pproaches47636 J a n u a r y 2 0 0 9 N o t e N u m b e r 2 3 Output-Based Aid in Armenia Connecting Poor Urban Households to Gas Service Ani Balabanyan and Arthur Kochnakyan G as-based heating offers a clean, efficient, low-cost heat- ing solution for poor urban households in Armenia, a country with severe winters. But many low-income households cannot afford the cost of connecting to gas networks and heating facilities or the cost of heating equipment. To help these families benefit from gas-based heating, GPOBA and the World Bank are funding a scheme that provides grants to eligible poor households for individual heating solutions, based on a gas heater, or local heating solutions, based on a boiler. Disbursement of the funds is tied to the delivery of preagreed outputs, creating incentives for the service providers to ensure timely completion of the installation work and early delivery of Photo © World Bank gas or heat supply. Up to 10,000 poor urban households (4,600 through the GPOBA funds) are expected to benefit. cost of connecting to gas networks and heating facili- Armenia has undertaken a series of structural re- ties or the cost of heating equipment. As a result, many forms in its energy sector since 1995. It established an in- either use no space heating of any kind (the share of dependent regulatory agency and revised tariffs to cost- poor households without heating exceeds 15 percent in recovery levels for both power and gas supply. It priva- some regions) or rely on costly electricity or polluting tized most power sector assets and sold a large stake in solid fuels for heating solutions. the state-owned monopoly gas company. And it restored gas supply and connected more than 100,000 new gas Armenia has severe winters, with a heating season customers in recent years, mostly in urban areas. of up to 180 days in some areas, and heating claims a large share of the household budget for low-income Yet relatively little progress was made in sustain- families. According to several surveys, low-income able provision of heating. Most of the district heating families devote up to 50 percent of their expenditures systems, which used to supply most of the space and to heating during the winter (Alliance to Save Energy water heating in urban residential and public buildings, 2007). This contributes to poverty--particularly in stopped service after 1992. The few that continued to urban areas, where housing was designed primarily for supply winter space heating finally collapsed in 2003, the centralized heating systems no longer in service. when the government stopped subsidizing them. After the government adopted an urban heating strategy in 2002, however, access to clean, efficient, The project gas-based heating started to pick up. The World Bank To help families adopt safe, affordable, gas-based heat- and several other donors stepped in with support, ing solutions, the government of Armenia requested structuring heating and energy efficiency projects US$3.1 million in GPOBA support. This funding is around the strategy, which provides a framework for complemented by US$3 million in funding from the developing the urban heating sector. World Bank­financed Urban Heating Project and govern- Although the urban heating strategy estimated that gas-based heating is the least-cost heating solution, Ani Balabanyan is an operations officer, and Arthur access to gas-based heating services is low among poor Kochnakyan a consultant, in the Sustainable Development households. These households are unable to afford the Unit of the World Bank's Europe and Central Asia Region. Supporting the delivery of basic services in developing countries pproaches ment cofinancing of US$530,000. Funding from all three Implementing the solutions sources is disbursed through an output-based aid (OBA) The scheme is administered by the Renewable Resources scheme that provides capital grants to eligible poor and Energy Efficiency (R2E2) Fund, which promotes the households toward one of two types of heating solutions: development of energy efficiency and renewable energy in Armenia. The privatized gas company, HaiRusGasArd, · Individual heating solutions, based on a gas heater, that is the operator for the individual heating solutions,1 and involve the connection of an apartment to the gas private heat supply companies are the operators for the network, the purchase of a safe gas heater, or both. local heating solutions. These companies bear the prefi- · Local heating solutions, based on a boiler, that include nancing risk for the connections and are mostly reim- the connection of apartments to a boiler scheme at bursed only after verification that a connection has been the building or block level. made and reliable service is being delivered. For the individual heating solutions, the project fol- An average connection subsidy of US$420 (90 lows several key steps (figure 1): percent of unit costs) was determined on the basis of the retail market price for gas heaters and gas connec- · The R2E2 Fund presents the list of households en- tions at the time of project preparation, the expecta- rolled in the Poverty Family Benefit Program to the tion that the unit cost would be lower than the retail gas company, which identifies and excludes those price as a result of bulk purchases, and evidence from already connected to the gas network. pilot projects that this subsidy would be sufficient for a · The R2E2 Fund widely publicizes the scheme to en- least-cost local boiler scheme ensuring a basic level of courage the urban poor to submit applications. comfort for poor households. · The R2E2 Fund screens the applications to deter- mine eligibility, and the eligible applicants are asked Determining eligibility to provide the cofinancing (this can be provided by The GPOBA subsidy is designed to benefit the poor- municipalities and other cofinancing partners). est segments of the population. The main criterion for · The R2E2 Fund, together with the gas company, targeting the GPOBA capital grants is the vulnerability organizes tenders for the installation of the gas score under the Poverty Family Benefit Program, the connections and heaters. main social protection program for low-income house- · The gas company verifies that connections have holds in Armenia. The higher the score for a household, been made and notifies the companies selected to the more socially vulnerable it is. The eligibility score supply gas heaters to initiate installation. for the individual heating solutions was initially 38.01 · Once this work is done, the R2E2 Fund indepen- (US$1 a day per capita) and above. After all applica- dently verifies the delivery of gas service and refunds tions in this range were accepted, the eligibility score to the gas company the payments it has made to was revised to 36.00 (US$1.10 a day per capita) and contractors for connecting eligible households to above. For the local heating solutions, eligible house- the gas network and installing gas heaters. holds need only to be enrolled in the Poverty Family Benefit Program. Implementing the local heating solutions involves For the individual heating solutions, eligibility for a the following key steps: capital grant also requires satisfying several other con- ditions: The family must live in an urban building with · The R2E2 Fund widely publicizes the scheme. multiple apartments. The building must be connected · A homeowners association (or any other group) that to a functioning gas network that is permitted to use represents an apartment complex--and has secured gas for heating purposes. And the family must provide commitments from at least 50 percent of its house- a cash contribution of around US$25­50, with the holds--submits an application to the R2E2 Fund. amount depending on whether it wants a gas connec- · The households confirmed as meeting the eligibil- tion, a gas heater, or both. For the local heating solu- ity criteria are asked to contribute the mandatory tions, eligibility requires evidence that more than 50 cofinancing to the R2E2 Fund account. percent of the apartment owners in the building have agreed to the solution. And these families too must 1HaiRusGasArd is owned 90 percent by the Russian company provide a US$25­50 cash contribution. Gazprom and 10 percent by the Armenian government. Supporting the delivery of basic services in developing countries pproaches · Once receipt of the contributions has been con- a contract with the service contractors, 70 percent upon firmed, the R2E2 Fund sends acceptance notifica- independent verification of service delivery by the gas tions to the households and the heat supplier. company, and 10 percent upon independent verifica- · The R2E2 Fund organizes tenders for energy service tion of 12 months of satisfactory service delivery. For companies. If the heat supplier has already been the local heating solutions, 90 percent is paid upon selected, the heat supplier selects the contractors to independent verification of service delivery by the heat connect the eligible apartments to the local heating supplier and 10 percent upon independent verification system or, if there is no local system, to install one of 12 months of satisfactory service delivery. The OBA following established commercial practices. approach transfers performance risk to the service · Once the local heating system has been installed provider. and heat supply is being delivered, the energy service company or the heat supplier (if already What has been achieved? selected) notifies the R2E2 Fund. By August 31, 2008, the R2E2 Fund had verified the · The R2E2 Fund verifies the delivery of heat supply delivery of gas service to 2,589 poor households in 36 and reviews the service contract between the house- cities. By the time the project closes at the end of De- holds and the service company to ensure that the cember 2009, 10,000 poor urban households (4,600 tariff does not include the connection costs. through the GPOBA funds) are expected to have gas or · Once the R2E2 Fund has independently verified heat supply. the delivery of gas service, it refunds to the heat As a result of an increase in the unit subsidy re- supplier eligible payments made to contractors. quirement, the number of project beneficiaries will be lower than agreed to during project preparation. In a Ensuring performance typical OBA scheme the subsidy per unit of output is The disbursements of OBA subsidies are tied to outputs determined up front and fixed. In this scheme the unit in a way that creates incentives for the service provid- cost of service provision was estimated from market ers to ensure timely completion of the installation of testing during the design phase. These estimates were heaters and gas connections and early delivery of gas seen at the time as a sound basis for determining the or heat supply. For the individual heating solutions, 20 likely unit subsidy and likely number of outputs, and it percent is paid in advance when the gas company signs was thought that competitive tendering could reduce Figure 1 Flow of accountability and funds for the individual heating solutions 8. Independent verification 9. Disbursement application Government, R2E2 Fund World Bank, 10. Funds GPOBA on applications Subsidy Applications1. Cofinancing2. Information3. 11. disbursement approved Urban poor 4. Tender and Gas company 4. Tender and contract signing 6. Works 6. Works contract signing completion reports completion reports 5. Gas 5. Heater connection installation payment works works erificationV7. and Heater installation Gas connection contractors contractors Key: Accountability flow: Funds flow: Supporting the delivery of basic services in developing countries pproaches the unit costs below these estimates. Consequently, it region is typically small, extending the contract with was decided to use the actual tender prices achieved by the winning bidder for the region is more cost- the incumbent gas company as the basis for determin- effective than awarding a new one. So the procure- ing the unit subsidies to be reimbursed. Unfortunately, ment method should allow contract extensions as following grant signature, there was a 40 percent needed. This also means that extra work is needed depreciation of the U.S. dollar relative to the local cur- in contacting potential bidders to ensure adequate rency. The unit subsidy requirement escalated and as a competition. result fewer beneficiaries could be served. · Early and active involvement of central and local governments is essential to lay the groundwork for Lessons learned scaling up the project in the future. The governments should be encouraged to cofinance the scheme, and The OBA approach is still novel in Armenia. Even so, their contributions recognized and publicized. the experience in designing and implementing the proj- · Well-designed public outreach activities are impor- ect suggests several lessons for similar projects. tant to adequately communicate the benefits of the OBA approach. · Early preparation for implementing the project is · It is important to fix the unit cost per subsidy up needed, especially if the OBA approach is relatively front or, where unit subsidies are determined by new to the country. In particular, the reporting and tender prices, to place a cap on the unit subsidy up monitoring software of the scheme administrator front, so that an OBA scheme can reach the num- needs to be adjusted to the project's requirements. ber of beneficiaries originally intended. In addition, And sufficient time should be allowed for service an OBA scheme should have a sufficiently flexible providers and their contractors to become familiar design to allow a contractual amendment to the with output-linked payments. unit subsidy where unit costs increase significantly · The scheme's demand-based approach is justi- for reasons beyond the control of the recipient. fied: requiring that beneficiary households apply Another possibility is to consider the use of an for capital grants and provide cofinancing bolsters exchange risk hedging tool to protect against a unit their sense of ownership and commitment. cost increase due to exchange rate depreciation. · Adequate planning of procurement is essential for smooth and timely implementation. The demand- Reference based approach means that there is often a need Alliance to Save Energy. 2007. "Addressing Affordability to install additional heaters or gas connections of Utility Services in Urban Housing: Energy Efficien- in the urban areas covered by the grant program. cy Solutions." http://www.ase.org/content/article/ Since the number of additional installations in a detail/4082. About OBApproaches OBApproaches is a forum for discussing and dis- case studies have been chosen and presented seminating recent experiences and innovations in by the authors in agreement with the GPOBA supporting the delivery of basic services to the poor. management team and are not to be attributed to The series focuses on the provision of water, energy, GPOBA's donors, the World Bank, or any other af- telecommunications, transport, health, and educa- filiated organizations. Nor do any of the conclusions tion in developing countries, in particular through represent official policy of GPOBA, the World Bank, output-, or performance-, based approaches. The or the countries they represent. To find out more, visit www.gpoba.org The Global Partnership on Output-Based Aid Supporting the delivery of basic services in developing countries