recent political economic developments

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Nepal: Recent Political and Economic Developments, and Country Operations

This is an update on the situation in Nepal, and reports on the implementation of the countrystrategy and program of the Asian Development Bank (ADB), including portfolio performance. Itis being circulated to the Board in lieu of a country strategy and program update for Nepal, aspreviously indicated in the Board Information Paper dated 19 October 2005.1

I. CURRENT DEVELOPMENT TRENDS AND ISSUES

A. Political Developments

1. The political situation in Nepal remains fluid with a further hardening of the positions ofthe palace and the political parties. In a major development on 9 October 2005, the ElectionCommission announced that elections would be held in all 58 municipalities on 8 February 2006.On 12 October, the King announced that parliamentary elections would be held by mid-April2007. The King called on the political parties and the insurgentsthe Communist Party of Nepal,Maoist (CPN/M)to shun agitation and violence and participate in the elections. The majorpolitical parties have, however, announced a boycott of both elections, saying that the current

regime is unconstitutional and that the political and security environment is not conducive to freeand fair elections. In their campaign against the Kings direct rule, parties recently begandemanding an end to the constitutional monarchy and a shift to "total democracy", reflecting amajor hardening of their position. Whether they mean a republican state is, however, unclear.The parties are also demanding elections to a constituent assembly under an all-party interimgovernment. Significantly, this, and the establishment of a republic, also have been key demandsof CPN/M.

2. More recently, leaders of key political parties and CPN/M have been holding informaldialogue on a possible alliance, and exploring whether a way out of the political stalemate can befound. In a significant positive development on 22 November 2005, the two mainstream politicalparties (Nepali Congress and United Marxist-Leninist) leading the seven-party alliance and

CPN/M issued separate statements on a 12-point accord to work towards restoring democraticrule. The key point of understanding between them is a move towards nationwide elections to aconstituent assembly. This signals CPN/Ms willingness to join the political mainstream, and alsoa breakthrough in ending the political confrontation between the political parties and CPN/M forthe first time since the conflict started. The palaces reaction to this major development is not yetclear. While it could lead to a lasting solution to the ongoing conflict and political crisis, theprocess of moving forward and reaching accord with the palace will be challenging. Theinternational community is closely involved in this development and will continue to play a majorrole. Pressure internally and from the international community for the CPN/M to formallyrenounce armed violence, and for the palace to reach out to the political parties to achieve anational consensus to end the crisis, is likely to build.

3. Although the Government has not reciprocated, CPN/Ms 3-month unilateral ceasefire isholding reasonably well. Fighting between the security forces and CPN/M has diminished andcivilian casualties have dropped dramatically. Civil society and the general public are demandingan extension of the ceasefire beyond its planned expiry date on 2 December 2005, which nowseems more likely in view of the understandings reached between the political parties andCPN/M.

4. The international community supports elections in principle; however, most believe theenvironment for local and parliamentary polls does not yet exist. Reconciliation among theconstitutional forces and a peace dialogue with CPN/M are considered necessary beforeelections can be held. The recently promulgated Media Ordinance limiting media reporting andownership has been criticized as being inconsistent with a conducive environment for democratic

1ADB. 2004. Nepal: Recent Political and Economic Developments(IN. 274-05). Manila.


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elections. The donor communityespecially those who channel a significant part of theirdevelopment assistance through international and domestic nongovernment organizations(NGOs)are also concerned about the recently issued code of conduct to regulate NGOactivities. In its first comprehensive report to the UN General Assembly in August 2005, theOffice of the High Commissioner for Human Rights (OHCHR) cited serious human rights abusesby both the security forces and CPN/M. However, the report acknowledged the Governmentscooperation during OHCHRs investigations. More recently, OHCHR noted that the overall

security situation had improved since the ceasefire and that the Government had released mostpolitical detainees.

5. The local donor group agrees on the need to remain engaged in Nepal and to continueassistance wherever it is possible to do so safely and effectively, in view of widespread povertyand vulnerability of the country. Since 1 February 2005, 11 donors have provided a total of $320million for 27 projects (Appendix), while continuing to take a cautious approach. Having provided$235 million in FY2005 (ending June 2005), the World Bank is currently processing twoprojectsa higher education project for $60 million (50% grant and 50% loan) and a grantproject for $40 million to augment the Poverty Alleviation Fundfor Board consideration inDecember 2005. In addition, two other projects totaling about $120 million are under processingfor approval in early 2006. The Department for International Development (DFID) of the United

Kingdom is also expected to sign a grant agreement with the government later this month on ahealth project for $32 million. Most other bilateral donors are also continuing to provide newassistance. While ADB, WB and IMF are focused more on progress of the Poverty ReductionStrategys (PRS) reform and development agenda, bilateral donors are also concerned aboutprogress on peace, democracy and human rights issues, and the environment for channelingassistance directly through NGOs and INGOs.

B. Recent Economic Developments and Outlook2

6. GDP growth slipped to 2% in 2005 after recovering to 3.2% in FY2004, due to loweragriculture output and weak performance of the service and industry sectors. Despite theincrease in security spending3 and civil servant allowances, the fiscal position remained stable inFY2005 with a low budget deficit of 1.1% of GDP, largely due to underspending of the capitalbudget and improved revenue collection. Inflation increased to 4.5% in FY2005 from 4% inFY2004, reflecting the increase in petroleum prices, and VAT rate. The external paymentsposition remained stable with strong remittance inflows offsetting the weak tourism and exportperformance. Total foreign exchange reserves in FY2005 stood at $1.5 billion, equivalent to 8months of imports.

7. The results of the recent Nepal Living Standards Survey (NLSS) II show that despite theconflict, poverty declined sharply to 31% in 2004 from 42% in 1996. A three-fold increase inremittance inflows along with higher nonagriculture incomes and agriculture wages, rapidurbanization, and a decline in fertility were the major contributors. Considerable progress is

reflected in almost all welfare indicators: average per capita income, adult literacy, employment,and access to electricity and piped water supply. Human development indicators relating to theMillennium Development Goals, such as education and infant and child mortality rates, have alsoimproved significantly. However, inequality between income and ethnic groups and betweengeographical regions has widened.

8. Assuming no deterioration in the security and weather conditions, a GDP growth rate of3% is likely in FY2006. A sustained increase in remittance inflows will continue to stabilize theexternal payments position. The fiscal deficit is forecast to remain at about 2% of GDP. The IMFis monitoring the budget to ensure that development expenditures in general and social sector

2For more details on economic performance, see the Quarterly Economic Updateon Nepal published by ADBs Nepal

Resident Mission.3

Security spending has been increasing since FY2002. It has increased consistently from about 2.3% of GDP prior toFY2002 to about 3% of GDP in the past 3 years.


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spending in particular are not squeezed by security spending. Inflation is expected to increase to5% as the increase in petroleum prices and the VAT rate takes full effect. Notwithstanding thestable macroeconomic situation and the progress in poverty reduction, Nepals growth andpoverty reduction objectives face significant risks, including political instability, conflict, adeteriorating investment climate,4 and a slowdown in the economic reform process. Nepals toppriority must be to ensure political reconciliation and establish peace.

9. The recent IMFWorld Bank debt sustainability analysis indicated that Nepal could beeligible for debt relief under the highly indebted poor countries (HIPC) initiative. ADBs analysisalso showed that, while Nepals external debt situation was sustainable until 2001, it haddeteriorated in recent years mainly because of poor export performance, which was related tothe conflict. ADB is working with IMF and the World Bank to further assess Nepals debtsustainability. At the Governments request, ADB also undertook a preliminary analysis of Nepalopting for debt relief under HIPC.

C. Reform and Project Implementation Environment

10. The environment for economic reforms has become more challenging since the King

imposed direct rule on 1 February 2005. In particular, the polarization between the palace andthe political parties has made it difficult for the Government to move ahead with the reformagenda of the PRS. Moreover, the Government is more focused on fighting the insurgency thanon the development agenda. However, the intensive policy dialogue between ADB, IMF, and theWorld Bankoften jointlyand the Government has helped the Government to restart thereform process and achieve some progress in recent months. A number of long-pending andimportant ordinances have been promulgated, and several more are being actively pursued(paras.19 and 24). The IMFs recently concluded Article IV Mission acknowledged theGovernments efforts to focus on the economic reform agenda. Furthermore, if the temporaryceasefire continues to hold and develops into a credible peace process, the environment forreform and development should improve significantly.

11. In the prevailing political and security situation, ADB has intensified its monitoring andassessed ADBs portfolio performance at regular intervals. These assessments, including themost recent one in September 2005, consistently show that the impacts of the security situationon project implementation before and after 1 February are not significantly different, and muchless than had been anticipated. Most project implementation delays are attributable to the weakinstitutional capacity of executing and implementing agencies and a slowdown in decisionmaking, especially on procurement and policy matters. The assessments also suggest thatadoption of conflict-sensitive approaches in implementing projects permitted most projectactivities to be reasonably effective even in an environment characterized by conflict. Inparticular, projects that are well targeted, designed, and implemented with active participation ofbeneficiary communities generally experience fewer disruptions, even in conflict-affected areas.Other donors experience of project implementation is similar to that of ADB.

D. Implications for Country Strategy and Program

12. The 2004 country strategy and program (CSP) analyzed Nepals conflict in depth,recognizing the risks posed by the conflict to the country operations, and suggested the need tosupport an inclusive, participatory, and transparent development process designed to addressthe root causes of the conflict. Considering the country context, the CSP proposed a conflict-sensitive operational approach to development assistance in Nepal in the current environment.Accordingly, a project implementation strategy was also embedded in the CSP which requiresrealistic and conflict-sensitive project designs and implementation modalities, focusing on more

4 For the impact of the conflict on the economic growth, refer Ra, S. and Sing, B. 2005. Measuring the EconomicCosts of Conflict: the Effect of Declining Development Expenditures On Economic Growth, Asian DevelopmentBank, NRM Working Paper Series, No. 2, June 2005.


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intensive community and beneficiary participation in all stages of project processing andimplementation, better targeting of the poor and disadvantaged, mainstreaming social inclusion,and finally transparency and accountability of project activities at the local level. A review of theCSP a year after its preparation suggests that its strategic development objectives remain validin the current context and, hence, should continue to guide ADBs operations in Nepal over themedium term. The present government has affirmed its support to the PRS and the 21-pointagenda announced by the King in February is also consistent with the latter.

13. Addressing governance and corruption concerns in Nepal is a top priority for ADB.Specific safeguards, such as public audits to curb corruption, are being built into ADB-assistedprojects and programs. Fostering partnerships between the Government, the private sector,NGOs, and community-based organizations (CBOs) to reinforce transparency and accountabilityand institutionalize more robust service delivery mechanisms is also being built into projectdesigns and implementation. ADB has been supporting the Government as it implements itsanticorruption strategy, and has provided critical assistance to the Commission for theInvestigation of the Abuse of Authority and the National Vigilance Centre to strengthen theiranticorruption capacity.

14. Notwithstanding the need to continue development assistance to Nepal, implementingdevelopment programs remains challenging. Deepening polarization between the palace and thepolitical parties poses the most serious risks to implementing development assistance, and theserisks could increase in the short term. To mitigate them, ADB (i) closely monitors the political andsecurity situation and field conditions in project sites; (ii) closely collaborates with donors inmonitoring and assessing the situation and in designing and implementing projects; (iii) routinelyundertakes thorough reviews of the ongoing portfolio to adapt to new realities on the ground; and(iv) is very cautious in loan signings and effectiveness of previously approved projects, 5 and inprocessing ADBs 2005 country program and the future program for 2006-2008. However, if theceasefire is sustained and translates into an effective peace process, and reconciliation isseriously pursued, additional assistance to support the Governments reconstruction and peacebuilding efforts may be needed in coordination with other partners.

II. IMPLEMENTATION OF THE COUNTRY STRATEGY AND PROGRAM

A. Progress Towards Achieving CSP Outcomes

15. The 2004 CSP, being ADBs first attempt at a results-based country strategy, features aresults framework. It defines the results sought by the government to which ADB wouldcontribute during the CSP implementation period (20052009). The results framework helps toplan, design, and implement the CSP. It also provides a basis for monitoring and evaluation andmid-course adjustments of ADBs assistance with a clear focus on development results.Implementation of the pilot results-based CSP is in the initial stages, and thus it is too early tomeaningfully assess progress. However, despite the complex political and security context, the

government has taken encouraging steps in developing some core elements of results-basedmanagement (RBM) for planning, budgeting, implementing and monitoring development results.While the PRS provides a medium-term development strategy and priorities aimed at povertyreduction, the Medium Term Expenditure Framework implemented since FY2002 provides animportant basis to link the PRS to the annual budget through prioritization of available resources.The Immediate Action Plan (IAP)initiated since FY2003has also institutionalized an annualprocess to implement the priority reforms of the PRS. As part of the governments efforts toensure results-orientation of the PRS, a Poverty Monitoring and Analysis System (PMAS) hasbeen developed, sector-specific business plans are being prepared, full devolution of publicservice delivery is being initiated in 14 pilot districts, and a District Poverty Monitoring and

5The cautious approach to operations in Nepal in the present context is spelled out in the Board Information Paper of19 October 2005 (footnote 1).


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Analysis System has been prepared to introduce and streamline the RBM process at differenttiers of the government.

16. The PMAS is an ambitious undertaking, given the weak institutional capacity ofGovernment institutions. Significant capacity building will therefore be needed to implement theresults-based CSP effectively. Strengthening the capacity of key Government institutions is amajor focus of the CSP. In addition to policy dialogue, ADB has been engaging with key

government agencies to promote better understanding of results-based management and toinstitutionalize it as a management tool to achieve development results. Regional and country-focused technical assistance is being prepared to strengthen the capacity of governmentinstitutions at central and local levels and to help the Government establish stronger linksbetween development programs, their monitoring and evaluation, and policy feedback, and tomainstream results-based management in the Governments and ADBs poverty reduction effortsin Nepal. In close partnership with the Government, and based on experience of implementingthe PRS, ADB is also updating and enhancing the CSP results framework by establishing clearerbaseline data, specific tracking indicators, and medium-term targets relating to the PRS goalsand intermediate outcomes and outputs, to which ADB would contribute. This process ensuresbetter alignment of the CSP results framework with that of the PRS and builds strong

Government ownership of the results-based management process.

17. However, given the weak capacity of the Government, institutionalization of results-basedmanagement will require sustained efforts over a long period. It is very important to recognizethat, if the political risks persist or increase over the medium term, achieving ambitious targets indevelopment effectiveness would be more challenging.

B. Progress in the Country Strategy and Program Focus Areas

1. Socially Inclusive Development

18. Poverty and inequality in Nepal remain concentrated among the rural poor, women and

disadvantaged caste-based and ethnic groups who have limited access to productiveopportunities, basic social services, and social safety nets. However, there has been somerecent progress in mainstreaming gender, ethnicity and caste concerns. The percentage ofwomen in the civil service increased from 8% in 2004 to 10% in 2005. The Government hasshown greater willingness to mainstream issues of gender, ethnicity, and caste into projectdesign and implementation. The Government has also initiated a gender-responsive budgetsystem from FY2006, initiated gender auditing of selected districts periodic plans, andintroduced an incentive system to encourage the private sector to recruit more womenemployees. The recently promulgated Civil Service Ordinance, 2005, supported under ADBsGovernance Reform Program (GRP) provides for increased representation of women, ethnicgroups, and disadvantaged castes in the civil service. The Gender Equality and Empowerment ofWomen Project approved in 2004 (loan signing is pending) will help in advancing Nepali

womens socioeconomic conditions through a process of economic, social, legal, and politicalempowerment of poor rural women. In addition, ADB will continue to assist the Government toaddress gender, ethnic, and caste discrimination by supporting inclusive public policies,mainstreaming antidiscrimination measures in ADB-supported projects and reform programs,and strengthening institutional capacity to promote social inclusion.

2. Governance

19. Direct rule by the King since 1 February, the past record of the cabinet, and several otheractions of the Government are considered to have weakened its commitment to democracy,peace, and human rights. The Governments refusal to reciprocate when CPN/M declared aunilateral ceasefire; its lack of interest in reconciliation with the political parties; OHCHRs recent

report on the state of human rights abuses; the recently issued media ordinance and code ofconduct for international and domestic NGOs; and the role and conduct of the Royal Commission


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for Corruption Control (RCCC) have increased concerns about good governance. However,there has been significant progress in fulfilling several reform conditions under the ADB-supported GRP (mainly in the area of civil service reforms). Implementation of this program hasbeen off-track for the past 2 years. The provisions in the recently promulgated Civil ServiceOrdinance substantially fulfill four of the seven outstanding second tranche conditions under theGRP. These pertain to developing a more meritocratic, inclusive, efficient and effective civilservice. Four important laws for strengthening corporate and financial governancethe

Securities, Secured Transactions, Insolvency, and Company ordinances, which had beenpending for the past 3-4 yearshave also been promulgated recently. Although progress ondecentralization has been constrained by the absence of elected local bodies, the Governmenthas been increasingly devolving delivery of key public services (such as education, health, ruralelectricity, and agriculture extension services) to local authorities and communities. It is alsopiloting devolution of all public services in 14 selected districts. Further, a number of importantlaws relating to good governanceprocurement, competition, fiscal transparency, and localservice ordinancesare being prepared. During the CSP period, ADB assistance will continue tosupport social inclusion and good governance in Nepal

3. Agriculture and Rural Development

20. The NLSS II findings clearly indicated that the traditional rural economy is transforming,albeit slowly. This is reflected in increasing commercial orientation of agriculture and growth ofthe non-farm rural economy. Devolution of agriculture program and budgeting responsibilities todistrict offices in 2003 and finalization of Irrigation Regulations in 2004 have created a conducivepolicy environment for local civil society and private sector involvement in this sector. InDecember 2004, the government approved the Local Infrastructure Development Policy 2004 tomake local infrastructure policy and strategy consistent with the Local Self-Governance Act1999. This forms an important basis for further development of the sector and will help toharmonize donor and government interventions.

21. Agriculture and rural development continues to be the major focus of ADBs assistance.

The ongoing portfolio and the future program are built on important lessons learnt from recentlyclosed projects. ADBs assistance aims to strengthen infrastructure and connectivity (ruralaccess and irrigation), and the market orientation of agriculture and livestock production.Assistance in these areas is being supported by major policy and institutional reforms to reducepublic intervention and foster publicprivate partnerships.

4. Energy

22. Power sector growth has been minimal because of the inability of the Nepal ElectricityAuthority (NEA) to operate commercially. A number of measures have been taken to improve thelong-term financial sustainability of the power sectorincluding a semiautomatic tariff adjustmentmechanism and legislation to control electricity theftbut their implementation has been very

slow. Electricity tariffs have not been adjusted for the last 4 years, despite NEAs deterioratingfinancial position and system losses have increased. ADB is helping NEA to be morecommercially oriented and to improve its efficiency by unbundling its operations. This will alsohelp to give more of the rural population access to electricity.

5. Transport

23. Progress in the transport sector has been mixed. There has been reasonable progress inthe construction of new national roads, but not of district roads. Fifteen district headquartersremain unconnected, and the construction of rural roads to promote rural connectivity andcommercialize agriculture has been slow because of the security situation and weak institutionalcapacity. The Government has identified developing northsouth transit corridors linking thePeoples Republic of China (PRC) and India through Nepal as a priority for investments. Projects


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in the current portfolio and in the pipeline are aimed at improving connectivity between all partsof the country and facilitating trade between Nepal and its neighbors.

6. Water Supply and Sanitation

24. Three major ordinancesNepal Water Supply Corporation (NWSC), Kathmandu ValleyWater Supply Management Board, and Water Supply Tariff Fixation Commissionwere passed

in April 2005. They will pave the way for far-reaching reforms of the state-owned NWSC and forthe introduction of private sector management of Kathmandu Valley's water supply system.However, implementation of these reforms depends critically on recruitment of a private sectoroperator for the Kathmandu Valley water supply system. The Government has also taken anumber of policy decisions to improve delivery of water and sanitation services in the peri-urbanand rural areas by reorienting its role as a facilitator and devolving implementation activities tobeneficiary communities and local bodies. These policy decisions include adoption of the RuralWater Supply and Sanitation (RWSS) National Policy, the RWSS Strategy, 2004, and the RWSSAction Plan, 2004. ADB's assistance in the peri-urban and rural water supply subsectors hasbeen instrumental in facilitating this policy shift and ADB will continue to work with theGovernment to strengthen community-based implementation and management of water supply

and sanitation services.

25. Implementation of the Melamchi Water Supply Project is being reviewed by ADB andother donors participating in the project. On the legal side, the Supreme Court has constituted aspecial bench, which is currently hearing the writ petition relating to the constitutionality of RCCCand the bail cases of former Prime Minister Deuba and Minister of Physical Planning and Works(MPPW). The former Secretary of MPPW was released on bail on 27 October. Only former PrimeMinister Deuba and the Minister of MPPW, remain in detention.

7. Education

26. Progress in the education sector is reflected in higher net enrollment of girls and boys,

and disadvantaged ethnic groups in primary, lower secondary, and secondary education.However, further efforts are needed to reach students from disadvantaged caste and ethnicgroups and to improve the efficiency and quality of education at all levels. Given weak teachercapacity, ADB has been assisting in improving the quality of education by restructuring thescattered teacher training institutions under an apex body to train teachers in an integrated andcoordinated manner. Teacher education also needs to be significantly improved. ADB is helpingto provide market-oriented skills training to create employment opportunities for the growingunemployed youth population. ADBs future assistance is aimed at providing a more holisticsupport to the education sector by combining investments with assistance for improving policies,planning, and management.

8. Regional Cooperation

27. Nepal has assumed an active role in the ADB-supported South Asian SubregionalEconomic Cooperation (SASEC) program to promote subregional cooperation amongBangladesh, Bhutan, India, and Nepal. SASEC has made steady progress during the past 3years. The participating countries have established development action programs for prioritysubregional projects in the transport, energy, trade, industry and private sector, environment,tourism, and information and communication technology sectors. Potential cooperation areaswith direct relevance to Nepal include hydropower development, rural electrification,improvement of cross-border access to India and Bangladesh, and development of a subregionaltourism master plan. Nepals recent accession to the World Trade Organization and the Bay ofBengal Initiative for Multi-Sector Technical and Economic Cooperation has also improved theprospects for regional cooperation significantly. Nepal is also considering development of a

transit corridor between the PRC and India through Nepal, possibly with ADB support.


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C. Aid Coordination and Development Partnerships

28. The Government chairs the Nepaldonor group (NDG), which comprises all bilateral andmultilateral donor agencies and meets every 2 months to review conflict and developmentissues. The NDG also oversees 12 thematic groups, many of which are chaired or co-chaired bythe Government. The reform and development group, comprising the 7 most important donoragencies, including ADB, is the main forum for Governmentdonor dialogue on reform,

development, and harmonization in Nepal. The RDG also monitors the annual Immediate ActionPlan (IAP)priority reforms/policy actionson a quarterly basis.

29. Following the Rome and Paris Declarations, ADB stepped up harmonization efforts withother donors in Nepal. Country-level joint action plans between ADB and DFID and the Agencyfor German Technical Cooperation (GTZ) have been prepared and are being implemented tofacilitate coordination and collaboration in key areas of assistance to Nepal. The Nepal ResidentMission (NRM) has also significantly enhanced collaboration with the World Bank to achievestrategic alignments and synergies in program formulation and implementation in support of theobjectives of the PRS. A joint harmonization framework with the World Bank is currently beingprepared.

30. At the project and program level, ADB along with the World Bank and the Japan Bank ofInternational Cooperation (JBIC) has been conducting Joint Portfolio Performance Reviews withthe government since 2001, including a recent one in September 2005. A number of co-financingagreements have also been reached with various bilateral development partners for ongoing andfuture projects, with significant collaboration on important institutional and policy reforms as well.

III. PORTFOLIO PERFORMANCE

32. Nepals portfolio performance has been deteriorating steadily since 2001. Whiledisbursement ratios were above 20% in the years preceding 2001, they have fallen to below 10%since then (Table 1), well below the ADB-wide average of 17-18%. A careful analysis of the

impact of various factors on project implementation and portfolio performance in Nepal suggeststhat the key factors causing the decline are the severe political instability resulting in frequentchanges of government, which has in turn sharply slowed down decision making. This hasparticularly delayed procurement, consultant recruitment, and policy decisions and actions underboth project and program loans, prolonging project implementation periods. The averageimplementation period of ADB-assisted projects that have closed in the past 10 years in Nepalwas over 8 years, compared with the planned 5-year period. Slow implementation, especiallywith regard to large projects such as the Melamchi Water Supply Project, has dragged downdisbursement ratios, although it appears that the conflict per se has not significantly affectedportfolio performance as yet.

Table 1: Disbursement TrendsYear Disbursement

($ Million)

Contract Award ratio

(%)

Disbursement ratio a

(%)1996 71.8 14.8 18.31997 100.9 59.9 21.81998 105.3 30.4 28.01999 70.4 13.4 21.22000 91.4 15.6 37.02001 57.2 11.2 16.62002 28.2 3.7 8.42003 33.6 8.2 7.12004 22.0 7 4.4

2005b

32.6 12 5.0a

Disbursement ratio is defined as the ratio of total disbursement over the undisbursed balance at the beginning of theyear.

b Figures shown are the most likely achievements to the end of 2005, based on a review carried out in June 2005.The net loan amount of approved loans which have become effective has been added to the opening balance.


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33. Inappropriate project design also contributed to weak portfolio performance in Nepal. Inparticular, projects/programs that are not sensitive to the prevailing political and conflictenvironment experienced greater implementation problems. By contrast, projects based on moresuitable and flexible implementation modalities (e.g., community-based approaches and sectorloans), projects with built-in conflict and political risk mitigation measures, and realistic policyreforms tend to perform better. In this context, the project design and implementation frameworkembedded in the 2004 CSP is critical to improving portfolio performance and achievement ofbetter development outcomes and impacts in Nepal. Project implementation environment in 2005continued to be challenging although portfolio indicators are expected to stabilize at about therates/levels achieved in 2004.

34. Of the 23 loans in the current portfolio, 9 (34%) were rated as being at risk as ofOctober 2005 (Table 2). Two of these are program loans, which are experiencing long delaysbecause of slow decision making related to political instability. Four of these projects at risk areloans approved in 2003 and 2004, loan signing and/or effectiveness of which has been pendingdue to the political developments since February 2005. If the implementation delays of theseprojects are addressed, this will significantly improve the overall portfolio performance. ADB is

continuing to take a cautious approach in its operation in Nepal, particularly with respect to thefour pending loans, and is assessing the implementation environment for each of these loans.These loans will be signed and declared effective only if the assessment suggests that they canbe implemented effectively and safely in the present environment.6

35. The frequency of ADBs interaction with Government agencies to address implementationissues has increased significantly in the past year. The Government has committed to takingstronger measures to improve portfolio performance, including more frequent and closermonitoring of project activities, advance procurement actions, and more upfront engagement toensure project quality at entry. Bimonthly project managers meetings, co-chaired by theSecretary, Ministry of Finance, and the Country Director, NRM, are being held to addressimplementation issues. Within ADB, delegation of project administration to the NRM has

increased over the last year, with the NRM currently administering 11 out of the 23 ongoingprojects, with more loans expected to be delegated soon. An Operations Review Missioncombining program and portfolio reviews in September 2005, in consultation with theGovernment, identified tentative loan savings of about $26 million in the current portfolio. Stepsare being taken to realize these savings. A similar spring-cleaning exercise provided $22 millionin loan savings in 2004. These are major initiatives led by NRM to restructure the ongoingportfolio to improve its performance.

Table 2. Projects at RiskLoan No. Loan Reasons for at risk rating

1811 Corporate and Financial

Governance

Delayed implementation progress, and poor compliance with loan

covenants and finalizing audited accounts and financial statements.1820 Melamchi Water SupplyProject

Delayed implementation progress, and delayed compliance withloan covenants.

1755 Small Towns Water Supplyand Sanitation

Delayed procurement process.

1861 Governance Reform Program Delayed implementation due to political instability.2002 Public Sector Management

ProgramDelayed implementation due to political instability.

2111 Skills for Employment Approved on 25 October 2004. The project is awaiting loaneffectiveness. All loan effectiveness conditions have been met.Assessment of implementation environment will be undertaken inthe coming weeks.

6Following a detailed security, political and institutional assessment of the Decentralized Rural Infrastructure and

Livelihood Project, which provided adequate confidence that the project could be implemented safely andeffectively, the project was declared effective on 26 October 2005. The assessment is posted on ADBs intra-netwebsite.


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2071 Community LivestockDevelopment Project

Approved on 19 December 2003. The project is awaiting loaneffectiveness and the conditions for effectiveness have been met.Assessment of implementation environment underway.

2102 Community-ManagedIrrigated Agriculture SectorProject

Approved on 17 November 2004. The project is awaiting signing ofloan agreement. All conditions for loan signing have been met.Assessment of implementation environment underway.

2143 Gender Equity andEmpowerment of Women

Approved on 16 December 2004. The project is awaiting signing ofthe loan agreement. Assessment of the implementation

environment suggests that the conditions to make the loan effectivehave not been met due to weak Government commitment.Therefore, a decision has been taken to withhold loan signing atthis stage.

V. COUNTRY ASSISTANCE PROGRAM (20052009)

36. The 2005-2009 country program is guided by the 2004 CSP for Nepal. The countryprogram focuses on helping the Government foster more inclusive development, improve basicsocial services and infrastructure, promote private sector development, empower women andother disadvantaged groups, and improve governance. Special emphasis is being placed onproject design to ensure that project objectives are fully in line with the CSPs priorities, conflict-sensitive, and results-oriented. ADBs assistance program is fully aligned with the PRS.

37. The 20052007 lending program includes 11 firm projects with a total of $350 million.Under ADF IX, Nepal could be eligible for up to 50% of the total amount as grant. However, inview of the countrys situation, ADB has taken a cautious approach to processing new assistanceto Nepal. Accordingly, processing of the 2005 lending and non-lending program has beendelayed and a Country Programming Mission (CPM) scheduled in March-April this year was notfielded. Following the cautious approach, Nepal may not receive any new loan assistance fromADB in 2005. This will have implications for future assistance, and will be addressed during thereview of the overall country program in December 2005.

38. The 2005 non-lending program comprising 12 TAs and 1 Japan Fund for Poverty

Reduction grant supports institutional strengthening and capacity building, to enhancedevelopment effectiveness. Processing of these TAs is continuing in close consultation with allrelevant donor partners. However, less than half of the TAs may be approved in 2005.


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Appendix

S. N. Date of Agreement Donor Name of the Project Type of

Assistance

Amount

($ million)1 8 February 2005 Germany Health Sector Support Programme Grant 0.92 14 February 2005 UK Seed and Livelihood Support Project Grant 5.93 21 February 2005 UK Health Sector Program Grant 56.3

4 21 February 2005 UK National HIV/AIDS Program Grant 28.15 7 March 2005 Japan Non-Project Grant Assistance Scheme Grant 14.46 7 March 2005 Japan Increase of Food Production (2 KR) Grant 2.97 10 March 2005 UK District and National Implementation of Nepal's

Agriculture Perspective PlanGrant 0.8

8 1 April 2005 France Food Security Program for Nepal (FSPN) Grant 0.4

9 20 April 2005 UK Rural Community Infrastructure Works Program (RCIW) Grant 3.7

10 10 May 2005 Japan Procurement and Transportation of Rice Grant 3.311 5 June 2005 UK Mobilize of Volunteers Grant 0.7

Loan 10.6Grant 1.2

13 9 June 2005 Japan Construction of Sindhuli Road (Section II: Sindhuli Bazar- Khurkot)

Grant 24.4

14 29 July 2005 Switzerland Nepal Swiss Community Forestry Project Phase V Grant 4.115 29 July 2005 USA Increased Private Sector Participation in

Environmentally and Socially Sustainable Hydropower

Development

Grant 1.5

16 29 July 2005 USA Strengthened Governance of Natural Resources andSelected Institutions

Grant 4.0

17 29 July 2005 USA Increased Sustainable Production and Sales of Forestand High-value Agricultural Products

Grant 0.9

18 29 July 2005 USA Promoting Peace Through Improved Governance andIncomes in Targeted Areas

Grant 2.9

19 29 July 2005 USA Reduced Fertility and Protected Health of NepaliFamilies

Grant 12.1

20 1 August 2005 World Bank Rural Access Improvement and Decentralization Project Grant 32.1

21 1 August 2005 World Bank Economic Reform Technical Assistance Project (ERTA) Grant 3.0

22 3 August 2005 India Development of Infrastructures at Four Boarder CheckPoints along Nepal-India Boarder

Grant 72.3

23 15 August 2005 China Budgetary Support Grant 12.324 16 August 2005 Japan Construction of Primary Schools Grant 5.325 31 August 2005 UNDP Western Terai Landscape Complex Project Grant 13.1

26 31 October 2005 Finland Strengthening Environmental Administration andManagement at Local Level

Grant 2.2

27 18 November 2005 Switzerland Vertical Shaft Brick Kiln Technology Transfer ProjectPhase II

Grant 0.7

3201

Excluding ADB's Skills for Employment Project ($20 million), loan agreement for which was signed on 2 February 2005.

Various Donors' Foreign Aid Commitments to Nepal since February 20051

Total

Leasehold Forestry and Livestock ProgramIFAD7 June 200512

recent political economic developments

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