Countries and Regions

	Table of Contents
p. 2 of 4 BACK | NEXT I. Current Development Trends and Issues II. Implementation of the Country Strategy and Program III. Portfolio Management Issues IV. Country Performance and Assistance Levels

Country Strategy and Program Update 2005-2006: Bhutan

---

II. Implementation of the Country Strategy and Program

A. Progress in Poverty Reduction

13. The poverty reduction partnership agreement between the Government and ADB, signed on 23 October 2001, has the overall objective of improving living standards in Bhutan. ADB’s overarching development objective of poverty reduction is consistent with the country’s development philosophy of gross national happiness as well as the strategic and thematic thrusts of this Country Strategy and Program Update (CSPU). The Government with ADB assistance undertook the integrated Bhutan living standards survey in 2003. The objective of the survey was to obtain household consumption and expenditure data, as well as compute the first official poverty line for Bhutan and the related poverty and inequality indicators. A population census is also scheduled for 2004/05, whose outcome will clarify all statistical information. The country’s 9FYP, together with a poverty assessment and monitoring system being established with UNDP assistance in the Department of Planning, will essentially form the PRSP currently under discussion with the World Bank.

14. Bhutan has continued to make good progress in achieving the MDGs. It expects to achieve the MDG for universal primary education by 2007, about 8 years before the target date. The primary school gross enrollment rate further increased from 72% in 2000 to 81% in 2003 (Appendix 1, Table A1.1). ADB is assisting the Government to reduce poverty in the medium-term by supporting programs and projects relating to rural roads, integrated rural development, and private sector development.

B. Progress in the Country Strategy and Program Area

1. Private and Financial Sector Development

15. The Government has placed emphasis on promoting industrial development and expansion through greater private sector participation during the 9FYP. Initiatives include formulating and enacting legislations for industrial policy, transfer of technology, and foreign direct investment, and measures for developing the capital market. As public sector employment opportunities will be limited, the private sector, particularly the small and medium-size enterprise (SME), is expected to play a greater role in absorbing the growing number of young and educated Bhutanese. ADB supported the basic skills training program to meet the private sector’s demand for skilled human resources. The main thrust of industry during the 9FYP is to create industrial estates around the country to facilitate the development of the SME sector. Despite recent efforts, however, the Government still has limited capacity to effectively formulate and implement policies for SME promotion. ADB will assist the Government in preparing a comprehensive sector assessment, identifying the key constraints on SME development, and formulating a program for the effective promotion of SMEs in the country.

16. Although Bhutan demonstrated strong economic performance in recent years, continued improvements in the financial system will be necessary to support the country's further development. Much of Bhutan’s economic growth and financial sector development had been driven by the public sector, as reflected in the high rates of growth in hydropower and savings of government corporations. Growth in the private sector remains slow—savings mobilization is low and viable investment projects are limited. In this environment, the two existing commercial banks, Bank of Bhutan and Bhutan National Bank, operate at the low-risk end of the market and require considerable collateral. ADB has been supporting the financial sector with a sector development program, including a loan to Bhutan Development Financial Corporation and equity investment in the Bhutan National Bank. Though some competition among the four financial institutions has emerged, competencies to price products based on risk are yet to be developed. The interest rates still remain close to previously administered levels and are not reflective of risk-return trade-off. The new FDI policy is expected to bring additional opportunities, since it may encourage foreign competitors to offer their services in the domestic market and because new projects are likely to create the need for additional financial services. Competition from nonbank financial institutions is also likely to increase, with the National Pension and Provident Bureau looking at investment opportunities in the domestic market. To support financial system stability, both RMA and the Government will need to further enhance the regulatory and policy frameworks and tools, as well as market infrastructure, in tandem with the liberalization of the economy. The Government is currently undertaking a review of the constraints and required reforms in the financial sector. Further ADB assistance will be guided by the outcome of the review.

2. Energy

17. The power sector continues to be the Government's largest source of revenue, providing 35% of total national revenues and accounting for about 10% of the GDP in 2003. ADB assistance to the power sector includes rural electrification and institutional and capacity development, including the establishment of a policy and legal framework to restructure the power sector.⁴ In July 2002, the Government separated the Department of Power into three agencies: Bhutan Power Corporation (BPC), the Department of Energy, and Bhutan Electricity Authority (BEA). This was consistent with ADB recommendations, and a step toward strengthening institutional capacity, planning, and legal infrastructure. Through the new framework, BEA will function as the regulatory body enforcing rules and regulations and BPC will be responsible for the utility functions of the department. The Department of Energy will remain the planning and policy body of the energy sector. ADB also recommended that Druk Hydropower Corporation (DHPC) be established to consolidate all Government-owned power stations as profit centers. To facilitate achievement of these objectives, ADB is providing assistance in 2004 to explore the feasibility of establishing DHPC and for building the capacity of BEA. Through the 9FYP, the Government plans to electrify 15,000 households in 20 districts towards its goal of achieving 100% electrification by 2020. In support of this goal, in 2003 ADB provided a loan to electrify about 8,000 households. A number of bilateral development partners are also providing assistance for developing of the power sector (Appendix 1, Table A1.5). Through its South Asia Subregional Economic Cooperation (SASEC) initiative, ADB will continue to support regional electricity exchange during the CSPU period.

3. Transport

18. The Government has prepared a draft road act and will submit it to the National Assembly for enactment during its 82nd Session in 2004. This is consistent with ADB recommendations,⁵ and is a step toward strengthening institutional capacity, planning, and legal infrastructure. The Government has given the development of road infrastructure the highest priority in the 9FYP. This is because it is cognizant of the importance of an efficient, reliable road network in a landlocked country where about 30% of the gewogs are not connected to feeder roads, and another 30% are only partially connected. The inadequate road system keeps many farmers dependent on subsistence agriculture with no, or limited, access to markets, education, and health care. The Bhutanese have articulated the development of farm and feeder roads as the highest priority need through their block development committees and district development committees. During the CSPU period (2005–2006), ADB’s sectoral engagement will comprise policy dialogue to facilitate the continuity of sectoral reform, and technical and project assistance. Policy studies and recommendations will include possible measures for phased introduction of road user charges and earmarking of road user revenues for sustainable sectoral development. Recognizing the need to expand Bhutan's road network to promote economic growth that reaches the rural poor, ADB has provided project preparatory technical assistance⁶ for preparing a follow-up loan programmed for 2005.

4. Social Development

19. In FY2003, The Government established the National Housing Development Corporation, which formulates and implements housing programs during the 9FYP. Estimates of housing demand based on eight principal urban centers show that more than 1,500 dwelling units per year are needed over the next 10 years. An ADB TA⁷ has focused on assisting the Government in formulating the necessary policy and institutional framework to develop a transparent and well-functioning land and housing market. Recognizing the increasing imbalance between market demand and the credentials of secondary education graduates, the Government plans to increase emphasis on vocational and technical education during the 9FYP. Teaching specialized marketable skills to the youth has become increasingly important, considering that the unemployment rate is expected to almost double during the 9FYP period. Through its ongoing support,⁸ ADB is assisting in the development of marketable skills for the youth and, thus, facilitating labor absorption.

20. To strengthen the health systems to achieve the challenging goals of the MDGs, reform of health care in Bhutan was essential. ADB is supporting the Health Care Reform Project⁹—implemented over 5 years from November 2000 onward—to support the Government’s comprehensive reform agenda for strengthening the health sector by (i) developing sustainable financing for the health sector, (ii) strengthening the capacity for health sector management, (iii) strengthening quality assurance and public health regulatory functions, (iv) adjusting imbalances in human resources for health, and (v) strengthening primary health care (PHC) through selective PHC interventions and expansion of priority services.

5. Subregional Cooperation

21. Regional cooperation is a key issue for the development of a landlocked country like Bhutan. ADB projects (proposed industrial estate and dry port development and road expansion) have regional cooperation as one of their thematic areas. Tala and other hydropower projects, which will export generated electricity to India, clearly involve regional cooperation.

22. As a member country of South Asia Association for Regional Cooperation (SAARC), Bhutan signed the South Asia Free Trade Agreement (SAFTA) pact in January 2004 and committed to bring down custom tariffs during the next 10 years after the agreement comes into force. In February 2004, Bhutan became a member of BIMSTEC. The aim of the group is to foster socioeconomic cooperation among the member countries.

C. Highlights in Coordination of External Funding and Partnerships Arrangements

23. In November 2000, ADB and UNDP signed a development cooperation framework for operations in Bhutan. ADB has maintained close operational coordination with UNDP, which is the local aid coordinator, and other agencies within the United Nations system. As part of regular operations and to improve the impact and effectiveness of its assistance, ADB has maintained local consultation with the major development partners such as Denmark, India and Japan, which focuses on physical and social infrastructure development; and with Austria, Canada, Germany, Holland, and Switzerland, which focuses more on gender and community-based social development activities. ADB also maintains operational partnership with the World Bank, which supports, among others, rural road access and institutional strengthening in the public sector. In conjunction with its lending program, ADB will continue to actively pursue cofinancing, particularly from grant and concessional loan sources, to effectively address the important thematic priorities for ADB operations in Bhutan. ADB will maintain its dialogue with the Government to identify appropriate financing for the projects, that it will support during 2005-2006.

Back I. Current Development Trends and Issues	Next III. Portfolio Management Issues