The World Bank First Resilience Development Policy Operation with a CAT-DDO (P170558)

Document of

The World Bank

FOR OFFICIAL USE ONLY

Report No: PGD101

INTERNATIONAL DEVELOPMENT ASSOCIATION

PROGRAM DOCUMENT

FOR A PROPOSED GRANT IN THE AMOUNT OF SDR10.1 MILLION (US$13.5 MILLION EQUIVALENT)

COMPRISING

A DEVELOPMENT POLICY GRANT OF SDR5.6 MILLION (US$7.5 MILLION EQUIVALENT) AND

A DEVELOPMENT POLICY GRANT WITH A CATASTROPHE-DEFERRED DRAWDOWN OPTION (CAT-DDO) OF SDR4.5 MILLION (US$6 MILLION EQUIVALENT)

TO

TUVALU

FOR THE

FIRST RESILIENCE DEVELOPMENT POLICY OPERATION WITH A

CATASTROPHE-DEFERRED DRAWDOWN OPTION

November 13, 2019

Macroeconomics, Trade And Investment Global Practice East Asia And Pacific Region

This document has a restricted distribution and may be used by recipients only in the performance of their official

duties. Its contents may not otherwise be disclosed without World Bank authorization. .

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The World Bank First Resilience Development Policy Operation with a CAT-DDO (P170558)

Tuvalu GOVERNMENT FISCAL YEAR

January 1 – December 31

CURRENCY EQUIVALENTS (Exchange Rate Effective as of September 30, 2019)

Currency Unit US$1.00=SDR0.733509

ABBREVIATIONS AND ACRONYMS

ADB Asian Development Bank NDC National Disaster Committee

ANS Assessment of National Systems NGO Non-Government Organization

ASA Advisory Services and Analytics NPLs Non-Performing Loans

CAT-DDO Catastrophe-Deferred Drawdown Option NSSD National Strategy for Sustainable Development

CCA Climate Change Adaptation OI Outer Island

CIF Consolidated Investment Fund OMRS Overseas Medical Referral Schemes

CPF Country Partnership Framework PA Prior Action

CPU Central Procurement Unit PAE Party Allowable Effort

DBT Development Bank of Tuvalu PDO Program Development Objective

DFAT Department of Foreign Affairs and Trade PEFA Public Expenditure and Financial Accountability

DHS Demographic and Health Survey PER Public Expenditure Review

DPO Development Policy Operation PFM Public Financial Management

DRM Disaster Risk Management PIC Pacific Island Country

DRR Disaster Risk Reduction PNA Parties to the Nauru Agreement

DSA Debt Sustainability Assessment PPP Purchasing Power Parity

EU European Union PRIF Pacific Regional Infrastructure Facility

FMIS Financial Management and Information System PRM Policy Reform Matrix

GDP Gross Domestic Product PWD People With Disabilities

GNI Gross National Income RAS Reimbursable Advisory Services

GNP Gross National Product REER Real Effective Exchange Rate

GoT Government of Tuvalu RPF Regional Partnership Framework

HIES Household Income and Expenditure Survey SCD Systematic Country Diagnostic

IBRD International Bank for Reconstruction and Development SDR Special Drawing Rights

ICR Implementation Completion and Results SPREP Secretariat of the Pacific Regional Environment Program

IDA International Development Association TAE Total Allowable Effort

IFC International Finance Corporation TAMF Tuvalu Asset Management Framework

IMF International Monetary Fund TC Tropical Cyclone

IPCC Intergovernmental Panel on Climate Change TEC Tuvalu Electricity Corporation

LDP Letter of Development Policy TK III Te Kakeega III

MASL Meter Above Sea Level TMTS Tuvalu Medical Treatment Scheme

MFAT Ministry of Foreign Affairs and Trade TSF Tuvalu Survival Fund

MOF Ministry of Finance TTF Tuvalu Trust Fund

MP Member of Parliament UHC Universal Health Coverage

MTEF Medium-Term Expenditure Framework VSMT Visiting Specialist Medical Teams

NAFICOT National Fishing Corporation of Tuvalu UN United Nations

NBT National Bank of Tuvalu WB World Bank

NCD Non-Communicable Disease

.

Regional Vice President: Victoria Kwakwa

Country Director: Michel Kerf

Regional Director (s): Hasan Zaman (EFI)/ Benoit Bosquet (SD)

Practice Manager (s): Ndiame Diop (MTI)/Abhas K. Jha (URL)

Task Team Leader (s): Demet Kaya, Artessa Saldivar-Sali

The World Bank First Resilience Development Policy Operation with a CAT-DDO (P170558)

TUVALU FIRST RESILIENCE DEVELOPMENT POLICY OPERATION WITH A

CATASTROPHE-DEFFERED DRAWDOWN OPTION

TABLE OF CONTENTS

SUMMARY OF PROPOSED FINANCING AND PROGRAM .......................................................................2

1. INTRODUCTION AND COUNTRY CONTEXT ...................................................................................4

2. MACROECONOMIC POLICY FRAMEWORK ....................................................................................6

2.1. RECENT ECONOMIC DEVELOPMENTS ............................................................................................ 6

2.2. MACROECONOMIC OUTLOOK AND DEBT SUSTAINABILITY ........................................................ 12

3. GOVERNMENT PROGRAM ........................................................................................................ 16

4. PROPOSED OPERATION ............................................................................................................ 17

4.1. LINK TO GOVERNMENT PROGRAM AND OPERATION DESCRIPTION .......................................... 17

4.2. PRIOR ACTIONS, RESULTS AND ANALYTICAL UNDERPINNINGS .................................................. 19

4.3. LINK TO CPF, OTHER BANK OPERATIONS AND THE WBG STRATEGY .......................................... 31

4.4. CONSULTATIONS AND COLLABORATION WITH DEVELOPMENT PARTNERS ............................... 32

5. OTHER DESIGN AND APPRAISAL ISSUES .................................................................................... 32

5.1. POVERTY AND SOCIAL IMPACT .................................................................................................... 32

5.2. ENVIRONMENTAL ASPECTS ......................................................................................................... 34

5.3. PFM, DISBURSEMENT AND AUDITING ASPECTS .......................................................................... 35

5.4. MONITORING, EVALUATION AND ACCOUNTABILITY .................................................................. 37

6. SUMMARY OF RISKS AND MITIGATION ..................................................................................... 37

ANNEX 1: POLICY AND RESULTS MATRIX .......................................................................................... 40

ANNEX 2: FUND RELATIONS ANNEX .................................................................................................. 42

ANNEX 3: LETTER OF DEVELOPMENT POLICY ..................................................................................... 44

ANNEX 4: ENVIRONMENT AND POVERTY/SOCIAL ANALYSIS TABLE .................................................. 47

The First Resilience Development Policy Operation with a Catastrophe-Deferred Drawdown Option was prepared by a World Bank team consisting of Demet Kaya, Senior Economist and Task Team Leader (EEAM2); Artessa Saldivar-Sali, Senior Municipal Engineer and Task Team Leader (SEAU1); Loren Atkins, Associate Counsel (LEGES); Holly Woodcroft, Associate Counsel (LEGES); Chau-Ching Shen, Senior Finance Officer (WFACS); Zhentu Liu, Senior Procurement Specialist (EEAR2); Philip O’Keefe, Practice Manager (HEASP); Carol Obure, Health Economist (HEAHN); Aparnaa Somanathan, Program Leader (HEADR); George Stirrett, Environmental Specialist (SAFE1); Nicholas John Valentine, Consultant (SEAE1); Susan Ivatts, Senior Health Specialist (HEAHN); Philip Martin, Gender Specialist (GSU02); Taufik Ramadhan Indrakesuma, Economist (EEAPV); Siosaia Faletau, Liaison Officer (EACNF); Robert Gilfoyle, Senior Financial Management Specialist (EEAG2); Evaron Masih, Financial Management Analyst (EEAG2); Malvina Pollock, Consultant (EMFMD); Veronica Piatkov, Consultant (SEAU1); Michelle Lee, Program Assistant (EACNF); Danielle O’Keefe, Team Assistant (EACNF); under the guidance of Ndiame Diop, Practice Manager (EEAM2), Abhas Jha, Practice Manager (SEAU1); Lasse Melgaard, Representative (EACFF) and David Gould, Program Leader (EEADR) and the overall direction of Michel Kerf, Country Director (EACNF). The peer reviewers were Keiko Sakoda, Disaster Risk Management Specialist (SSACD); Ruslan Piontkivsky, Senior Economist (ELCMU) and Ralph Van Doorn, Senior Economist (EEAM2).

2

SUMMARY OF PROPOSED FINANCING AND PROGRAM

BASIC INFORMATION

Project ID Programmatic If programmatic, position in series

P170558 Yes 1st in a series of 2

Proposed Development Objective(s)

The Development Objective of the First Resilience Development Policy Operation with a Catastrophe-Deferred Drawdown Option is to support the government’s efforts to: (i) strengthen public financial management; (ii) enhance infrastructure management, and disaster- and climate-resilience; and (iii) improve social protection and inclusion in education.

Organizations

Borrower: TUVALU

Implementing Agency: MINISTRY OF FINANCE

PROJECT FINANCING DATA (US$, Millions) SUMMARY

Total Financing 13.50 DETAILS

International Development Association (IDA) 13.50

IDA Grant 13.50

INSTITUTIONAL DATA

Climate Change and Disaster Screening

This operation has been screened for short and long-term climate change and disaster risks

Overall Risk Rating

Substantial .

3

Results

Indicator Name Baseline Target

Spending on overseas medical treatment as a percentage of GDP. 12 percent

(2017)

9 percent (2022)

Level of competition -average percentage of major procurement (value) through competition.

47 percent

(2015-2017)

55 percent

(2022)

Asset investment plans (based on disaster and climate vulnerability) under

implementation for selected asset classes

0

(2018)

3 asset classes

(2022)

Percent of new public buildings and dwellings complying with Building Regulations

and Code.

0

(2018)

100 percent of public buildings,

20 percent of new dwellings

(2022)

Quantity of recyclable waste exported. 0

(2018)

20 tonnes

(2022)

Number of employed teachers who are trained in inclusive and special education. 1 3

Community disaster plans and school evacuation plans include provision for people

with disabilities.

No

(2018)

Yes

(2022)

.

4

IDA PROGRAM DOCUMENT FOR A PROPOSED GRANT TO TUVALU

1. INTRODUCTION AND COUNTRY CONTEXT

1. The proposed operation aims to support the Government of Tuvalu (GoT) in its efforts to manage some of the key risks threatening the country’s sustainable growth and development. The proposed development policy operation (DPO) is the first in a programmatic series of two DPOs and will provide grant financing of US$7.5 million. The proposed DPO is combined with a Disaster Risk Management (DRM) Catastrophe-Deferred Drawdown Option (Cat-DDO) of US$6 million, which will support the GoT’s efforts to increase the country’s resilience to natural hazards and the impacts of climate change, not only by supporting policy reforms, but also by provision of substantial quick-disbursing financing in the aftermath of a natural disaster. The Program Development Objective of the proposed operation is to support the Recipient’s effort to: (i) strengthen public financial management; (ii) enhance infrastructure management, and disaster- and climate-resilience; and (iii) improve social protection and inclusion in education. The areas on which the proposed operation is focused are central to the GoT’s National Strategy for Sustainable Development (NSSD) or Te Kakeega III (TK III), and to the Regional Partnership Framework (RPF) for nine small Pacific Island Countries, including Tuvalu. The proposed operation builds on the achievements under the previous DPO series, which focused on the delivery of education and health services and improving macroeconomic stability. Under the leadership of the GoT, the World Bank’s development policy engagement in Tuvalu takes place jointly with other major development partners. 2. Tuvalu is one of the smallest, most remote, and climate change-vulnerable countries in the world, and categorized as a fragile state. The country comprises nine small islands, with a total land area of only 26 square kilometers, scattered over 0.5 million square kilometers of the western Pacific Ocean. Six of the islands (Nukulaelae, Funafuti, Nukufetau, Vaitupu, Nui, and Nanumea) are low-lying atolls made up of islets (motus) with infertile, sandy or gravel coralline soils. The other three islands (Nanumaga, Niutao and Niulakita) are raised limestone reef islands with poor soil quality and limited flora. The average elevation in Tuvalu is one meter above sea level (MASL), while the highest point in the country is 4.5 MASL. The majority of Tuvalu’s population of 11,000 live on land less than one meter above sea level. The atolls also have extremely narrow land masses; for example, Funafuti, where more than half of the population is concentrated, is less than 100 meters wide on average. 3. The very small size of the domestic economy and Tuvalu’s extreme remoteness from major markets, near total dependence on imports, particularly of food and fuel, and vulnerability to external shocks, climate change and rising sea levels pose significant challenges to macroeconomic performance. The public sector dominates economic activity. Tuvalu has few natural resources, except for its fisheries and earning from fish exports and fish licenses for Tuvalu’s territorial waters are a significant source of government revenue. International aid, including support from the World Bank, and the Tuvalu Trust Fund (TTF), an international trust fund established in 1987 by development partners, are an important cushion for meeting shortfalls in the government’s budget. Private sector development opportunities are highly constrained by the lack of economies of scale in such a small and fragmented domestic market and by severe infrastructure deficits in utilities, transport and communications. Limited economic opportunities are reflected in the fact that 26 percent of the population living below the national poverty line. Tuvalu’s narrowly-based economy and vulnerability to external shocks exposes it to volatility in macro-economic performance and this is exacerbated by the financial impact of climate change and the cost of climate-related adaptation projects. In common with other Pacific Island countries, Tuvalu also confronts economic and escalating fiscal costs associated with meeting the health care needs of an aging population and epidemic of non-communicable diseases.

4. Natural hazard risks are a major constraint to the achievement of Tuvalu’s development goals. Frequent tropical cyclones in the Pacific bring damaging winds, rains, and storm surges to Tuvalu. The impact of these cyclones can generate moderate to severe damage to buildings, infrastructure, and crops with significant economic and social losses. In 2015, for

5

instance, king tides caused by Cyclone Pam flooded parts of the country and displaced 45 percent of the population. While no significant earthquakes have been recorded in Tuvalu in recent history, the country is exposed to tsunamis, as it is surrounded by the Pacific “ring of fire”. The atolls’ low elevation means that almost all land is ‘coastal’ and specific features (spits, channels and ends) of the shorelines are especially prone to flooding and inundation. The extent of the damage to assets and exposure of communities is exacerbated by limited coastal asset management policies and systems. Estimates from the Intergovernmental Panel on Climate Change (2018 IPCC Report) indicate that climate change and global-mean sea level rise could make Tuvalu uninhabitable by 2100 or sooner, absent extraordinary measures. Catastrophe modeling1 shows that tropical cyclone loss exceeding US$1.4 million, and losses from earthquake and tsunami exceeding US$4.2 million (4.4 percent and 13.1 percent of 2010 GDP, respectively) have a 1 percent chance of occurring in any given year. Average annual losses (combined tropical cyclone, earthquake, and tsunami risk) are estimated at 0.8 percent of 2010 GDP (or US$ 0.2 million). 5. Tuvalu’s limited economic opportunity, coupled with vulnerability to shocks, has made achieving and sustaining gains in poverty reduction and inclusive growth difficult. A series of shocks including natural hazards, global economic crises and increasing prices have led to living standards stagnating, and, on some measures, poverty increasing, particularly for the outer islands, while Non-Communicable Diseases (NCDs) present an ongoing risk to health for a large segment of the population. Obesity is a serious problem, and disproportionately affects women, with the latest Demographic and Health Survey (DHS) showing 46 percent of men and 68 percent of women were obese. While the 2010 Household Income and Expenditure Survey (HIES) showed a very small incidence of extreme poverty at 3.3 percent, the rate of poverty as measured by global living standards for upper middle-income countries (using the US$5.50 PPP line) remains high at nearly 47 percent. The ratio of the average consumption of the top 60 percent of households against the bottom 40 percent is estimated at 3.5 based on HIES data, which is significantly below the cross-country median of 4.7. Poverty is generally concentrated in the outer islands and the gap as compared with the capital, Funafuti, has increased over time. Lack of access to services, employment opportunities and remittances, and exposure to shocks (such as food price shocks and natural disasters) are some of the factors underlying vulnerability to poverty. Female headed households are less likely to be identified as poor on average, although women’s share of paid employment is lower than men’s, despite a relatively high level of access to education. 6. The proposed operation aligns with the national priorities set forth in Tuvalu’s National Strategy for Sustainable Development 2016-2020 (“Te Kakeega III” or TKIII). Specifically, Strategic Area 1 on Climate Change has the goal of protecting Tuvalu from the impacts of climate change through resilience, mitigation, and adaptation. The National Strategic Action Plan for Climate Change and Disaster Risk Management (NSAP) 2012-2016 includes Strategy 11.4 to “establish national climate change adaptation and mitigation policies”. Goal 1 of the Climate Change Policy (“Te Kaniva”, 2012-2021) is to strengthen adaptation actions to address current and future vulnerabilities, while Goal 3 is to enhance Tuvalu’s governance arrangements and capacity to access and manage climate change and disaster risk management finances. 7. The overall risk rating for the proposed operation is substantial. The main risks to achieving the program development objectives are: (i) institutional capacity risks arising from the thin administrative capacity that is typical of public sectors in very small states, where a small number of public servants must engage with a multiplicity of tasks; (ii) macroeconomic risks arising from the vulnerability of Tuvalu’s macroeconomic and fiscal framework to shocks that are characteristic of small Pacific economies; (iii) environmental risks arising from Tuvalu’s high degree of vulnerability to external shocks, including from natural disasters; and (iv) fiduciary risk arising from the ongoing issues with PFM implementation identified in the Auditor-General’s report and the high dependency on key personnel in a ‘thin’ capacity environment. Measures supported by this proposed operation to strengthen public financial management will be an important element in mitigating macroeconomic risks. The reforms being undertaken through the second pillar would

1 Pacific Catastrophe Risk Assessment and Financing Initiative (PCRAFI) Country Risk Profiles, September 2011.

6

contribute to mitigating the risks of direct damage to public and private assets, and infrastructure (including critical public facilities and residential buildings), while the contingent financing available through the CAT-DDO would support recovery from disasters.

2. MACROECONOMIC POLICY FRAMEWORK

2.1. RECENT ECONOMIC DEVELOPMENTS

8. Tuvalu has a narrow economic base and is highly reliant on fishing license fees and foreign aid. The public sector is the main driver of economic activity, accounting for around two-thirds of GDP, and providing most of the formal sector employment. The private sector is small and undeveloped (consisting mainly of small firms in the wholesale and retail sectors) and has struggled to grow – partly due to the inherent lack of economies of scale and high transaction costs resulting from the dispersion of a small population across nine islands. With negligible exports, Tuvalu is heavily dependent on imports with its domestic production base restricted to subsistence agriculture and fishing. The use of the Australian dollar and no central bank means fiscal policy is the only tool for macroeconomic management. 9. Tuvalu’s macro-economic performance over the past few years has been favorable owing to strong fishing license revenues and increased capital investment. Real GDP growth is estimated to have accelerated to 4.3 percent in 2018, up from 3.2 percent in 2017, reflecting the implementation of large infrastructure and housing projects, in preparation for the Polynesian Leaders’ Summit in 2018 and the Pacific Islands Forum Leaders Meeting in 2019, on the back of sharp increase in fishing license revenue. Public expenditure remains to be the main growth drive as private sector activity is limited due to the economy’s narrow production base and banks’ constrained lending. Tuvalu’s narrow production base offers limited opportunities for economic diversification. The policies to increase growth and diversify the economy include promoting tourism, stimulating private sector development2, and improving financial intermediation and supervision. Inflation climbed to 4.4 percent in 2017 due to higher food and transportation costs but is estimated to have fallen back to 4 percent in 2018, with the increase in public wages, dictated by the need to compensate increased living costs and retain staff in the public administration, offset by moderating food prices.

Figure 1: Contributions to Real GDP Growth (percent)

Source: Ministry of Finance.

2 IFC is seeking to support private sector development in Tuvalu, a recent member of IFC, including through improvements to the investment policy environment.

7

10. Tuvalu has prudently maintained post-grant fiscal surpluses in recent years owing to stronger revenue collections from fishing license fees, the “.tv” domain license fees. Tuvalu has a very narrow domestic economic base, and over three quarters of domestic revenues are non-tax revenues derived principally from fishing license fees and “.tv” internet domain license fees. With the exception of 2017, when a sharp drop in fishing license revenues led to small deficit, the overall budget balance after grants has been in surplus in recent years. Tax mobilization has been broadly stable; with a temporary spike in corporation taxes in 2015 on account of higher fishing venture profits and strengthening of indirect taxes in 2017. External grants are also a critical source of budget financing. In 2018, fishing revenue from fishing license fee and grants nearly doubled, resulting in a widening of the surplus to 24 percent of GDP compared to 14 percent of GDP in 2017. Public debt to GDP continued its downward trajectory in 2018, falling to 28 percent, close to half its level in 2015 (53 percent).

11. While government revenues have spiked in recent years, major sources such as fishing license fees are inherently volatile and unpredictable. Fishing license fees have increased dramatically in recent years, from 22 percent of GDP in 2012 to 70 percent of GDP in 2016 and 90 percent of GDP by 2018. This large rise in fisheries revenues reflects a combination of structural and cyclical factors. The full implementation of the Vessel Day Scheme (see Box 1) from 2012 onwards has seen an increase in the value captured by Pacific island nations. More recently, the appreciation of the US Dollar against the Australian dollar (the currency adopted by Tuvalu, as explained below) and high fish stocks in Tuvalu water due to El Niño weather patterns have also contributed to this increase (see box 1). While it is difficult to predict these revenues due to the many contributing factors, building buffers, with revenue volatility smoothed as a pre-condition, can help Tuvalu manage the associated fiscal risks. 12. Given the volatile nature of Tuvalu’s domestic revenues development assistance is essential to support delivery of adequate public services and maintain good fiscal management. Development grants, which range from 20-50 percent of GDP from year to year, support the GoT’s budget resource envelope. Development assistance contributes significantly to the health of Tuvalu’s public finances: before grants, the overall budget balance is in deficit by a considerable margin.

13. To help smooth the volatility of revenue, the Tuvalu Trust Fund (TTF) was created in 1987 with the initial balance of AUD27 million contributed by Australia, New Zealand, the United Kingdom and Tuvalu. Distributions are made from the TTF to its associated buffer fund—the Consolidated Investment Fund (CIF) when the TTF’s balance exceeds its ‘maintained value’ – a baseline adjusted in line with the Australian Consumer Price Index. The CIF in turn provides an additional revenue for the government. TTF is not fully sovereign with the Australian and New Zealand governments represented on its Board. Under the current fiscal policy, a minimum balance of 16 percent from the TTF maintained value is required to be maintained in the CIF to provide a buffer for budget expenditure. The post-grant budget surpluses in recent years have been used to replenish the Consolidated Investment Fund (CIF) and, more recently, to capitalize the TTF and the newly established the Tuvalu Survival Fund (TSF). As at 30 September 2018, the TTF’s value in the financial markets stood at AUD176.4 million compared to AUD172.9 million at the end of 2017. The market value of the TTF Investments at end-March 2019 was AUD175.36 million while Maintained value was AUD177.35 million so investments were lower than maintained value by AUD1.99 million or 1.1 percent. At the end of March 2019, the CIF balance was AUD32.8 million (18.8 percent of the TTF maintained value). The combined value of the TTF, TSF and CIF reached almost 400 percent of GDP at end- 2018. These funds provide the GoT with flexible buffers to address both short-term financing gaps, and the scaling-up of reserve assets over the longer-term – increasing the country’s resilience to shocks.

8

Source: World Bank staff estimates based on data provided by the authorities.

14. Government expenditures have grown markedly, in line with the increased fiscal space. Public investment expenditure rose from 6 percent of GDP in 2012 to 30 percent in 2018 due to the construction of the new buildings ahead of the regional summits. Current expenditure has grown from 69 percent of GDP in 2012 to a peak of 117 percent in 2016, before falling back to an average of 97 percent in 2017-2018. First, the authorities cope with extreme volatility by, in so far as possible, staying within a current revenue envelope so in years when receipts were low capital expenditure was under-budgeted, with concomitant widening of the infrastructure deficit. Second, new capital spending items often have a minimum scale that appears disproportionately large in a very small country such as Tuvalu. For example, capital expenditure of 28 percent of GDP in 2017 translated to AUD15 million or US$11.5 million. Much of this expenditure reflects the government’s commitment to addressing high-priority needs; however, some of these programs have high unit costs. Both current and capital expenditures rose in 2016 as a result of post-cyclone recovery costs, but some programs with high unit costs, such as the Tuvalu Medical Treatment Scheme (TMTS), which finances tertiary treatments overseas, have continued on an upward trajectory and persistently exceeded the budgeted allocation. Wages and salaries rose in nominal terms by 15 percent in 2018. While nominal and real wage bill growth is strong, the share of wage bill remained flat at around 25 percent of total expenditures over the past few years. 3

Source: Ministry of Finance, and IMF and World Bank staff estimates.

15. Relatively high inflation has resulted in an appreciation of the Real Effective Exchange Rate (REER). Tuvalu uses the Australian dollar as legal tender. This provides a strong nominal anchor and is justified by the close development, trade

3 Public Service Wage Bill Management in Pacific Island Countries, June 2019.

9

and financial links with Australia. The Real Effective Exchange Rate (REER) appreciated 5 percent in 2017 due to higher food prices, increased transportation costs and expansionary fiscal policies. In contrast the Nominal Effective Exchange Rate (NEER) depreciated due to weakening of the Australian dollar, this has contributed to the increase in fishing revenue as described above. The REER is estimated to have appreciated further in 2018 because of continued, relatively high inflation. 16. The use of the Australian dollar as legal tender remains appropriate. The use of the Australian dollar provides a strong nominal anchor, given the weak institutional capacity that would hinder the establishment of an independent monetary institution. The close development, trade and financial linkages with Australia also justify the use of the Australian dollar as legal tender. The 2018 Article IV concluded that the external position is broadly in line with medium term fundamentals and the use of the Australian dollar remains appropriate. Data limitations inhibited a full external assessment but, despite this, the IMF notes that, based on gross international reserve levels and projections, there is no evidence of external imbalance. 17. The current account, which is driven by volatile income flows from non-residents is estimated to have remained in surplus in 2018 despite a large trade deficit. Like most small island economies Tuvalu relies heavily on imported foodstuffs, retail goods and construction materials, while goods and services exports are small and largely limited to unprocessed fish catch. However, large deficits on merchandise trade and services have typically been offset by strong income receipts from fishing license fees, the .tv domain license fees, as well as by current aid transfers and investment income on the TTF. Remittances have fallen to a negligible level in recent years because of a downturn in the labor market for Tuvalu seafarers on account of increased international competition. The current account surplus was estimated at around 6 percent of GDP in 2017 and is projected to remain broadly at the same level in 2018 but data constraints hamper analysis of the balance of payments: the latest official figures date back to 2012. Reserve coverage remained adequate, an estimated 10 months of imports at end-2018. 18. The banking sector is weak, and credit provides very modest support to growth. Tuvalu’s banking sector comprises only two public banks – the National Bank of Tuvalu (NBT) and the Development Bank of Tuvalu (DBT). Lending growth slowed to 6 percent in 2017, outstanding loans fell to 30 percent of GDP in 2017 (54 percent in 2012) and the loan-to-deposit ratio to 20 percent. Lending is constrained by high NPLs and insufficient risk management, due, in large measure, to an inadequate supervisory framework. NPLs constituted 41 percent of outstanding loans at end 2017, primarily those to the loans to the Tuvalu Electricity Corporation (TEC) and impaired housing loans. The absence of bankruptcy laws is an impediment to the write-off of NPLs and the weak credit culture acts as a deterrent to banks’ willingness to lend. The NBT posted a profit in 2017 and appears to have adequate capital but lending is constrained by both NPLs and, as banker to the government, the need to hold a significant amount of liquid assets to mitigate the potential withdrawal of government deposits. Given the substantial vulnerabilities in the banking sector, which in turn pose a contingent liability to the GoT, the most recent IMF assessments have noted an urgent need to establish a framework of banking supervision to avoid future liquidity constraints and contingent liabilities. The authorities have taken significant steps to set up a supervisory framework over the past year. The Banking Commission is now fully operational, and an international supervision expert has commenced working since October 2018.

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Box 1: Drivers of Fishing License Revenue

Fishing revenue increased substantially over the past few years, rising from 22 percent of GDP in 2012 to 70 percent of GDP in 2016 and 90 percent of GDP by 2018, including receipt of a one-off payment from a sub-regional pooling scheme. Fishing revenues accounted for, on average, 50 percent of total fiscal revenue in the period 2016-2018.

The increase in fishing revenue is the result of increased vessel days from the Parties to the Nauru

Agreement (PNA). The PNA is a regional agreement by seven countries that account for around 30 percent of the world’s tuna supply. In 2007, it implemented the Vessel Day Scheme (VDS) to boost fishing revenue in its member countries. The PNA sets Total Allowable Effort (TAE) each year, i.e. total fishing days in PNA countries, and within this allocation a specific number of fishing days to each country, the so-called Party Allowable Effort (PAE), based on its historical trends and zonal biomass. The PNA set around 45,000 days TAE in 2018 and allocated Tuvalu around 2,100 days PAE. This compared to 877 days allocated to Tuvalu in 2011 and reflected favorable fish movements in Tuvalu waters under El-Nino effects. Countries can trade or pool their PAEs with other country members. Another contributing factor in increased revenues has been an increase in the minimum benchmark price per vessel day to US$8,000 in 2018 from US$5,000 in 2012.

The Tuvaluan authorities allocate the PAE to licensing categories with differentiated pricing. The major licensing categories include bilateral auctions, the US Treaty pool, trading among the PNA countries, the FSM Agreement pool and a sub-regional pooling. The one-off payment in 2018 that boosted Tuvalu's fishing revenue stemmed from its share of accumulated revenue from the sub-regional pool formed by five PNA members in 2012 to collectively auction remaining vessel days in a year.

The shared tuna fishing management mechanisms under regional and international arrangements are complex, making it difficult for individual countries to predict allocations of fishing days in future years and thereby projected anticipated revenue outcomes. Add to this is the unpredictability of the number and type of licenses sold, the value of the catch and exchange rate movements vis-à-vis the U.S. dollar which underpins the international tuna market. Management of fishing revenues within the context of a medium-term fiscal framework would help manage the volatility of these revenues.

Source: Ministry of Finance.

0

5

10

15

20

25

30

35

40

AU

D m

illi

on

Fishing Licence Revenues (AUD mn.)

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Table 1. Tuvalu: Selected Social and Economic Indicators 2015-2022

2015 2016 2017 2018 2019 2020 2021 2022

Est.

Real economy

Real GDP growth 9.1 3.0 3.2 4.3 4.1 4.4 4.2 4.1

Consumer prices (end of period) 4.0 2.6 4.4 4.0 3.4 3.5 3.2 3.0

Fiscal accounts

Expenditure 121.0 157.0 130.2 153.7 140.4 109.0 102.5 100.4

Total revenue and grants 136.0 176.5 144.4 178.1 140.0 109.6 116.0 115.0

Revenues 102.0 145.1 119.8 135.1 91.4 86.1 81.7 82.0

Grants 34.0 31.4 24.5 43.0 48.6 23.5 34.4 33.1

General Government Balance (including grants) 15.0 19.5 14.1 24.4 -0.4 0.7 13.6 14.6

Selected Monetary Accounts

Deposits 1 40 15 .. .. .. .. ..

Credit 1/ 3 13 6 6 5 7 6 6

Balance of payments

Current account balance -53 23 6 5 -1 -11 -12 -12

Imports of goods and services 229 149 153 166 152 151 140 137

Exports of goods and services 14 14 13 12 12 12 12 12

Current transfers (net) 80 68 79 61 76 68 56 55

Capital and Financial account balance 74 5 -2 9 8 8 7 8

Capital transfers (net) 19 23 16 11 11 10 9 9

Gross official reserves (in AUD million) 2/ 57 70 73 81 85 83 79 74

(in months of next year's imports) 9 10 9 10 10 10 9 7

Debt indicators

Public sector debt 57 47 37 28 22 17 8 5

Of which: foreign-currency denominated 53 45 37 28 22 17 8 5

External debt service ratio 3/ 61 52 53 54 43 39 71 29

Exchange rates

Australian dollars per U.S. dollar (period average) 1.33 1.34 1.30 .. .. .. .. ..

End-period 1.38 1.36 1.31 .. .. .. .. ..

Real effective exchange rate (2010=100) 104 108 113 .. .. .. .. ..

Nominal GDP (in millions of Australian dollars) 47 49 53 57 61 66 71 76

Sources: Ministry of Finance, and IMF and World Bank staff estimates

1/ Banks' and pension fund lending to non-government domestic sector

2/ Defined as the sum of foreign assets in the National Bank of Tuvalu, the balance of the CIF, and SDR holdings

3/ In percent of exports of goods and services

Percent of GDP, unless otherwise indicated

Projections

Annual percent change, unless otherwise indicated

Percent of GDP, unless otherwise indicated

Annual percent change, unless otherwise indicated

Percent of GDP, unless otherwise indicated

12

2.2. MACROECONOMIC OUTLOOK AND DEBT SUSTAINABILITY 19. Real GDP growth is projected to remain robust over the medium term. Growth is projected to be on average 4 percent per annum over the medium term, factoring in the implementation of infrastructure projects. However, over the longer-term, limited capacity, weak competitiveness and inefficient state-owned enterprises will act as constraints and growth is projected to slow to around 2 percent per annum. Inflation is expected to moderate to 3 percent per annum in the medium term, and 2 percent in the longer-term, as economic growth gradually slows.

Table 2. Tuvalu: Government Budget 2016-2022

2016 2017 2018 2019 2020 2021 2022

Est.

Total revenue and grants 176.5 144.4 178.1 140.0 109.6 116.0 115.0

Tax revenue 15.1 16.6 14.6 14.2 13.4 12.7 12.7

Income tax 4.3 4.3 5.3 3.8 3.6 3.4 3.6

TCT 2.5 2.7 2.5 2.1 2.0 1.9 1.8

Other taxes (import duties, excise duties, company tax) 8.3 9.6 6.8 8.2 7.8 7.4 7.3

Non-tax revenue 130.0 103.2 120.5 77.2 72.8 69.0 69.2

Of which: fishing license fees 69.6 49.6 89.5 50.3 47.4 44.9 58.6

Of which: .TV domain license fees 13.0 14.8 12.5 11.7 11.0 10.5 10.6

Grants 31.4 24.5 43.0 48.6 23.5 34.4 33.1

Total expenditures and net lending 157.0 130.2 153.7 140.4 109.0 102.5 100.4

Current expenditures 116.5 98.0 96.3 96.2 89.6 84.7 83.5

Wages and salaries 37.2 35.8 38.2 39.5 36.9 35.0 35.0

Goods and services 34.9 11.7 8.4 11.7 11.0 10.5 10.6

Grants and subsidies 7.0 7.8 6.7 6.2 5.8 5.5 5.0

Interest payments 0.1 0.1 0.1 0.1 0.1 0.1 0.1

Capital expenditures and net lending 39.3 30.9 57.4 43.4 18.2 16.6 16.0

Special Development Expenditure 19.4 12.9 13.5 15.7 6.1 5.6 5.6

Infrastructure Budget .. 14.2 29.8 23.0 9.1 8.5 8.4

Other 20.0 3.8 14.0 4.9 3.0 2.5 2.5

Statutory expenditure 0.6 0.7 0.0 0.8 0.8 0.8 0.8

Overall balance (excl. grants) -11.9 -10.4 -18.6 -49.0 -22.8 -20.8 -18.5

Overall balance (incl. grants) 19.5 14.1 24.4 -0.4 0.7 13.6 14.6

Structural balance 14.0 11.6 22.1 -2.6 -2.3 -2.2 -2.3

Primary balance 28.6 21.8 38.8 -4.3 -3.4 -3.0 -3.0

Memorandum items

Total stock of Trust Fund balances 196.5 203.8 221.5 .. .. .. ..

Stock of TTF (AUD millions) 164.6 176.5 179.6 .. .. .. ..

Stock of CIF (AUD millions) 27 22 34 .. .. .. ..

Stock of TSF (AUD millions) 4.9 5.3 8.0 .. .. .. ..

Sources: Ministry of Finance, and IMF and World Bank staff estimates. The data for 2019 are based on the MoF's forecasts as of November 1, 2019.

Projections

(In percent of GDP, unless otherwise indicated)

13

20. The fiscal deficit is expected to widen to 5 percent of GDP over the medium term and 7 percent in the long term. This is predicated on the assumption that fishing revenues will moderate as the El Nino cycle wanes and on a decline in development grant allocations. On the expenditure side, current spending is projected to remain elevated at around 90 percent of GDP and capital spending (infrastructure) to remain in the region of 9 percent of GDP but gradually decline due to limited fiscal space. Following a revenue surplus in 2018 (due to one-off fishing receipt from the sub-regional pool), the post-grant fiscal balance is projected to return to deficit in 2019 and for wide deficits (65 percent of GDP) to remain over the medium term, particularly if fishery revenues decline. Policy measures, such as eliminating exemptions and broadening the tax base, while continuing to improve compliance are expected to support some additional domestic revenue mobilization, but the tax base is narrow and scope for further growth is limited. Similarly, there may be distributions from the TTF, but these are intrinsically tied to market outcomes and therefore unpredictable: distributions from the TTF require the market value of the fund to exceed its maintained value. Development grants will continue to play a critical role in filling financing gaps.

21. Fiscal balance will require containment of current spending and prioritization of capital spending. The anticipated tightening of the resource envelope underscores the need to curb current spending, which is substantial, and to improve spending efficiency. A priority is the overseas medical treatment program, which increased seven times relative to GDP in the past decade and accounts for over half of total healthcare costs. In addition, the authorities intend to keep the public wage bill in check by keeping it flat in nominal terms. Tuvalu needs capital investment to improve growth prospects and climate change resilience, but the scale and pace should align with the economy’s absorptive capacity and be focused on prioritizing high impact projects.

22. Measures designed to strengthen public investment management are being implemented. The Ministry of Finance (MOF), with support from the Pacific Financial Technical Assistance Centre (PFTAC), is developing a multi‐year capital budgeting framework. It is designed to ensure capital spending stays within fiscally sustainable parameters and to smooth implementation of multi‐year projects. It will ensure full compliance with the government’s procurement framework and should minimize the reallocation of surplus and/or unexpended project funds for unplanned purposes. To be fully successful it should be complemented with rigorous project selection and a continuous evaluation process.

23. SOE reforms are also important for fiscal consolidation. Tuvaluan SOEs rely heavily on fiscal support with at present the National Bank the only SOE that pays corporate income tax and disburses dividends. Fiscal support for SOEs is projected to increase to 4 percent of GDP in the medium term, given below-cost tariffs, infrastructure upgrades, and capital injections into the banking sector. Strengthening SOEs’ financial performance is critical to containment of the risk of contingent spillovers to the budget. Priorities include addressing outstanding payment obligations, improving electricity tariff schemes, strengthening the transparency of fiscal support, and close monitoring of the financial performance of joint ventures.

24. Climate change is expected to impose additional long-term fiscal costs. Tuvalu is situated in the Pacific ring of fire and is prone to natural hazards such as tropical cyclones and king tides. Climate change will exacerbate the impact of these natural hazards, in particular rising sea levels, leading to higher structural and cyclical fiscal costs. The Pacific Catastrophe Risk Assessment and Financing Initiative (PCRAFI) estimates that on average, Tuvalu should expect annualized disaster‐related losses and damages of 2 percent of GDP. Tuvalu is undertaking reforms to improve resilience to shocks the costs associated with mitigation and disaster response are very large, relative to the size of the economy and may necessitate higher developmental assistance. 25. The current account is projected to record a deficit over the medium-term. Tuvalu is heavily dependent on imports of goods and services, while exports are small and limited to unprocessed fish catch. The deficit in goods and services is largely offset by inflows of income, such as fishing license and other fees and development grants. Current transfers to the government, primarily budget support grants, are projected to rise in 2019, then decline slightly.

14

Remittances are small, but the employment outlook for Tuvaluans has improved with the opening of the Australian seasonal labor scheme for the service industry. International reserves are projected to remain over the medium term, at around 10 months of import cover. 26. Public debt-to-GDP is on a downward trajectory, but the risk of debt distress remains high. All public debt obligations, defined to include publicly-guaranteed debt, are to external creditors. Most of these obligations are non-concessional and relate to fishing joint ventures established by the National Fishing Corporation of Tuvalu (NAFICOT) with Asian companies and guarantee by the government, thus constituting contingent liabilities. The government’s direct obligations are concessional and small. Bilateral donors provide only grant assistance as do most international financial institutions, including IDA. 27. The most recent joint IMF-WB Debt Sustainability Analysis (DSA) of June 2018 classifies Tuvalu’s risk of debt distress as high, unchanged from the 2016 assessment. External debt breached several thresholds at end 2017, including the present value of debt-to-GDP-ratio and the debt-to-export and debt-service-to-export ratios, although the latter are not very meaningful indicators for Tuvalu given that external income is almost entirely in the form of fishing license fees and not export receipts. Over the medium-term, debt-to-GDP is projected to continue to decline as existing loans are amortized, through drawdowns from the CIF, and new borrowing is kept to a minimum. After large one-off repayments in 2021 in respect of a Korean joint-venture fishing vessel debt-to-GDP is projected to fall to 4.7 percent. Over the long-term however, the baseline scenario projects increased public debt due to a combination of factors, i.e. elevated current spending and concomitant erosion of fiscal buffers to below prudent levels (e.g. three months of current expenditures), a decline in fishing revenues and a steady decline in donor grants to zero by 2032. Borrowing is assumed to be all external as the weak banking sector precludes the option to raise financing in the domestic market. 28. Outcomes under alternative scenarios include natural disasters, a sharp decline in fishing revenue, and on the upside, sustained donor support:

• Natural hazard shock. In this scenario, a cyclone in the Pacific is assumed to impact Tuvalu in 2028. The magnitude of the cyclone is assumed to be similar to that of Cyclone Pam, with damage of near 30 percent of GDP. Under this hypothetical scenario, recovery and rehabilitation programs would widen the fiscal deficit to 10 percent of GDP in 2028, compared to a deficit of 6 percent of GDP in the baseline. The increase in the fiscal deficit is partly mitigated by an increase in donor aid and a drawdown of the Tuvalu Survival Fund, which is projected at 18 percent of GDP at end-2027. The fiscal deficit increases slightly in the following years to 12 percent of GDP in 2029 and 11 percent of GDP in 2030, as the government repairs infrastructure damages. The higher fiscal deficits would accelerate the depletion of fiscal buffers, causing the present value of debt-to-GDP to breach its threshold earlier than in the baseline.

• Fishing revenue shock. In this scenario, fishing revenue is assumed to decline sharply from 2028-32 due to changes in weather patterns. As a result, fishing revenue is assumed to fall to 40 percent of GDP (the average of three recent years), widening the fiscal deficit to 15 percent of GDP. The impact would be substantial, draining fiscal buffers and increasing the present value of debt-to-GDP such that it would breach its threshold earlier than in the baseline.

• Positive grant shock. In this upside scenario, grants are assumed to remain high on favorable global economic and financial conditions. Grants are projected to remain at 18 percent of GDP (the average of grants in the past four years in absolute amount) from 2019 onwards. Debt-to-GDP would remain well below its threshold.

29. Alternate scenarios show the debt trajectory is vulnerable to fishing revenues and natural disaster shocks

15

either or both of which would accelerate the depletion of fiscal buffers. On the upside, when donor grants are projected at 18 percent of GDP (their average level over the past four years) from 2019 the debt-to-GDP ratio remains below its threshold throughout the projection period. In both the baseline and alternate scenarios, the debt service-to-export and debt service-to-revenue remain well below their indicative thresholds, as external borrowing is assumed to be all on concessional terms with extended grace periods, long maturity, and favorable interest rates. Source: Joint IMF - World Bank Debt Sustainability Analysis (DSA) 2018. 30. Risks to the macroeconomic outlook are substantial. The medium-term outlook for the economy is broadly positive but there are downside risks. These stem from the country’s geographic position, heavy dependence on foreign aid, and volatile fishing revenues, a weak and under-regulated banking system and high NPLs. Although fishing license fees have been strong in recent years this revenue stream is inherently volatile and could decline significantly in future due to higher fuel costs, unfavorable weather conditions or factors that undermine the regional tuna management scheme. Negative dynamics in global financial markets would have an adverse impact on returns to the TTF while higher-than-expected prices for imported food and fuel would have a significant impact on inflation, growth and poverty. On the external front, commodity price shocks could impact domestic prices given the extent, which consumption relies on imported goods, particularly food and fuel. Global or regional economic downturns could yield a shock to Tuvalu’s remittance flows and may create an uncertain aid environment. 31. The macroeconomic policy framework is adequate for this operation. The government has achieved fiscal surpluses arising from record-high fisheries revenue in recent years, which have been prudently saved. The combined “contingencies/savings” funds are close to 400 percent of GDP. The maintenance of ample fiscal buffers in the CIF, along with the avoidance of new debt commitments, supports the GoT’s capacity to deal with shocks in the future. The Government is now focused on reigning in overseas medical treatment spending, which has been rising fast in recent years. The proposed DPO and dialogue with development partners is expected to assist Tuvalu in reducing this specific spending pressure. Potential contingent liabilities risks from high NPLs in the banking sector are being managed as significant steps are taken to set up a supervisory framework and get the Banking Commission fully operational. Going forward, a variety of risks are likely to present themselves over the medium and longer-term in Tuvalu, in an inherently vulnerable context, as described above. Adequate foreign exchange reserves and a significant fiscal buffer afford an ability for the government to manage these shocks. In the event of shocks of significant magnitude, continued willingness of development partners to provide assistance will be crucial to finance recovery expenditure while enabling Tuvalu to maintain its commitment to long-term fiscal sustainability via effective management of the TTF and related

Figure 6: PV of Debt-to-GDP Ratio Figure 7: Debt Service-to-Revenue Ratio

16

trust funds.

32. Tuvalu is in the fourth year of its National Strategy for Sustainable Development 2016 - 2020 (Te Kakeega III), with the overarching theme: protect and save Tuvalu; and improve the quality of life and prosperity for all. The TK III’s vision is that of a healthier, more well-educated Tuvaluan who will build resilience to Tuvalu’s unique vulnerabilities and: (i) better respond to global economic and environmental crises; (ii) increase the proportion of the work force employed in the formal economy and real household income; (iii) increase the number of people educated and trained in skills appropriate to higher earning potential; and (iv) provide better protection against land loss and erosion and more effective extraction of marine resource rents. The TK III covers 12 thematic areas, which are: climate change; good governance; the economy; health and social development; outer island development; private sector, employment and trade; education and human resources; natural resources; infrastructure and support services; environment; migration and urbanization; oceans and seas. 33. Climate Change and Disaster Resilience is the first strategic area of the Te Kakeega III. TK III highlights this strategic area because it poses the most serious threat to the security and survival of Tuvalu, and the impacts of natural hazards and climate change overhang the entire discussion of future development and cut across Tuvalu’s development landscape. Accordingly, Tuvalu’s Climate Change Policy (2012-2021) articulates the country’s strategic priorities to achieve TK III’s resilience objectives, and includes the following goals: (i) strengthening adaptation actions to address current and future vulnerabilities; (ii) enhancing Tuvalu’s capacity to access and manage financing to mitigate and adapt to climate and disaster risks; and (iii) developing and maintaining Tuvalu’s infrastructure to withstand climate change impacts and disaster risks. TK III highlights that building resilience against climate change will require Tuvalu to invest annually around 2 percent of GDP to build the country’s adaptive capacity, primarily by climate-proofing critical infrastructure, which will require not only large up-front capital, but also long-term maintenance costs. Likewise, although the focus of Tuvalu’s Nationally Determined Contribution under the Paris Agreement is on mitigation, recognition of Tuvalu’s vulnerability to the impacts of climate change underpin adaptation actions in the National Adaptation Plan of Action. Te Kaniva (Tuvalu’s Climate Change Policy) 2012-2021 further identifies strategic policies and thematic goals for climate change adaptation and mitigation of risks, linked to the National Strategic Action Plan for Climate Change and Disaster Risk Management. Te Kaniva emphasizes the important role of resilient infrastructure in withstanding impacts of climate change and mitigating disaster risks. 34. The Tuvalu National Strategic Action Plan for Climate Change and Disaster Risk Management (NSAP) established the actions, responsible agencies, implementation arrangements, and monitoring & evaluation of the strategic priorities articulated in TK III and Tuvalu’s Climate Change Policy. Based on Tuvalu’s climate change and disaster risk context, the NSAP has seven thematic goals: (i) Strengthening adaptation actions to address current and future vulnerabilities, (ii) Improving understanding and application of climate change data, information and site specific impacts assessment to inform adaptation and disaster disk reduction programmes, (iii) Enhancing Tuvalu’s governance arrangements and capacity to access and manage climate change and disaster risk management finances, (iv) Developing and maintaining Tuvalu’s infrastructure to withstand climate change impacts, climate variability, and disaster risks, (v) Ensuring energy security and a low carbon future for Tuvalu, (vi) Planning for effective disaster preparedness, response and recovery, and (vii) Guaranteeing the security of the people of Tuvalu from the impacts of climate change and the maintenance of national sovereignty. 35. The National Disaster Management Act of 2007 (revised in 2008) is the fundamental legislation in Tuvalu relating to disaster management. It provides for the management of the pre- and post-effects of natural disasters, the institutional framework and plans and procedures for disaster management, such as the implementation of contingency plans, early warning systems, and communication protocols. The National Disaster Management Act created the

3. GOVERNMENT PROGRAM

17

National Disaster Committee (NDC), which functions as an advisory and coordination body for disaster mitigation, preparedness, response and recovery. The Tuvalu National Disaster Plan defines the actions to be taken to deal with disasters in Tuvalu, including setting out roles and actions to be taken by government and non-government agencies. During the declaration of state of emergency, the Chair of the National Disaster Committee can recommend to Cabinet actions which may be necessary under the National Disaster Plan.

36. The proposed operation supports policy reforms under three pillars, namely to: (i) strengthen public financial management; (ii) enhance infrastructure management, and disaster- and climate-resilience; and (iii) improve social protection and inclusion in education. 37. The first pillar on strengthening public financial management is closely aligned with three goals of Te Kakeega III: (i) Goal 3: The Economy Growth and Stability (ii) Goal 2: Good Governance and (iii) Goal 4: Health and Social Development. Goal 3.2 of TK III supports prudent management of the macroeconomic status of the economy. TK III Goal 2.2 emphasizes that public sector expenditure needs to be contained at a manageable level and within the Parliament-appropriated level. TKIII Goal 4 Health and Social Development program supports the government’s review of the policy related to its overseas referral programme.

38. The second pillar on enhancing infrastructure management and resilience is directly linked to Goal 9 of Te Kakeega III: to provide efficient, high quality infrastructure and support services. This Goal recognizes that new infrastructure and better management of existing infrastructure will play a central role in disaster risk reduction (DRR) and climate change adaptation (CCA). TK III commits to aggressive DRR and CCA measures that include: (i) enacting and enforcing appropriate building codes, (ii) upgrading existing infrastructure, and (iii) creating new, climate-proofed infrastructure and coastal works that protect foreshores, prevent permanent shoreline loss and prolonged coastal inundation, thereby minimizing damage to life and property. Similarly, Tuvalu’s Climate Change Policy (Te Kaniva) 4th goal is “developing and maintaining Tuvalu’s infrastructure to withstand climate change impacts, climate variability, disaster risks, and climate change projection”. Te Kaniva recognizes that strengthening infrastructure is essential, as it is the lifeline the people of Tuvalu use for transportation, communication, the movement of goods, and the means of accessing economic opportunities and social services. Strengthened buildings can also be used as shelters during disasters or emergencies and Te Kaniva recognizes the risks associated with infrastructure that is not built to disaster-resilient standards. The Government, through TK III and Te Kaniva have committed to strengthening resources in the event of immediate impacts from climate change or disaster recovery while building resilience over the longer-term. 39. The third pillar on improving social protection and inclusion in education is closely aligned with Goals 4 of Te Kakeega III on Social Development. Specifically, this pillar is closely aligned with Goal 4.9 Social adaptation, 4.12 Poverty, 4.13 Unemployment, 4.14 Community Affairs and 4.16 Gender. Under these goals, the government recognizes the acceleration of social change in the context of Tuvalu and commits to adapt and establish policies to improve identification, coordination and targeting assistance to the poorest and most vulnerable population. 40. The availability of predictable contingent financing through the proposed CAT-DDO would supplement existing post-disaster funding arrangements. TK III highlights that the cost of disaster impacts is well beyond Tuvalu’s financial means. Even minor emergencies can have a crippling effect on the national economy, as evidenced by Cyclone Pam, for which the damage and loss was more than 25 percent of GDP (under an assessment that included only the

4. PROPOSED OPERATION

4.1. LINK TO GOVERNMENT PROGRAM AND OPERATION DESCRIPTION

18

agriculture, fisheries, and infrastructure sectors). TK III also underscores that investments in DRR are crucial to build resilience over the longer term. Given the increasing risk from disasters and variability of impacts of climate-related hazards, the Government of Tuvalu is also pursuing more explicit DRR and prevention policies and regulations.

41. The design of this operation reflects experience from previous CAT-DDOs implemented since the instrument was introduced in 2008. Key lessons from Implementation Completion and Results (ICR) Reports and Independent Evaluation Group Reviews (Guatemala, Colombia, the Philippines, El Salvador, Peru and Sri Lanka) include the following: (i) the trigger should be closely aligned with the country’s DRM legislation and public financial management in post-disaster situations; (ii) CAT-DDOs provide an entry point to engage in key sectors to further advance the disaster risk reduction agenda, and (iii) mechanisms to improve the utilization of post-disaster resources in a timely manner are crucial to support effective recovery. Lessons from IEG reports highlight the need to: (i) avoid monitoring and evaluation (M&E) frameworks with too many result indicators; and (ii) prioritize policy areas and actions closely related to project objectives.

42. Proposed CAT-DDO drawdown trigger and Renewal Conditions. The proposed drawdown trigger is governed by the National Disaster Management Act of 2007 [Cap. 20.38]. The Act defines a disaster as the actual or imminent occurrence of an event which endangers or threatens the safety or health of any communities or persons in Tuvalu, or which destroys or damages, any property in Tuvalu. The Act further provides that the Head of State (acting in accordance with the advice of the Prime Minister) may by proclamation declare that a state of public emergency exists in Tuvalu, or in a part of Tuvalu, if circumstances of a disaster: (1) appear likely to become beyond the scope, provisions and resources of the National Disaster Plan4; (2) exceed the capabilities of the affected community to deal with the disaster. In view of the relevant provisions of the laws described above, the proposed drawdown trigger for this operation is as follows:

In response to a Natural Disaster,5 the Recipient’s Head of State has declared, in accordance with the Recipient’s applicable law, that a State of Public Emergency exists in the Recipient’s territory, or in part of the Recipient’s territory in relation to such Natural Disaster.

43. The key features of the CAT-DDO are the drawdown period and renewal. The drawdown period for the CAT-DDO component will be three years. The drawdown period may be renewed once, for a maximum of six years in total. The adequacy of the macroeconomic framework and implementation of reforms will be considered as a condition for renewal. 44. The design of the DPO component was informed by lessons learned from the implementation of development policy operations in Tuvalu. The proposed operation draws on lessons from previous DPOs in Tuvalu and other Pacific island countries that recognize capacity constraints, selectivity, and continuous engagement in policy dialogue. The design of the program is based on a small number of critical, government-led reforms, underpinned by coordinated budget support from budget support partners. Given the thin administrative capacity, dependence on technical assistance for many reforms and high exposure to external shocks, flexibility to adjust the reform program (including the flexibility to adjust indicative triggers) is important to ensure multi‐year reform programs remain relevant and informed by the latest evidence. Furthermore, development partner engagement has assisted the GoT to clarify and sequence reforms and continues to provide momentum to implement them, including through technical assistance provided by the ADB (Prior Action 2), the Pacific Region Infrastructure Facility and ADB (Prior Action 3), ADB (Prior

4 The National Disaster Plan gives the National Disaster Center (NDC) responsibility for providing a full report on the impact of the disaster to the Cabinet. The Cabinet, at the recommendation of the NDC, determines the need for international assistance, if any. 5 For the purpose of this operation, a natural disaster means an imminent or occurring emergency situation arising from a cyclone, flood, storm, tsunami, drought, earthquake, volcanic eruption, plague or epidemic, or any other natural hazard that requires the Recipient to promptly mobilize its capacity and/or financial resources.

19

Action 4), and the EU (Prior Action 5).

45. The proposed program supports policy reforms under three pillars: (i) strengthen public financial management; (ii) enhance infrastructure management, and disaster- and climate-resilience; and (iii) improve social protection and inclusion in education. Pillar 1: Strengthen public financial management 46. The first pillar of the proposed operation support Government’s efforts to strengthen Tuvalu’s public financial management. Reforms to improve Tuvalu’s public financial management under this pillar are focused on containing expenditures, specifically by reduction in total costs of overseas medical treatment costs; and on regulating public procurement to maximize efficiency; bring transparency to procurement proceedings; promote competition among suppliers, contractors, consultants, and non-consulting service providers; and improved value for money. These two aspects of public financing management have been identified as a priority because: (i) expenditures on the Tuvalu Medical Treatment Scheme rose 43 percent over the past two years, to a record 12 percent of GDP in 2018, the highest ratio in the Pacific; and (ii) procurement has been recognized as an area of significant weakness in public financial management. The GoT has been implementing a procurement reform plan since 2012, supported by ADB and significant progress has been made. In March 2019, the Cabinet endorsed additional procurement guidelines and procedures, specifically: (i) a Procurement Manual; (ii) a Procurement Complaint Mechanism; and (iii) Debarment Procedures. The focus of the support under this pillar is to operationalize these guidelines and procedures.. Prior Action 1: The Recipient, through its Cabinet, has established the Tuvalu Medical Treatment Scheme (TMTS) Review Committee and directed the TMTS Review Committee to develop a draft policy to reduce overseas medical treatment costs. 47. Pacific Island Countries (PICs) are naturally bound by their small size, small economies, limited qualified medical specialists, poor medical technology, and weak health infrastructure. The total number of patients requiring specialized care is low compared to developed countries, making the unit costs of provision very high. PICs are also amongst the most geographically isolated countries in the world which makes access to markets, communication, and transportation both difficult and costly, thus countries in the Pacific face a serious trade-off in terms of where to put their health dollar. Tuvalu, like most PICs, has adopted a three-pronged approach for the provision of specialized clinical services. The first approach is to provide specialist clinical services within the country using domestic health resources but this is challenging because of the country’s very small size. The second approach is to import specialist clinical services into the country through Visiting Specialist Medical Teams (VSMT). The third approach is to utilize the clinical specialist services outside the country through the TMTS. 48. Expenditures on the Tuvalu Medical Treatment Scheme have increased annually and are projected to continue to do so over the medium term due to an aging population and the rising incidence of Non-Communicable Diseases (NCDs). Actual expenditures of the TMTS increased by 43 percent between 2016 (and 2018. In 2018, Tuvalu spent AUD6.591 million on its medical treatment scheme versus AUD4.606 million in 2016. This accounted for 74 percent of its total health expenditure on 215 patients, about 2 percent of the population (See Figure 8). Hospital and specialist fees accounted for the largest proportion of costs (68 percent), with airfare and accommodation accounting for 24.8 percent of the total overseas medical treatment costs. The average cost per patient ranged from AUD7,915 for renal patients to AUD81,487 for oncology patients.

4.2. PRIOR ACTIONS, RESULTS AND ANALYTICAL UNDERPINNINGS

20

49. Cost overruns in the TMTS pose a challenge to the Ministry of Health’s ability to maintain effective health services in the country. The revised budget allocation for the TMTS in 2018 was AUD3.930 million resulting in a 67 percent overspending on the TMTS. An additional budget of AUD1.5 million has been allocated for the TMTS in 2019, bringing the total budget allocation to AUD5.0 million, equivalent to 41 percent of the total health sector budget. Maintaining a balance between expenditure on preventive and curative or tertiary care will be crucial if overseas medical treatment is to remain as one of the key means of implementing universal health coverage.

50. Spending on overseas medical treatment as a percentage of GDP in 2017 was 12 percent in Tuvalu compared to an average of 1.84 percent across other Pacific Island Countries. Tuvalu had the highest spending on overseas medical treatment as a proportion of GDP across 11 pacific island countries (PICs) (See Figure 9). Nauru, a similar sized island country spent about 3.4 percent of its GDP on overseas medical treatment in 2018. While all PICs are experiencing increasing costs and facing issues of equity and sustainability, a recent WHO study6 found that Fiji and Tonga have managed to control costs of overseas medical treatment largely through stringent budget controls.

6 WHO, 2018. Mapping of OMRS and VSMT in Pacific Island Countries: A Pathway for Regional Cooperation towards UHC.

Figure 8: Number of Patients Referred for Overseas Medical Treatment (2018)

Source: TMTS Summary Report (2018).

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51. A review committee has been established to revise the existing TMTS policy. The committee has been directed by Cabinet to: (i) review the existing (2014) TMTS policy; (ii) identify areas for change, improvement and determine appropriate exclusions or inclusions; (iii) establish control mechanisms for operationalizing the policy; (iv) map out an agreed process for finalizing the revised policy and; (v) agree on a reporting regime for the policy. The committee has also been directed by Cabinet to formulate comprehensive guidelines aimed at improving the overall management of the TMTS and ensuring stronger governance arrangements with respect to overseas medical referrals. Key considerations of the committee will include: (i) membership of the overseas medical referral committee; (ii) setting caps on the number of patients referred; (iii) determining an appropriate cap on budgetary allocations for the TMTS; and (iv) negotiating close-ended treatment packages with providers and revision of allowances and entitlements. The Terms of Reference for the Review of the Tuvalu Medical Treatment Scheme Committee state that, membership of the committee will be based on merit, taking into account constituency, experience and level of expertise. Representation on the committee will also be reflective of the wider Tuvalu society and as diverse as possible taking into account gender and other special interest members of society. The indicative trigger for the next operation is the Cabinet approval of the revised TMTS policy. 52. Expected results: The expected result of this prior action is a reduction in spending on overseas medical treatment as a percentage of GDP. Baseline (2017): 12 percent. Target (2022): 9 percent.

Prior Action 2: The Recipient, through its Cabinet, has approved: (i) the Public Procurement Manual; (ii) the Procurement Complaints and Appeals Rules of Procedure; and (iii) the Procurement Suspension and Debarment Procedure.

53. Public procurement has been a high priority for the government, and its inclusion in the Policy Reform Matrix (PRM) of 2012 led to significant progress. From 2012 to 2014, ADB supported the adoption of the 2012 National Procurement Policy, the Public Procurement Act 2013, and the Public Procurement Regulations 2014. Collectively they regulate public procurement to: (i) maximize efficiency; (ii) achieve transparency in procurement proceedings; (iii) promote competition among suppliers, contractors, consultants, and non-consulting service providers; (iv) provide for fair, equal, and equitable treatment of all those seeking to obtain contracts with the government; and (v) promote public

Figure 9: Overseas Medical Treatment Costs as a Percentage of Current GDP (%)

RMI: Marshall Islands; SI: Solomon Islands Source: World Development Indicators.

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confidence in the integrity and fairness of procurement proceedings. The central procurement unit (CPU) was established in 2015 to ensure that government resources were being used effectively and standard bidding and other documents were developed for use by procurement practitioners. The CPU’s annual reports include data for major procurements, including the size of procurement and the number of competitive bids and direct contracting. The development of the CPU annual report has served to further strengthen public procurement governance and procurement implementation measures across Government continue. With the adoption of the Policy, Act and Regulations, the procurement system has been operating effectively, where the proportion of Major Procurement7 through competitive bidding has been increasing and in parallel the proportion of direct contracting has been decreasing in the years of 2015 to 2017, as indicated in the CPU annual reports. In March 2019, the Cabinet endorsed additional procurement guidelines and procedures, specifically: (i) a Procurement Manual; (ii) a Procurement Complaint Mechanism; and (iii) Debarment Procedures. As part of the overall legislation, these guidelines and procedures apply, on a mandatory basis, to all procurement activities carried out by GoT. During the lifetime of the operation, Tuvalu intends to seek complementary technical assistance to develop emergency (post-disaster) procurement provisions to supplement the procurement guidelines and procedures, in line with Regulation 21 (1) (b) of the Public Procurement Regulations 2014, which makes reference to procurement “in exceptional or unforeseeable cases, for example where extreme urgency is required such as in response to a calamity or natural disaster”. Such provisions would enable more timely utilization of post-disaster funds for more effective short- to medium-term recovery and restoration of critical services to affected people.

54. The objective of the Procurement Manual is to guide staff of the GoT through the public procurement process now mandated in law. The manual is an important part of the overall reform of the procurement system for the country as it will enforce the implementation of the policy, act and regulations, which were unable to be effectively implemented without the “how” provided by the manual. It is designed as a hands-on, step-by-step guide on how to undertake the various procurement transactions that the procuring entities will encounter. As such it is a detailed guide for implementing the Public Procurement Policy Act and Regulations.

55. Procurement Complaint Mechanism aims to promote public confidence in the integrity and fairness of procurement proceedings, especially for private sector participation in competition for contracts from the Tuvalu Government. The current Public Procurement Act and Procurement Regulation mandate the Central Procurement Unit to prepare this mechanism for the Minister to issue, thereby making the public procurement system comprehensive. 56. Debarment Procedures aim to ensure integrity and improve performance of the procurement system. Debarment procedures, alongside complaint handling, provide vital confidence to bidders to participate in procurement activities. The Public Procurement Regulations of Tuvalu, under Regulation 70, provide for suspension or debarment for a period not exceeding two years of a bidder or person found to have willfully breached the Regulations or to have engaged in fraudulent acts during procurement or execution of a contract, and mandate the Central Procurement Unit to issue the detailed procedures. Regulations and other procurement documents referring to reasons most relevant to debarment include, but are not limited to: (i) Regulation 33 (5) – evidence of integrity; (ii) Regulation 67 – fraud and corruption; (iii) Regulation 70 (4) and (5) – reasons for suspension and debarment; (iv) Declaration of Ethical Conduct – included in all Major Procurement bidding documents; (v) Zero tolerance of fraud and corruption – Government of Tuvalu (GoT) policy stated in all Major Procurement Conditions of Contract. The Suspension and Debarment Procedure is an administrative process. It is not a substitute for legal process which, in serious cases, may be pursued by the Government of Tuvalu separately from suspension and debarment. 57. Expected results: The expected result of this prior action is an increase in level of competition - average percentage of major procurement (value) through competition. Baseline (2015-2017): 47 percent. Target (2020-2022): 55 percent.

7Major Procurement is defined as “exceeding AU$5,000” in the Public Procurement Regulations 2014.

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Pillar 2: Enhance Infrastructure Management and Resilience 58. The second pillar of the proposed operation aims to address some of the key issues identified in the Tuvalu Climate Change Policy, specifically: (i) infrastructure not built to the appropriate and relevant standards and that does not incorporate climate projections into its design; (ii) a building code that is difficult to enforce because it lacks the enabling legislation; (iii) poorly located and designed coastal protection and roads resulting in increased coastal erosion and inundation; and (iv) poor waste management that contributes to environmental degradation and emissions. The probabilistic catastrophe risk assessment conducted in 2010 estimated the replacement cost of exposed assets in Tuvalu -- including buildings (public and private), as well as infrastructure (ports, airports, roads, bridges) at US$268 million (with approximately 85 percent of this amount representing buildings and 14 percent infrastructure). It is also estimated that over a very long term, tropical cyclone loss exceeding US$1.4 million (equivalent to 4.4 percent of 2010 GDP), and losses from earthquake and tsunami exceeding US$4.2 million (equivalent to 13.1 percent of 2010 GDP) have a 1 percent chance of occurring in any given year. Reducing the risk of these potential losses will depend primarily on developing and maintaining Tuvalu’s buildings, infrastructure, and assets to withstand climate change impacts and disaster risks. The expected outcome of the reforms included in the second pillar is strengthening of the regulatory and institutional capacity to manage both public and private assets and increase the disaster and climate resilience of infrastructure, buildings, and housing, and to address issues of waste management that is contributing to environmental degradation. Prior Action 3: The Recipient, through its Cabinet, has approved the Tuvalu Asset Management Framework. 59. The Tuvalu Asset Management Framework (TAMF) has been developed to ensure that the public sector infrastructure assets in Tuvalu deliver their intended functions throughout the assets’ service life with economic efficiency, without compromising public health and safety. The TAMF applies to all physical infrastructure with individual asset value greater than US$10,000, owned by the Government of Tuvalu, municipal government (kaupule), and major public sector enterprises. The classes or categories of infrastructure assets under the TAMF include buildings, water and sanitation, coastal protection, roads and other transport infrastructure. Infrastructure asset management in Tuvalu presents some very unique and difficult challenges with significant implications related to disaster- and climate-resilience, including the following:

i. The NSAP identifies the following climate change-related impacts: (i) projections for all emissions scenarios

indicate that the average annual air temperature and sea surface temperature in Tuvalu will increase, up to the range of 0.4-1.0°C by 2030; (ii) the majority of the global climate models project an increase in average annual and seasonal rainfall around Tuvalu over the course of the 21st century; (iii) extreme rainfall is likely to occur more often; and (iv) the sea level is expected to continue to rise: under a high emissions scenario, in the range of 4-14cm by 2030 and in the range 19-58cm by 2090. The 2018 IPCC Report further indicates threats to fresh water supply due to saltwater intrusion into groundwater reserves as a consequence of coastal flooding.

ii. With the maximum land elevation in Tuvalu at only 4.5 MASL, assets are exposed to coastal erosion, as well as frequent tidal and wave-related flooding. Tropical cyclones can cause storm surge and wind damage, while recent droughts and ongoing saltwater intrusion have further constrained already limited fresh water supplies. In March 2015, the storm surge associated with Cyclone Pam resulted in waves of 3 to 5-meter height, causing extensive damage to buildings and infrastructure and contaminating fresh water supplies.

iii. The asset operating environment in Tuvalu is exceptionally harsh. Unless suitable mitigation measures are built into asset design, operation, and maintenance, infrastructure will degrade rapidly. Because of the low elevations and narrow land masses of the islands, assets are subjected to near-constant wave over-wash. Combined with high mean ambient temperatures, this results in accelerated metal corrosion and asset aging, and contributes to significant structural vulnerability and degradation of most of the country’s infrastructure.

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60. For each asset class covered by the Asset Management Framework, guidelines (supported by the Pacific Region Infrastructure Facility and the ADB) are provided for: (a) assessing vulnerability of assets to extreme climate events and (b) improving the resilience of assets to climate change through asset renewal as well as during planned asset maintenance. The approach is for improved site selection and design for new assets, combined with climate- and disaster-risk informed asset maintenance for ongoing risk reduction. 61. The risk-based asset management strategy employed in the TAMF is based on the risk of assets’ failure, indicated on a numeric scale of 1 to 100 and is referred to as the “asset health index”. Asset health index is based on three simple and practical metrics – service level Index (representing the assets’ historic performance over recent years), physical condition index (representing assets’ current physical condition) and the climate change venerability index (representing the risk of assets’ sudden failure due to a climate change induced event). The TAMF provides simple guidelines for these assessments. Based on the replacement cost of exposed assets in Tuvalu (paragraph 58), the TAMF is a fundamental reform to minimize the need to prematurely replace assets (through better planning and preventive maintenance). 62. Expected results and outcomes. The TAMF aims to improve asset performance and resilience, and extend assets’ service life, including by:

i. building sufficient resilience in infrastructure design to reduce vulnerability to natural hazards and climate

change impacts, throughout the full life cycle of the fixed asset; ii. monitoring asset condition through simple, practical and low-cost techniques and taking prompt corrective

action when needed, to prevent asset deterioration; iii. replacing the current reactive maintenance strategy with a planned preventative maintenance program, to

avoid asset failures in service, thus extending asset life; iv. maintaining adequate records to allow benchmarking of assets’ performance and creating institutional

memory; and v. adopting an objective, risk-based approach for prioritizing investments, based on recent asset performance,

current structural condition, and vulnerability to sudden failure due to a natural disaster or climate change impact.

63. The asset investment plans would: (i) be based on the climate change vulnerability assessment and asset resilience index prescribed as part of the TAMF; and (ii) lay out annual activities and financial planning, and stated performance objectives. The Asset Investment Plans are intended to be implemented over a period of five to ten years, based on the use of indices to express the condition and climate vulnerability of assets, which allows for tailored levels of investment and progressive implementation. The scope would be limited to the classes of assets that involve the largest expenditures, have the highest capital values, and are most vulnerable to the impacts of natural disasters and climate change, such as buildings, roads, water and sanitation, and coastal protection. Monitoring of the proposed Result Indicator would not be at the individual asset level, but by major classes of assets, as different agencies would be responsible for each asset class (focusing on the key assets in the portfolio of each agency). Cabinet approval of the TAMF requires all infrastructure asset managers, including the public sector departments and enterprises as well as municipal governments to follow the asset management procedures. The indicative trigger for the next operation is the development of asset investment plans based on disaster and climate vulnerability. 64. The Tuvalu Asset Management Framework is composed of systematic and coordinated activities, practices, and work procedures. The Secretary of Finance and the Secretary of Public Utilities are jointly responsible for the implementation of the TAMF, including ensuring that: (i) responsibilities are assigned, (ii) adequate resources are allocated, and (iii) operating departments are held accountable, to perform all tasks specified in the Operational Procedures. Monitoring of the proposed Result Indicator would be by major classes of assets, as different agencies would

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be responsible for each asset class (focusing on the key assets in the portfolio of each agency), through submission of cost estimates for infrastructure maintenance and renewal to the Ministry of Finance for inclusion in the national budget.

Result Indicator. Asset investment plans (based on disaster and climate vulnerability) under implementation for selected asset classes. Baseline (2018): 0. Target (2022): 3 asset classes.

Prior Action 4: The Recipient has enacted and published the Building Act 2019 to improve the quality of buildings.

65. As the scale, frequency, and severity of natural hazards continue to rise, so too will future expected losses in the built environment of Tuvalu. Building code implementation has a crucial role to play in disaster risk reduction but until recently it has not received adequate attention. This prior action supports a shift in focus from managing disasters to addressing the underlying drivers of physical risk. Reducing risk to buildings (particularly dwellings) is crucial to saving lives and protecting communities, and more resilient buildings and dwellings are fundamental to the safety of occupants during tropical cyclones. They would also contribute to protecting households’ assets, particularly among the poor and vulnerable. Poor households often invest their savings in incremental housing construction. Thus, a single structural failure or natural disaster can destroy not only a building, but also a household’s entire savings. 66. A draft Building Code was first published in Tuvalu in 1990 as part of an Australian Government-led Pacific Buildings Standards Project. Although a Code was developed, no enabling legal framework for its implementation was ever passed and without a Building Act, the Code lacks the force of law. This absence of enabling legislation has impeded the establishment of systems for regulatory implementation, and the designation of the related public and private responsibilities, for incorporating resilience into Tuvalu’s built environment. The basic objective of the 1990 Code was to ensure that acceptable standards of structural sufficiency, fire safety, health and amenity, were maintained. A new Building Act 2019 became effective on July 1, 2019, and places special attention on disaster risk reduction and climate change impacts by:

i. setting a raised platform datum for all new buildings, thereby elevating them to reduce flood exposure,

ii. providing minimum standards and guidance for rainwater harvesting for residential buildings, iii. formulating regulations for two categories of building protection: (a) general buildings will be required to have

levels of protection appropriate for Category 2 cyclones, and (b) higher cyclone protection standards for critical facilities such as emergency shelters or hospitals,

iv. specifying that provisions must be made in the design of buildings to facilitate access and circulation (ingress and egress) by people with disabilities, particularly during disasters, and

v. requiring solar panels to be considered for all public buildings, thereby conserving energy and reducing the load on the public utility.

67. The process of designing and adopting appropriate building standards under the Building Act involved extensive consultation with stakeholders, including both private building professionals and local communities8. One outcome of this process was a recognition that traditional building practices have the potential to readily adapt to resilient construction norms. Thus, while construction guidelines (‘deemed-to-satisfy’ provisions) have been developed, building permits will not be required for free-standing sheds, small outbuildings, or traditional Tuvaluan shelter (fale) limited to a plan area of not more than 15 square metres and substantially using traditional building methods and materials. 68. Expected results. The key objective of the Building Act will be to: (i) define minimum standards for buildings through a national building code, (ii) ensure minimum standards for buildings by the issuance of permits and the carrying

8 In addition to the provisions to ensure affordability and simplicity of implementation, the Building Code also specifies that provision must be made in the design of a building, taking into account its use and location, to facilitate access and circulation by people with disabilities.

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out of inspections, (iii) enforce such minimum standards by processes that are flexible, affordable, and relevant to the building type, and (iv) improve the disaster and climate resilience of buildings. Provisions have also been made to ensure that the Act and the accompanying Building Code are practical, simple to understand and administer, and that compliance will be affordable to low-income households. The Building Code would have “phased introduction“ over a number of years (especially for the construction of dwellings), and be supported by technical assistance (primarily from the ADB, with complementary grant-funded support associated with this operation) for capacity building on enforcement (issuance of permits as prescribed by the Building Regulations accompanying the Act and Code, training for inspectors, practical means of implementing the Regulations and Code) and establishment of a building control office. The indicative trigger for the next operation is the endorsement by Cabinet of the Building Code (expected in the first quarter of calendar year 2020), which will allow the subsequent declaration of effectiveness and implementation of the Building Act. 69. Result Indicator. Percent of new public buildings and dwellings complying with Building Regulations and Code. Baseline (2018): 0. Target (2022): 100 percent of public buildings, 20 percent of new dwellings.

Prior Action 5: The Recipient, through its Cabinet, has approved the Waste Management (Levy Deposit) Regulation 2019 and the Waste Management (Prohibition on the Importation of Single-Use Plastic) Regulation 2019. 70. Tuvalu’s solid waste sector has changed rapidly over in recent years, but there are still many challenges. Tuvalu’s consumption patterns have significantly changed in the past few decades with the increase of imports, resulting in greater quantities and diversity of waste materials not traditionally encountered. This means having to contend with considerable geographical constraints, such as (a) an extreme lack of land availability for final disposal, (b) small dispersed population across the islands, leading to increased collection and transport costs, (c) limited overall financial resources, and (d) limited institutional and human capacity. Funafuti is one of the highest-performing cities for waste disposal in the Pacific region with 80 percent of households having access to solid waste collection services, but illegal dumping and burning of waste is still commonly practiced. Evidence from 2014-2016, indicates that only white goods (e.g. refrigerators, stoves, air conditioners) and tires are being exported for recycling, which leaves a lot of materials on the islands with recyclable potential (e.g. aluminum cans, used motor/cooking oil, scrap steel/nonferrous metals, used batteries, polyethylene terephthalate (PET) beverage containers). Plastic ocean waste is considered a significant issue in Tuvalu. 71. To address the challenges, Tuvalu has been steadily improving its legal and regulatory frameworks with support from the European Union (EU). As a result of the Waste Operations and Services Act of 2009, the Waste Management Unit of Tuvalu (under the Ministry of Home Affairs) was formed in 2010. Apart from overseeing the delivery of waste services, the Waste Management Unit is also responsible for waste management planning, financing, awareness programs, and enforcement of the Act. Since 2014, Tuvalu has also been extending solid waste management services to the outer islands. Tuvalu’s planning is directed by the comprehensive Tuvalu Integrated Waste Policy and Action Plan 2017-2026. Financing for solid waste management services has also increased substantially. In 2013, the annual budget for solid waste management was approximately AUD200,000, but this has increased annually reaching AUD493,000 by 2016. However, despite the increases, the current levels of financing are still considered insufficient according to a 2018 PRIF study.

72. Enacting an Import Waste Levy is expected to provide a sustainable and equitable financing source for solid waste management operations. The operational costs of waste service delivery, particularly the infrastructure and equipment costs have traditionally been dependent on financing by international donors. In 2019, the Government enacted two waste management regulations in 2019 under the Waste Management Act 2017: the Waste Management (Levy Deposit) Regulation 2019 and the Waste Management (Prohibition on the Importation of Single-Use Plastic) Regulation 2019. The objectives of the Levy Deposit Regulation are to: support the recovery, processing, treatment and shipment of end-of-life goods (for example beverage containers and lubricating oil); and encourage waste avoidance and resource recovery behavior. The levy applies to a wide range of consumer goods including white goods, construction

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equipment and vehicles. The proceeds from the levy will be used to facilitate resource recovery of recyclable commodities and avoid landfilling. The Single-Use Plastic Regulation prohibits the importation, manufacture, sale or distribution of single use plastics with potential adverse environmental impacts (e.g. plastic shopping bags). The Integrated Waste Policy and Action Plan notes that the need to ban the importation of substandard goods which quickly become waste was highlighted by communities during outer islands consultations. The waste levies are expected to provide for sustainable financing of waste management services, and for a sinking fund that will cover long-term equipment costs and segregated collection to maintain a composting program (also previously supported by international donors). The waste levy incorporates an equitable “polluter-pay” upfront fee collection and is set to replace the current (problematic) fee collection system. 73. The European Union is currently financing the Sustainable Waste Programme in Tuvalu (EUR6.8 million between 2017-2020). The specific objective of the Programme is to reduce waste-related environment degradation. The main result is expected to be a sustainable and safer waste management system that operates effectively and efficiently. Key activities to be supported include: waste reduction and resource recovery programmes including exporting of recyclables; improvements to the waste disposal system and infrastructure; establishment of public private partnerships; improvements to waste collection; and strengthening community awareness and education. This will be complemented by horizontal support to strengthen institutional systems, capacity building and introduction of sustainable financial mechanisms. The establishment of a waste transfer station (a processing facility where incoming mixed recyclables are sorted and packaged into recyclable components) is an essential aspect of these policy reform.

74. The success of any waste management program relies heavily on public’s behavioral changes and enforcement of anti-littering regulations. Currently in Tuvalu, burning, littering, and ad hoc dumping of waste is still generally considered to be socially acceptable. Establishing community engagement programs to raise awareness is a key objective of the Tuvalu Integrated Waste Policy and Action Plan 2017-2026. In addition to raising awareness and community engagement, there is also improved regulatory attention required to clearly elucidate the responsibilities of citizens in solid waste management and illegal actions.

75. Expected Results: Quantity of recyclable waste exported. Baseline (2018): 0. Target (2022): 20 tonnes.

Pillar 3: Improve Social Protection and Inclusion in Education 76. The third pillar of the proposed operation supports the Government’s efforts to improve Tuvalu’s social protection and inclusion in education. Persons with disabilities (PWD) in Tuvalu face challenges across multiple domains, including inclusive access and mobility, healthcare, education, employment, inclusion in social and cultural life, and in post-disaster situations. Reforms under this pillar are focused on: i. creating greater awareness of the needs and rights of all persons with disability; ii. ensuring that women and girls with disability are included in all aspects of development; iii. targeting disability-specific activities aimed at empowering persons with disability and ensuring greater disability inclusion, mainstreamed across all development sectors and government departments; iv. giving universal recognition to the dignity of persons with disabilities; v. ensuring that persons with disability can be and are viewed as active members of society who can claim their rights and making decisions for their lives based on their free and informed consent. Prior Action 6: The Recipient, through its Cabinet, has approved the Tuvalu National Policy for Persons with Disability.

77. PWD in Tuvalu and worldwide face challenges of discrimination and exclusion. In all countries for which there are data, this results in households with PWD having higher poverty rates than average. PWD nearly always have lower employment rates, lower educational attainment, and higher health care costs. Households with PWD also incur higher costs to maintain a given standard of living due to the additional spending required to support the needs of their disabled

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family members.9 78. In Tuvalu, 2012 census estimates were that 2 percent of people under the age of 61 live with a serious disability, with the rate rising to 2.8 percent in Outer Islands. The Tuvalu Study on Persons with Disability 2018 found that around 4.5 percent of the entire population lived with a disability, with almost 60 percent of PWD over the age of 61 (see figure 11 below).10 Taking an average household size of 6.5 (2017 Mini-Census), this suggests that as many as one quarter of households may include a member with a disability. As in other countries, the national 2018 disability study finds that PWD in Tuvalu face challenges across multiple domains, including inclusive access and mobility, healthcare, education, employment, and inclusion in social and cultural life. The study provided recommendations across eight policy areas, ranging from legal and constitutional reform, to improved access to services for PWD, to improving accessibility and employability, strengthening the role of the national disabled person’s organization Fusi Alofa, and promoting inclusion of PWD in family, social and cultural life. The first recommendation of the study was to endorse a national disability policy.

79. Responding to the recommendations of the 2018 study, the Government of Tuvalu in 2019 endorsed a National Policy on Persons with Disability. The policy addressed 12 priority policy areas which take a holistic view of the lives and needs of PWD.11 The policy is an important step in taking forward the commitments of Tuvalu in its 2013 ratification of the United Nations Convention on the Rights of Persons with Disabilities. It is also aligned with Te Kakeega III, the blueprint for the Government to improve the quality of life of the people of Tuvalu. The UN Convention and the national policy reflect a new approach to disability which does not focus purely on functional impairments (the so-called medical model of disability), but rather “results from the interaction between persons with impairments and attitudinal and environmental barriers that hinders their full and effective participation in society on an equal basis with others.”12 The

9 While data for developing countries are partial, these findings are uniform across developed and developing countries where reliable data exist. See World Disability Report, 2013, WHO and World Bank. 10 See Tuvalu National Policy for Persons with Disability, 2019, and Tuvalu Study on Persons with Disability 2018. 11 The 12 areas are: awareness and advocacy; education; health; accessibility (to information, infrastructure and transportation); employment and livelihood; policy planning and legislation; women, children and youth, and older persons with disabilities, strengthening the disabled people’s organization; family life; religion; sports and culture; and emergencies and safety. 12 UN Convention on RPWD, cited in Tuvalu policy.

Figure 11: The number of people with disabilities in Tuvalu

Source: Tuvalu Study on People with Disability, July 2018.

0

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policy aims to promote full inclusion of PWD in social, economic, and cultural life, and embeds strong principles of non-discrimination. It also emphasizes the gender dimensions of disability, both in terms of the “double exclusion” faced by women living with disabilities, and in terms of the disproportionate burden of care for family members with disabilities that falls on women. On the legal front, it provides an agenda to mainstream the rights and needs of PWD into a range of national laws and policies, including on gender, youth, child protection, family protection and domestic violence, and older persons. 80. There are two gender gaps identified that the Disability Policy and its follow-up actions will reduce. First, women are more likely than men to have a disability in their lifetime13, due largely to their longer life expectancy, and are more commonly subject to all forms of abuse, teasing, bullying, harassment, including sexual abuse. The ‘triple-burden’ of gender, disability and poverty / hardship results in women in Tuvalu being twice as likely to live in hardship compared to men with disability.14 Women with disabilities also participate less in family and community activities due to physical barriers compared to men with disabilities. 81. Second, the majority (i.e. 78 percent) of caregivers are women, who often have little outside support. This is an unpaid role, which is an extension of women’s traditional nurturing roles. The family is still seen as the main source of support and care for PWD as there are no alternative options such as residential care homes or institutions. Many caregivers are worn out by the constant demands of caregiving. While families are the primary caregivers, there needs to be a backstop service for caregivers that could provide support; additionally, it may be only a matter of time before there is a shortage of caregivers especially for older persons and especially for older women, due to the relatively high rates of outward migration from Tuvalu and from outer islands to Funafuti. The main needs and challenges of these caregivers were identified in the Pacific Women Tuvalu Study on People with Disability as: financial needs; psychiatric and other specialist medical care; education and training; assistive devices and rehabilitation). 82. The Disability Policy and its follow-up actions through programs, such as inclusive education, will facilitate the increased participation of people with disability in the social and economic life of Tuvalu, and help alleviate the disproportionate care responsibilities of those women who care for people living with disabilities. In particular, Priority Area 9 of the Tuvalu Disability Policy will reduce the time-burden on women careers for PWD by catalyzing a backstop service for caregivers, including: (i) providing basic training in the care of persons with disability, including correct lifting; (ii) facilitating the acquisition of assistive devices; (iii) providing respite care when necessary; (iv) providing links between essential service providers and caregivers. 83. Expected results: The Policy is an important framework and first step, but it also recognizes the need for follow-up action in a range of areas such as progress on education of children with disabilities (inclusive education). The expected results are: (i) an increase in the number of employed teachers who are trained in inclusive and special education; (ii) all community disaster plans and all school evacuation plans are aligned to include PWDs, in accordance with the National Strategic Action Plan for Climate Change and Disaster Risk Management. Baseline (2018): (i) 1; (ii) No. Target (2022): (i) 3; (ii) Yes.

13 58 percent of total PWD are women and majority of those are women above 60. 14 As explained fully in the Pacific Women (2018) Report, Tuvalu Study on People with Disability, the assessments of hardship were made (subjectively) by the fieldworkers based on agreed indicators including size of dwelling and living space for the PWD; hygiene and sanitation; ease of movement in and around the house; and general adequacy of standard of living.

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Table 3: DPF Prior Actions and Analytical Underpinnings

Prior Actions Analytical Underpinnings

Operation Pillar 1: Strengthen public financial management

Prior Action #1. The Recipient, through its Cabinet, has established the Tuvalu Medical Treatment Scheme (TMTS) Review Committee and directed the TMTS Review Committee to develop a draft policy to reduce overseas medical treatment costs.

Government of Tuvalu National Budget (2019). Expenditures on the Tuvalu Medical Treatment Scheme continue to increase annually, increasing by 43 percent between 2016 and 2018.

TMTS Summary Report (2018). In 2018, Tuvalu spent AUD6.591 million on its medical treatment scheme accounting for 74 percent of its total health expenditure covering 215 patients (about 2 percent of the population).

World Health Organisation. Mapping of OMRS and VSMT in Pacific Island Countries: A Pathway for Regional Cooperation towards UHC (2019). Tuvalu had the highest spending on overseas medical treatment as a proportion of GDP across 11 pacific island countries (PICs). Spending on overseas medical treatment as a percentage of GDP in 2017 was 12 percent in Tuvalu compared to an average of 1.84 percent across

other Pacific Island Countries.

Prior Action #2. The Recipient, through its Cabinet, has approved: (i) the Public Procurement Manual; (ii) the Procurement Complaints and Appeals Rules of Procedure; and (iii) the Procurement Suspension and Debarment Procedure.

Central Procurement Unit CPU, Report on Activities, Ministry of Finance (MOF), Government of Tuvalu (2015-2017). Public procurement governance and procurement implementation measures across Government can be strengthened through the development and adoption of additional procurement guidelines and procedures, specifically: (i) a Procurement Manual; (ii) a Procurement Complaint Mechanism; and (iii) Debarment Procedures.

Operation Pillar 2: Enhance infrastructure management, and disaster- and climate-resilience

Prior Action #3. The Recipient, through its Cabinet, has approved the Tuvalu Asset Management Framework.

International Infrastructure Management Manual (2015). A formal policy framework, with Asset Management plans developed and used, and annual activities and financial planning linked to the plans, is essential to risk management and sustainability of infrastructure.

Prior Action #4. The Recipient has enacted and published the Building Act 2019 to improve the quality of buildings.

World Bank: Building Regulations for Resilience (2015). Developing building standards that are accessible, affordable, and implementable by the poor and vulnerable contributes to the reduction loss of life and property in future hazard events. World Bank - Pacific Catastrophe Risk Assessment and Financing Initiative: Tuvalu Country Risk Profile (2011). The replacement cost of exposed assets in Tuvalu -- including buildings (public and private), as well as infrastructure (ports, airports, roads, bridges) -- was estimated at US$268 million (approximately 85 percent represents buildings and 14 percent represents infrastructure).

Prior Action #5. The Recipient, through its Cabinet, has approved the Waste Management (Levy Deposit) Regulation 2019 and the Waste Management (Prohibition on the Importation of Single-Use Plastic) Regulation 2019.

Tuvalu Integrated Waste Policy and Action Plan 2017-2026 (2017). In addition to raising awareness and community engagement, an improved regulatory framework is required to clearly elucidate the responsibilities of citizens in solid waste management. PRIF – Pacific Region: Solid Waste Management and Recycling Country Profiles

2018). Financing for solid waste management services has increased substantially,

from AUD200,000 (2013) to AUD493,000 (2016). However, despite the increases, the current levels of financing are still considered insufficient.

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Operation Pillar 3: Improve social protection and inclusion in education

Prior Action #6. The Recipient, through its Cabinet, has approved the Tuvalu National Policy for Persons with Disability.

World Disability Report, WHO and World Bank (2013). PWD nearly always have lower employment rates, lower educational attainment, and higher health care costs. Households with PWD also incur higher costs to maintain a given standard of living due to the additional spending required to support the needs of their disabled family members. Tuvalu National Policy for Persons with Disability (2019); Tavola, H. (2018). Approximately 4.5 percent of the entire population of Tuvalu lives with a disability, with almost 60 percent of PWD over the age of 61. Tuvalu Study on People with Disability. The majority of PWD are women and most caregivers for PWD are also women; thus, successful implementation of the disability policy is likely to be of particular benefit to women. DFAT/Pacific Women Shaping Pacific Development. The lack of trained teachers for children with special needs, the poor infrastructure of school facilities and the inaccessibility of schools are mentioned as main reasons why the education system in Tuvalu has not been ready to provide inclusive education.

4.3. LINK TO CPF, OTHER BANK OPERATIONS AND THE WBG STRATEGY

84. The proposed operation is aligned with the priorities identified in the Regional Partnership Framework FY2017-FY21 (RPF) covering nine Pacific Island countries (Report #120479).15 The first component of the PDO program: strengthening public financial management is aligned with focus area 4 of the RPF (strengthening the enablers of growth opportunities – specifically, the development and maintenance of frameworks to improve fiscal management). The second and third components of the PDO are aligned with Focus Area 3: Protecting incomes and livelihoods, through its contribution to achievement of Objective 3.1: Strengthened resilience to natural disasters and climate change. 85. The proposed operation builds on and complements other ongoing World Bank engagements in contributing to achieve the objectives of RPF. These include: (i) Pacific Aviation Investment, which helps the GoT to improve safety and security of air transport and associated infrastructure; (ii) Telecommunication and ICT Development, which will improve connectivity access and reduced cost of internet services; (iii) Maritime Investment in Climate Resilience Operation (MICRO), which will improve safety and security of ports and access to the outer islands; (iv) Pacific Islands Regional Oceanscape Program, which strengthens the shared management of oceanic and coastal fisheries; and (v) an Energy sector development project, which will enhance Tuvalu's energy security by reducing its dependence on imported fuel for power generation and by improving the efficiency and sustainability of its electricity system. These operations support RPF by building a climate-proof foundation for improving access to economic opportunities and services, which will generate income and higher standard of living for the people of Tuvalu. 86. This operation supports the World Bank Group’s twin goals of ending extreme poverty and boosting shared prosperity, as well as the IDA18 Special Themes on climate change, governance and institutions, and gender and development. Poorer people are typically disproportionately affected by disasters for several reasons: (i) the poor and “bottom 40 percent” typically have inadequate financial means to deal with disaster events; (ii) poorer people have less access to insurance, cash reserves and alternative income sources that provide the means to recover quickly when faced with more ‘immediate’ challenges (access to food, water, or livelihood) and limited discretionary expenditure for transportation; (iii) poor people tend to live in less resilient housing, and (iv) people just above the poverty line and

15 Kiribati, the Republic of the Marshall Islands, Federated States of Micronesia, Republic of Nauru, Republic of Palau, Independent State of Samoa, Kingdom of Tonga, Tuvalu, and Vanuatu

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vulnerable populations (children, women, elderly) can be pushed into transient poverty when a disaster hits. Accordingly, the proposed operation will benefit the most vulnerable and impoverished communities by strengthening the financial management capacity of the government to respond and recover in a timely manner following a disaster, thus allowing poorer communities to recommence their livelihood activities sooner. As such, the activities related to implementation of the Tuvalu Asset Management framework and the Building Act under the second pillar enhance resilience and align with the IDA18 Special Theme on Climate change. Further, the activities proposed under the first pillar to strengthen public financial management are strongly aligned with the IDA18 Special Theme of “Governance and Institutions” and reforms under pillar 3 which focus on Tuvalu’s National Policy for Persons with Disability help improve social inclusion and protection of women and address gender gaps and are closely aligned with the “Gender and Development” Special theme.

4.4. CONSULTATIONS AND COLLABORATION WITH DEVELOPMENT PARTNERS

87. This operation has been developed through an extensive and high-level consultation process, with a broad range of stakeholders, and within the overarching framework of the TKIII and its objectives. The consultative processes, in place for the last six years, include regular meetings between representatives of the MOF and representation of all donors providing budget support and government stakeholders. The processes also draw heavily on the TK III, which was developed and updated through a series of extensive consultations with Parliament, island chiefs and residents, government officials, businessmen, Non-Government Organization (NGO) representatives, religious leaders, and women, youth and the community more broadly. The discussion with women’s groups and NGOs has highlighted the importance of increased employment opportunities for women and the inadequacy of services and disproportionate costs for women associated with basic health and education services. Consultation with church and community groups provided insights regarding the greater extent of poverty and hardship faced by Outer Islands (OIs) and the impact of elevated poverty and hardship that would almost certainly result from any large reduction in public employment or expenditure. 88. The World Bank coordinates with other development partners to provide budget support to Tuvalu under the joint PRM. The authorities have requested that, in view of the country’s capacity limitations, development partners provide coordinated budget support, to the maximum extent possible. Since 2011, the World Bank launched regular dialogues with the GoT and development partners on the type of prior actions most relevant and appropriate for association with budget support; culminating in agreement on the multi-year policy reform matrix (PRM). One step forward in this year’s PRM process is the agreement from all Development Partners to disburse against a joint PRM with fewer but stronger prior actions. In addition to the World Bank, implementation of the PRM is being supported by ADB, Australia, the EU and New Zealand through varying combinations of budget support and technical assistance and, to the extent possible, donors conduct joint missions. The Asian Development Bank, Australian Department of Foreign Affairs and Trade (DFAT), the European Union (EU) and New Zealand Ministry of Foreign Affairs and Trade (MFAT) will each provide budget support, 16 against a joint policy matrix, agreed with the GoT, which forms the basis for the prior actions in this proposed operation. Ongoing technical assistance from partners is supporting the implementation of selected reforms. The World Bank and the IMF maintain a close working relationship in Tuvalu and with each other. World Bank staff participate in Article IV missions and facilitate the discussions on structural reforms. World Bank and IMF teams share a common view of Tuvalu’s macroeconomic and structural reform priorities.

5. OTHER DESIGN AND APPRAISAL ISSUES

5.1. POVERTY AND SOCIAL IMPACT

16 Indicative disbursement amounts for 2019 from development partners are as follows: ADB (US$4 million); Australia (US$1.03 million); EU (US$1.45 million); and New Zealand (US$0.65 million).

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89. The prior actions and results to be supported by this proposed operation are expected to have significant positive effects on poor people and vulnerable groups, particularly in improving their resilience to disaster and climate shocks. As an upper middle-income country based on WB GNI measures, Tuvalu has a low extreme poverty rate of 3 percent based on the US$1.90PPP international poverty line, meaning that the country is largely free from extreme poverty. However, its poverty rate based on the US$5.50PPP line, which represents the average standard of living in upper middle-income countries, sits at 47 percent, indicating a population that is still vulnerable to economic shocks and in need of strong public service delivery. The stability of public service delivery is particularly relevant to Tuvalu, as it is highly vulnerable to disasters and climate change: catastrophe risk modeling conducted in 2011 estimates that Tuvalu is expected to incur, on a long-term annual average, US$0.2 million per year in direct asset losses due to earthquakes and tropical cyclones alone. In the next 50 years, the country has a 50 percent chance of experiencing a loss exceeding US$4 million, and a 10 percent chance of experiencing a loss exceeding US$9 million.17 However, asset losses alone do not show how people’s livelihoods are affected, especially the prospects of the poorest and most vulnerable. For the poor, even small absolute values of asset loss can disproportionately affect livelihoods, reducing income and making it even harder to rebuild lost homes and productive assets. Poverty and vulnerability to natural hazards are strongly inter-related: poverty increases vulnerability to adverse natural events, and disasters cause capital and human losses, fostering poverty and leading to poverty traps. The poor, having limited assets and savings, are less able to cope with impacts on consumption or disruptions to income. The reforms supported by this operation will improve the quality and stability of public service delivery, with an emphasis on protecting against climate- and disaster-related shocks. 90. The prior actions supported under Pillar 1 are likely to have both direct and indirect positive impacts on poverty reduction. Reforms in financial management practices lead to greater macroeconomic stability and improved quality of public expenditure. Successful implementation of these reforms would provide a foundation for improved performance in government service delivery, including in sectors that are vital to improving the lives of the poor and vulnerable, such as health and education. This would also be supported by the reforms on procurement implementation, which would increase efficiency and transparency of government expenditures. The health sector PA on the establishment of a task force to review the Tuvalu Medical Treatment Scheme may potentially have negative short-term impacts on the poor, as a reduction of spending on TMTS by capping the budget or number of patients might lead to a limitation of access to high quality medical treatment which is unavailable in-country. In order to mitigate these negative impacts, a successful review process should also lead to a longer-term action plan involving more efficient and better-targeted spending, in order to restore the accessibility and quality of health services, particularly for the poor and vulnerable. 91. The prior actions supported under Pillar 2 will have a direct and positive impact on the resilience of the poor and vulnerable to climate- and disaster-related shocks. Improving the climate and disaster resilience of public assets (through the Asset Management Framework) and private assets (through Building Code) can protect the poor from both direct losses but also the disruption to public services and access to livelihoods. The PA on the Tuvalu Asset Management Framework will lead to improvements in the climate and disaster resilience of public assets, which is vital for maintaining the stability of public service delivery. The PA on the endorsement of a Building Act to enforce the Building Code will lead to long-term improvement in the quality of private buildings in Tuvalu, including dwellings, and reduce the damage incurred through disasters and climate-related deterioration. These two policies combined could have a substantial positive impact on the well-being of all Tuvaluans, but particularly the poor and vulnerable who are more reliant on public services and more exposed to disaster risks due to a lack of formal safety nets.

92. The poverty impact of higher bottled water prices from the waste levy is negligible. Based on the 2015-16 Tuvalu HIES, bottled water purchases were only reported by 20 percent of urban households and accounted for 1 percent of household consumption (counting only households with purchases). However, as bottled water purchases are typically

17 Pacific Catastrophe Risk Assessment and Financing Initiative, at note 7.

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underreported in the HIES, other data are needed to corroborate these findings. The trend was found to be consistent with the Marshall Islands HIES, where specific questions were asked about bottled water purchases. In RMI, a country similar to Tuvalu in geography and water availability, bottled water purchases were also exclusively urban and accounted for 1.6 percent of total consumption for poor households and 1.8 percent for non-poor households (counting only households with purchases). As the incidence of poverty in Tuvalu is much higher in rural areas than urban areas, and the levy would only lead to a 5 percent increase in the price of bottled water, the poverty impact of higher bottled water prices is negligible. 93. Higher prices of cooking oils, which are also affected by the waste levy, would also have a negligibly small impact. Cooking oils are purchased throughout the distribution and in both urban and rural areas, but are consistently only 0.5 percent of the total household consumption aggregate. A levy of AU$0.10 would represent a 2.5-3.3 percent price increase, which is partially offset by the rebate. As such, the price increases do not substantially affect the ability of poor and vulnerable households to afford cooking oils. 94. Higher prices of soft drinks and alcohol would affect consumption somewhat, but also bring health benefits. Soft drinks and alcohol make up a higher share of total consumption than bottled water and cooking oils (around 5 percent, though the consumption of alcohol is notoriously underreported in household surveys around the world). As such, this may be the main source of pressure on the budgets of poor and vulnerable households. Assuming the consumption of soft drinks and alcohol are price-elastic, increased prices will reduce consumption, which also brings desirable long-term health benefits. If, however, these goods are price-inelastic in Tuvalu, which is the case in some other countries but cannot be measured without dedicated research, then the price increase may lead to the reduced consumption of other goods instead. To mitigate that risk, further public campaigns may be needed to encourage a reduction in soft drink and alcohol consumption. 95. The cumulative impact from price increases across these goods is likely to be small and easily mitigated. Information campaigns about the waste levy rebates could encourage households to recycle more and offset the price increases. Health campaigns against soft drink and alcohol consumption may encourage people to consume less and insulate them from the price increases. In the long run, improved access to potable water in urban and rural areas would reduce the need for households to access bottled water. 96. The prior action supported under Pillar 3 has a direct and positive impact on the well-being of persons with disability (PWD), who are more likely to be poor or vulnerable. The National Policy for Persons with Disability promotes social inclusion and economic empowerment for PWD and utilizes a broad and inclusive definition to include physical, mental, intellectual and other sensory impairments. According to the 2018 Tuvalu Study on People with Disability, the majority of PWD are women and most caregivers for PWD are also women; thus, successful implementation of the disability policy is likely to be of particular benefit to women. The policy also covers improvements in education opportunities for children with disabilities, which is a vital and much-needed investment in human capital and future productivity.

5.2. ENVIRONMENTAL ASPECTS

97. The policy reforms supported by this operation are unlikely to have any negative effects on Tuvalu’s environment. Reforms to support macroeconomic sustainability through the strengthening of the investment management of the country’s reserve assets and improving the effectiveness of payroll expenditures are not likely to have any significant environmental impacts. The prior actions supported under this operation are not expected to create negative impacts on Tuvalu’s environment, forests and other natural resources.

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98. In general, Tuvalu’s environmental protection regime is adequate and has been strengthened over time through substantial project engagements and technical assistance from development partners. The Environmental Protection Act (2008) provides the overarching legislative framework for environmental protection and management, including the requirement to perform environmental impact assessments for larger projects. Capacity in the Department of Environment, however, remains thin – such that the GoT will continue to remain heavily reliant on outside expertise provided by regional organizations, notably the Secretariat of the Pacific Regional Environment Program (SPREP). Substantial project engagements and technical assistance from development partners, including from the World Bank, in recent years have supported the strengthening of the environmental protection framework and capacity for risk management. As such, it is generally considered that adequate protection would be provided by the existing legal and administrative frameworks for environmental assessment and land management in Tuvalu. 99. The prior actions proposed under the operation are not likely to have any negative effects on Tuvalu’s environment and natural resources, relative to the status quo. A number of actions, including regulations to improve the management of solid waste, and the disaster- and climate-resilience of buildings and infrastructure, are expected to have positive impacts on the environment. Through Pillar 2, the Government is adopting a risk-informed approach to development, by addressing the gaps in the regulatory environment for climate and disaster-resilient infrastructure and reducing risk in the built environment. These include affordable and accessible guidelines for improving the resilience of traditional dwellings and structures.

5.3. PFM, DISBURSEMENT AND AUDITING ASPECTS

Public Financial Management Environment. 100. Tuvalu’s public financial management (PFM) environment has had several recent improvements, but weaknesses and challenges still need to be addressed. Key documents relating to PFM include the PEFA assessments, the PFM reform roadmap, and the Assessment of National Systems (ANS) conducted by Australian DFAT. The PFM Reform Strategy 2019-2021 is an update to the current PFM Roadmap 2017-2021. The need to update the PFM Roadmap was based on the recent 2018 ANS and the 2018 Tuvalu Trust Fund Advisory Committee Report. The four main areas for improvement under the PFM Reform Strategy, and in-line with the PEFA assessment criteria are: (a)improving the medium-term fiscal framework and the credibility of the budget; (b) reviewing the financial legislations and subsidiary guidelines; (c) improving the capability and usage of the government FMIS (Financial Management and Information System); and (d) building PFM capacity and service delivery. The budget is published each year on the government website. 101. There is currently no backlog of Audited National Accounts or of Auditors Reports.18 The Auditor General, while recognizing continued improvement in the annual reporting process has given a qualified (disclaimer) of audit opinion19, raising concerns around the effectiveness of the management control environment. In early 2019, Parliament endorsed an amendment to the Public Finance Act, stating the national accounts shall be prepared in a format consistent with the internationally recognized public sector reporting standards. A ‘Note to Adopt Full Accrual Accounting System’ that provides a roadmap in the necessary upgrade to PFM processes and systems (including the FMIS) was also endorsed in 2019.

18 The 2018 Audited National Accounts is being finalized and should be tabled in the next Parliament sitting. 19 The auditor has cited a number of scope limitations as the basis for the disclaimer of audit opinion including valuation issues, lack of evidence, non-consolidation, and lack of certain reconciliations.

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Foreign Exchange Environment 102. An IMF Safeguards Assessment is not available as Tuvalu does not have a central bank and uses the Australian dollar as its currency. In addition, Tuvalu has not accessed IMF funds. There is no indication of major issues within the foreign exchange environment, especially given that Tuvalu uses the Australian dollar. The overall fiduciary risk for the operation is assessed as Substantial. A set of mitigation measures have been proposed below, including a separate Dedicated Account opened in the government’s Consolidated Fund held at the National Bank of Tuvalu, together with an audit of this account after disbursement.

Disbursement and Auditing 103. The proposed operation will follow IDA's disbursement procedures for development policy grants. Once the operation becomes effective, and at the request of the Recipient, the proceeds will be disbursed into a Dedicated Account in Australian dollars, by IDA held at the National Bank of Tuvalu that forms part of the official foreign exchange reserves, provided that the Association is satisfied with the progress made in carrying out the program. The National Bank’s 2017 annual financial statements received an unqualified audit opinion, and it has previously been used for the designated account for previous DPOs and the Pacific Aviation Investment Program in Tuvalu. As a due diligence measure, within 30 days of receipt the Recipient will provide a written confirmation to IDA when an equivalent amount is accounted for in the government’s budget management system. Disbursements would not be linked to specific purchases. The proceeds of the operation would not be used to finance expenditures excluded under the International Development Association General Conditions for IDA Financing, Development Policy Financing, dated December 14, 2018 (‘General Conditions’). If, after being deposited in a government deposit account, the proceeds of the operation are used for ineligible expenditure as defined in the General Conditions, IDA will require the Recipient to refund the amount directly to IDA. Any such amounts refunded to IDA shall be cancelled. 104. The funds for the partial or full disbursement of the DRM CAT-DDO grant will be made available after the drawdown condition is met. At the request of the Recipient, and with the World Bank being satisfied that the drawdown condition has been met, the proceeds will be deposited by IDA into the Dedicated Account in Australian Dollars. The Recipient shall ensure that upon the deposit of the funds into the Dedicated Account, an equivalent amount is credited in the Recipient’s budget management system, in a manner acceptable to the World Bank. The proceeds cannot be used for ineligible expenditures but will not be tied to any specific purchases. The World Bank requires confirmation from the Government of each receipt of funds (normally within 30 days after each disbursement) that (a) the proceeds were received into an account of the Government that is part of the country’s foreign exchange reserves (including the date and the name/number of the Government’s bank account in which the amount has been deposited), and (b) an equivalent amount has been accounted for in the country’s budget management system (including the Chart of Accounts name/account number, the date, and the exchange rate used). 105. The first three Tuvalu Development Policy Operations audits have been received and there were no material issues in the audit reports. The Fourth Development Policy Operation audit is currently overdue. As an additional mitigation measure, the World Bank will require an audit of the dedicated account in Australian dollars. The financial audit report should be furnished to the World Bank within 6 months from the last disbursement. Additionally, within 30 days of the grant, the Recipient would: (i) report the exact sum received into the deposit account and its supporting details; (ii) show that this account was only used for the purposes of the operation and that no other amounts were deposited into this account, including confirmation from corresponding bank(s) involved in the funds flow; and (iii) show that an equivalent amount was accounted for in the Recipient’s budget management system. This will enable IDA to review compliance with the Financing Agreements and achievement of the operation’s objectives.

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106. The closing date for the proposed operation will be December 23, 2022.

5.4. MONITORING, EVALUATION AND ACCOUNTABILITY

107. The implementation of this program’s prior actions will be the responsibility of the GoT in coordination with the MOF. Tuvalu’s reform efforts and progress against this program’s results matrix will be reviewed by the GoT in close coordination with the World Bank team and in the context of the annual review of the policy matrix. The MOF will coordinate and monitor the program and the related indicators, as described in the policy matrix (Annex 1) and provide regular reports to the World Bank in accordance with agreed timelines. The MOF has adequate capacity to coordinate and monitor the program related indicators, although data availability may be somewhat limited. 108. Grievance Redress. Communities and individuals who believe that they are adversely affected by specific country policies supported as prior actions or tranche release conditions under a World Bank Development Policy Operation may submit complaints to the responsible country authorities, appropriate local/national grievance redress mechanisms, or the WB’s Grievance Redress Service (GRS). The GRS ensures that complaints received are promptly reviewed in order to address pertinent concerns. Affected communities and individuals may submit their complaint to the WB’s independent Inspection Panel which determines whether harm occurred, or could occur, as a result of WB non-compliance with its policies and procedures. Complaints may be submitted at any time after concerns have been brought directly to the World Bank's attention, and World Bank Management has been given an opportunity to respond. For information on how to submit complaints to the World Bank’s corporate Grievance Redress Service (GRS), please visit http://www.worldbank.org/GRS. For information on how to submit complaints to the World Bank Inspection Panel, please visit www.inspectionpanel.org.

6. SUMMARY OF RISKS AND MITIGATION

109. The overall risk level for the program is rated as substantial. Four risk categories (macroeconomic risks; institutional capacity for implementation and sustainability risks, fiduciary risks and environment and social risks) are rated substantial, while the remaining risk categories are rated moderate. 110. Macroeconomic risks. Tuvalu’s macroeconomic and fiscal framework is vulnerable to shocks that are characteristic of small Pacific economies. On the external front, commodity price shocks could readily be translated into higher or lower domestic prices given the extent which consumption relies on imported goods, particularly food and fuel. Weaker-than-expected global growth, including in China and advanced economies could yield a shock to Tuvalu’s remittance flows, diminish employment opportunities abroad and, in parallel reduce Tuvalu’s remittance flows, and may create an uncertain aid environment. Similarly, the returns on the TTF are exposed to the unpredictable fluctuations of international financial markets. An unexpected decline in receipts from fisheries contracts or donor grants would strain Tuvalu’s fiscal position. Tuvalu is also vulnerable to extreme weather events that could incur high recovery costs. The GoT has taken a prudent approach in estimating revenues and grants to provide a cushion against external uncertainties; and continued donor engagement to support the reform momentum, including reforms aimed at improving the efficiency of public expenditures and strengthening TTF investment management, should also serve to reduce these risks. The is also the possibility that idiosyncratic risks counteract one-another, thereby reducing their impact. Additionally, the World Bank will continue to work closely with IMF staff to monitor macroeconomic risks and provide policy advice to the GoT as appropriate.

111. Institutional capacity for implementation and sustainability risks. Tuvalu is an extreme example of the thin administrative capacity that is typical of public sectors in very small states, where a small number of public servants must

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engage with a multiplicity of tasks. Moreover, when staff with the relevant technical qualifications and experience to undertake supported reforms is limited, poor performance, or departure, of staff working on the program will have a disproportionately large and negative impact on the speed and quality of implementation of the reform program. This risk is being mitigated by close and ongoing dialogue through which the Government and the World Bank have carefully selected a limited number of prior actions that are key priorities for the Government. The Government, World Bank and other partners have discussed the implementation requirements for each action at length, to ensure that expectations regarding the timeframes for implementation are realistic. Limited capacity is also being mitigated through the provision of dedicated technical assistance from various development partners to support the achievement of nearly all specified actions, and the results framework has been developed taking into consideration data limitations. Complex and significant reform programs, such as the ones supported under this operation, require ongoing commitment and engagement throughout implementation. This program has been tailored to Tuvalu’s country circumstances and designed to support a gradual, phased approach to reform, as part of an ongoing, broader budget support engagement between the Government, World Bank and other development partners.

112. Fiduciary risks. The overall fiduciary risk for Tuvalu is assessed as Substantial primarily due to the ongoing issues with PFM implementation identified in the Auditor-General’s report and the high dependency on key personnel in a ‘thin’ capacity environment. Mitigation measures include a Local Currency Deposit Account opened in the government’s Consolidated Fund held at the National Bank of Tuvalu, together with an audit.

113. Environment and social risks. Tuvalu’s high degree of vulnerability to external shocks, including from natural disasters, poses a risk to the achievement of the development objectives under the second pillar of the operation. If the country experiences another major natural disaster over the medium-term, Tuvalu’s macroeconomic stability will be threatened, and large parts of the bureaucracy will have to shift their attention to disaster recovery and reconstruction efforts. It is neither feasible or desirable to mitigate this risk entirely, since disaster and climate risk can only be fully mitigated at a correspondingly high cost. However, the reforms being undertaken through the second pillar would contribute to mitigating the risks of direct damage to public and private assets (including critical public facilities and residential buildings) and the associated human losses, while the contingent financing available through the CAT-DDO would support recovery from disasters. Although large-scale, sudden-onset natural disasters have not historically occurred frequently in Tuvalu, TC Pam revealed weaknesses in the current response framework. This led to GoT endorsement of the Tuvalu TC Pam Vulnerability Reduction Plan in June 2015. This Plan provides guidance on short- to medium-term recovery efforts, and a longer-term road map to building resilience and reducing vulnerability, including through climate-proof investments.

Table 4: Summary Risk Ratings

Risk Categories Rating

1. Political and Governance ⚫ Moderate

2. Macroeconomic ⚫ Substantial

3. Sector Strategies and Policies ⚫ Moderate

4. Technical Design of Project or Program ⚫ Moderate

5. Institutional Capacity for Implementation and Sustainability ⚫ Substantial

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6. Fiduciary ⚫ Substantial

7. Environment and Social ⚫ Substantial

8. Stakeholders ⚫ Moderate

9. Other

Overall ⚫ Substantial

.

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ANNEX 1: POLICY AND RESULTS MATRIX

Prior Actions and Triggers Results

Prior Actions under DPF 1 Triggers for DPF 2 Indicator Name Baseline Target

Pillar 1: Strengthen public financial management

Prior Action #1. The Recipient, through its Cabinet, has established the Tuvalu Medical Treatment Scheme (TMTS) Review Committee and directed the TMTS Review Committee to develop a draft policy to reduce overseas medical treatment costs.

Cabinet approval of the Tuvalu Overseas Referral Scheme policy.

Spending on overseas medical treatment as a percentage of GDP.

12 percent (2017)

9 percent

(2022)

Prior Action #2. The Recipient, through its Cabinet, has approved: (i) the Public Procurement Manual; (ii) the Procurement Complaints and Appeals Rules of Procedure; and (iii) the Procurement Suspension and Debarment Procedure.

Amendments to the Procurement Regulation to address the following issues: threshold, abnormally low bids, and improve value for money.

Level of competition -average percentage of major procurement (value) through competition.

47 percent (2015-2017)

55 percent

(2022)

Pillar 2: Enhance Infrastructure Management and Resilience

Prior Action #3. The Recipient, through its Cabinet, has approved the Tuvalu Asset Management Framework.

Asset investment plans developed (based on disaster and climate vulnerability).

Asset investment plans (based on disaster and climate vulnerability) under implementation for selected asset classes.

0

(2018)

3 asset classes (2022)

Prior Action #4. The Recipient has enacted and published the Building Act 2019 to improve the quality of buildings.

Cabinet endorsement of the Building Code. Percent of new public buildings and dwellings complying with Building Regulations and Code.

0

(2018)

100 percent of public buildings, 20 percent of new dwellings

(2022)

Prior Action #5. The Recipient, through its Cabinet, has approved the Waste Management (Levy Deposit) Regulation 2019 and the Waste Management (Prohibition on the Importation of Single-Use Plastic) Regulation 2019.

Quantity of recyclable waste exported.

0

(2018)

20 tonnes

(2022)

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Prior Actions and Triggers Results

Pillar 3: Improve Social Protection and Inclusion in Education

Prior Action #6. The Recipient, through its Cabinet, has approved the Tuvalu National Policy for Persons with Disability.

Cabinet approval of an Inclusive Education Framework.

#1: Number of employed teachers who are trained in inclusive and special education.

#2: Community disaster plans and school evacuation plans include provision for people with disabilities.

#1. 1

#2. No

(2018)

#1. 3

#2. Yes

(2022)

The World Bank Tuvalu DPO and DRM CAT-DDO (P170558)

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ANNEX 2: FUND RELATIONS ANNEX

The World Bank Tuvalu DPO and DRM CAT-DDO (P170558)

Page 43

The World Bank Tuvalu DPO and DRM CAT-DDO (P170558)

Page 44

ANNEX 3: LETTER OF DEVELOPMENT POLICY

The World Bank Tuvalu DPO and DRM CAT-DDO (P170558)

Page 45

The World Bank Tuvalu DPO and DRM CAT-DDO (P170558)

Page 46

The World Bank Tuvalu DPO and DRM CAT-DDO (P170558)

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ANNEX 4: ENVIRONMENT AND POVERTY/SOCIAL ANALYSIS TABLE

Prior Actions Significant positive or negative environment

effects

Significant poverty, social or distributional effects positive or

negative

Operation Pillar 1: Strengthen Public Financial Management

Prior Action #1. The Recipient, through its Cabinet, has established the Tuvalu Medical Treatment Scheme (TMTS) Review Committee and directed the TMTS Review Committee to develop a draft policy to reduce overseas medical treatment costs.

No Yes - positive

Prior Action #2. The Recipient, through its Cabinet, has approved: (i) the Public Procurement Manual; (ii) the Procurement Complaints and Appeals Rules of Procedure; and (iii) the Procurement Suspension and Debarment Procedure.

No Yes - positive

Operation Pillar 2: Enhance Infrastructure Management and Resilience

Prior Action #3. The Recipient, through its Cabinet, has approved the Tuvalu Asset Management Framework.

Yes - positive Yes - positive

Prior Action #4. The Recipient has enacted and published the Building Act 2019 to improve the quality of buildings.

Yes - positive Yes - positive

Prior Action #5. The Recipient, through its Cabinet, has approved the Waste Management (Levy Deposit) Regulation 2019 and the Waste Management (Prohibition on the Importation of Single-Use Plastic) Regulation 2019.

Yes - positive No

Operation Pillar 3: Improve Social Protection and Inclusion in Education

Prior Action #6. The Recipient, through its Cabinet, has approved the Tuvalu National Policy for Persons with Disability.

No Yes - positive