accounting to reflect public sector requirements, including IPSAS. These efforts will require training for accountants in line ministries. 2.22. There are still delays in submitting audited budget execution reports to the Parliament and to the President.Reports for 2004 and 2005 were submittedinOctober 2005 and 2007 respectively, instead o f the due date o f May 25 o f the following year. The budget execution report for 2006 was to be submitted for audit by May 15, 2007, with expected delay o f up to three months before being submitted to the Parliament and President. 2.23. Periodic training programs are necessary to develop skills to implement reforms in public finance management. However, a more sustainable training policy should create a critical mass o f trained public sector financial managers, including accountants with the skills to sustain reform. The Ministryo f Finance should seek donor support to outsource public sector financial management and accounting training to experienced training organizations inthe Kyrgyz Republic to ensure continuity o f training and consistent quality standards. Initial donor support may be needed to engage a training coordinator in the Ministry o f Finance, to investigate training needs, and to develop coordinated training plans. In the long term, however, the government would need to establish a center for training and retraining public officials ifPFM. 17 KyrgyzRepublic - Country Fiduciary Assessment Update November 2007 3. SALARY AND NONSALARYEXPENDITURES 3.1. Salary expenditures are a significant fraction of line ministry budgets. In2006, salaries represented about 40 percent o f the M O F budget and 38 percent o f the Ministry o f Education (MOE) budget.' The 2004 CFAA did not focus on salary expenditures at the line ministry level; however, it did take note o f procedures for salary payments in Treasury offices and general issues related to personnel policy and recruitment procedures for managers. The CFAA reported that SA1 audit reports did not show serious issues or weaknesses in the area o f salary expenditures; however, it pointed to the need for computerization o f payroll to strengthen internal control. The CFAA emphasized that salaries should be transferred directly to employees' bank accounts rather than paid in cash.'' Key Issues Identifiedin PreviousDiagnosticReports 3.2. The 2005 PEFA PFM assessment noted that personnel and payroll processes were both decentralized. Line ministries are responsible for remuneration levels within established guidelines. The PEFA assessment also noted that line ministries often increased or maintained personnel expenditures with funds allocated for vacant posts; or they concealed the actual number o f staff inorder to preserve the personnel budget, using the funds for disguised salary increases. These practices were facilitated by the decentralization o f personnel and payroll functions. The lack o f consistent payroll control raised questions as to the quality o f the authorization and audit trail procedures. Developmentsand Reformssince 2004 3.3. Current practiceremains much the same. Each line ministrymaintains personnel data and the staff list issued at the beginning o f the year. Revisions can be made during the year-for example, the 2006 staff for the MOF Central Apparatus and Central Treasury (approved in July 2006) comprised 312 regular employees, 73 secretaries, and technical staff. The list does not include staff in the territorial offices or the Economic Development Fund and Precious Metals Division, totaling more than a 1,000 employees as o fMarch2007. 3.4. There are three types of remuneration. First, principal or basic salary i s ~~ Data from the chief accountants o f the Ministry o f Finance (MOF) and Ministry o f Education (MOE), April 2007. loItis noted that the Government approved the State Programo fAction for 2003-08 on the introduction o f non-cash payements, as well as o n payment o f salaries to employess o f ministries, state committees, and administrative agencies through accounts incommercial banks. However, the existing banking infrastructure (including the network o f A T M s and payment centers) i s not sufficiently developed for a complete transition to payment of salaries through the banks. Further, the tariff policy o f commercial banks for opening accounts, servicing, and sale of plastic cards requires additional funds from budget institutions. These factors have resulted into employee reluctance to have salaries transferred directly to their accounts electronically. 18 KyrgyzRepublic - Country Fiduciary Assessment Update November 2007 determined at the beginning o f the year based on the staffing list established at the beginningo f the year. The employee's salary is paid at a fixed rate every month for 12 months. Second, four monthly bonuses and two bonuses for holiday leave are provided. Altogether, employees receive 18 salary payments during a 12-monthperiod. Salaries and bonuses are financed from the budget. Third, employees also receive ad hoc payments that can be effected at any time during the year. These are at the discretion o f department heads. Ad hoc payments include performance pay, which can be as much as 50 percent o f basic pay; and rank-based pay depending on an internal test and length o f service, which can be as much as 40 percent o f basic pay. Depending on availability o f funds, department heads can vary the timing o f monthly additional payments. Each department must submit an estimate and explanation o fhow bonuses are determined. 3.5. In addition, there single bonuses (one-off payments). These can be made to purchase foodstuffs inwinter or as representation payments to certain employees (such as department heads). Ad hoc payments, bonuses, and allowances are usually financed from "savings," mainly from vacancies. Other sources o f financing for ad hoc payments include special means, such as a Special Development Fund, which was created in MOF from 7 percent o frepaid debts. 3.6. Salary administration and payment differ from ministry to ministry. InMOF, salaries are processed using a special program. The payroll accountant inputs data into the payroll system from the staffing list for fixed wages, and from decrees from the minister for bonuses and allowances. The personnel department provides the attendance list, including chits for staff on sick leave, who are not normally paid during leave. The chief accountant and the head o f administrative affairs approve the payroll. About 90 percent o f employees receive their salaries through transfers to their plastic card accounts; the rest, mainly secretaries and technical staff, are paid in cash. Employees paid in cash have to sign for their salaries at the end o f the month. All employees receive monthly pay advice slips showing the composition o f the monthly pay, deductions, and net amount payable. 3.7. At the Ministry of Education (MOE), employees receive 18 salary payments during the 12-month period financed from the budget. There are also bonuses and allowances. These are often financed from savings and special means, usually fees received for issuingcertificates and diplomas, and sponsorship from donors. The Treasury controls all special means accounts. All payments are based on approved payroll from the MOE. The M O E makes an application that i s signed by the chief accountant and the state secretary and submitted to Treasury for approval. The MOE does not have a payroll program; all payments are made incash. 3.8. Overall, controls over payroll administration are weak. On the surface, processing and payment appear to be adequate; however, the underlying risks are significant. First, there i s a pervasive incentive for line ministries to conceal the number o f staff in order to maintain a steady level for the personnel budget. This creates a source o f funds for disguised salary increases. Second, the determination o f employee bonuses and allowances i s arbitrary. Bonuses are not based on annual performance appraisals. 19 KyrgyzRepublic - Country Fiduciary Assessment Update November 2007 They are lefi loosely to the discretion o f department heads and are based primarily on availability o f funding. Thus, department heads have a strong incentive to overstate staffing lists at the beginningo f the year so that they can realize "savings" from "unfilled vacancies." This raises the temptation to keep ghost workers on the payroll. If line ministries declare positions vacant, they risk losing the related budgetary allocation. 3.9. Controls over nonsalary expenditures are standard. These are guided by "Instructions on Accounting Systems for Budget Organizations, No. 33" (February2001). The startingpoint is for MOF to approve the line ministries' expenditure estimates. This is followed by opening o f credits upon approval o f the budgetary orders submitted by each line ministry. Each line-ministry spending unit verifies invoices before forwarding them to Treasury for payment. The spending unit keeps records and prepares monthly reports on budget execution on a cash basis for reconciliation with Treasury. Spending units also prepare quarterly Financial Information Reports (Form 2), which are submitted to the line ministry head office. The reports are checked and approved by the concerned Treasury office before beingsent to the head office. Similarly, a Report on Special Means (Form 4) i s prepared, and then checked and approvedby Treasury. 3.10. Payments for goods and services are often made in advance of receipts. In some cases, up to 100 percent o f payments are made for goods not yet received. Treasury has recently intervened to reduce this practice. An instruction to M O E specified that no payments be made until goods are received (No. 36, April 17, 2006). Nevertheless, M O E still routinely provides for up to 40 percent advance payment with the balance paid upon receipt. Goods are normally received by personnel who are appointed by the minister and have no role inprocessing payments; so the risks o f collusion are very real. Improvementsand the OngoingReformAgenda Procurement 3.11. Procurement controls need to be strengthened to ensure compliance with public procurement law and regulations-for example, Treasury instructions on overpayments to ensure that goods are received. The practice o f advance payments should be discouraged. When allowed, safeguards should be inplace to ensure that goods are eventually received-for example, by requiringbank guarantees. Controls should be strengthened for expenditures below the threshold o f KGS 100,000 (approximately US$38,000), including an effective approval process and mechanisms to detect contract splittingto evade scrutiny by tender commissions. 3.12. It is common for accountingstaff in line ministries (for example, the Ministry of Education) to handle some procurement.This creates a conflict of interest and can weaken internal control. The person buying goods should have no role inpayments. Line ministries should establish separate procurement units not responsible to accounting and reporting units. Human resources, including compensation 3.13. In parallel with the CFAU, the Bank-led PPER looked into human resources 20 Kyrgyz Republic - County Fiduciay Assessment Update November 2007 (HR) reforms. These include changes to public sector compensation schemes, such as salary structures that are fully transparent and predictable. Reforms will target the localized and inefficient HR administration, where each ministry, no matter how small, incurs the expense o f running competitive public recruitment and its own payroll administration. The PPER team suggested that these functions could be more efficiently managed on a larger, probably service-wide, scale. Payroll administration should eventually be centrally managed for the civil service as a whole, which would strengthen financial control and save money. It i s hoped that this objective could be realized in the context o f modernizing Treasury and introducing a human resources management information system (HRMIS) to the civil service. Payroll also needs to be computerized. The MOF should seek donor support to implement such a system. 3.14. The MOF wants to develop an organization based on operational requirements. Compensationwould bejob-based. Rates o f pay would be competitive, including performance-related pay. A review o f organizational roles in MOF would prepare the ground for detailed job descriptions based upon roles and responsibilities. Job evaluation and preparation o f grades based upon new job groups could provide the foundation for a new pay and grading structure. 3.15. An approach oriented toward functional responsibilities might be excessively ambitious if applied to the entire civil service. Even under the most favorable o f political circumstances, it would take time to implement. It i s thus recommended that such an approach first be piloted by a single agency, most likely the Ministryo f Finance. This would build upon related work to review the ministry's business processes. The goal would be a unified civil service pay scale tied to job descriptions, thus eliminating multiple pay scales and simplifying payroll tracking. MOF is developing pilots in selected divisions to implement new performance management systems based upon earlier work under the PPER. These pilots aim at better, more transparent performance management systems. They use existing allowances to reward good performance. 3.16. The structure of bonus distribution requires urgent review. By law, quarterly bonuses should be justified by detailed assessment o f staff performance; and personal monthly allowances are supposed to be performance-based. The current broad legislative criteria provide little concrete guidance to managers on the distribution o f allowances. Disbursement o f allowances varies by agency, with ample room for both managerial discretion and fraud. The pilot within MOF should rationalize allowances according to individual and departmental performance assessment. Four divisions have been selected to test the viability o f the new system. DFID i s supporting the preparation o f clearer division functions, job specifications, and performance appraisals. 21 Kyrgvz Republic - Country Fiduciay Assessment Update November 2007 4. INTERNAL CONTROL AND INTERNAL AUDIT 4.1. As confirmed in various diagnostic assessments, Kyrgyzstan has neither the legal nor the institutional framework in place for effective internal control. The concept itself is not well understood within the country. Following a change in government, the recently reorganized Ministry o f Finance established a Unit o f Financial Control. Its exact functions are still evolving; however, the ministry has clearly set up a unit that will routinely carry out inspections in other budget organizations. This arrangement appears to be inconsistent with broader M O F attempts to create a modern framework for internal audit, as well as the ministry's own decision to set up an internal audit methodology unit. 4.2. The future role and staffing level of the new unit has generatedconcern at the Chamber of Accounts (COA) of the Kyrgyz Republic. Established by the Law on Chamber o f Accounts in 1996, COA performs the country's external public audit. The chamber evolved from the State Financial Inspectorate, which was established in 1992, and became the Chamber o f Control in 1995, before then becoming the Chamber o f Accounts the following year." The law establishing the chamber was rewritten in August 2004. As the Supreme Audit Institution o f the country, COA is particularly concerned with potential duplication o f responsibilities-or even the perception among line ministries that COA and the new unit might be doing the same kind o f external audit work. 4.3. The International Organization of Supreme Audit Institutions (NTOSAI)'' defines internal control as a tool for providing management with reasonable assurance that its objectives are being met. This definition implies that responsibility for internal controls rests with management. In the past, internal control was primarily equated with financial controls, The Committee o f Sponsoring Organizations (COSO) framework has broadened this concept beyond hard controls (such as segregation of duties) to also include soft controls (such as competence and professionalism among employees). The newer concept also takes into account management philosophy and differences inoperating style. According to COSO, "Internal control i s broadly defined as a process, effected by management, designed to provide reasonable assurance regarding the achievement o f objectives in the following three categories: effectiveness and efficiency o f operations, reliability o f financial reporting, and compliance with applicable laws and regulations.'' 4.4. The European Commission has created a state-of-the-art model of public `IThis information was based on the CFAA. However, the Chamber o f Accounts clarified that the State Finance Inspectorate functioned as a separate body until it was merged with the Chamber o f Accounts in 2000. 12See the International Organization o f Supreme Audit Institutions web site at http:liwww.iniosai.or~l31NTCOe.html . 22 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 internal financial control (PIFC).13The PIFC model aims to ensure that transactions comply with principles o f sound financial management, transparency, efficiency, effectiveness, and economy, as well as with relevant legislation and budget descriptions. The concepts o f managerial accountability and independent internal audit are central to PIFC. Issues Identifiedin PreviousDiagnosticReports Country Financial Accountability Assessment (2004) 4.5. The CFAA (2004) considered budgetary, Treasury, accounting and reporting, procurement, and human resource controls; and it came to the following conclusions. 1. The overall internal control framework was weak. This was evidenced by instances o f illegal use o f finds and waste that were reported year after year by the external auditor (the Chamber o f Accounts). Treasury controls at the central level were also found to be weak. Over-reporting of payments and under- reporting o f collections by the agent banks were noted.14 The framework was further weakened by the absence o f internal audit. 2. Clear legal requirements were absent for line ministries. A legal framework should define managerial accountability within an organization. The Law on Budget refers to the responsibility o f managers and public officers for "maintenance o f the budget funds'' (Article 22); however, this does not go far enough. Explicit legal requirements would heighten line managers' attention to internal control issues. 3. Normal procedures failed to detect and resolve instances of abuse and waste. This omission suggests an ineffective control regime overall. 4. The Chamber of Accounts audit reports reflected several instances of noncompliance with laws, as well as fraud and corruption across several ministries. A detailed risk assessment and an action plan would strengthen the framework. As stipulated under the COS0 framework, soft controls are no less important than hard controls; so going beyond the usual questions related to safeguarding o f public resources against fraud and waste, soft controls too (such as employee competence) needed to be part o f the risk assessment. 5. Treasury controls focused on insignificant and relatively small payments. This left insufficient resources for monitoring large and vulnerable payments. Even without automation, Treasury staff did well at managing day-to-day 13EU-PIFCBrochure, European Commission, 2006. l4The mission was informed by Treasury officials that this problemhas beenresolved by e-verification with agent banks on a daily basis, with reports drawn up on a monthly basis. Any balances inthe transit account o f the agent bank bank i s transferred to the Treasury's current account every day, and it gets zeroed as o f the end o f the day. This comments refers to the following point as well. 23 Kyrgvz Republic - Country Fiduciary Assessment Update November 2007 operations. However, little time was left for financial risk assessment, because most o f their time was spent on clerical activitie~.'~ 6. Written rules are excessive in some areas and incomplete in others. This leads to an incomprehensible system o f internal controls. For example, Treasury had detailed how payment requests received from the budget institutions were to be verified. However, rules were incomplete as to how they would be reconciled at the central Treasury level. 7. The amounts reimbursed to the agent banks were not reconciled with Treasury records. This posed several risks, including possible over-reporting o f payments by the paying bank to utilize the float during the month. Although reconciliation was done daily at the rayon level, this was not extended at the consolidated level. As a result, differences emerged between the amount requested by the head office o f the agent bank(s) andthe total o f payment requests by all the Treasury offices. Similar risk existed in the revenue collection mechanism. The tax revenues were collected by specified commercial banks. The commercial bankswere then required to transfer the collections on a daily basis to the agent banks. However, there were no checks and balances to verify that the banks actually transferred the collections on a timely basis. Country Procurement Assessment Report 4.6. The CPARI6was prepared concurrentlywith the CFAA. Key findings included the following: 1. The Public Procurement Law had not yet been translated into sound practices. The PPL is comprehensive; however, practice is marked by weak oversight, a lack o f well-trained procurement officers, and excessive authority and discretionary powers by the "tender committees." Over time, procuring entities have established undesirable practices, which seriously affected bidders' trust in the system. The report further observed that the State Agency on Public Procurement and Materials Reserve (SAPPMR), which was supposed to provide oversight over the decentralized procurement function, was itself becoming involved in the procurement process. The cost was lost objectivity and independence, essential requirements for an oversight body. 2. No civil service reforms ensured transparency in appointments of senior positions.Appointments o f department heads were not based on set criteria such as competitive examinations. Understanding o f modern management practices and ability to understand, interpret, and use management accounting reports (for example, analysis o f service costs, outstanding liabilities, or commitments) were l5Treasury presentedthe mission with written verification that it now conducts at least some risk analysis through, among other means, cash forecasting, preliminary budgetary deficiency analysis, financial gaps analysis between the resources and revenue (on monthly and quarterly basis). l6For detailed discussion o n procurement assessment, see Country Procurement Assessment Report (CPAR), which was prepared concurrently. 24 KyrgyzRepublic - Country Fiduciary Assessment Update November 2007 not central requirements to the selection o f department managers. 3. Except for a small MOF unit, no internal audit carried out compliancetests for Treasury transactionsor for the Ministry of Labor and Social Protection. Under constant pressure to maintain budget discipline, line managers developed alternative mechanisms for obtaining assurance o f financial integrity. In the absence o f internal audit staff, line managers frequently asked the technical or accounting staff to perform rudimentary internal audit functions. Absence o f internal audit further compounded the already weak framework. Developmentsand Reformssince 2004 4.7. The CFAA made a number of recommendations.These included the following: 1. Enact the Law on Public Sector Internal Audit. 2. Build capacity by establishing a modern internal audit function and provide training. 3. Establish effective internal audit structures in the line ministries and prepare rules and methodology for conducting internal audits inthe public sector. 4. Create a secure, centralized database o f employees to strengthen internal controls inpayrollprocessing. 5. Automate payroll systems and treasury operations. 6. Strengthen Treasury controls. Among other measures, strengthen the cash management fbnction; reconcile consolidated district treasury payment requests daily with the reimbursementmade by the National Bank o f the Kyrgyz Republic (NBKR)to the agent banks. 4.8. Progress has been made in some of these areas-in particular, in operational matters such as Treasury controls. Some recommendations were o f a longer-term nature and may require significant investment in resources. Other recommendations are being addressed gradually within the overall PFM reform agenda. Internal auditfunction 4.9. Relatively little progresshas been made for an internal audit framework. The structure o f the MOF has lately been revised, with a new division in charge o f financial reporting and internal audit methodology. The new division i s still grappling with the definition o f its functions. It will take some time before it i s fully staffed with people who can engage effectively in ongoing reform dialogue. There is also a new Division o f Financial Control. Its functions and its relationship to the new division o f financial reporting and internal audit methodology have not yet been precisely defined." Until "Insubsequentwrittensubmission, MOFclarifiedthatthefunctions ofthetwodivisionsweredefinedin a government resolution on April 9, 2007. First, the Division on Methodology o f Financial Reporting and Internal Control i s to be responsible for establishment and improvement o f the legislative base and methodology basis for accounting, financial reporting, and internal audit. Second, the Audit Methodology 25 Kyrgvz Republic - County Fiduciay Assessment Update November 2007 recently, there was no clear counterpart to work with the development partners in designing a PIFC strategy; and as a result, this important part of the reform process was delayed. 4.10. Internal audit initiatives have been introduced at both central (MOF) and sector level. Although not driven by a deliberate strategy, a number o f line ministries have created internal audit units. Other initiatives, such as a decentralized internal audit strategy, have been undertaken indirect response to the CFAA recommendations. 4.11. Progress in the Ministry of Finance has been relatively limited. Two new divisions-Financial Control, and Financial Reporting and Internal Audit Methodology-were created within a restructured Ministry o f Finance. However, their functions are not yet fully defined. Some officials have had difficulty in differentiating between the roles o f a financial control department, internal audit, and the Chamber o f Accounts. Responsibility for developing an internal control framework should be vested inthe new DivisionofFinancialReporting andInternal Audit Methodology; and internal audit should have been elevated to a separate division, reflecting its centrality in the structure o f an internal audit framework. Law on internal audit 4.12. The Law on Internal Audit was draftedwith support from DFID experts. The new law should provide a legal basis for internal audit. The authorities have a clear plan for eventual enactment o f the draft law. They presented this plan for comment to the ministries before submission for formal approval by the Jorgorku Kenesh (Parliament). This process is by no means a formality, as the law may not be entirely welcome. For example, the Chamber o f Accounts not only raised issues with the draft, it submitted an alternative. Some issues raised by the Chamber o f Accounts reflect evident misunderstanding, particularly on how internal audit i s defined inrelation to the Ministry o f Finance. The Chamber believes, first, that internal audit should be subordinate and subject to its supervision, including routine approval o f internal audit programs and plans; and second, that the chamber-not the central coordinating agency, as proposed under the draft law-should coordinate public sector internal audit. Third, the Chamber also believes (wrongly) that such a coordinating body would be the de facto external auditor to other line ministries, especially those that do not have internal audit units. Development partner will need to work closely with all the stakeholders to minimize the possible negative impact o f the misunderstanding. Internal auditfunction in budget organizations 4.13. Despitethe legalvoid, internalaudit units havebeen establishedin severalline ministries and agencies. These include the Ministry o f Agriculture, Water Resources and Processing Industry, Ministry o f Health, and the Mandatory Health Insurance Fund, Ministry o f Defense, Ministry o f Emergency Situations, Ministry o f Labor and Social Protection, and the Social Fund. Some o f these internal audit functions were set up to Department to be responsible for establishment and improvement o f legislation and the methodological basis for internal audit. The mission did not receive a copy of the Resolution itself. 26 Kyraz Republic - Country Fiduciary Assessment Update November 2007 comply with donor requirements for a stronger fiduciary environment. However, the trend signifies greater awareness o f internal audit incontrolling spending at every level. 4.14. Improved collaboration between donors and the government aimed at greater awareness of the internal audit concept. This awareness reflects workshops and training events to improve the technical skills for internal audit and to create better understanding, as well generally changing the mindset o f managers. Under the DFID PFM program, training has been provided to internal audit staff o f the Ministry o f Finance and to line ministries. Pilot internal audits have been undertaken as on-the-job training for selected ministries and agencies. A program has been developed for further joint pilot audits. Such pilot audits would also help distinguish between the role o f internal audit and external audit by the Chamber o f Accounts. A draft internal audit manual has also been developed, and draft subsidiary regulations and auditing standards are nearing completion. 4.15. Despite this progress, much confusion remains over differences between controland audit, and differencesbetween externaland internalaudit. This holds for the ministries as well as for COA. The chamber has yet to fully discard its past control- and-inspection mentality. Internal audit i s viewed as duplicating its role. Confusion is exacerbated by the absence o f a legal framework. This encourages COA personnel to largely ignore internal auditors inthe line ministries, or to dictate to them the work they can undertake. In addition, the resurrection o f a financial control function within MOF, notwithstanding on a small scale, has provided ample new ammunition for the COA's argument that the ministryi s seekingto duplicate its functions.18 Recommendationsand Next Steps 4.16. In view of the uncertainties, it has been proposed that the government seek technical assistance from its developmentpartners.This assistance would support the ongoing effort to establish basic elements o f an effective internal audit function in the short-term, and to lay the foundations for a public internal financial control (PIFC) strategy in the medium to long-term. The Ministry o f Finance recognizes that technical assistance will be required in several areas-strategy formulation and program development, improving the legislative and methodological basis for internal audit, training and certification o f internal audit professionals, establishing institutions for training and retraining internal audit staff, and consideration o f the internal audit function across the public sector as a whole. There are some indications that DFID might be willing to supporting internal audit inits plannedrenewal o f the PFMprogram; and ifso, the Government should tap this support. The Government should also approach partners such as the EU and the World Bank for the longer-term development o f the PIFC ''Inwritten submission following distributiono f the draft report and request for comments, the Chamber o f Accounts stated that its intentioni s not to subordinate the internal audit fimction under its direction. COA also reiterated its concern that internal audit by the Ministry o f Finance and COA are, at present, duplicative. COA argues that the internal audit unit inthe MOF should operate like internal audit units in other sectoral ministries, with MOF playing a coordinating role. COA argues that the coordinating role should be played by the Government (Office o f the Prime Minister). 27 Kyrgyz Republic - County Fiduciay Assessment Update November 2007 framework. 4.17. The new draft law needs to go forward. To avoid confusion causedby the parallel draft law submitted by the Chamber o f Accounts, it i s proposed that the Ministry o f Finance and the Chamber o f Accounts should hold an urgent roundtable, with the PFM Working Group participating. This process would clarify the misunderstanding o f the draft law and should help to allay fears o fpossible overlap and duplication o f functions. 4.18. The current and future role of the financial control unit within the Ministry of Financeneeds to be clarified given that several line ministries have now established their own internal audit functions. This clarification should further allay suspicion, especially within the Chamber o f Accounts, that such a unit will serve as a de facto external audit hnction in other ministries and agencies. Inregard to the draft law, COA contends, first, that the internal audit function within the Ministry o f Finance should be limited-essentially to reviewing activities within MOF, focusing mainly on Treasury operations; and second, that the functions o f the Division o f Financial Reporting and Internal Audit Methodology should be limited to formulation and coordination of policy guidelines, and development o f standards and manuals for internal audit. 4.19. The definition of roles advocated by COA is supported by the current draft law on internal audit. However, creating separate and distinct Divisions of Financial Reporting and Internal Audit Methodology could help the two units to refocus on their core functions o f financial reporting and internal audit, respectively. This would be consistent with the proposal in the draft law to create an authorized agency for internal audit. Although the draft law does not specify where the authorized agency would be located, it is envisaged that such an agency would also carry out internal audit in other line ministries as well as in agencies without their own internal audit units. Such an arrangement would require internal auditors from the authorized agency to be formally attached under the administrative responsibility o f the head o f the recipient ministry or agency. 28 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 5. EXTERNALAUDIT 5.1. The Chamber of Accounts (COA) of the Kyrgyz Republic, establishedin 1996 by the Law on Chamber of Accounts, performs the country's external public audit. The COA evolved from the State Financial Inspectorate, established in 1992, which in 1995 became the Chamber o f Control before becoming the Chamber o f Accounts the next yearlg. The establishing law for the chamber was rewritteninAugust 2004. Key IssuesIdentifiedin PreviousDiagnosticReports 5.2. The 2004 Country Financial Accountability Assessment (CFAA) made a number of observations about the external audit function of the Republic.These are summarized below. 5.3. The core functions of the Chamber of Accounts (COA) are not constitutionally mandated. The Constitution o f the Kyrgyz Republic confines itself to specifying the responsibility o f the Parliament with regard to audit, and it specifies that the President o f the Republic is to appoint COA members. However, the roles and responsibilities o f COA were defined statutorily in the 1996 Law on Chamber o f Accounts, which defined the chamber as "the supreme body o f state financial and economic control," a clear indication that it was to be the Supreme Audit Institution (SAI) o f the country.*' 5.4. There is a clear reporting relationship for the Chamber of Accounts. The establishing law o f 2004 stated that the COA i s accountable to the President and the Parliament, who are designated as the ultimate recipient o f audit reports. 5.5. The law, however, did not define the meaning of audit. The word control was often used to indicate COA responsibilities. The law made COA responsible for formulating proposals to eliminate deviations from budgetary allocations in particular, and for improving the budget process in general. COA was not asked to certify year-end financial statements for the government as a whole, accounts o f ministries, or other state organizations. 5.6. The Chamber of Accounts did not receive authority to conduct interim audits. The law authorized COA to "identify" the effectiveness and expediency o f public spending. COA was granted broad auditing scope related to state funds transferred to l9 This information was basedon the CFAA (2004). However, the Chamber o fAccounts subsequently clarified that the State Finance Inspectorate finctioned as a separate body until it was merged withthe Chamber o fAccounts in2000. 2o Inits written response to draft o f the present report, the COA clarified that, in addition to setting out responsibilities o f the parliament and President with regard to appointment o f members o f the Chamber o f Accounts, the Constitution also describes the functions o f the Chamber o f Accounts to include audit over execution o f national and local budgets, extrabudgetary means, and use o f state and municipal property (Section 4, Clause 80, Law on the Chamber o f Accounts). 29 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 local governments, as well as entities in which the state had a financial stake. However, the COA was not allowed to review transactions for the current year: it could audit them only after year's end. Moreover, COA was not allowed to audit all financial statements o f NBKR,2'except expenditures frombudgetaryresources duringthe year. 5.7. COA lacked the resources and skills to review draft budgets before presentation to Parliament. Although the Law on Budget authorized COA to "verify" the draft annual budget and submit a report on such verification to Parliament, differing views on this authority emerged. COA consequently desisted from such reviews. More importantly, COA also admitted a lack o f resources and skills to effectively review budgetassumptions andestimates. 5.8. The chairman and members of the chamber lacked security of tenure. COA had 12 members, six o f whom were appointed by the two houses o f Parliament, and six by the president. The president originally also appointed the chairman. The 2003 amendments to the Constitution changed the process to a presidential appointment o f the chairman with the consent o f Parliament. The chairman's term was fixed at five years, and the members served terms concurrent with those of Parliament. However, the appointment process was seen as largely political, and the president was empowered to dismissa chairman before the chairman's term expired ifthe president concluded that the chairman's job performance was unsatisfactory or the powers o f the chairman had been abused. Chamber members also could be dismissed by their respective appointing authority under specified circumstances. 5.9. The Chamber of Accounts lacked complete independencefrom the executive. The president had the authority to approve COA structure, staffing, and employee compensation policies upon the recommendation o f its chairman. Except for this, the law contained adequate provisions to ensure that COA had the functional and organizational independence to do its work objectively and effectively. 5.10. The law creatednegative financial incentivesfor COA operations. The chamber was allowed to retain 10 percent o f fines and penalties that it levied as a resource to defray its expenses. This created a perverse incentive to maximize receipts rather than focus on the primary mission o f audit. 5.11. The Law on Chamber of Accounts did not specify requirementon the adoption of audit standards. The chamber claimed to follow Kyrgyz audit standards; but not only were these at variance with international standards, their implementation was far from satisfactory. The COA approach was based on the examination o f financial transactions, identification o f financial discrepancies, and investigation o f fraud. The audit focus was on compliance testing, with little attention to financial audits or internal control risk assessments. There was scant evidence that modern procedures and techniques, such as risk-based auditing, were being applied to the planning and prioritization o f the chamber's work. A considerable gap also existed inthe institution's knowledge and grasp 2'NBKR's annual financial statements are audited by an international auditing firm. 30 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 o f modern international auditing practice. 5.12. COA auditors lacked the skills and experience to apply audit practices in accordance with international standards. Most staff members were well-seasoned in control and revision, but they had little exposure to modem auditing practices. They needed substantially more training and on-the-job experience, particularly in risk-based and financial auditing. The chamber had never received substantive technical assistance. 5.13. The COA did not have a training program covering audit standards, risk assessment and control, audit reports, quality control, or professional ethics. The CFAA noted that the chamber would need technical assistance in implementing such programs. 5.14. Clear provisions were lacking on COA preparation and submission of reports on annual budget execution statements. Neither the Law on Chamber o f Accounts nor the Law on Basic Principles o f Budget contained specific provisions on submission. The latter law contained only an indirect provision requiring Parliament to review the chamber report before approving the government's report on execution o f the budget. However, the COA did not report on the budget execution statements. Instead, it produced an annual report on its own activities, as required by the Law on Chamber o f Accounts. The legislation therefore needed to be amended, specifically to require COA to provide an annual audit report on the financial statements as well as the report on its activities. 5.15. COA audit reports hadsignificant deficiencies. They did not clearly highlight the exact nature o f control weaknesses, major issues, or conclusions. They lacked executive summaries, making it difficult to discern what was essential within the vast amounts o f detailed information. The reports also did not identify root causes o f reported violations, nor describe control vulnerabilities or failures. The reports did not state the purpose, scope, or standards governing the auditing. 5.16. The 2006 Public Expenditure and Financial Accountability assessment reported that no audit standards were applied for transactions. Moreover, in the absence o f financial statements, no audit o f the government's financial position could be undertaken. As a result, the question of audit standards for government accounts was deemed irrelevant. Developmentsand Reformssince 2004 5.17. As noted in the PEFA 2006 the Chamber of Accounts remains largely an , inspection and control unit.1 2 Basically, it carries out periodic checks to ensure compliance with existing regulations, including public procurement law. Many o f the weak spots identified in the CFAA are still apparent-lack o f skills and experience to apply modern audit techniques, deficiencies inaudit reports, lack o f appropriate standards 22PEFA PFMAssessment, Oxford PolicyManagement,FinalReport, January 18,2006 31 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 to guide the audits, vulnerability o f COA management, and insufficient independence from the executive. The only significant development i s the August 2004 amendment to the Law on the Chamber o f Accounts. The new legislation i s a direct outgrowth o f the CFAA recommendations, and it addresses most o f the deficiencies o f the previous law. The bill increased the number o f auditors to 14 (seven appointedby Parliament and seven by the president). The law also removed the 10 percent provision, and it clearly defines the terms audit andperformance audit. It provides for expressions of opinion on audited financial statements. However, the law does not require the Chamber o f Accounts to follow INTOSAI standards, which are more applicable to the public sector. Instead, it simply cites the International Standards on Audit (ISA) as the standard o f auditing (Article 44). 5.18. Article 50 of the Law on the Chamber of Accounts specifically requires the chamber to audit financial statements, accounts, and other information of public and municipal enterprises, and to "issue an audit report." This is rather vague because the article does not refer to an audit opinion. However, this can be inferred from Article 1, which defines audit as "an examination o f financial statements o f an audit object to enable the auditor to express an opinion whether the financial statements are prepared, in all material respects, in accordance with the requirements o f the KR legislation." Reference to the requirements o f the legislation is, perhaps, a reflection that the country has not yet adopted appropriate accounting standards (thismatter is dealt with underAccounting and Reporting). 5.19. The law provides for greater financial independence of the Chamber of Accounts by requiring that its funding be approved directly by the Budget Committee of Parliament. Despite such positive changes, however, COA's ability to attract and retain qualified and skilled audit specialists will continue to be underminedby the generally low wages inthe public sector. 5.20. The law does not strengthen protectionfor the chairman of the chamber. The chairman can be dismissed by the President for a number o f reasons, or by a two thirds vote in Parliament. These provisions not in line with international best practice because they expose the chairman to potential political manipulation. In fact, there were three chairmen o f the Chamber o f Accounts between 2004 and 2007, a situation that sheds doubt on the ability o f the chamber to carry through reforms in a sustainable fashion. The constitutional amendments o f December 2006 further eroded the independence o f the COA chairman by giving the president the power to hire and fire without reference to Parliament (effectively negating the 2003 confirmation process alluded to above).23 5.21. Despite some weaknesses, the new COA law provides a much-improved framework for external audit. The performance of the Chamber o f Accounts has not 23The Chamber o f Accounts written submission clarified that the Constitution provides that the President appoint the chairman o f the chamber with prior approval o f Parliament. That i s as it should be. However, the mission didnot find evidence that recent changes inthe chairmanship received parliamentary approval. Besides, the President has the right to appoint and dismiss halfo f the audit staff without parliamentary approval. 32 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 improved however. Indeed, the chamber acknowledges that despite having one o f the best legislative frameworks in the region, no significant shift has been made from the control and inspection approach. Lack o f training and inexperience with modem auditing practices are cited as reasons. COA's ability to provide audit opinion on the government's financial statements i s also hampered by the lack o f government-wide financial statements. Although the law stipulates that such financial statements are to be prepared in accordance with International Public Sector Accounting Standards, the Kyrgyz Republic has yet to adopt IPSAS. These are issues that the government would needto address, possibly requiringtechnical assistance from donor agencies. Challengesand Opportunities 5.22. Overall, the Chamber of Accounts still needs significant capacity building to absorb and implement applicable internationalaudit standards and practices. It is time to transition from an "inspection and control" body to an external audit body capable o f providing third-party assurance on public resource usage. Currently, no auditors or audit specialists with any recognized accounting or auditing qualifications are on staff, despite the requirement in the enabling law that a COA auditor should be an internationally certified accountant or auditor (Article 20). 5.23. Some capacitybuildingprogramshavebeen arrangedfor COA. This includes a twinning arrangement with the UK National Audit Office (NAO) that is part o f the Kyrgyz Health and Social Protection project, which uses a sectonvide approach (SWAp) to health care. Under this arrangement, COA, and NOA will jointly audit financial statements o f the Health Program. The arrangement provides for significant capacity building, including development o f audit methodology, manuals, and training. However, much more extensive training and capacity buildingwill be required. 5.24. The World Bank has recently approved a grant from its Institutional Development Fund (IDF) for COA capacity building. This support will further reforms in public sector auditing beyond those envisaged under the Health SWAp. Previously, DFID supported training o f COA audit specialists. Continuation o f this support is essential because the chamber's training needs are medium- to long-term. Development partners need to coordinate their support to ensure sustainable capacity development. 5.25. To make the chamber more effective, a specific legislativeprovision is needed that requires follow-up for matters arising from COA audits. Empowering a parliamentary committee to follow up on issues raised in audit reports i s one possible remedy. Currently, the Chamber o f Accounts may refer matters to the General Prosecutor' Office when violations are uncovered. 5.26. It was noted that the chamber is still using instructions issued before its enabling law was amended. These instructions focus on examination o f documents, compliance with the law and regulations, and budget execution. The instructions currently are being reviewed by N A O and are expected to be revised as part o f the 33 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 capacity building support under the twinning arrangement. NAO and USAID will be assistingthe COA with the developmento f appropriate audit methodology and manuals. 5.27. The COA has internally developed what are referred to as "Kyrgyz Standards of Audit." These are currently being reviewed by the Council. USAID has provided some assistance during the past year, emphasizing international auditing standards. It is understoodthat the COA Council will be consideringthe adoption o f INTOSAIstandards during its meetinginlate June 2007. 5.28. The Chamber of Accounts has a great opportunity to transform itself into an effective public sector audit institution. The twinning arrangement with the UK National Audit Office will provide hands-on experience in auditing financial statements using a methodology developed by NAO. Training in modern audit techniques and development of relevant audit manuals and guidelines will also be supported, as noted above. The IDF grant will supplement these efforts, focusing on strengthening the legal and institutional framework, further refinement of audit methodology and manuals, and training. 34 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 6. PUBLIC PROCUREMENT 6.1. This section contains four parts. The first discusses the current public procurement scenario in the country. The second deals with the reforms undertaken since the 2002 Country Procurement Assessment Report (CPAR). The thirdanalyses the results o f the benchmarking exercise conducted using the July 17, 2006, OECD-DAC/World Bank Methodology for Assessment o f National Procurement Systems. The fourth discusses outstanding weaknesses o f the system and makes recommendations for improvement. 6.2. The World Bank staff, in close collaborationwith a counterpart government team, assessed the public procurement system and finalized the Country Procurement Assessment Report (CPAR) in December 2002. The 2002 CPAR included an action plan to improve the legislative framework through a revised public procurement law, a set o f comprehensive implementation regulations, and other steps. This report takes stock o f various developments since 2002 within the Public Financial Management Framework (PFM), thus providing a combined financial management and procurement update. The CFAU report covers other important elements o f the P F M such as public sector accounting and reporting, internal controls and internal audit, and external audit. These elements are essential for a public procurement system that functions economically and efficiently, a goal which i s integral to the PFM. This assessment provides a basis on which the Government o f the Kyrgyz Republic (GOK) can develop a capacity-building plan to improve its procurement system. Donors can devise strategies for assisting the capacity development plan. This will help to mitigate risks in individual funding operations; and the country can better monitor system performance and the success o f reform initiatives inimproving outcomes. 6.3. This assessment has been prepared in close collaboration with a team established by the GOK. It incorporates analyses o f the procurement legislation and feedback from various stakeholders in the procurement system, including government agencies, procuring entities, consultants, contractors, and suppliers, as well as representatives of civil society. Overview of PublicProcurementin the Kyrgyz Republic 6.4. The Government of the Kyrgyz Republic initiatedpublic procurement reform in 1994 and enacted the first Public Procurement Law (PPL) in April 1997. Since then, the country's legislative framework for procurement has been under regular development. Following the 2002 CPAR recommendations, the Government drafted a new PPL, which was passed by the Jogorky Kenesh(Parliament) inApril 2004 and took effect on May 24, 2007. This PPL not only implemented several CPAR recommendations, but was also substantially inline with international standards. 6.5. The PPL spells out the major principles of the public procurement process. It 35 Kyrgyz Republic- Country Fiduciaiy Assessment Update November 2007 identifies the parties to which PPL applies, defines the scope o f authority o f the State Agency on Public Procurement and Material Reserves (SAPPMR), and outlines the stages o f purchasing procedure. The two main institutional categories under PPL jurisdiction are (a) state and other entities that use the state budget, and (b) state-owned enterprises (SOEs) that are majority owned by the government. Among the strong points o f the PPL are the following: A decentralized procurement system inwhich allusers o fbudgetary funds, central and local, are responsible for conducting their own procurement 0 Adequate notification o fbiddingopportunities to suppliers and contractors 0 A requirement that the SAPPMR provides technical assistance to procuring entities intheir organization o fprocurement functions Clear provisions for selection o f consulting services. 6.6. The framework for implementingthe public procurement reform falls on the SAPPMR. SAPPMR has overall responsibility for developing procurement legislation and providing support and oversight to ensure procuring entities' compliance with the law. Procuring entities are responsible for the actual conduct o f procurement, while external controls are exercised by the Chamber o f Accounts (CA). Internal controls do not yet exist. The Treasury in the Ministryo f Finance deals with contractual payments and i s also responsible for verifying that a procuring entity has conducted procurement in compliance with the PPL. While a national public procurement implementation framework does exist, weak implementation o f the PPL shows that there i s much room for strengthening the process. 6.7. The public procurement legislative framework provides a theoretically sound environmentfor competitive and transparent procurement. This framework includes the PPL and a number o f resolutions. However, implementation o f the statutes by procuring entities i s weak. Procuring entities at all levels o f government are poorly organized and their personnel are trained inadequately to conduct procurement; the market i s not fully functional; and the country's internal and external controls are either nonexistent or in their infancy at best. In a nutshell, implementation o f the system i s inefficient, resulting in uneconomic use o f public funds for state procurement that cumulatively account for approximately 5 percent o f annual GDP, as shown inTable 1 I 36 Kyrgvz Republic - Country Fiduciary Assessment Update November 2007 Table 1. PublicProcurementas a Shareof GDP, 2004-06 Public GDP Ratioof public Year procurement (in US$ procurement (US$million) million) expenditureto GDP (%) 2004 97.2 2,239.9 4.34 2005 112.8 2,534.6 4.45 2006 158.4 2,924.0 5.42 Progresssince the December2002 CPAR 6.8. Since the December 2002 CPAR, several significant developments have occurredin the public procurementsystem of the Kyrgyz Republic.Inthe new PPL, the government implemented the majority o f the Bank's recommendations (extension o f scope o f application, creation o f a separate chapter on procurement o f consulting services, inclusion o f additional definitions, provisions for financing the SAPPMR, among others). Many recommendations for organizational reform were also implemented, including separation o f the procurement function from the State Materials Reserve Fund in the SAPPMR and reorganization o f SAPPMR's funding mechanism. As recommended, a government implementing resolution mandated procuring entities to send their complete procurement plans to the SAPPMR at the beginning o f the budget year; the Public Procurement Bulletin is published twice weekly; and the amount o f bid security i s up to 3 percent maximum. One o f the most important developments since the 2002 CPAR has been the establishment o f the National Procurement Training Center (NPTC), supported by a grant from the Institutional Development Fund (IDF) o f the World Bank. The NPTC, which belongs to the SAPPMR, i s operational and has already trained over 1,500 public officials in conducting procurement under the PPL. It has also held several seminars for consulting firms, contractors, and suppliers. However, many other recommendations remain unimplemented (see Annex 1). 6.9. The GOK did not implement fully the recommendation for procurement capacity building. Dialogue within the government to establish procurement as a separate career stream inthe civil service has not been initiated. The government also did not follow most o f the CPAR recommendations on increasing accountability. N o internal audit department has been established; findings on corruption in public procurement are not made public; the Chamber o f Accounts annual reports are not published; and C A staff members do not receive adequate training in conducting procurement audits. It appears that several recommendations o f the 2002 CPAR were not implemented, either because of the lack o f resources or the absence o f necessary pieces o f legislation, or simply because the SAPPMR did not attach appropriate priority to them. It i s strongly recommended that the GOK consider implementing these recommendations to make the 37 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 system more transparent, economic, and efficient. 6.10. The PPL provides a clear legislative foundation for the SAPPMR. The main functions o f the SAPPMR are to (a) develop the legal framework for public procurement, (b) coordinate and regulate the activity o f procuring entities in carrying out procurement, (c) monitor procuring entities' compliance with the PPL, (4 assist procuring entities in carrying out procurement through explanations o f the PPL and provision o f training to their personnel, (e) provide openness and transparency in procurement proceedings, and v> review and adjudicate complaints. It appears, however, that the SAPPMR is more focused on reviewing procurement documents and evaluation reports-a role not mandated by any piece o f legislation-than on its oversight and support roles. Consequently the procuring entities have yet, as stipulated in Article 13 o f the PPL, to organize themselves to conduct procurement more effectively. 6.11. The Prime Minister issued a regulation on January 9, 2007, to ensure that procuring entities implement the PPL. In accordance with this resolution, the procuring entities shall (a) designate one o f their departments to be responsible for procurement or create a procurement unit, and establish a separate tender commission for each tender, with the procurement unit and the tender commission strictly guided by the Regulations on the Procurement Unit and the Tender Commission; and (b) include inthe procurement unit and the tender commission members who are trained and qualified. Only some procuring entities at the center have complied with this regulation while regional and district-level procuring entities have yet to do so. 6.12. In response to the 2002 CPAR recommendation for resuming regular publicationof thePublic Procurement Bulletin (PPI?),the CFAU team foundthat the PPB is published twice a week. All procurement-related information, such as tender notices and contract awards, appear in the bulletin. However, the SAPPMR does not verify the information contained inthese notices before publishingthem inthe PPB. Thus tender notices often allow very short bid preparation time; and incomplete or incorrect contract information i s often included. Furthermore, contract award information is not published systematically. This tarnishes the transparency o f the public procurement system. Assessment of the ProcurementSystem, UsingOECD-DACWorld Bank Indicators 6.13. In carrying out the benchmarking of the Kyrgyz public procurement system, the World Bank team worked closely with the State Agency on Public Procurement and Material Reserves. It also sought views from other relevant government agencies and private sector firms representing civil works contractors, consulting firms, and suppliers o f goods. The World Bank team conducted an in-depth review o f the procurement legislative framework, including the PPL and several resolutions. The CFAU team carried out this assessment using the July 17, 2006, OECD-DAC/World Bank Methodology for Assessment o f National Procurement Systems, which i s based on four pillars, each o fwhich includes several indicators. 38 Kvrmz Republic - Country Fiduciaw Assessment Uvdate November 2007 6.14. The assessment provides the country with information to monitor the performance of its procurement system and the success of reform initiatives in improving performance. Identifying weak links in a current system also provides donors with information to better determine risks to the funds they provide to a partner country. This benchmarking has been conducted using the baseline indicators (BLIs) related to the formal and functional features of the existing system. The compliance/performance indicators (CPIs) that deal with monitoring to determine the level o f compliance with the formal system have not been usedbecause procurement data was lacking. 6.15. The BLIs present a snapshot comparison of the actual system with the international standards represented by the baseline indicators. They address four pillars: (a) the existing legal framework that regulates procurement inthe country; (b) the institutional architecture o f the system; (c) the operation o f the system and competitiveness o f the national market; and (d) procurement system integrity. Each pillar includes several indicators and subindicators that are scored using a range o f 3 to 0. A score o f 3 indicates full achievement o f the stated standard; a score o f 2 shows that the system exhibits less than full achievement and needs some improvements in the area being assessed; a score o f 1 indicates areas where substantial work is needed for the system to meet the standard. A score of 0 shows failure to meet the proposed standard. The four pillars o f the Kyrgyz public procurement system scored as follows: i Pillar 1: Legislative/Regulatory Framework I 2.1 ILess than full achievement I Pillar 2: Institutional Arrangements 1.0 Needs substantial improvements Pillar 3: Procurement and Market Practices 0.7 Failure Pillar 4: System Integrity and Transparency 1.2 Needs substantial improvements 6.16. These scores show that progress has been made but much remains to be done. The legislative framework for procurement (Pillar I)has evolved toward achieving international standards in recent years. On the other hand, institutional arrangements (Pillar 11) to implement the legislation have made little headway. In particular, the operations o f the procurement system (Pillar 111) do not inspire much trust among the providers o f goods, works, and services in the evolving national procurement market. This indicates a strong need to initiate partnerships between the public andprivate sectors to strengthen existing external controls, to establish internal controls, and to implement the anticorruption program (Pillar IV) effectively. The following paragraphs include detailed discussions o f the findings andrecommendations for each Pillar. Pillar 1:Legislative and Regulatory Framework (Overall score: 2.1) 6.17. Followingthe 2002 CPAR, the PPL of May 2004 provideda sound framework for public procurement.The government issuedstandard biddingdocuments, except for standard request for proposals for consulting services, which i s being developed. The BLI assessment, confirms that the legislative framework generally meets international 39 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 standards. The findings and recommendations under the indicators for this pillar are as follows: Summay of Findings for Indicator 1 (Public procurement legislative and regulatory framework meets agreed standards and complies with obligations) The legal fi-mework provides for a sound public procurement system. The PPL o f M a y 24, 2004, applies to all goods, works, and services procured with national budgetary funds and the funds o f enterprises that are majority owned by the government. It provides for appropriate procurement methods and processes that promote transparency, fairness, and economy. The Ministry o f Finance's Order o f October 18, 2001,24 requires that procuring entities seek and obtain for each procurement action a document (permit) from the SAPPMR certifying that it has complied with the PPL. This requirement not only adds to the procurement lead time but also cedes unnecessary discretion to the SAPPMR.,This discretion opens the potential for misuse in the procurement process. The PPL has no provision on sanctions against procuring entities or staff for violating the PPL. Recommendations Although the Ministry o f Finance's Order o f October 18, 2001 has been amended to cancel the requirement o f the SAPPMR's involvement in the actual procurement process (See findings above and Footnote 4), the amended order i s yet to be implemented effectively. The Ministry o f Finance and the SAPPMR need to make concerted efforts to have all levels o f government implement the changes. Include a separate provision on sanctions against procuring entities and their staff for violating PPLprovisions. Summay of Findingsfor Indicator 2 (Implementing regulations and documentation) 0 Lack o f a comprehensive implementation regulation and a manual. 0 The PPL provides for bid prequalification but no criteria to determine when to apply it and no clear requirement that qualification should be assessed on a pass- or-fail basis. No guidance note exists on how to evaluate technical and financial proposals for consultant services. Standard Tender Documents exist and are o f good quality. However, technical specifications prepared byprocuring entities are o f poor quality. The PPL requires that the contract should be awarded to the lowest evaluated bid, but there is no guidance regulation or note for procuring entities. 24 Information on this subject received from the Treasury is as follows: "The order o f the Ministryo f Finance dated March 29,2007, amended the "Instruction for the regional departments o f the Treasury under the Ministry o f Finance o f the Kyrgyz Republic on the procedure for opening and keeping Treasury accounts on national budget expenditure transactions" to cancel the requirement for nataional budget institutions to submit the written permission from the public procurement agency to the Treasury." 40 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 0 The SAPPMR's involvement inthe actual conduct o f procurement does not allow it to objectively review and adjudicate bidcomplaints. Recommendations Prepare a comprehensive implementation regulation and a manual with detailed explanations and clarifications o f PPL provisions, including evaluation methodology for goods, works, and consultants. Include criteria in the implementation regulation that would enable potential bidders' qualifications and experience to be assessed for prequalification on a pass-fail basis. Use clear and broad technical specifications and introduce the concepts o f "substantial responsiveness" and "substantial equivalence," with a view to procuring the best-quality goods, works, and services. The SAPPMR may have to develop model technical specifications, and design and deliver training to procuring entity staff inhow to write broad and clear technical specifications. Pillar 11: Institutionalframework and management capacity (Overall score: 1.0) 6.18. Pillar I1 looks at how the procurement system (defined by the legal and regulatory framework) operates in practice through existing institutions and management systems. The CFAU team found little improvement since the last CPAR. Benchmarking results and recommendations are provided below. Summary of Findingsfor Indicator 3 (Publicprocurement system is mainstreamed and well integrated into the system ofpublic sector governance) 0 Procurement planningfor budget formulation and budget execution is weak. The requirement o f Article 13 o f the PPL to prepare a procurement plan upon the approval o f the Republic's budget i s not met. Multiyear procurement planning does not exist. 0 The Treasury does not release the funds allocated to procuring entities ina timely manner. Frequently, these funds are available to procuring entities only a few weeks before the end o f the fiscal year. As a result, procuring entities conduct uneconomic procurement using methods and procedures that lack transparency and do not foster optimal competition. 0 Initiation o f procurement actions without ensuring availability o f funds is common, frequently leading to cancellation o f tenders and even o f contracts that have been awarded and signed. This seriously affects bidder confidence in the system. As a result, a growing number o f bidders are deciding against doing business with the government. 0 Procuring entities are not allowed to use funds saved through competitive procurement procedures, creating a disincentive for realizing any savings. Recommendations 0 The SAPPMR must work with the M O F to improve procurement planning from the beginning o f budget formulation, as well as to enforce procuring entity 41 Kyrgvz Republic - County Fiduciay Assessment Update November 2007 compliance with Article 13 o f the PPL. At the same time, the SAPPMR should prepare and disseminate to procuring entities detailed procurement plan formats listing all the essential information about every contract, such as the contract description, estimated value o f the contract, procurement method, and the key procurement processing dates leading up to contract signature. 0 The MOF should consider ways and means to make funds available to procuring entities in a timely manner, at least three months before the fiscal year closes. The MOF/SAPPMR must issue an order requiring all procuring entities to obtain written confirmation o f fundingavailability before launching any tenders. The MOF should consider allowing procuring entities to use the savings derived from competitive procurement processes. Summary of Findings for Indicator 4 (County has afunctional normativehegulatory body) The SAPPMR is inadequately staffed to fulfill its responsibilities for overseeing and supporting procurement byprocuring entities incompliance with the PPL. The SAPPMR is involved in the actual conduct o f procurement, which not only creates a conflict o f interest with regard to its authority to review and adjudicate complaints but also seriously saps its already weak capacity to fulfill its original responsibilities discussed above. Recommendations Consider strengtheningthe SAPPMR to enable it to fulfillits responsibilities inan effective manner. This i s necessary for the agency to fulfill its oversight, support, and capacity-building roles. Summary of Findingsfor Indicator 5 (Existence of institutional development capacity) 0 The SAPPMR has the necessary means at its disposal (a Web site, the PPB, and government newspapers) to collect and disseminate information about the legal framework, tenders, and contract awards. However, the quality o f the information publishedleaves ample room for improvement. No sustainable strategy and procedure exist for collection and maintenance o f statistical data on procurement. The National Procurement Training Center o f the SAPPMR provides training to public officials but i s unable to meet all training needs. Furthermore, procuring entities do not receive budgetary allocations to pay the NPTC for staff training. No quality control standards exist to evaluate staff performance. The SAPPMR is yet to develop and implement a program for testing and certifying public officials as procurement professionals. Recommendations 0 The SAPPMR must review and verify the information contained in tender and contract- award notices to ensure that the information is accurate and in compliance with the PPL. 0 The SAPPMR should develop a strategy and procedure for collection, maintenance, and dissemination o f statistical data on procurement. This may 42 Kyrgvz Republic - Country Fiduciary Assessment Update November 2007 require the staff o f the SAPPMR to study the procurement data collection system and its use insome advanced country such as Hungary or Slovakia, among others. The SAPPMR should strengthen the NPTC to meet the training needs o f the country. To staff procuring entities with certified procurement officials, the agency should also introduce a testing and certification program. Pillar 111: Procurement operations and marketpractices (Overall score: 0.7) 6.19. Pillar I11 involves the operational effectiveness and efficiency of the procurement system at the level of individual actions. It considers the market as a means o f judging the quality and effectiveness o f the system after procurement procedures are put into practice. This pillar looks not at the legal and regulatory or institutional systems per se, but rather at how they operate. Findings from the benchmarking for this pillar follow below, with recommendations for improvement. Summary of Findings for Indicator 6 (Efflcient country procurement operations and practices) 0 While the country has a sound procurement legislative framework, its implementation at all levels o f government is weak. Few procuring entities have qualified procurement staffi some use a permanent tender committee, which i s inconsistent with the PPL; and others assign this important task to one or two staff memberswho are already encumbered by the demands o f other workloads. Recommendations 0 Implement the Prime Minister's Resolution of January 9, 2007, which requires each procuring entity to establish a procurement section in one o f its departments and to staff it with qualified procurement specialists. 0 Strengthen the NPTC to meet the training needs o f the country and to introduce a testing and certification program for procurement professionals. 0 Allocate budgetary hnds to procuring entities to meet the cost o f staff procurement training. Summary of Findingsfor Indicator 7 (Functional public procurement market) Public and private sector partnership i s weak. NGOs play a very minor role in public procurement. Private sector institutions are still organizing. Most consulting firms, contractors, and suppliers have little confidence in the procurement system. This lack of confidence may be attributed to the following: incorrect and misleading publication o f procurement opportunities; difficult access to bidding documents; poor quality o f bidding documents, especially technical specifications; short bid preparation time for bidders; minutes o f bid openings are not prepared properly and signed by all participants; unnecessary requirement to obtain a license from the SAPPMR before contracts can be awarded and signed; cancellation o f tenders without reason; cancellation o f contract awards without justification; frequent amendments to contracts during contract performance; and delayed contractual payments. 43 Kyrgvz Republic - Country FiduciaryAssessment Update November 2007 Recommendations 0 The SAPPMR should develop mechanisms for partnership betweenthe public and private sectors. NGOs should be encouraged to be more active in this partnership. To build private sector confidence in the public procurement system, the SAPMMR and procuring entities should eradicate undesirable procurement practices. Summary of Findings for Indicator 8 (Provisions for contract administration and dispute resolution) 0 While contract conditions include clauses on inspection, quality control, and other important matters, the contract administration procedures are generally weak, especially for civil works. Written contract administration procedures do not exist and staff i s not provided with systematic training to fillthe gap. Recornmendations 0 To ensure that procuring entities administer contracts properly, it i s imperative for the SAPPMR to prepare a simple manual on contract administration and for the NPTC to design and deliver a training program for procuring entities. Pillar IV: Integriq and transparency of the public procurement system (Overall Score 1.2) 6.20. Pillar IV includes five indicators that a system must meet to operate with integrity. These controls support implementation in accordance with the legal and regulatory framework, as well as measures to address the potential for corruption. The pillar also covers important efforts to involve stakeholders inthe control system. Summary of Findings for Indicator 9 (Country has an effective control and audit system) 0 While external audit exists in the form of the Chamber o f Accounts, internal controls are nonexistent. The C A audits procurement regularly, but these audits are ineffective since the chamber's staff i s not properly trained in procurement processes. Furthermore, C A findings are not made public. It i s not known whether recommendations are taken into account or properly enforced. Recommendations Strengthen the capacity o f the CA staff to audit public procurement. Make CA findings public and ensure that recommendations are implemented. Summary of Findingsfor Indicator 10 (Appeals mechanism efficiency) Providers of goods, works, and services have little confidence in the appeals mechanism because they do not view the complaint review mechanism as 44 Kyrgyz Republic - Country Fiduciary Assessment Update November 2007 impartial, fair, and transparent. SAPPMR cannot effectively and objectively review and adjudicate complaints about a biddingprocess for which it also issues a document (permit) certifying that a procuring entity has complied with the provisions o fthe PPL. Recommendations To increase bidder trust inthe appeals mechanism, the SAPPMR must discontinue its direct involvement in the actual conduct o f procurement-that is, review o f evaluation reports, contracts, and other matters to issue the license required by the Treasury. The SAPPMR should also study appeal mechanism that are working efficiently in other countries (Slovakia, Hungary, and Poland, among others) and then adopt good practices. Ifnecessary, it should revisit and amend the PPL. The complaint mechanism under the current PPL could be improved by expanding the parties able to file complaints and the subjects or grounds that are subject to complaint. The mechanism as designed only admits complaints from "participants" or actual bidders, effectively closing it to "interested parties" such as whistleblowers or potential bidders who did not participate because o f irregularities or perceived irregularities. The grounds for complaint are also severely restricted. They should be expanded to include irregular selection o f procurement method; the choice o f award winner under Paragraph 4, Article 27; and the irregular granting o fpreferences under Article 3, ifincontravention o f the provisions o f the PPL. Additionally, the practice o f "debriefing" o f bidders should be considered for inclusion inthe new implementation regulations as well as in a future revision o f the PPL. This will enhance transparency since the procuring entity has to articulate its justification for the award. It will also discourage the filing o f frivolous complaints or those based on misunderstandings that can be easily clarified in a debriefing. Summary of Findingsfor Indicator 11 (Degree of access to information) 0 Procurement information i s easily accessible but its quality is poor since SAPPMR does not systematically check the information submitted by procuring entities. Recommendations 0 The SAPPMR must introduce quality controls so that information, especially in tender notices, i s accurate, correct, true, and consistent with the relevant provisions o f the PPL. Summary of Findings for Indicator 12 (Ethics and anticorruption measures are in place) The Kyrgyz Republic is a signatory o f the UNConvention on Anti-Corruption as o f August 2005. In October 2005, the National Anticomption Council was established and an Anticorruption Agency was set up. The legal framework on anticorruption i s adequate as discussed above, but implementation o f the anticomption legal framework is weak. The Anticomption Agency is still inthe preparation stage o f its fight against malfeasance. Moreover, no nexus seems to 45 KyrgvzRepublic - Country Fiduciary Assessment Update November 2007 connect the PPL and the anticorruption legislation to identify the punitive consequences o f corrupt behavior in procurement and the possibility o f referral for criminal charges. The PPL would benefit from such a nexus since the procurement law only cites "bribery" and not other relevant prohibited acts such as collusion, coercion, fraud and, to some extent, obstructive practices. Recommendations 0 The GOK should align the PPL with the anticorruption legislation and strengthen its implementation. OutstandingWeaknesses of the System: Risk and MitigationMeasures 6.21. Ineffective implementation of the May 2004 PPL is a major weakness of the Kyrgyz public procurement system. While a comprehensive legal framework is in place, the system suffers from deficiencies in actual practice as i s well illustrated by the benchmarking described above. Deficiencies include absence o f proper guidance to procuring entities; lack o f procurement organization and capacity; undesirable procurement practices; poor budgetary allocation processes; inadequate external and internal controls; an unimplemented anticomption agenda; and a weak supply side that mistrusts the procurement system. 6.22. The PPL clearly assigns procurement oversight and support roles to the SAPPMR. The SAPPMR is, however, unable to fulfill these roles efficiently and objectively. It lacks adequate capacity, and its involvement in actual procurement conduct, which i s the responsibility o f procuring entities, conflicts with its oversight role. The SAPPMR therefore provides little guidance to procuring entities to ensure effective implementation o f the PPL. The agency has yet to prepare and disseminate a comprehensive implementation regulation and manual for use by procuring entities. Procuring entities at all levels o f government are poorly organized. Some still conduct procurement through permanent tender commissions in disregard o f the current PPL, which requires each entity to make one o f its departments responsible for purchasing and give it the capacity necessary to do the job. Furthermore, qualified procurement professionals are generally in short supply. Consequently, procurement i s being conducted by unqualified entity staff who receive rudimentary training from the National Procurement Training Center. The net result i s weak implementation o f the PPL and poor practices from procurement planning to contract management. 6.23. Procurementplanningshouldbeginwith the budgetformulation, but planning in fact is often simply a listing of items and their estimated costs for budgeting purposes. Multiyearprocurement planning is not used. Even after the national budget is approved, adequate procurement plans are not prepared. Making existing plans public would help providers o f goods, works, and services prepare better responses to tenders as they are launched, fostering optimal competition. Procuring entities receive funds late in the fiscal year, giving them insufficient time to conduct economical and efficient procurement. Information provided in tender notices i s sometimes incorrect and 46 Kyrgyz Republic - Country FiduciaryAssessment Update November 2007 misleading; bidding documents sometimes are not easily available to interested bidders; allowable bid preparation time is too short; technical specifications are poor; contract award decisions frequently are made based on the lowest price instead o f the lowest evaluated price; tenders are cancelled without notice or justification; contract management practices are slipshod; sometimes contracts are terminated without any justification; and so on. These poor practices, combined with a complaint resolution mechanism that appears to lack objectivity and transparency, has led the providers o f goods, works, and services to loose trust inthe system. 6.24. The supply side is improvingbut still weak. The construction industry has made good progress during the past decade, but i s still unable to qualify for large contracts. Manufactured goods are mostly imported. The consulting industry i s inits infancy. 6.25. The above mentionedrecommendationshavebeen includedand prioritizedfor action in Annex 1 - Summary of Recommendations. The recommendations will be discussed with SAPPMRwith a view to preparing a concrete actionplan. 47 Kyrgvz Republic - Country Fiduciary Assessment Update November 2007 7. FIDUCIARY ISSUES INBANK-FINANCEDPROJECTS 7.1. Fiduciary risk refers to the possibility that funds provided by budgetary authorities or development partners will be misused or stolen. In the context o f development aid, fiduciary risk also includes the possibility that actual expenditures will diverge from authorized expenditures reflected in the borrowing country's budget, whether through misappropriation or misallocation.2s Traditionally, fiduciary risks in donor-financed projects were mitigated through ring-fenced arrangements for project implementation. Where country systems have been used, these have been accompanied by specific risk mitigation and capacity-building measures to reduce the risks to manageable levels.26 Key IssuesIdentifiedinPreviousDiagnosticReports 7.2. The 2004 Country Financial Accountability Assessment reported that fiduciary risks in Bank-financedprojectswere managedby establishing ring-fenced Project Implementing Units (PIUs). These PIUs installed separate project financial management systems distinct from government accounting and reporting systems and maintained a separate audit trail for project transactions. Annual project financial statements were audited byprivate audit firms acceptable to the Bank. 7.3. The CFAA noted major internal control weaknesses, even within the ring- fenced agencies. These included weak organizational structure, which resulted in poor allocation o f responsibilities for accounting and reporting on activities; noncompliance with Bank requirements, such as the injunction that Bank-provided funds not be commingled or used for activities other than those for which they were intended; and an inadequate accounting mechanism for counterpart resources. 7.4. Due to unavailability of adequate on-timecounterpartfunds, Bank funds were often used for pre-financingineligible expenditures that should have been paid out of counterpart funds. Because o f the small size o f most Bank-financed projects in the country, no PIU had established an internal audit function. This would, however, be mitigated by having a full-time financial management specialist based in Bishkek to closely supervise and monitor the financial management o f projects and provide quick guidance to the PIUstaff. 7.5. The Bank did not place any reliance on audits conducted by the Chamber of Accounts. Instead, all Bank-financedprojects were auditedby private sector audit firms, mainly the Big Four audit firms with staff based in Almaty, Kazakhstan. InJune 2001, the Bank carried out an on-site assessment o f audit firms in the Kyrgyz Republic to 25Richard Allen, Salvatore Schiavo-Campo, and Thomas Columkill Garrity, "Assessing and Reforming Public Financial Management: A New Approach," World Bank. 26Health and Social Protection (SWAP) Project 48 Kyrgyz Republic- Country Fiduciary Assessment Update November 2007 assess their eligibility to audit Bank-financed projects. The review revealed that most local firms lacked the technical capacity and requisite experience to carry out such audits. Other than the Big Four audit firms, only one local firm was considered eligible to carry out project audits. This firm appeared to monopolize auditing o f Bank-financed projects, and concerns were raised about the technical quality o f its audits. Because o f the weaknesses inthe country's PFM systems and`inthe financial accountability framework, the CFAA recommended that ring-fenced control be maintained for Bank-funded investmentprojects untilthe systemic weaknesses were adequately addressed. 7.6. Considering the failure of several banks in the Kyrgyz Republic, the CFAA also recommendeda fiduciary assessment of commercialbanks.This would pertainto commercial banks holding project special accounts. The assessment would evaluate the risk to the special account funds on deposit. This was crucial because all Bank-financed projects inthe country had their special accounts incommercial banks. Featuresof Current Arrangements for World Bank-financed Projects 7.7. Most Bank-financed projects are still implemented within ring-fenced arrangementsbecauseof continuingconcerns about capacityand fiduciaryrisk.The country's PFM systems-especially accounting, reporting, and internal control-are still quite weak. The capacity o f the Chamber o f Accounts has not improved sufficiently to enable the Bank, or indeed other development partners, to rely on C O A audits. Most PIUs have established satisfactory financial management and procurement arrangements. Most have experienced and skilled financial management and procurement staff who have benefited from regular training programs organized by the Bank within the country or regionally. 7.8. Bank-financed projects have installed automated accounting systems that generate required interim financial reports. These have been submitted on a regular and timely basis. Project audits continue to be performed by eligible private sector auditors. Audit reports for the past few years have been submittedon time, and most have not raised serious issues o f accountability. Some weaknesses in accounting and internal control have been highlighted in audit reports and management letters, as well as in financial management supervision reports; but these have been satisfactorily resolved following intervention from the Bank. 7.9. Bank-financedprojects are still not integratedin the annualbudget. Generally, externally financed projects that are part of the Public InvestmentProgram (PIP) have not been included in the annual budget on the revenue side with estimated loan receipts, and on the expenditure side with estimated project expenditures. The annual budget only reflects counterpart funds made available for project implementation. This practice distorts reporting on the amount o f public investment in some sectors. The exception i s the sectonvide Health and Social Protection Project, a SWAP. Although an investment project, it has some features o f a budget support operation. The government is, however moving toward integrating external donor funding into the national budget, and the 2007 budget included projects under the PIP for the first time. 49 Kyrgyz Republic - Country Fiduciay Assessment Update November 2007 7.10. The overall fiduciary risks in Bank-financed projects have been moderate. There are a few projects in sectors where the risks have been high, especially projects implementedby public utilities and those with community involvement and multiplecash transactions. In such cases, appropriate risk mitigation measures have been designed to bring the residual risks to acceptable levels. Such measures include extensive risk-based financial management supervision at regular intervals, and more in-depth scrutiny of accounting and internal control systems through operational reviews. All new projects are required to have satisfactory financial management arrangements before implementation. Health sector 7.11.In2005, the Bank and a number o f development partners came together to support the country's health reform program-Manas Taalimi-using a sector-wide approach. Under this program, the joint financiers agreed to pilot country systems for budgeting, accounting, reporting, and audit. However, prior to agreeing to the use o f country systems, it was decided that a sector fiduciary assessment be carried out to determine the level o f fiduciary risks and design appropriate risk mitigation and capacity development measures. 7.12. The Health Sector Fiduciary Assessment (HSFA) contained a fiduciary risk matrix table and a set o f risk-mitigation and capacity-building measures. When fully implemented, these would give the joint financiers and the Government a level of assurance that funds under the program would be used as intended. The measures included development o f a program operational manual (POM); establishment of an internal audit function inthe health sector, initially within the Ministry o f Health (MOH) andthe Mandatory Health Insurance Fund(MHIF),and provision o f consultancy support to the newly established internal audit units; automation o f accounting systems in health care facilities; training o f accounting and health personnel; a twinning arrangement for the Chamber o f Accounts to help build its capacity and to conduct joint financial statement audits o f the health care program; and a requirement for an in-depth internal control/operational review and regular financial reporting. 7.13. Despite some delays, implementation of the risk-mitigation and capacity- building measures have progressed well. Internal audit units have been established, a twinning contract has been signed with the UK National Audit Office, and a program operational manual has been adopted. It i s expected that lessons learned in this pilot operation will inform considerations by the Bank and other development partners on greater reliance on country systems going forward. In particular, it i s expected that the twinning arrangement for the Chamber o f Accounts will help buildnecessary capacity to enable COA to conduct audits in accordance with the requirements o f the law and international best practice. Education sector 7.14. The CFAU team also made a brief assessment of the procurement capacity of the Ministry of Education (MOE). The MOE Rehabilitation, Monitoring, and State Procurement Unit, which reports directly to the minister, has two staff members assigned 50 KyrgyzRepublic - Country Fiduciary Assessment Update November 2007 to procurement with public funds. Both have received training and have practical experience. The leading specialist, who mainly deals with procurement, has also received training in conducting procurement according to the World Bank procurement and consultant guidelines. This unit handles procurement for MOE and its affiliated bodies, including several schools. It cooperates with the technical departments o f MOE as needed. 7.15. Procurement for educational institutions at the oblast and rayon levels is the responsibilityof respectivedepartment of education (DOES).Each oblast and rayon has a DOE that conducts purchasing through its procurement unit. MOE is not involved in the procurement of learning materials, textbooks, or rehabilitation of schools. Nevertheless, the capacity o f public officials at the oblast and rayon levels generally appears to be weak. They are not normally familiar with the requirements o f the PPL; and in any case, they are not in a position to compel enforcement. The net result of this lack o f procurement capacity and proper internal and external control i s inefficiency that generates substantial economic losses o f public expenditure through higher prices paid for goods, works, and services and from corruption. Schools report substandard repairs, educational equipment, and textbooks that were imposed because they had no say in the procurement process. Capacity buildinginprocurement appears to be needed at all levels o f the education sector-central, regional, and local. Movement toward Greater Relianceon Country Systems Financia1management 7.16. Standalone project implementation units have been a necessary short-term, risk-mitigating strategy. Generally fiduciary arrangements for Bank projects function well in the Kyrgyz Republic. However, establishing fiduciary safeguards and financial management arrangements outside the national institutions o f accountability does nothing to contribute to the development o f sustainable financial management capacities inpublic institutions. The government has explored the possibility o f integrating PIUs within line ministries and consolidating fiduciary functions as an alternative to multiple PIUs within ministries. The idea i s a good one, although little progress has been made toward implementation more than a year after it was vetted. Inparallel, the government's current efforts in public finance reforms, if sustained, will strengthen public sector financial management arrangements and allow increasingreliance on country systems. 7.17. Ongoing PFM reforms should strengthen accounting and reporting; increase transparency and accountability; and create a modern Treasury function and institutions of control, audit, and supervision. As the government makes progress in implementingthe PFM action plan, the Bank may progressively begin to rely on elements o f the government's financial management systems. However, decisions will be taken based on reviews conducted on a case-by-case basis. Elements o f the country's PFM architecture that are likely to benefit from the ongoing PFM reforms include Treasury operations, budget formulation and execution, accounting and reporting, internal control, internal audit, and external audit. These efforts will help reduce fiduciary risks associated with the use of country systems and enable greater use o fthese systems. 51 Kyrgvz Republic - County Fiduciay Assessment Update November 2007 7.18. Any decisions for more widespread use of country systems will be based on considerations about progress by implementing agencies (line ministries) to establish sound financial management arrangements. These include: (a) reliable accounting and timely reporting systems; (b) robust internal control systems with clearly defined managerial accountabilities; (c) effective internal audit functions capable o f detecting weaknesses in the system, and recommendations for remedial measures; (d) an independent and competent external auditing agency to conduct financial statement audits and; (e) transparent procurement systems. An efficient treasury system capable o f managing funds, tracking collections, and making payments would also have to be in place as part o fthe overall PFM system. Procurement 7.19. Based on the experience in the health sector and the brief assessment of the education sector, it appears that substantial procurement capacity-building efforts will be needed before donors can even partially rely on the country procurement system. While the MOH has taken the necessary steps under the Health SWAP-such as establishment o f a procurement sector, appointment and training o f two procurement staff, and preparation o f a procurement capacity building plan for staff at regional and local health-related agencies-the MOE should consider instituting the same procurement capacity buildingmeasures. Government anticorruption measures 7.20. In August 2005, the Kyrgyz Republic ratified the UN Convention against Corruption. In October 2005, the National Anticorruption Council was established by presidential decree. The council that oversees the agency includes 11 members representing Parliament, the Presidency, the civil service, the Supreme Court, civil society, and the head o f the National Anticorruption Agency. The agency has 49 staff members. It is, however, new; and it has yet to implement any anticorruption programs. 52 Kyrgyz Republic - County Fiduciary Assessment Update Annex 1 ANNEX 1 SUMMARY OF RECOMMENDATIONS Inaddition to implementationo fthe PFMAction PlanapprovedbyPresidentialDecree No. 337 o f June 29,2006, part 1o f the following table summarizes recommendations to accelerate reforms inthe public finance management. These will need to be prioritized and incorporated as an annex to the PFMaction Plan. Part 2 o f the table summarizes recommendations to improve the public procurement system. Part 1 Summaryof Recommendationson FinancialManagement - Measures Objectives Timeframe* a. PublicSector Accounting andReporting Finalize the Chart o f Accounts I To provide a unified method o f , Ii ~ I and implement the cash-based ; accounting by budget organizations, Short term IPSAS as presented and I and to ensure reliability and recommended under the USAID 1 comparability o f financial reporting funded project (continued TA 1I will be requiredto the newly created Division o f 1,, Methodology for Financial Reporting and Internal Audit ,, Government should seek .TO present financial statements for ' technical assistance to move the government as whole and Medium term toward preparation o f facilitate financial statements audit by consolidated financial the Chamber o f Accounts statements for the government ............................................................................................................................................................ as a whole Ministryo fFinance should seek To ensure continuity o f training and donor support to outsource consistent quality standards. Initial Short term public sector financial donor support may be needed to management and accounting engage a training coordinator inthe training to established training Ministryo fFinance, to investigate organizations inthe Kyrgyz training needs and develop Republic with the track record coordinated training plans .......................................................................................... Establisha Training Center for To create a critical mass o f trained public sector officials including officials to sustain reforms inpublic Long term accounting, finance and sector, especially inPFM ................................................................................................................................................ ...... procurement personnel " .............................................................................................................................................................................. Introduce a system o f To provide useful information for management accounting inthe performance measurement and Long term public sector managerial decision making 53 Kyrgyz Republic -CountryFiducia y Assessment Update Annex I Accelerate the computerization jTo improve efficiency and accuracy o f Treasury operations, with Mediumterm io f data input and improve timeliness : major overhaul o f Treasury Io f Treasury reports Business processes ! j ~ b. InternalControlandInternalAudit Accelerate process towards To establish a legal and institutional enactment o fthe law on internal framework for internal audit function ~ Priority 1 audit and establish appropriate for a sound internal audit system organizational framework for internal audit inthe public sector (there i s urgent needto reconcile the draft law with a parallel draft submitted by the COA) ................................................................................................................................................................................ Role o f the Financial Control To remove doubts and ambiguity of Division inthe Ministryof the direction taken by the government Priority Finance to be clarified to establish modem internal audit function and allays fears about revival o f control and revision units Create a centralized and secure To strengthen internal controls in database o f employees inthe payroll processing Short term public sector, and computerize payroll processing .......................................................................................................................................... Review the structure and To rationalize the structure o f distribution o f bonuses and allowances based on transparent Short term allowances paid to public criteria, such as performance officials appraisal I Seek technical assistance to To further strengthen internal controls ~ develop a framework for a and increase efficiency and Long term II Public Internal Financial effectiveness inthe use of public I I Control (PIFC) strategy,. resources, focusing on the two pillars o f managerial accountability and functionally independent internal audit c. ExternalAudit Review the legal framework o f To enhance independence and I the Chamber o f Accounts to ; I Mediumterm increase its independence Accounts as the Supreme Audit effectiveness o f the Chamber o f I I I 1 Institution i I Improve transparency inthe appointment process o f the , To secure the integrity o f the COA, and ensure security o f tenure for the , Medium term COA chairman and members of chairman and council members ~ the Council I 54 Kyrmz Reuublic - Countw Fiduciary Assessment Uvdate Annex 1 Strengthen capacity o fthe COA To strengthen the capacity o f the by a combination o ftwinning ! COA to perform financial statements 11 Priority arrangements with well- I and performance audit j established SAIs and sustained I I training, both in-country and I1 ii overseas ......................................................................................................................... .+I ................................................................................................... ........................................................ i!............................................................................................................................ Strengthen the capacity o f the To improve public financial 1I ' ~ parliamentary committee by Mediumterm j accountability and transparency, and providing exposure to j to strengthenthe enforcement I international best practices and I capacity to ensure compliance with building researchand analytical audit recommendations ~ capacity to follow up on audit I 1i ~ .......................................................................................................................................................... findings and recommendations i I ~ ................................................................................ i....................................... Enact specific legislation to I To make the COA more effective, require follow up o fmatters I and empower parliamentary I Mediumterm ~ arising fkom the Chamber o f i committee to follow up issues raised iI Accounts Audits I inthe audit reports iI d. Use of Country Systems Accelerate implementation of I To reduce fiduciary risks in the use of the PFM action Plan, and other i Country systems and promote greater Mediumterm recommendations contained in , reliance on national systems for this report to strengthenthe implementing donor-funded projects ~ country's P F M systems 1 (Development partners should Partner i progressively begin to place greater support the government to 1ireliance on country systems) develop prioritized PFM capacity development plan) I ~ I toward integrating external The government should move To ensure completeness o f presentation o f public sector , Ongoing donor funding in the national resources and spending inthe budget National Budget * Note: Short term measures generally refer to the timefiame o f 1to 2 years. Medium term refers 2 to 5 years. Long term refers to more than 5 years. Ongoing indicates implementationhas commenced. 55 Kyrgyz Republic - County Fiduciay Assessment Update Annex 1 Part2: Summaryof Recommendationson Procurement Measures Objectives Time frame* PillarI.LegislativeandRegulatoryFramework Discontinue licensing activity o f the SAPPMR To ensure that the SAPPMR Short Term by implementingthe MOForder o fMarch29, focuses on its main role o f 2007, amendingthe MOF Order o f October 18, providing support to 2001 "On opening and maintaining o f Treasury procuring entities and to accounts for registrationo f operations on oversee the procurement execution o f expenditures o f the state budget o f function to ensure the Kyrgyz Republic by regional divisions o f compliance with the PPL. the Central Treasury o fthe Ministry of Finance," Prepare and disseminate an implementing To explain with a view to Short Term regulation and a manual for providing detailed improving the understanding guidance to procuring entities. (This among the procuring entities' recommendationwas also included inthe 2002 staff involved inconducting CPAR Action Plan). procurement o f different provisions o f the PPL, including, among others, preparation of procurement plans, biddingdocuments, use o fpre- and postqualification, bid submissiodopening procedures, evaluation methodologies, preparation o f minutes. etc. Prepare model technical specifications for the To facilitate the task o f Medium frequently procured goods and works, and train procuring entities of Term staff o fprocuring entities inpreparingclear preparingbroad, clear and technical specifications (Also included inthe concise technical 2002 CPAR Action Plan), and introduce the specifications for efficient concept o f "substantial equivalence and and economic procurement. responsiveness." ImplementPrime Minister's ResolutionNo. 2 To organize and strengthen Ongoing but o f January 9,2007, on organization o f procuring entities for an needs to be procuring entities. effective implementation o f expedited. the PPL. Strengthen SAPPMR's structure and staffing. I To increase SPPMR's Short Term efficiency and focus on its 56 Kyrgyz Republic - Country Fiduciary Assessment Update Annex I Measures Objectives Time frame* oversight and support roles. Improve procurement planning from the To plan procurement Medium beginningo fthe budgetcycle, and streamline adequately before budgetary Term budgetaryprocesses to make funds available to funds become available; and procuring entities ina timely manner for once funds are available, to economic and efficient procurement. conduct procurement efficiently and economically inatimely manner within a givenfiscal Year Requireprocuring entities to obtainwritten To make payments to Short Term assurances from the Treasury o f funding providers o f goods, works, availability before a tender for goods, works, or and services ina timely services i s launched. (The Action Plan o f the manner, improving 2002 CPAR included the following: "Procuring competition for future entities to launchtenders only upon M O F contracts to create economy confirmation o f availability o f funds for timely contractual payments.") Make procurement data collection more To ensure that good quality Short Term effective (i.e., systematicallyrequireprocuring data i s available for analysis entities to submit data to the SAPPMR) and o fprocurement processes establish and maintain a computerized database (e.g., use o f competitive vs. for procurement data. (This i s also included in noncompetitiveprocurement the 2002 CPAR Action Plan.) methods), facilitating corrective measures. Improve quality o f information contained in To improve system Short Term tendernotices, contract award notices, and other transparency and enhance items publishedinthe Public Procurement private sector trust inits Bulletin (PPB),and enhance use o fthe PPB to reliability disseminate information about good procurement practices. I Pillar 111. ProcurementOperations andMarket Practices Develop mechanisms to improve partnership To interact frequently with LongTerm between the public and private sectors, civil society to introduce including providers o f goods, works, and social auditing, and with services, and civil society. consultants, contractors, and suppliers to ensure their continued interest in government tenders andto improve their understanding o f procurement legislation requirements j 1Prepare a simple manual on contract To ensure efficient, timely, Medium administration, and design training for contract and cost-effective contract Term 57 Kyrg-yz Republic - Country Fiduciay Assessment Update Annex I Measures administration. performance Make the National Procurement Training To ensure that the NPTC Medium Center self-sustainable by providing budgetary continues to function Term resources to procuring entities so that they can effectively with a view to pay for its services. Introduce a testing and creating a cadre of certification system for procurement officials to procurement professionals by become procurementprofessionals. testing their skills and certifying their professionalism PillarIV. IntegrityandTransparencyof the PublicProcurementSystem Streamline the appeals mechanism by To enhance bidder trust Medium expanding the parties that can file complaints Term and expanding the grounds for complaints. Alignthe PPLwith the anticonuption To strengthen the PPL from Long Term legislation and strengthenits implementation. such linkage since current procurement law does not include all prohibited acts, such as collusion, coercion, fraud, and obstructive practice Strengthen the capacity o f Chamber o f To ensure that the C A staff Short Term Accounts staffthrough training inprocurement. properly understand the procurement legislation to conduct meaningful procurement audits Prepare a code o f ethics for procuring entity To avoid conflict o f interest Short Term staff involved incarrying out public procurement. * Note: Short term measures generally refer to the timeframe o f 1 to 2 years. Medium term refers 2 to 5 years. Long term refers to more than 5 years. Ongoing indicates implementation has commenced. 58 Kyrgyz Republic - Country Fiduciary Assessment Update Annex 2 ANNEX 2 UNIMPLEMENTEDMAJOR RECOMMENDATIONS OF THE 2002 CPAR Recommendation in the CPAR Statusof Implementation 1. Abolish Article 30, "Cancellation o f The GOK partially amended Art. 29 (Art. 30 in Tenders." the old PPL) according to the Bank's recommendations, but Art. 29 is still worded unclearly and allows procuring entities to cancel tenders without valid reasons. This has become a common practice, leading to inefficient and uneconomical procurement that also lacks transparency and fairness. 2. Establish a Procurement Advisory According to the SAPPMR, the PAC was Committee (PAC) to issue opinions on established inpursuance o f RegulationNo. 583 SAPPMR draft annual reports about public o f September 29,2003. However, no activities procurement performance and on draft public bythis committee have surfaced. procurement legislation and regulations. 3. SAPPMR should conduct essential rather The MOF requirement o f mandatory than regular review o f procurement coordination byprocuring entities with the documents (includingbiddingdocuments, SAPPMR has been cancelled. The SAPPMR i s evaluation reports, draft contracts, etc.) as now expected to conduct only essential needed to fulfill its oversight and monitoring procurement review as requiredby the PPL. function. 4. Reorganize procuring entities to provide Only a few procuring entities have for an effective procurement framework in implemented this recommendation due to lack which each sizeable purchaser (such as o f resources. The SAPPMR states that recent ministries,municipalities, oblast inspection findings show that separate administrations, etc.) should make its procurement units have been established inthe administrative or financial department following government entities: the Ministry o f responsible for procurement. Interior, the Ministry o f Education; the Correctional Facilities Department; the Ministryo fHealth; the Ministryo fEmergency; the State Committee for Migration; the Ministryo fLabor and Social Protection; the Department o f Water Resources; the Department o f Plant Protection; the Veterinary Department; and inseveraljoint-stock comDanies. 5. Dialogue within GOK to establish Delays have occurred incivil service reform. procurement as a separate career stream in Implementationo f this recommendationwould the Kyrgyz civil service. ensure that public procurement i s conducted only by qualified professionals at all levels o f 59 Kyrgyz Republic - Country Fiduciary Assessment Update Annex 2 Recommendation in the CPAR Status of Implementation government, incompliance with procurement leeislation. 6. Any findings on corruption inpublic Not implemented. It appears that current procurement should be made public through regulations do not permitpublication o f such publication inPPB and through the Web site. findings. 7. Design a comprehensive sample-format A format is inuse but it is not comprehensive. procurement plan and disseminate it to procuring entities. 8. Prepare model technical specifications. Model technical specifications have not been prepared because o f insufficient resources. Absence o f such models inareas where standardization i s possible leads to poor-quality technical specifications. Use o fpoor technical specifications allows selection o f the lowest- "priced" bidder instead o f the lowest- "evaluated" bidder, without determiningbid responsiveness to technical specifications and the requirementsfor qualifications, delivery/completion time, etc. 9. Before comparingbidprices, procuring The common practice is to decide contract entities should examine bids indetail to awards on the basis o f the lowest price, even determine their substantial responsiveness to when it results indelivery o f substandard goods the requirements specified inbidding andpoor-quality construction o f civil works. documents. 10. SAPPMR should review contract Procuring entities frequently make changes and performance on a sample basis to ensure adjustments incontracts that are concluded on compliance with the PPL provision that the basis o fpoor quality technical prohibits changes incontract terms and specifications and the lowest bidprice. This conditions ifsuch changes affect the bidding facilitates corruption. According to the conditions. SAPPMR, its inspection unit verifies the terms and conditions incontracts against the bids. Finesare imposed for unreasonable changes in the contract, and relevant materials are submittedto law enforcement agencies if necessary. 11, Procuring entities should launchtenders The practice o f launching tenders without only upon confirmation from MOF o f fund ensuring the availability o f funds continues has availability to pay contractors ina timely not been discontinued. This leads to payment manner. delays or non payments to suppliers o f goods, works. and services. 12. SAPPMR should coordinate with the No progress has beenmade to date. To move president's administration inthe design and reforms along inthe introduction o f e- introduction o f e-procurement. procurement as recommended inthe 2002 CPAR. rerrulations mav need to be issuedto 60 Kyrgyz Republic - Country Fiduciary Assessment Update Annex 2 Recommendation in the CPAR Statusof Implementation implement e-procurement (perhaps instages from the most simple to more complicated: from "E-Disclosure," which is the use o f a Web site for disclosingbusiness opportunities, disseminatingbiddingdocuments, disclosing bidresults, and making public disclosure o f contract texts and prices; to "E-Purchasing," which is the use o f a Web site for procurement o fhigh-volume, low-value contracts inwhich only price is usually proposed; to "E- Tendering," which is the use o f a Web site for obtaining complex items and high-value, low- volume procurements inwhich a technical and I financial proposal is submitted.) Concomitant to these are, o f course, parallel reforms o f infrastructure, government agency capacity, and businesscapacity to provide the platform tc carry the reform to fruition. 13. Improve procurement data collection Because o f inaccurate or absent data, SAPPMR from procuring entities for use in SAPPMR i s unable to fulfill its function o fmonitoring annual procurement reports. Improve the and evaluation to ensure compliance with format o f annual procurement reports and procurement legislation and rules. make them public. Establish computerized data collection and maintenance. 14. Include provisions authorizing the use o f STDs mention application o f reference tribunal arbitration incontract disputes. (arbitration). There i s no arbitration tribunal in the Kyrgyz Republic yet. .Bidders often consider settlement o f contractual disputes by commercial arbitration to be a more efficient and independent mechanism than submission o such disputes to local courts (andmay therefort produce better prices). Although arbitration provisions can be achieved inthe Conditions oj Contract, it i s also useful to explicitly mention inany future revisitingor amendment o fthe PPL that one fair contract condition would be a provision for settlement o f disputes under the last paragraph o f Article 21(1). The parties should be afforded an opportunity to opt for the more efficient mechanism o f arbitration compared to the more drawn-out court resolution under the civil code. Similarly, it is also worth noting that Article 62 on "Claims under Contracts" can also benefit from future amendment since the statute amears one-sided, 61 Kyrgyz Republic - County Fiduciay Assessment Update Annex 2 Recommendation in the CPAR Statusof Implementation covering only alleged nonperformanceby the procuring entity. The mechanism should also cover claims o f nonperformanceby the supplier/contractor and outline the process for the offended tsrocurinrr entitv to tsursue remedv. 62