|Project Rationale and Linkage to Country/Regional Strategy
RMI consists of 29 low lying atolls and 5 single islands that cover 181 square kilometers of land area spread across nearly 2 million square miles of the western Pacific Ocean. The country gained independence in 1979, having been administered by the United States (US) as part of the Trust Territory of the Pacific Islands since 1947. The 2011 Census recorded a total population of 53,158 persons, with approximately 74% of the population living on Majuro and Ebeye. RMI has been identified as a fragile situation by ADB since 2008 with a number of constraints that underlie weak performance and fragility, including weak public sector institutions, limited government capacity, and underdeveloped governance systems.
The RMI economy relies heavily on government expenditure and, in turn, on foreign grants that fund more than two-thirds of government expenditure. Most foreign grants are provided by the US, mainly under the amended Compact of Free Association. Increased foreign grants helped the economy grow at an average annual rate of 3.1% from fiscal year (FY) 2000 to FY2007. However, in FY2008 and FY2009, the economy contracted by 1.9% and 1.3% respectively, as high world food and fuel prices raised inflation to 14.7%, prompting the declaration of a state of national economic emergency. The economy grew by 5.2% in FY2010, driven by an expansion of fishery output and exports, and moderating fuel prices. Similarly, growth in FY2011 was 5.0%, driven by higher fish catches, large inflows from the Kwajalein land use agreement, and the Federal Aviation Administration-funded airport extension project
Growth over the medium-term in the RMI is expected to stay low at around 1.5% and revenues are projected to decline (table 2). Within this low-growth scenario, the RMI needs to adjust to the annual decline in US Compact grants, which will be phased out in FY2023. Of a $130 million annual budget in FY2011, about $95 million was funded by bilateral donors, with approximately two-thirds of this representing Compact grants. The governments of RMI and US are investing in a Compact trust fund that is intended to generate a revenue stream to replace Compact grants in FY2024. Contributions from the RMI government have, however, fallen short because excessive recurrent expenditure and poor revenue performance have prevented the generation of the required fiscal surpluses. Under current policies, there will be insufficient government assets in the Compact trust fund in 2023 to replace the expiring Compact grants.
Fiscal and structural reforms are therefore urgently needed to achieve fiscal sustainability and generate sustainable medium-term economic growth. Structural reforms will stimulate private sector economic activity, generate domestic employment and incomes, and broaden the local tax base, while tax reforms will boost domestic revenue collection and offset the imminent reduction in grants. Implementing state-owned enterprise (SOE) reforms and reducing public expenditures will contribute to improving the fiscal balance.
In 2009, recognizing the need for reform, the RMI government began several initiatives to advance public sector reform and promote macroeconomic stability and sustainable growth. These included the preparation of a comprehensive recovery plan for the Marshalls Energy Company (MEC) and the formation of the Comprehensive Adjustment Program (CAP) Advisory Group and the Tax and Revenue Reform and Modernization Commission (TRAM) to prepare fiscal reform plans. These initiatives formed the basis of the government's strategy to mitigate the impact of the global financial crisis and subsequently led to the design of ADB's support for the public sector program.
The program is aligned with the RMI Country Operations Business Plan (COBP), 2012-2014 and ADB's Pacific Approach, 2010-2014. The program also applies lessons from earlier ADB policy programs in the RMI and elsewhere in the Pacific, as well as ADB's approach to engaging with weakly performing countries, notably by (i) adopting a country-led set of policy actions developed in an open, participatory manner and at a pace in keeping with country practices, and (ii) initiating long-term policy dialogue and providing targeted technical assistance (TA) support.
Implementation of subprogram 1 has had a successful outcome for RMI. Under this subprogram, the majority of loan funds were on-lent from the government to MEC. The funds were used to repay a high interest loan held by MEC with a commercial bank. Using the cash-flow savings from repaying this loan, MEC was able to undertake a refurbishment of a generator. The refurbished generator has a significantly higher megawatt output than previously which has resulted in a reduction in fuel usage of approximately 14%.