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A ne w World Bank report released yesterday warns that fragmentation of foreign assistance may adversely affect the accountability and capacity of the Government of Afghanistan.

According to the study - 'Afghanistan: Managing Public Finances for Development' - around three-quarters of foreign aid is channelled outside the government's own budget, presenting a serious constraint to the country's long-term fiscal planning.

Issued ahead of the London Conference on Afghanistan, on January 31, the report urges donor countries to direct more of their aid through government channels to help ensure fiscal sustainability and support the country's long-term development.

It also urges the government of Afghanistan to step up its efforts to improve the quality of budget preparation and execution, including strengthening fiduciary standards.

The report, which analyses challenges for public finance management in Afghanistan and suggests an agenda for action, says improved aid efficiency requires a deeper partnership between the government and donors.

This should occur around the national development strategy and budget process.

The report further says that fragmented, ring-fenced projects that bypass government systems and use donors' own fiduciary processes can be less cost-effective and a heavy burden on the government's time and capacity.

The simple challenge of keeping track of projects over which it has no control and often little knowledge, strains government capacity and undermines its authority. In short, it is not the most effective way to develop the aid relationship in Afghanistan, suggests the report.

“Experience demonstrates that channeling aid through government is more cost- effective,” said Alastair McKechnie, World Bank Country Director for Afghanistan.

“To take one example, a basic package of health services contracted outside government channels can be 50% more expensive than the package contracted by the government on a competitive basis. Furthermore, the credibility of the government is increased as it demonstrates its ability to oversee services and become accountable for results to its people and the newly elected parliament.”

The report highlights the benefits of using government channels, as demonstrated by the Afghanistan Reconstruction Trust Fund (ARTF), which finances most of the civilian recurrent budget.

The budget process should be the central instrument of national policy and reform, the report argues.

To make this key objective of the government happen, and to help encourage more donor funding to go through government channels further improvements in all parts of the budget process are needed, building on the impressive recent progress as documented in the report.

The recently-elected Parliament will need to exercise constructive oversight in this regard as stipulated in Afghanistan's Constitution - in particular approval of the annual budget and review of audits.

To make the most of using the budget process, Afghanistan's vulnerability to corruption must be reduced, the report underlines.

It argues that improvements in the public finance management system as well as other preventative measures will be critical - not just focusing on investigation and prosecution of specific cases.

Facing a difficult post-conflict situation, Afghanistan has accomplished remarkable progress, including rapid economic growth, unprecedented primary school enrollments, rehabilitation of major highways, a new and stable currency, and presidential and parliamentary elections.

Fiscal discipline has been strictly enforced and maintained, notably through control over the government wage bill. The government has also made a strong commitment to financial transparency and accountability, resulting in improved fiduciary performance.

Yet many challenges remain. Public expenditures are extraordinarily high (57% of GDP in 2004/05).

Domestic revenues, which are among the lowest in the world at 5% of GDP, cover only a quarter of all recurrent expenditures, with massive expenditures in critical areas such as security occurring outside the government's direct control.

Failing to keep public expenditures within affordable limits could have dire consequences, the World Bank report warns. A large influx of aid, combined with lack of domestic capacity and low domestic revenues, could result in an unaffordable pattern of expenditures.

The report outlines four key points for progressing toward fiscal sustainability:
1. Sustained rapid growth of domestic revenues: in order for revenues to catch up with recurrent expenditures over the next decade, revenues will have to grow much more rapidly than expenditures and on a sustained basis - most likely at least twice as fast;
2. Containment of overall expenditures within a realistic medium-term plan;
3. Ensuring that expenditure liabilities created by public investments and other spending decisions are affordable; and,
4. Incorporating recurrent expenditures funded directly by donors through the external budget (notably those in the security sector) in the fiscal sustainability equation and bringing these expenditures progressively into national budget channels.

“The ultimate outcome of the public finance management system is to deliver services,” said William Byrd, World Bank Economist and co-author of the report.

“This is essential for public spending to achieve results and extremely important for the credibility and legitimacy of the State.” Byrd further noted that it is not required for the government to deliver all public services itself.

With a few exceptions, public service delivery in most sectors is poor, the report says. Hence it is essential for public spending to achieve results, which requires sound institutions, accountability relationships, and incentives for service providers as well as sustainable finances.

Progress has already been made in several sectors.

In primary education, the traditional approach of delivery directly by the national government (government-appointed teachers) has led to a dramatic increase in enrollments, but there are concerns about the quality of service. In health, a more innovative approach of delivering services through NGOs on a competitive basis also is delivering results by expanding access to and improving the quality of basic health services.

Nevertheless, more progress will be necessary to effectively deliver services to all Afghans.

Finally, the report emphasises the cross-cutting issue of capacity development.

Capacity in government will be essential for developing a visionary medium-term plan, raising fiduciary standards, mobilizing domestic revenues, and delivering services.

Capacity requires good institutions - clear laws, sound policies, talented people, and effective organizations. And, as the report argues, government leadership and use of national systems will be an essential ingredient for building government capacity over time.

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