Asian Development Bank issues report card on Sri Lanka

Following are excerpts of the Executive Summary of the Asian Development Bank’s first ever country assistance program evaluation (CAPE) for Sri Lanka. The report is titled “Inclusive Development and Conflict Resolution: Major Challenges in the Future.”

Following are excerpts of the Executive Summary of the Asian Development Bank’s first ever country assistance program evaluation (CAPE) for Sri Lanka. The report is titled “Inclusive Development and Conflict Resolution: Major Challenges in the Future.”

This is the first country assistance program evaluation (CAPE) for Sri Lanka by the Operations Evaluation Department of the Asian Development Bank (ADB). The evaluation period covered the two decades 19862006, with more emphasis on the more recent decade.
The main objectives of the evaluation were to assess the performance of ADB’s operations in Sri Lanka and to identify forward-looking lessons for the preparation of the next country strategy.

Development operations in Sri Lanka have taken place in a challenging environment, marked by a civil conflict that has lingered with varying intensity over more than two decades, shifts in political coalitions, complex political and social structures, and variations in development agendas.

Two major political parties—the United National Party and the Sri Lanka Freedom Party—have alternately governed Sri Lanka. Although both have supported state interventions in economic activity, they have differed in their stance on the extent of state intervention. Consequently, policy reforms have tended to follow swings in the political pendulum.

The structures and dynamics of the conflict are complex and manifest themselves in social policies, language, education, and ethnic issues. At the time of the ceasefire in 2002, an estimated 65,000 lives had been lost and 800,000 people displaced due to the conflict; more than 300,000 remained displaced at the end of 2005. These numbers exclude the toll of the tsunami (26 December 2004) that killed 35,000 people and displaced over half a million. With renewed fighting, at least another 200,000 people have been displaced since April 2006, with more than 3,000 killed in 2006. The economic consequences of the conflict have been severe:

(i) a reduction in economic growth by 23% annually, (ii) 40% less per capita income than what could have been achieved without the conflict, and (iii) foregone foreign investment. The Institute of Policy Studies in Sri Lanka estimates the total cost of the conflict at 170% of the gross domestic product (GDP) in 19841996.

The conflict has contributed to fiscal deficits (typically about 10% of GDP), which raised the public debt to more than 100% of GDP in the early 2000s. Although the public debt has declined, it remained high at 93% of GDP in 2006. With stalled peace negotiations, budgeted defense spending rose slightly from 2.5% of GDP in 2006 to 2.7% of the projected GDP for 2007. Since Sri Lanka borrows to finance its public investment budget and part of its recurrent expenditure budget, the high public debt and large fiscal deficits can undermine its capacity for public sector investments. Despite these difficulties, the economy of Sri Lanka has remained resilient, largely due to liberalization reforms that began in the 1970s and to the opening up of the trade economy.

These reforms catalyzed the transition from a state-controlled economy to a market-based one—a major milestone in Sri Lanka’s development history. A decade after the onset of economic liberalization, privatization became state policy in 1987. By then, unprofitable stateowned enterprises (SOEs) had become fiscally unsustainable, with budgetary transfers to these entities averaging 10% of GDP. Privatization came in two waves: (i) 19891994, when 43 commercial SOEs were divested; and (ii) 1995 and thereafter, when several public utilities and services, including telecommunications, were divested. During 19772006, the country’s real

GDP growth averaged 45% per year. Since 2001, services (mainly telecommunications and financial services) have led the country’s economic growth. Sri Lanka has faced significant development challenges in the last few years, including the sharp increase in the international price of oil, drought, floods, the 2004 tsunami, and the civil conflict. The economy is accustomed to operating in difficult situations. Its private sector offers diversified services with overseas connections. At present, Sri Lanka has the lowest tariff barriers in South Asia and is the second most open economy in the region after the Maldives.

ADB has been Sri Lanka’s development partner for four decades. Cumulative loan approvals since 1968 amount to $3.7 billion for 130 loans. Most of this was in the last two decades (90 loans worth $3.3 billion, of which 84% came from the Asian Development Fund and 16% from ADB’s ordinary capital resources). Over the same period, lending was supported by 195 technical assistance (TA) grants totaling $87.6 million—$48.8 million for 122 advisory TA grants and $38.8 million for 73 project preparatory TA grants. Private sector operations have been relatively limited (11 transactions for $86.6 million).

The country strategies in the last decade were generally relevant and responsive to development challenges at the time they were formulated. However, the changing political economy context since April 2004, conflict resurgence, and shifting government policies have diminished the relevance of the current country strategy (20042008). A strategic repositioning is called for in formulating the new country strategy.

Although the poverty reduction thrust of past and existing country strategies continues to be relevant to national priorities and to ADB’s overarching goal of poverty reduction, several key components of the existing strategy (sector restructuring, deregulation, and priva tization of SOEs) have fallen out of line with the new economic policies of the Government. Another thrust of the current strategy—reconstruction and development in the North and East—was based on a peace dividend and postconflict assumptions that are no longer realistic due to conflict resurgence in July 2006.

ADB’s assistance programs for Sri Lanka were consistent with the declared strategies in the past, but overall performance was “partly successful”. This rating underscores the need to reassess sector and crosscutting interventions for future development assistance, and to identify the factors that have enabled or deterred performance. Across sectors, performance has been mixed. Sectors in which the assistance program has been successful in the last two decades include (i) transport (mainly roads), (ii) education, and (iii) water supply and sanitation. Sustained and uninterrupted ADB engagement in these key sectors has generated positive results. Performance has been rated less than successful in (i) finance (policy-based); (ii) power; (iii) law and economic management; (iv) agriculture; and (v) multisector projects, which have been related mostly to irrigation, urban development, and assistance to disaster- and conflict-affected areas. Key factors contributing to success have included responsiveness to development needs, a clear understanding of the objectives and expected results, and shared commitment and ownership from the design stage to the implementation stage.

By contrast, deterrents to successful operations have included the resurgence of the civil conflict, changes in government policies that compromised earlier gains, the complex political economy of decision making, insufficient analysis of reform options, inadequate support for sector restructuring, shortfalls in stakeholder participation during design and implementation, unsatisfactory performance of contractors, complex procurement procedures, and deficient maintenance of certain facilities after project completion. On ADB’s part, staff turnover, lack of consistent engagement and sector focus, incomplete assessment of the absorptive capacities of executing agencies, and lack of technical skills in some areas have hampered implementation.

ADB’s policy-based lending operations in Sri Lanka have been “partly successful”, which draws attention to (i) caution in the future in using this modality, (ii) strengthening the design and implementation of policy-based programs, and (iii) more concerted efforts to explore alternative options for achieving the same objectives. Complex political and social structures, along with civil strife and a strong commitment to a welfare state, have hampered policy reforms.

Policybased programs are potentially powerful for implementing difficult reforms, but there is the downside risk of policy reversal and wavering commitment to reforms when changes occur in the Government and in political coalitions. A careful assessment of reform options and readiness is crucial for policy-based programs.

The positioning of ADB’s governance strategy in Sri Lanka after 1995 has been “satisfactory”, but the performance of the related assistance will likely be “partly successful”.

Improving governance is crucial for the Government’s economic management agenda and policy reforms. Consistent with macroeconomic stabilization policies and structural reforms, ADB supported public enterprise reform, public sector management, local government strengthening, and regulatory and policy reforms during 19952003. The subsequent governance strategy (20042008) is anchored on the broader goals of poverty reduction, reconstructing conflict-affected areas, and development.

The 20042008 strategy highlights the mainstreaming of governance in sector investments and the formulation of a service delivery policy framework. To sustain outcomes from governance and anticorruption efforts, however, further mainstreaming of equitable access to services and anticorruption in ADB operations is important, complemented by measures to strengthen accountability and transparency.

Governance outcomes will likely be moderately susceptible to such risks as politicization of the public service, shifts in economic policies, proliferation of the number of ministries with fragmented functions, and potential macroeconomic destabilization from high fiscal deficits and high public debt. Risk management in the longer term is important.

After the approval of the Anticorruption Policy (1998), ADB’s country strategies and programs for Sri Lanka provided support to anticorruption efforts. Anticorruption measures after 1998 have been pursued through (i) compliance with procurement guidelines for ADB-financed operations, (ii) auditing of annual financial statements, (iii) use of management information systems to minimize fraud, (iv) ADB investigations of allegations of fraudulent practices, and (v) inclusion of measures to mitigate corruption risks.

ADB’s Office of the Auditor General responds to complaints about and allegations of corruption. Recently, ADB included commendable mitigation measures to address corruption risks in the Tsunami-Affected Areas Rebuilding Project and the North East Community Restoration and Development II Project. Corruption risk assessments and formulation of risk management plans, however, have yet to progress from the project level to the sector level, which is now mandatory under ADB’s Second Governance and Anticorruption Plan. Although Sri Lanka is perceived as relatively less corrupt than
Bangladesh, Pakistan, Nepal, and several other countries in the Asia and Pacific region, opportunities exist for supporting further anticorruption efforts. Transparency International’s corruption perceptions index in 2006 indicated that Sri Lanka has a score of 3.1, where 0 indicates highly corrupt and 10 highly clean.

On balance, the contribution of ADB’s assistance program to development impacts has been “modest”. Poverty in Sri Lanka remains high, despite the decline in the proportion of the population living below the national poverty line from 26% to 23% during 19902002. Reducing poverty and regional disparities and achieving sustainable outcomes from inclusive social development and governance, given the ongoing civil strife, will continue to be major challenges.

Overall, the performance of ADB’s country assistance program in Sri Lanka is rated “partly successful”. This rating is derived from a combined rating of (i) top-down assessment, which includes country strategy positioning, contribution to development impacts/results, and ADB performance; and (ii) bottom-up assessment of the sector assistance programs, which is based on the five evaluation criteria of relevance, effectiveness, efficiency, sustainability, and impact.

Fighting poverty and bringing about the conditions for higher inclusive economic growth offer opportunities for development assistance.
The current Government prioritizes reducing regional disparities, mainly by improving connectivity and infrastructure; developing small- and medium-scale enterprises; and supporting rural development and social protection. ADB’s Second Medium-Term Strategy may serve as a guide for several strategic priorities but needs to be contextualized. Specific focal areas and options need to be worked out carefully, given the constraints posed by the resurgence of armed conflict and its effects.

The following recommendations are proposed as directional inputs for Management consideration during the formulation of the next ADB country strategy in Sri Lanka. The inclusion of sectors/subsectors in a more focused portfolio will depend on (i) client demand and preferences, (ii) staff and TA resource availability, (iii) analytical work that identifies binding constraints, (iv) ADB’s strategic priorities, (v) the programs of other development partners, and (vi) experience showing what has worked and what has not.

These evaluation findings are merely a component of the analytical work that should determine the new country strategy.

Therefore, this evaluation should not be considered prescriptive concerning the shape of the future program. However, these results are important, because most of the resources being provided have to be paid back.

If ADB decides to engage in a sector or subsector with a low historical success rate, clear evidence must be provided that the reasons for low success have been determined and a plausible strategy has been put in place to deliver better results in the future. In addition, ADB should take on only those sectors in which its input will be substantial, sustained, and backed up with the required resources for analysis, design support, and supervision. The following table summarizes the recommendations, with indications of responsibility and time frame.