Document of The World Bank

Report No: 25538-IND

FOR OFFICIAL USE ONLY

PROJECT APPRAISAL DOCUMENT

ON A

PROPOSED LOAN

IN THE AMOUNT OF US$204.3 MILLION

AND PROPOSED CREDIT

IN THE AMOUNT OF

SDR32.1 MILLION (US$45.5 MILLION EQUIVALENT)

TO THE

REPUBLIC OF INDONESIA

FOR A

THIRD KECAMATAN DEVELOPMENT PROJECT

June 2,2003

Environment and Social Development Unit East Asia and Pacific Region

/This document has a restricted distribution and may be used by recipients only in the performance of ltheir official duties. I t s contents may not otherwise be disclosed without World Bankauthorization.

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CURRENCY EQUIVALENTS

(Exchange Rate Effective April 15,2003)

Currency Un i t = Rupiah Rps8,500 = US$1

US$lOO = Rps. 850,000.00

ADB AJI APL BAPPEN BI BPDs BPKP BPR BPS BRI CAS CDD CEP CPPR

DGB DPRD EASES EASHD Eh4P ERR FAD GO1 GTZ IBRD I D A IDT I-PRSP IRR JSDF KDP KGRIP LKM LKMD LLI LP3ES LSM MoF MoHA NBF NGO NMC

CQ

F I S C A L YEAR Government o f Indonesia -- January 1 - December 3 1.

ABBREVIATIONS AND A C R O N Y M S Asian Development Bank Association o f Independent Joumalists Adaptable Program Lending

Bank Indonesia Village Representative Councils Central Audit Bureau Bank Perkreditan Rakyat Central Bureau of Statistics Bank Rakyat IndonesiaAndonesia People's Bank Country Assistance Strategy Community Driven Development Community Empowerment Country Procurement Policy Report Consultants' Qualifications Director General o f Budget Provincial and District Parliament East Asia Environment and Social Development Sector Unit East Asia Human Development Sector Unit Environment Management Plan Economic Rate of Return Inter-village Forums Government o f Indonesia German Technical Cooperation Agency International Bank for Reconstruction and Development International Development Association Project for Left Behind Villages Indonesia-Poverty Reduction Strategy Paper Intemal Rate o f Return Japanese Social Development Fund Kecamatan Development Project Kabupaten Governance Reform Initiatives Project Lembaga Keuangan Mikro (microfinancial institution) Village Council (Lembaga Ketahan Masyarakat Desa) Local Level Institution Institution for Social and Economic Research, Education and Information Lembaga Swadaya Masyarakat (NGO) Ministry o f Finance Ministry o f Home Affairs Not Bank Financed Non-Government Organization National Management Consultants

AS National Planning Agency

FOR OFFICIAL USE ONLY ~~

NPV NTT OCSPR PERDA Pj OK PMD

SA SFB SWOT T A UPK WASPOLA WSSLIC-2

QAG

Net Present Value East Nusa Tenggara Operations Core Services and Procurement Policy Department Local Government Local Project Manager Department o f Community Development (Pembangunan Masyerakat Desa) Quality Assurance Group Special Account Selection under a Fixed Budget Strength Weakness Opportunity Threats Technical Assistance Financial Management Unit Water Supply and Sanitation Policy Formulation and Action Project Water Supply and Sanitation Project for Low Income Communities

Vice President: Jemal-ud-din Kassum Country ManagerDirector: Andrew D. Steer

Sector ManagerDirector: Maria Teresa Serra Scott Guggenheim Task Team Leader/Task Manager:

This document has a restricted distribution and may be used b y recipients only in the performance of their official duties. I t s contents may not b e otherwise disclosed without W o r l d Bank authorization.

INDONESIA THIRD KECAMATAN DEVELOPMENT PROJECT

CONTENTS

A. Project Development Objective

1. Project development objective 2. Key performance indicators

B. Strategic Context

1. Sector-related Country Assistance Strategy (CAS) goal supported by the project 2. Main sector issues and Government strategy 3. Sector issues to be addressed by the project and strategic choices

C. Project Description Summary

1. Project components 2. Key policy and institutional reforms supported by the project 3. Benefits and target population 4. Institutional and implementation arrangements

D. Project Rationale

1. Project alternatives considered and reasons for rejection 2. Major related projects financed by the Bank andor other development agencies 3. Lessons learned and reflected in the project design 4. Indications of borrower commitment and ownership 5. Value added of Bank support in this project

E. Summary Project Analysis

1. Economic 2. Financial 3. Technical 4. Institutional 5. Environmental 6. Social

Page

2 2

3 8

15

17 24 25 25

26 28 29 32 33

33 33 34 35 38 39

F. Sustainability and Risks

1. Sustainability 2. Critical r isks 3. Possible controversial aspects

G. Main Loan Conditions

1. Effectiveness Condition 2. Other

H. Readiness for Implementation

I. Compliance with Bank Policies

Annexes

Annex 1: Project Design Summary Annex 2: Detailed Project Description Annex 3: Estimated Project Costs Annex 4: Cost Benefit Analysis Summary, or Cost-Effectiveness Analysis Summary Annex 5: Financial Summary for Revenue-Earning Project Entities, or Financial Summary Annex 6: (A) Procurement Arrangements

(B) Financial Management and Disbursement Arrangements Annex 7: Project Processing Schedule Annex 8: Documents in the Project File Annex 9: Statement o f Loans and Credits Annex 10: Country at a Glance Annex 11: Anti-Corruption Strategy Annex 12: Environment Screening Criteria Annex 13: Guidelines for Resettlement, Land and Asset Acquisition Annex 14: Indigenous Peoples Special Program for Papua

43 43 44

44 45

46

46

47 5 1 55 56 59 60 67 76 77 78 80 82 89 96 99

MAP(S) Indonesia

INDONESIA Third Kecamatan Development Project

Project Appraisal Document East Asia and Pacific Region

EASES

Date: M a y 5,2003 Sector Managermirector: Maria Teresa Serra Country Managermirector: Andrew D. Steer Project ID: PO79156 Lending Instrument: Specific Investment Loan ( S L )

Team Leader: Scott E. Guggenheim Sector(s): Sub-national government administration (25%), Water supply (20%), Irrigation and drainage (20%), Roads and highways (20%), Primary education (15%) Themds): Decentralization (P), Rural policies and institutions (P), Civic engagement, participation and community driven development (P), Social risk coping (P), Rural services and infrastructure (S)

Project Financing Data [XI Loan [XI Credit [ ] Grant [ ] Guarantee [ ] Other:

For Loans/Credits/Others: Loan Currency: United States Dollar Amount (US$m): US$249.8 Borrower Rationale for Choice of Loan Terms Available on File: (XI Yes Proposed Terms (IBRD): Variable-Spread Loan (VSL) Grace period (years): 5 Commitment fee: 0.75%

Years to maturity: 20 Front end fee (FEF) on Bank loan: 1.00% Payment for FEF: Capitalize f rom Loan Proceeds

Proposed Terms (IDA): Standard Credit Grace period (years): 10 Commitment fee: 0.00-0.50%

Years to maturity: 35 Service charge: 0.75%

m m 194.70 9.60 204.30 D A 41.40 4.10 45.50 Total: 341.60 20.70 362.30 Borrower: REPUBLIC OF INDONESIA Responsible agency: MINISTRY OF HOME AFFAIRS Address: PMD, K1 19; J1 Pasar Minggu Raya, Jakarta, Indonesia Contact Person: Mr. Bit0 Wikantosa Tel: (62-21) 7917 1684 Fax: (62-21) 7919 6118 Email:

-.

Estimated Disbursements ( Bank FY/US$m):

Project implementation period: 5 years Expected effectiveness date: 09/01/2003 Expected closing date: 12/3 1/2008

A. Project Development Objective

1. Project development objective: (see Annex 1)

KDP-3 has overall development objectives o f reducing poverty and improving local-level governance in rural Indonesia. I t i s part of a long-term village level governance program that began with the f i rst Kecamatan Project in 1998.

Specific development objectives for KDP-3 include: (i) institutionalizing participatory processes in local government; (ii) the cost effective provision o f basic social and economic infrastructure; (iii) strengthening the capacity o f the micro-finance institutions developed under KDP- 1 and KDP-2 to manage and monitor funds sustainably.

2. Key performance indicators: (see Annex 1)

a. Performance benchmarks cover process, output and outcome indicators. Outcome indicators refer primarily to poverty and governance measurements. They necessarily involve a lag time. KDP-3 therefore includes outcome measurements based on KDPl and 2 rather than the current project. However, because the core program follows the same model for all three projects, outcome measurements from the earlier projects should inform evaluation o f the current one. The primary measurements that w i l l be used to measure project outcomes are:

i. Household expenditure rates among the poor, measured against controls; ii. Reductions in development-related corruption, measured by engineering assessments

o f project-built infrastructure compared with controls. iii. Amounts and benefit streams from project-provided infrastructure, measured by

engineering and economic surveys; and iv. Poor people’s access to microfinance, measured through before and after surveys.

b. Performance benchmarks during the project period wi l l reflect the project’s overall objectives o f improving the local level institutional framework for poverty reduction. They w i l l cover five main variables:

i. Increases in social inclusion, measured by vulnerable and poor group’s participation in KDP decision-making and management;

ii. Changes to the responsiveness and quality o f local governance, measured by perception surveys and efficiency gains in public investment;

iii. Sustainability o f the KDP approach, measured by local government adoption o f the program through the matching grant program option

iv. Economic outputs from community investments, measured by rates o f return; v. Sustainability o f village revolving funds, measured through their internal information

system;

Additional indicators w i l l measure the performance o f individual components and activities.

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B. Strategic Context 1. Sector-related Country Assistance Strategy (CAS) goal supported by the project: (see Annex 1) Document number: R2001-1 [IDA R2001-31

Bank assistance strategies for Indonesia in recent years have been defined largely by the nature

Date of latest CAS discussion: September 3, 2002-CASPR

o f the country's social, economic, and political transition. From 1998 to 2000, Bank concerns focused overwhelmingly on the East Asia economic crisis and the resulting increase in poverty. Indonesia's recovery f rom the crisis has been slow. However, many o f the worst effects o f the crisis have subsided. The 2001-2003 country assistance strategy accordingly shifted away from crisis response and towards a more institutionally focused strategy that could help the country repair institutions damaged b y the fal l o f the New Order government. Overall Bank lending was significantly reduced, non-performing projects were restructured or cancelled, and both analytical and operational work concentrated on finding ways to support Indonesia transition into a democratic, decentralized development environment.

The Banks response to this constantly changing environment reflects the changing patterns o f opportunity and constraint. The "big picture" strategy i s to promote a reform strategy that w i l l lead to responsive and effective institutions for local govemance, and the linchpin of that strategy i s to promote end-user accountabilities and participation in the institutions o f local government. The KDP program o f course does not work alone or in isolation f rom other projects, and the overall description below o f what KDP i s trying to accomplish should be seen as emblematic o f a generation o f Indonesia community development programs supported b y a range o f sectors.The FY03 Indonesia lending program i s strongly consistent with the CAS Progress Report. The concurrent resolution o f issues that had led to a smaller program in FY02 than expected at the time o f the CAS PR, including on-lending guidelines and the Government's decision to go ahead with borrowing for the power sector, has resulted in a larger program in FY03. All the FY03 five activities in the CAS Progress Report were successfully negotiated, three with expanded scope or geographic focus. Approval o f the five N O 3 loans would result in average annual lending over CAS years FY01-03 o f $460million, just 15% higher than the basecase CAS expectation. Moreover, the Government i s on the verge of meeting the highcase triggers, which lends further support to the upward lending trend.

The KDP program ties in with two o f the three main CAS goals: improving govemance and reducing poverty. But K D P also fit in with the overall CAS strategy o f maintaining a low profile while Indonesia sorted i t s way through the New Order legacy and resulting institutional turmoil. The Banks CPAR and other analytical works on governance documented the severe problems posed by endemic corruption in public sector projects, while several o f the Banks traditional big lending sectors reduced their activities because o f the uncertain environment into which lending would take place. Because KDP operated "below the radar screen" and yet s t i l l functioned as a national project, the program moved to a prominent position within the Banks assistance strategy.

KDP i s part o f the Banks support to Indonesia's massive decentralization program. The Banks subnational strategy rests on four activities. First, policy work monitors and improves the subnational administrative and regulatory environments. Second, programmatic projects such as KDP and the soon to be appraised district level govemance projects also provide cross-sectoral "platforms" for improving government services and promoting basic principles o f good govemance. Third, sectoral projects such as the provincial health project concentrate on developing new types o f service delivery supply for activities which are technically too complex for full decentralization or where there w i l l be large economies o f scale but which nevertheless must respond to decentralized demand. Finally, not a l l government institutions have decentralized, and a separate set o f activities must concentrate on national institutions that operate at the local level (Le. the justice sector i s a commonly cited example).

- 3 -

KDP contributes to this overall strategy primarily through the second activity, developing more efficient governance platfonns, even though i t contains elements of a l l four initiatives. As w i l l be discussed below, Indonesia's framework decentralization laws (Laws 22 and 25) concentrated on fiscal decentralization to the districts, but while they provided an opportunity to consolidate and improve village and subdistrict government, they lacked the specificity needed to build not just sound local administrations and improved procedures for popular participation in development decision-malung. The Ministry o f Home Affairs i s charged with providing the administrative guidelines s t i l l needed to implement decentralization. K D P has emerged as one of the government's primary tools for filling in these gaps.

Brief Description of KDP -- KDP i s a program to support community planning. Based on their location and population, the project provides one o f three fixed block grant amounts to subdistricts (kecamatans). Villagers then decide to use these funds for infrastructure, social, or economic activities. Each kecamatan receives the funds for three years. The distribution o f funds through the kecamatan i s b y the kecamatan council, which consists o f members appointed by government, plus additional broadly respected persons (such as religious and traditional leaders, teachers, etc), and three additional members (one man and two woman) selected from each participating village. The kecamatan also creates a three-person unit, called an Financial Management Unit (UPK) , to manage KDP funds and to oversee any larger procurement.

The K D P project cycle goes through various stages: information dissemination, planning, proposal preparation, verification, funding decisions, implementation, and follow-up. The project cycle normally takes 12-14 months to complete, although there i s substantial variation across the different provinces. Later stages o f the project include a "village visioning" exercise where villages assess their overall infrastructure needs and discuss them in a group meeting with local government technical agencies to agree on joint programming options (see Figure 1).

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Figure 1: KDP-3 ACTIVITY CYCLE I Program Preparations I

agree on partielpatlng villages (based on past

Each village can submit a maximum o f two proposals to the kecamatan forum, one o f which must come from women's groups. Village proposals receive various levels o f technical review. At the kecamatan level, verification teams normally include community leaders, the kecamatan technical facilitator, and appropriate technical staff recommended b y the district engineer. Verification also reviews criteria such as the economic soundness o f proposals, whether they benefit significant numbers o f the poor, are their maintenance or repayment plans, and whether people genuinely participated. Verification reports are presented to the kecamatan forum, which must then select through consensus which proposals get funded. There i s no further review.

The head o f the UPK, the Kecamatan facilitator, and al l o f the village council heads then open a jo int bank account at a private bank. Once proposals have been endorsed by the government's kecamatan project manager, they are sent to the provincial treasury, which orders a transfer to a collective account opened in the district branch o f a chartered bank (usually BEU or BNI) . Payments to the kecamatan are made in 40%-40%-20% installments. Disbursements to the individual subprojects are made against certified requests for expenditure until each installment has been used up. The UPKs, village councils and implementation teams must make a public report to the community after each installment has been utilized. that last 20% installment i s released only after a completion report has been signed b y the district engineer.

Once i t has been decided which projects should be funded, village technical assistance i s

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contracted. A community implementation team o f five people i s elected n each village to oversee works. Periodic village meetings are held to report on the works, to review the books, and for public presentation o f at least three quotations for any goods that must be purchased. Different training programs are held across the KDP cycle, f rom programs in book-keeping and project management which are held in every village, to more specialized programs in conflict management, micro-finance, or community radio, which are only provided to some provinces.

I. Inputs Number o f project kecamatans Number o f villages with subprojects Grants and subloans disbursed 11. outputs Number o f subproject agreements Percentage of work aereed that i s comdeted

Loan Agreement Year 3 Actual for Year 3 725 986

6,000 15,000 Rps. 450 billion Rps. 1,600 billion

>6,000 15,000 >80% 95% 1 Percentage of sites (kecamatans) visited by

suDervision staff

Benefitsireturns Number o f beneficiaries

Percentage of infrastructure subprojects with O&M committees

Subloans repaid, by schedule

>lo%

>20% 60%

>80% 45 % >50% 86%

3 million Est. 35 million

100%

Audits (kecamatan sample)

I IIT. Imnacts I I I

2.5% 30% Monitoring by journalists, published stories I 20 Approx. 800

KDP sits within the Ministry o f Home Affairs. Government coordination teams representing various ministries also assist with KDP. The coordination team i s chaired b y the Ministry o f Planning, Bappenas. At the province and district level the coordination team i s also chaired b y the planning board, but subnationally these are part o f Home Affairs. K D P i s supported b y nearly 3,000 consultants, who work at the national, provincial, district, and kecamatan level. Villages also propose their own facilitators to j o in the project. Each village has a man and a woman facilitator, Under KDP-2, this number was increased to three villagers to complement the social facilitators with a technical specialist. More than 40,000 villagers received social and technical training in K D P s f i rs t three years o f operation (see Figure 2).

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Figure 2: The KDP Management System (Lines show main routes for two-way communication and coordination)

(*CoordinntionTeam Advisor Team (Tim-4) * National KDP Secretariat * Manaeement Consultants

I * Coordinntian Team * Province KDP Secretariat

* Management Consultants (Regional Unit)

9 Coordination Team Management Consultants 1 FVI'L * District KDP Secretariat ( K M Kah)

* Kecamatan Facilitators I tVLI. * PjOWPjAK (FK)

I I - Village Facilitators (FD)

* LKMD/BPD

Results f rom KDP are highly satisfactory overall. Outputs from K D P s first three years included 19,000 kms. o f roads and 3,500 kms built or upgraded, 2,800 clean water supplies built, and 5,200 irrigation systems built or repaired. Nevertheless, over time, weaknesses have appeared in the overall program strategy, some due to inadequate design, others due to the constantly revised role that KDP plays within World Bank assistance. Three are particularly important for the current proposal:

i.

11.

... 111.

The freedom from much o f the public administration's standard rules and procedures that allowed KDP to quickly and effectively reach a broad swath o f communities during the crisis divorced i t f rom much o f the public sector management strategy. With the renewed interest in subnational poverty strategies, KDP has the potential to bring participatory planning procedures back into mainstream public administration;

KDP initially gave priority to villager choice and the need for economic transfers to the poor most hit b y the crisis over the sustainability o f microfinance institutions. Improvements to Indonesia's overall microfinance environment provide an opportunity to use the revolving funds established through KDP to support a larger-scale microfinance architecture; and

KDP began l i fe as a fast-off-the-mark activity whose purpose was to support f rom the bottom o f the country level democratization that was taking hold at the top. But init ial plans did not foresee the extent to which the transition would be a long one, nor how deeply rooted many New Order institutional structures would tum out to be. KDPs init ial short time horizon i s

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too brief for the reforms i t introduces to be normalized within local government’s development management.

2. Main sector issues and Government strategy:

A multi-sectoral project such as K D P must confront a broad range o f sector specific issues. Appraisal reports for KDPl and KDP2 addressed sectoral issues with respect to community development, technical capacity, and fiduciary concerns. KDP-3 w i l l specifically address two important institutional dimension within the KDP program: giving village empowerment a more solid legal and administrative foundation, and providing a rationalized management framework for community microfinance.

I. A. The Governance Divide in Rural Indonesia. The Local Level Institution (LLI) studies carried out b y the National Planning Agency (BAPPENAS), Ministry o f Home Affair (MoHA) and the World Bank identified a gap in local governance that exists in the large majority o f Indonesian rural villages. This gap usually translates into a lack o f trust, apathy and a low-quality dialogue about development. Externally induced development models that do not recognize the core problem o f the local governance divide limit their own likelihood o f success. Evidence o f this root problem can be seen in the universally reported problem of poor public infrastructure construction standards and poorer maintenance in Indonesian villages, clear s igns o f little local ownership. As a result, social and economic resources are not as well used as they could be, particularly with respect to rural poverty reduction. Some of the most important reasons for this gap are:

‘Villages ’ are not ‘communities ’. Despite formal definitions and descriptions, villages are collections o f often highly independent neighborhoods, hamlets and sub-villages, sometimes far apart, with their own economic and social structures. Voluntary cooperation among these sub-units i s by no means the standard and ‘village government’ i s often a distant, abstract notion.

Community Empowerment and Local Governance

>

9 Information does notflow freely. Indonesia’s New Order government concentrated access to development information within the executive branch. Internal government checks and balances were weakened or disappeared. Civ i l society organizations and media that could provide alternative channels of information flow were banned from entering villages. Even private banks were usually required to obtain counter-signatures f rom village heads before they could advance loans. Furthermore, the executive also became the main channel for redress. As a result, information flows upwards also withered away.

> Local government lacks downward accountability. Village and subdistrict heads, when not directly appointed b y the district head, could be replaced by him at will. All reporting was from the local government upwards, never to local constituents. With no institutional mechanisms to provide checks and balances between local leadership and constituencies, communities as well as leaders came to view local government as the extension o f the central government into the village, not as their own mechanism for relaying local concerns to higher levels o f government.

9 Villages do not control their own development funds. Government projects for communities are typically decided in district capitals, with little or no planning information given to the villagers themselves. A tabulation o f a sample of 45 village planning requests found that only 3 percent o f village requests were met by government projects. The small public funds given for village development were nearly entirely earmarked for government officers. Regulations

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passed in the 1990s went so far as to prohibit villagers f rom supervising or maintaining works constructed through public funds, and functions which instead were done through contractors.

> Community attitudes do not change quickly. After forty years o f tight security and demands for unquestioned loyalty and obedience, villagers are s t i l l uncertain how to oppose corruption and poor leadership. There i s usually a preference to reduce contact with formal leaders to a minimum.

> Local government attitude towards village-government relationships have not signijiicantly changed. Under 'decentralization', villages s t i l l do not have a direct voice in district-level development planning. Instead, villagers are expected to implement regulations and projects decided elsewhere.

Nevertheless, there are a number o f encouraging s igns that opportunities exist to change this situation. Go1 itself launched the current generation o f community development programs through a flawed but innovative "Project for Left Behind Villages (IDT)," which for the f i rs t time, provided direct transfers to village governments. Both o f the LLI studies and the first K D P argued that there are operational ways to return control o f low level decision making to village users without requiring wholesale changes to the Indonesian administrative system. The key to this f i rs t round lay in decentralizing community funds to preexisting representative decision-makmg bodies, and b y adopting an active program to disseminate project financial information. In most cases, making local governance bodies more representative, however, required some additional tinkering wi th operational rules to ensure more broad-based representation and participation in decision meetings. Other sectors pursuing the route o f direct transfers to user groups, most notably irrigation and school committees, also found large increases in the quality of construction and the satisfaction o f communities.

Changes to local government. The second LLI study was completed in 2001. One o f i t s most interesting findings was that leadership had undergone a significant change in nearly half o f the villages studied. Village heads and the newly formed Village Representative Councils (BPDs) did not come from the "dynastic" families that had controlled village politics under local administrations, and a large majority o f respondents reported that the new leadership was less corrupt and more responsive to the needs o f the villagers. However, the study also showed that most o f these new leaders lacked the necessary s k i l l s and, even more importantly, did not have effective ties to the district administration or parliament. Both sets o f findings have since been confirmed by reviews carried out by the Ford Foundation and the Partnership for Local Governance. They form the basis for the village governance proposals that w i l l be supported through the proposed project.

B. Decentralization and village empowerment. Indonesia's decentralization program has been extensively reviewed in a number o f Bank reports. Two basic laws, Law 22/1999 on regional autonomy and Law 25/1999 on financial balance, radically transformed the character o f Indonesian public administration. The two laws ensured that district governments w i l l eventually control over 40 percent o f total government spending. Over 100 implementing instructions, regulations, and guidelines were prepared to accompany the new laws, but most o f these had not been adequately discussed in the newly empowered parliament and relatively few have been issued. As a result, the administrative "state o f play", while clearly favoring decentralization, remains very much in flux, with struggles back and forth over responsibilities, reporting requirements, dispute resolution mechanisms and the like. Development projects have also faced a broad range o f implementation problems because o f this lack o f institutional clarity, and one purpose o f the proposed KDP-3 i s to help local governments implement Law 22/1999 in

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operational ways.

With administrations that lack both governance experience and clear assignments o f responsibilities, political struggles within the different branches o f district governments have also led to institutional turmoil over the powers newly released b y the national government, and the emergence o f local private interests seeking to capture public decision-making. Nevertheless, in many areas decentralization has moved forward well, and local governments have started to work out their own modus vivendi between their different branches.

Village relations to districts. One element o f Law 22 that has received much less attention was the broadening o f village autonomy. Villages can now own assets, borrow money (although this authority i s now on hold), establish village-owned businesses, and, in certain cases, reject government action in their village, although the language o f the law remains somewhat vague on these issues.

But Law 22 also reinforced the dependence o f villages on district government decisions. The dominant position o f district government was more or less formalized b y one of the implementing regulations o f L a w 22, the “General Guidelines on Regulating Villages”, a document that leaves most o f the details to the district government. Some major points o f this regulation include:

> The decree assigns legislative authority to local governments to draw up 13 regulations on such vital issues as village head elections, the ‘formation’ o f the BPDs, and the status of village regulations in relation to ‘public interest’ (allowing the district to null ify almost any village regulation), and inter-village cooperation.

> The decree undermines i t s own authority by confirming that i t i s only a ‘guideline’ ( pedoman), for local governments to follow when drawing up district regulations (perdu Is). Add to this the stipulation that perdu’s are no longer subject to ‘central’ approval (local governments only need to submit a copy within 15 days), and the potential for rigid and unjust regulation o f village powers i s clear.

> The districts are even given authority to regulate traditional institutions and the role o f local custom, elements o f village l i fe that should per definition remain outside formal rules. Local government can now capture elements that are ‘useful’ for their purposes and eliminate aspects that are troublesome to them.

Villages still have little to say about development planning policies. As in the pre-1999 days, as far as villages are concerned, development planning and policies are s t i l l top-down. Villages do not have a formally defined mechanism to participate in district decision making. At district-level planning meetings, village representatives are not present. At best they are s t i l l represented b y the subdistrict head (camat), although he has now formally become a member o f the bupati’s staff and i s not selected from below.

Village administrations lack resources. In 1996 every Indonesian village received Rp 6.5 mi l l ion in development funds. In 1999 this was around Rp 10 million. In 2001, after decentralization, amounts vary sharply. LLI reports showed that some Central Java villages received Rp 30 million, while surveys in North Sumatra, East Nusa Tenggara (NTT), and Lampung districts found many districts where villages received no funds at all.

B y way o f summary, then, this review o f local governance under decentralization illustrates the complex nature o f Indonesia’s transition even at the level of village development. The administrative changes

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brought in by decentralization open the door to reform, but at the same time they increase the opportunities for districts to install a more direct control over village institutions than was ever possible in the past. Comparative experience with decentralization elsewhere suggests that an additional variable -- the extension o f political parties into local politics -- i s l ikely to exacerbate this already complex equation.

C. Administrative actions to promote village empowerment. KDP's overall strategy for village empowerment rests on three legs, which are reflected to varying degrees in each o f the three projects. KDP- 1 concentrated primarily on developing participatory processes for development planning, management, and monitoring. KDP-2 concentrates on giving villagers the technical tools to manage public funds: infrastructure assessments and technical training, higher quality book-keeping and procurement, linkages to technical and private sector service providers, etc. The proposed JSDP-3 project highlights the institutional dimensions o f village empowerment. Bappenas, Home Affairs, and the WB task team have identified three sets o f actions that are needed to strengthen village governance within the decentralized public administration. These are (i) protecting village autonomy; (ii) improving village capacities to represent themselves in higher level institutions; and (iii) creating representative inter-village bodies. The sections that follow describe these three sets o f recommendations in more detail since they form key parts of the proposed project.

Protecting Village Autonomy

National legislation to protect the rights of villages. Most o f the 13 regulations assigned to local government ("perdas") can have a direct impact on the quality o f village government. The central government should, therefore, provide a binding outline for such regulations, with clauses that are fixed and unalterable b y local government and (mainly technical) clauses that may be adjusted to local conditions. This w i l l ensure proper interpretation o f Law 22 concerning village autonomy. The national regulation outline should be based on the district-level regulations that are already been made operational by local governments during the past two or three years. The good and reasonable ones should be taken as models and then molded into 13 standard national model laws. In this manner, the proposed national law would be a reflection o f what i s best among local regulations. The makers o f the model regulations could explain to their colleagues in other districts why they drafted the regulations the way they did and their experience has been with implementation. Districts that s t i l l have not yet issued the required 13 perda's can proceed immediately on the basis o f the 13 models.

Civic information and education programs. In order to give village autonomy meaning, village leaders and villagers should know about their rights and the ways to protect them. This 'instruction' should not be limited to village group discussions and one-way presentation o f texts and diagrams. Programs should also cover schools, religious institutions and should make use o f books, magazines and radio programs.

Training in administrative and monitoring skills to reinforce village administration. Local government criticism o f village-level administration, monitoring capabilities and reporting s h l l s i s often well-founded. Villages are not strong in these areas because they were never allowed to practice them in the past. With enhanced autonomy, they w i l l need to master these ski l ls . Broad civic education may also stimulate interest in taking up formal posts in village government, the BPD and other village institutions. The current shortage o f candidates i s partly due to the fact that people do not know what they can do with their powers and see their tasks largely as pro forma .

Continuing studies of village governments and their relationship to village capacity and social capital. The impact o f new legislation and empowerment programs should be regularly evaluated to assess their impact on the quality o f local leaders, institutions, governance practices. Government and society at

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village level i s complex and diverse. Programs and projects do not always work the way they were expected to.

Strengthening Capacity for Village Representation and Local Accountability

L a w 22 o f 1999 explicitly enshrines the principles o f empowerment and autonomy as the basis for village government under decentralization, stating that the basis for the new regulations for village government i s ‘diversity, participation, genuine autonomy, democratization and people’s empowerment’. However, i t i s local implementing regulations-in particular, perdas passed b y local parliaments-that w i l l determine whether this new basis for village government i s realized in practice. Such regulations are also the pre-conditions for providing development assistance to villages through non ad hoc procedures.

KDP 3’s local governance strategy builds on the village-level work o f K D P 1 and K D P 2. I t focuses on the relationships among villages and district governments. I t w i l l help develop the capacity o f local governments to draft and pass local legislation that promotes the village representation and district-level accountability defined b y Law 22/1999. In the long term, this effort w i l l ensure the sustainability o f KDP-induced practices, such as a community-driven approach to development, and w i l l encourage local governments to hand over increasingly larger portions o f their authority and resources (especially budget) to the village level. KDP’s strategy involves:

Review of regulations concerning village councils and other representative bodies. National legislation and district regulations should ensure that the BPDs are (i) diverse (representing, as much as possible, women, the poor, outlying hamlets and clusters, cultural minorities): and (ii) accountable to the communities they represent. Responsive and accountable BPDs w i l l enhance responsiveness on the part o f formal leaders and stimulate involvement b y villagers in public issues. Several recent studies by GO1 and Indonesian universities support the view that the new village representative councils should be given priority support.

Support for the drafting and public monitoring of district regulations. Legislative drafters at the DPRD II level have inadequate technical s lu l ls, poor knowledge o f the law and a lack o f access to examples o f well-drafted legislation. As a result, perdas are often drafted vaguely or badly. Those related to village governance may not reflect the principles o f village autonomy and empowerment provided for in Law 22. Poor public access to perdas also hinders the capacity o f the public to monitor local legislation and ensure that perdas are not used by local government as a vehicle for promoting personal and partisan interests. GO1 efforts thus concentrate on:

a. Public access to al l perdas. There should be a distribution center to provide copies o f local regulations and other public information on policies and projects to promote greater monitoring by the public o f local regulations

b. Improving the capacity o f the technical staff o f representative bodies to draft legislation. This would take two forms: (i) Providing them with examples o f best practice from elsewhere and opportunities for public dialogue; and (ii) drafting courses for district and DPRD II technical staff. Simple wording and sentences w i l l help the implementation and enforcement o f district regulations. Consistent formatting and lay-out w i l l also enhance transparency.

Guarantee a minimum of funding directly to villages

If villages are expected to do more, they should be given some financial operating space to do this.

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Currently, district budgets are heavily skewed towards overhead and district-controlled projects. KDP-3 provides resources to support the strengthened local administrations.

D. Inter Village Cooperation

In a national context, establishing inter-village cohesion i s perhaps more important than strengthening individual villages. The physical and sociological distance between a village and a district i s enormous. In the past, subdistricts (kecamatans) brokered the relationship -- most villagers would be wil l ing to travel to subdistricts, and i t was reasonable to expect subdistrict officers to visit most o f the villages with their kecamatan. Now that Law 2211999 has made the camat a district official, the resulting vacuum must be fi l led by the villages themselves, before a district-controlled institution i s installed. (There are already examples where this i s happening).

Enhancing village capacity to overcome problems collectively w i l l provide several benefits to district government, among them:

a. Fulfilling joint needs, including the effects o f natural disasters, more effectively.

b. Resolution o f horizontal disputes between villages.

c. Enhancing bargaining position in dealings with higher government.

d. Making better use o f opportunities provided by bottom-up development planning mechanisms.

Inter-village cooperation should be left to the villages as much as possible. Nevertheless, as with village autonomy, some issues should be regulated at the national level to protect the basic principles o f democratic, transparent and accountable decision-makmg. A Ford Foundation supported study found that " ... Some kabupatens had issued PERDAs on (inter-village collaboration fora) but none had any guidelines for i t s implementation."

Basic elements for the Inter-Village Forum already exist within K D P and the draft regulations prepared by the Ministry o f Home Affairs. Additions and modifications to the draft should specify:

a. Joining criteria. A Inter-Village Forum should not be mandatory. Law 22 rightly leaves the decision to establish a forum up to the villages. If a Inter-Village Forum i s established in a certain area, each individual village should be free to j o in or not. Although refusal to jo in could exclude i t f rom certain advantages (e.g., a village that wants to participate in KDP, must also participate in the Inter-Village Forum).

b. Internal rules. Before villages actually meet to discuss cooperation, disputes etc., they should first agree on internal rules: chairpersodcommittee selection; whether to have an elected secretariat; cosdfunding o f meetings; venue; reportingh-ecords etc.

c. Scope of decision-making authority (priorities, funds, project implementation etc.),

d. Implementation of projects. The Inter-Village Forum is, in principle, an informal body. I t can therefore not take on formal, legally binding responsibilities. Villages involved in cooperation projects would each be responsible, separately, for their share in the project (project quality, management, administration etc.), according to a proposal approved by the Inter-Village Forum. The Forum's main task would be to monitor implementation based on the approved proposal.

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11. Revolving Funds and Credit for Economic Activities

The second intervention o f KDP3 w i l l be to strengthen microfinance b y providing professional oversight and supervision to the revolving funds. The main microfinance (and rural finance) sector issues are: (a) the persistence o f unsustainable program microcredit; (b) the lacking outreach o f institutional microfinance to rural villages; and (c) the lack of institutionalized support and supervision for microfinance institutions operating outside the banlung sector.

Unsustainable credit programs. Program microcredit has been provided mainly by the Government through special credit schemes and poverty alleviation programs. The prevailing features o f program microcredit have been: (i) emphasis on channeling easy and cheap funds; (ii) neglect o f the demand for savings and liquidity management instruments; (iii) central designs neglecting locally varying demand and conditions; (iv) instant intervention neglecting the need for longer-term and gradual strategies; (v) lack o f proper program monitoring and credit supervision; and (vi) poor credit collection and de-capitalization o f loanable funds. This break with prudential microfinance standards was deepened b y the channeling o f huge amounts o f subsidized funds during and after the financial crisis. This has impaired rather than supported low-income clients in getting access to sustained and growing microfinance services, and i t tends to undermine rather than complement the development o f sustainable institutional microfinance institutions.

Government policies in this respect have not changed. Most sector ministries which continue to use subsidized program credit on a large scale. The recent draft Indonesian I-PRSP emphasizes "...easier access to be given to the poor to financing sources through the Micro Credit, Small Credit and Cooperatives Credit programs ... on concessional terms". There i s neither a consistent microfinance vision and policy nor an enabling legal and regulatory framework for the sound development o f non-bank microfinance institutions. The Ministry o f Finance i s presently reviewing a drafted microfinance law. The Bank has been providing assistance as part of the partnership financial sector work that concentrates on (i) assisting Go1 develop a vision and strategy for financial services to the poor; (ii) clarifying and unifying the legal and regulatory framework for microfinance institutions, and (iii) capacity building issues for microfinance institutions, including dissemination o f best practice tools.

Lack of credit outreach. Despite al l efforts o f financial deepening, the majority o f villagers does not have sustained access to financial services, especially microcredit. The major demand-supply gap in institutional microfinance exists at the village level. Sustainable microfinance providers such as the BRI unit and the BPR systems have not been able to close this gap. The renaissance o f targeted credit policy and program microcredit has been aiming at increasing outreach quickly, while neglecting institution building and sustainability. Institutional microfinance outside the banking sector i s usually referred to as LKM (Lembaga Keuangan M ik ro = microfinancial institution). Government programs have been increasingly promoting and using LKM for channeling funds to target beneficiaries. This practice has already corrupted the integrity o f cooperatives and w i l l hardly result in the development o f independent and viable non-bank microfinance institutions.

Lack of supervision and monitoring A major issue for the development o f non-bank microfinance institutions i s the lack o f institutionalized effective support and supervision. Both the cooperative sector and the usually government-driven L D K P have been suffering f rom this situation. Community-owned microfinance institutions do not have sustained access to capacity building through institutional providers o f training, consultancy and supervision services. Projects partly provide these services for a limited time and often without the necessary quality through individual consultants. A strategy focusing on the

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institutional strengthening o f non-bank microfinance institutions would have to include innovative approaches o f ensuring sustained access to demand-oriented technical assistance and effective supervision. Supervision o f non-bank microfinance institutions i s necessary for supporting their sound development and part o f a capacity building strategy rather than only a function o f deposit protection or enforcing regulations. I t must be locally available whether or not non-bank microfinance institutions w i l l be regulated and supervised b y the central government.

Future microfinance sector strategy. The strategic challenge i s to combine increasing outreach and sustainability within a financial systems approach. An important element o f this strategy i s a vision o f the institutional microfinance landscape some 10-20 years f rom now. This vision most probably w i l l have three major pillars: (a) the BRI unit system increasing outreach to the village level, while maintaining i t s present soundness; (b) the BPR system with increased viability and downward mobility to the village level; and (c) non-bank microfinance institutions focusing on providing financial services at the village level. The latter include financial cooperatives as well as microfinance institutions owned and controlled by communities. A first step towards this vision would be a policy change giving priority to institution building for sustainable microfinance, thus terminating solely outreach-oriented, and politically and socially motivated, channeling o f government funds, and especially refraining from using LKM as channeling devices.

Community-owned microfinance institutions may not in a l l locations be a viable or advisable option. Sustainable institutional development w i l l not be feasible in more isolated and very poor areas, in areas highly dominated b y agriculture and without diversified economic opportunities, and in areas lacking the human resources required for this development. Where BRI units and BPRs are actively increasing outreach to villages in a competitive environment, strategies should support them rather than establishing new competitors. Nonetheless, the community-driven revolving funds have indicated that there i s considerable unmet credit demand and sufficient room to move for well managed community-owned microfinance institutions.

3. Sector issues to be addressed by the project and strategic choices:

Earlier generations o f K D P concentrated on the village planning process (KDP-1) and the technical quality o f works management (KDP-2). The main kecamatan block grant w i l l consist o f extending the existing KDP-2 model described earlier for two more years. There are two main sets o f new sectoral issues to be addressed b y the current generation o f KDP programs. The first consists o f opportunities to institutionalize KDPs' participatory planning and decision-making procedures in the emerging context o f decentralization as described above. The second i s to strengthen community financial institutions.

Community Empowerment. The first development objective i s to provide the regulatory and legal framework for village and inter-village strengthening. In this activity, the Ministry o f Home Affairs would prepare a binding outline for the 13 regulations needed to implement Law 22. They would be based on the district level regulations that have already been made operational during the past three years. The outline and best practice examples w i l l be developed jointly with the association o f district heads and other stakeholders in Indonesia; MoHa consultations with the bupatis started during project preparation but w i l l be accelerated following completion o f appraisal. Support through this component w i l l a im to improve the capacity of the institutions o f local governance, in particular the Village Representative Councils (BPD), the Inter-village forums (FAD), and the technical staff o f the district legislatures (DPRDs) and commissions charged with support to communities. This component w i l l also explore opportunities to enhance community revenue bases, in particular through revisions to procurement rules so that communities can more easily participate in public contracting.

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Table : Past practice Standardized, based

1: KDP strategy fc Current policy To be determined

village governa KDP-1 Used standard, preexisting formal and informal groups

:e reform KDP-2 Adds non-voting members to village and inter-village forums

~~ ~~

KDP-3 Proposes national and district regulations to support village and inter-village institutions’ Strengthens new village parliament (BPD) and inter-village forums 2 yr. Subdistrict block grant to complete 5 year cycle. Matching grant ‘standardized for all

’olicy Issue Selection of form of village govemment on national law through kabupaten

specific procedures

Adds informal members to village and subdistrict bodies

Village leadership training, joint monitoring with DPRD 3 yr. Subdistrict block grant

Strengthening village leadership

)e facto all selection iy district

Local elections but procedure and ratification by district

Uniform $2,000 central transfer for village administration None

Decided by district Revenue base 3 yr. Subdistrict block grant

Counterpart funding from local govemment

Funding decision for community projects

Not decided

District

None Matching grant pilot

districts Subdistrict Proposals approved

at district level or higher

Subdistrict Subdistrict

Village-wide assessment Village socialization programs for executive and parliament Subdistrict “presentations” by district dinas’s to subdistrict forums Limited capacity strengthening. Still within standard project management units

Village-wide assessment Support for strengthening district parliaments

Joint planning for specialized services (health, education, irrigation etc) Technical support and supervision to free-standing revolving funds; no new loan funds; private bank linkages

Village infrastructure needs assessments Relation to district govemment

Ly sectoral agencies

Reports to district executive

No policy

Determined by individual districts executives and oarliament

Project specific

Used existing structures

Dinas’s provide all technical services

Relation to line agencies Not clear None

Subsidized, directed credit

No national policy exists (in prep.)

Microfinance Commercial interest but low repayment

No significant reform of judiciary but NGO and media freedom to organize

Introduced NGO and press independent monitoring

Continued NGO and press; barefoot lawyer and pilot system for paralegal access.

- Continues NGO, Grievance and dispute

resolution Complete domination by executive

press and paralegal, introduces; extended community based monitoring. Support for women in local govemment

Women defined by household roles

Gender equity National policy on gender mainstreaming but many new district regulations and customary restrictions contradict it.

Promoted women’s participation in decision-making; Women facilitators.

Special planning stream for women’s groups, competitive reward for promoting women’s participation, women’s engineers program.

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C. Project Description Summary 1. Project components (see Annex 2 for a detailed description and Annex 3 for a detailed cost breakdown) :

1. Project components 2. Key policy and institutional reforms supported by the project 3. Benefits and target population 4. Institutional and implementation arrangements 5. The Indonesia Pilot for Enhanced Disclosure o f Information being pursued in the context of the

Bank's revised Information Disclosure Policy

Component 1: Block grants to kecamatans ($278.9 million) -- The heart o f KDP3 consists o f block grants that are transferred directly from the Special Account to the subdistricts thata are participating in KDP. Block grants take two forms. One block grant supports investment proposals made by villages and selected b y consensus in an inter-village decision meeting. The second consists o f block grants to support the participatory planning process. Each i s described below.

A. this component i s to provide two years continued support for the block grant program in approximately 2,000 subdistricts that have already been through 3 years o f KDP. A limited number o f additional eligibility criteria apply to new subdistricts:

Block investment grants to KDP-3 communities -- ($253.0 million) - The purpose o f

i. subdistricts in new high poverty districts which were previously ineligible for KDP;

ii. post-conflict areas where K D P provides the platform for other post conflict services; and

iii. kecamatans proposed by districts for full funding from their own budgets but where TA i s requested;

KDP block grant amounts w i l l remain the same: 500,750, or 1,000 mill ion rupiah per subdistrict (approx. US$55,000, $75,000, or $1 10,000) based on their population. This component also includes implementation costs for facilitators and government operational funds.

B. planning process by allowing villagers to develop a cadre o f self-selected social and technical facilitators. Other activities funded through this component include village cross-audits, dissemination materials, and the costs o f local travel.

Kecamatan planning grants ($25.9 million) supports the village and kecamatan

Component 2: Developing community and local government ($41.8 million o f which $$35.2 mill ion i s Bank financing and $6.6 i s GO1 financing) -- This component consists o f activities to strengthen the local government councils formed under Laws 22 and 25, wi th a particular focus on the village representative forum (BPD), inter-village forums (FAD), and the district parliaments. Most o f the component finances social and technical facilitators. Facilitators are recruited f rom the private sector. They receive a project-managed training program as well as periodic refresher courses. Other activities include: technical assistance for BPD capacity development; training in administration and monitoring s k i l l s to reinforce village administration, and village-level civic information and education programs about decentralization. Local governments would contribute in financing local regulations development processes.

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Component 3: Support to Village Micro-Finance Institutions ($8.7 million) -- Sustaining UPK revolving fund operations i s about the development o f local financial institutions. The major problems experienced by eligible UPKs are inadequate organization, governance and management capacity rather than the lack o f loanable funds. This requires giving focus to the organizational and financial development o f each institution, thus making microfinance and institutional development expertise locally available.

Under the proposed KDP-3, no new groups would be created and the project w i l l not provide additional investment funds. The direct target group o f the project are UPKs that have graduated from KDP-1 or w i l l graduate f rom KDP-2. If economically feasible and institutionally eligible, the project would give communities the opportunity to develop their UPKs into sustainable service providers. With the termination o f KDP-1 in 2002 regular project support was withdrawn from 45% o f i t s 986 participating kecamatans. The remaining kecamatans w i l l continue to participate in KDP-2 until they have gone through the maximum three years o f support provided by KDP. The purpose o f this component within the proposed KDP-3 i s to ensure a more orderly project withdrawal by giving each eligible KDP kecamatan the opportunity to move from program to local funding in kecamatans that have graduated from KDP-1 or w i l l graduate f rom KDP-2.

Project support w i l l be limited to training, technical assistance and supervision. I t w i l l focus on the effective and efficient use o f the currently existing funds to let loan funds grow. In most cases, the project does not envisage using savings as a source o f loan funds for long-term sustainability although over the longer term this i s a desirable objective. Low-income households at the village level often need appropriate savings products rather than business credit. However, the current weakness o f UPKs exposes savings deposits to high risk. Savings as a source o f loan funds w i l l be introduced later and gradually, i f UPK organization, governance and management as well as the legal framework support this step. As savings mobilization w i l l not be an immediate development step, appraisal w i l l assess whether the project should open a very restricted window o f financial assistance for UPKs. Guidance on this issue w i l l be sought f rom the RD/FSO team preparing the Sustaining Microfinance Project and managing the microfinance policy dialogue with GOI.

Component 4: Implementation Support (total $39.9 million o f which $17.9 mi l l ion i s Bank financing and $$22.0 mill ion i s GO1 financing ) - This component consists o f technical assistance to the national, provincial, and district governments. Each "level" o f facilitator supports a corresponding level o f government. While at f i rs t glance the structure may appear to replicate positions that notionally exist within the c iv i l service structure, in actual fact these are positions that the government recognizes are not appropriate for c iv i l servants to perform. Using consultants rather than c iv i l servants for technical activities, including facilitation, i s therefore part o f the general governance strategy to privatize functions best f i l led through the market. B y contrast, freeing c iv i l servants f rom such functions allows them to concentrate on the policy and regulatory activities that their positions and job descriptions specify. Additional activities funded through this component include training courses in legislative drafting, and support to P M D for carrying out overall project evaluations through the provision o f technical assistance. GOI's contributions w i l l cover the overall management, coordinations, monitoring and supervisions at national, provincials, districts and subdistricts levels.

Component 5: Studies, Evaluation, and Special Programs ($3.1 million) -- Major activities to be funded through this component are a program o f poverty impact assessments using quantitative and qualitative methods, continued support to the justice for the poor program started under KDP-2, pilot programs for community based monitoring, and studies on village and subdistrict revenue generation,

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trade, and infrastructure. TOR for the first-year's M&E program w i l l be reviewed during appraisal.

Component 6: Operational Costs ($2.4 million) -- This component w i l l fund the costs o f incremental travel and comsumables for the National KDP Secretariat. All expenses wi l l be SOE based on a three month travel plan.

A. Project Organization and Approach to Technical Assistance and Supervision

Component 1: Block grants -- KDP2 developed a comprehensive system for managing and supervising a national level project that w i l l be continued under the KDP-3 block grants. Consultants support each level o f govemment. A small national level oversight consultant supervises 15 five person regional management units. Each regional group includes at least one supervising engineer, a social coordinator, a trainer, a bookeeping group, and a database management specialist. Below them i s a district team that consists o f a district technical specialist, who supports the subdistrict and village technical teams; and a district level social specialist who supports the subdistrict and village facilitator teams. At the bottom-most level o f the system, each village elects a male and a female village facilitator whose job i s to disseminate project information, support training programs, and supervise the village level planning process.

K D P subprojects also build in technical oversight. Communities receive a small budget for contracting engineers f rom a pre-qualified l i s t to help design project proposals, and project proposals can include up to 10% to cover the costs o f supervising engineers. All large projects must be individually reviewed and approved b y the KDP district engineer.

Component 2: Institutionalizing community empowerment -- Most o f the training and workshop activities covered under this component would be implemented through the regional management units described for the block grant component, above. The majority w i l l be carried out by regional NGOs and recognized training institutes. However, more specialized technical assistance w i l l be needed to support the national legislative drafting and review process, and also for support to the DPRD technical staff groups that deal with village governance.

Outuut 1: Binding outlines for 13 regulations on village government Review of existing perdas Multi-stakeholder drafting Consultative process with K D P districts DPRD approval

Outuut 2: Strengthening Representative Institutions Core administration and monitoring training program for BPDs and FADS Regional workshops and networks formed Civic information and education programs Drafting courses for DPRD and district staff

Output 3:Inter-village forums Model implementing instruction produced b y M o H A Selection procedure and core rules promulgated Internal rules for dispute resolution developed Kecamatan public budgeting

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OutDut 4: Community revenue enhancement Adaptation o f Kepress 18 to community contracting conditions Guidelines on local revenue generation

Output 5: Institutionalizinrr participation Village cross audits Inter Kecamatan workshops Kabupaten workshops

Component 3: Microfinance -- The new strategy for developing UPKs has important consequences for project organization and implementation, distinguishing i t f rom that o f KDP-1 and KDP-2.

A. This section elaborates in some detail the principles that w i l l be followed during project preparation.

The microfinance component w i l l be separated from other project activities, and has i t s own logical framework, budget and management. The national microfinance team should be small, but i t must be staffed with high quality experts having operational autonomy. Local consultants must be specialized in microfinance and must be responsible for single UPKs with a workload enabling monthly visits to each UPK. The selection o f local consultants (firms) and al l activities in the fields o f training, technical assistance and supervision should support the objective to sustain these services with UPKs gradually taking over the costs o f services. Technical assistance must focus on developing UPK associations that can gradually assume functions o f training, technical assistance and supervision. Training and follow-up technical assistance must be closely linked to ensure transformation o f knowledge into practice. Monthly off-site and on-site supervision must be available, first b y project consultants then b y external parties and UPK associations. Performance monitoring w i l l be based on supervision results. Supervision w i l l be carried out on the basis o f a standardized accounting and financial reporting system, which w i l l be made obligatory for participating UPKs.

Component 4 -- Implementation Support -- KDP-2 introduced a new system for paying and managing the facilitators. Rather than recruiting them through 30 odd companies that were deployed around the country, the project replaced the management companies with a single payroll agent who would release monthyl salaries to the individual consultants. KDP3 takes this system significantly further. All facilitators w i l l switch onto the direct payment system. Operational costs can also be provided as block amounts through monthly payments. (See Annex 6 for additional explanation). Management o f the faciltiators has also changed somewhat. Village facilitators are recruited and managed through the BPD (village legislature). Kecamatan and district faciltiators support district coordination teams. Both the facilitators and the monitors j o in monthly review meetings with the district government. The national consultant team that supports PMD also includes 14 regional management groups, thus replicating the current structure in which provincial governments represent the center.

Component 5 -- Studies and Evaluations -- KDP has always included a strong analytical program. This component w i l l continue to support MoHAs quantitative and qualitative monitoring through a series o f consultancies commissioned by PMD and managed by the technical consultants. The compoinent also includes funds to support specialized evaluation firms. They w i l l be commissioned and managed by the

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Bappenas poverty secretariat, which i s charged with strategic evaluation and planning.

K D P maintains a robust program for analytical and evaluation work, which would be continued under KDP-3. Terms o f reference for two quantitative studies would be available b y appraisal: a poverty impact evaluation based on a panel first surveyed under KDP-1, and a statistical sample that would include additional questions added to the large expenditure and infrastructure surveys managed b y the Statistical Bureau (BPS). This component also funds a series o f studies designed to assess the economic and social efficiency o f K D P interventions in the following areas: support for vulnerable groups within villages, dissemination o f economic information, use o f redress mechanisms for dispute resolution, governance spillover effects, and reductions of corruption. Outputs expected from the monitoring and evaluation program are as follows:

Output 1: Internal Monitoring Community participatory monitoring in al l villages Financial supervision in at least 10% o f al l subdistricts Technical audits in 10% o f al l villages Complaints resolution database to resolve at least 75% o f annual cases Bi-monthly newsletter to reach al l villages

Outuut 2: External Monitoring Independent NGOs in each province to monitor 2 districts per year Independent journalists to publish field reports in regional and national newspapers Reports f rom legal aid program (3 provinces) Independent audits

Outuut 3: Internal Evaluations Review o f infrastructure quality Review o f economic benefits Local government survey Evaluation o f special program for Papua Ethnographic reviews on special topics

Output 4: External Evaluations 4,500 HH impact survey 55,000 HH Susenas survey Review o f anti-corruption incentives Civ i l society review o f governance impacts

B. UPK Ownership and Governance

sound microfinance operations. Community ownership must be given substance and organization to become effective. Important principles are:

The successful development o f UPKs requires an ownership and governance model that supports

0 Community ownership must be substantiated in annual community assemblies that decide on general policies and elect a) a board o f owner representatives talung policy decisions in between the assemblies, and b) a supervisory board for the inspection o f UPK operations. Both boards are responsible to the annual assembly. The community assembly issues by-laws regulating ownership, objectives, organization and operation o f the community-owned microfinance institution.

0

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KDP grants allocated to loan activities must be defined as institutional (paid-up) capital o f the community-owned microfinance institution. The use o f this capital i s limited to providing microcredit services. The UPK i s defined as a specialized microfinance institution that has the objective to increase outreach to low-income households at the village level. I f UPKs are involved in activities other than revolving fund management, they must be organizationally separated. The board o f owner representatives selects UPK management based on clearly defined criteria related to professional capability. The UPK management i s responsible to the board o f owner representatives, but it must be operationally autonomous. It must have the authority and the responsibility to manage the entire credit process. The UPK director i s liable for loss.

C. UPK Management

crucial factor predicating the successful development o f UPKs as microfinance institutions. Important principles are:

Besides ownership and governance, financial and credit management capacity w i l l be the most

UPK management i s responsible for protecting capital b y prudential and cost-covering operations, and for increasing loanable funds by generation o f profits. The UPK must have a standard accounting and financial reporting system. Monthly financial reports have to be submitted to the supervisory board and the external supervisor (association, consultant, other independent party to be determined). A consolidated annual report must be submitted to the community assembly. Credit management must be based on direct lender-borrower relationships. Credit decisions w i l l be taken based on borrower eligibility and credit feasibility. Community members with sustained access to institutional credit or without profitable business opportunities and adequate repayment capacity are not eligible. Credit groups must meet eligibility criteria, must be able to prepare loan proposals, and must pledge measurable efforts o f jo int responsibility (Le., collateral savings) to get access to credit . Borrowers have gradual access to credit based on track records. With low ceilings for first time borrowers, well performing borrowers should have access to larger amounts and sustained access to credit. Interest rates must reflect local market rates, and must cover costs, including loan loss costs and imputed capital (inflation) costs to sustain the net value o f capital.

D. Classification and Selection of Participating UPKs

In June 2002, KDP carried out a survey to identify UPKs that may be eligible for further project assistance. The UPKs participating in the survey were classified based on two indicators that tentatively show their viability potential: a) the amount o f net loan funds (capital minus bad debts) s t i l l available (scale o f economy) and b) the net loan fund to init ial loan capital ratio (past performance). Results f rom the survey make possible a simple classification that w i l l guide overall KDP-3 microfinance support

“Class A” comprises the best performing UPKs with net loan funds larger than Rp. 125 million. This class w i l l have priority access to technical assistance aiming at developing viable microfinance institutions. Pendmg final assessment o f willingness and prospects, they w i l l have access to the full range o f support services provided b y the project.

- 22 -

“Class B” consists o f UPKs that w i l l have access to project support depending on certain conditions. “Class B1” comprises UPKs with net loan funds larger than Rp. 125 mi l l ion and a less convincing performance. During the first year o f project implementation they must have proved their willingness and capability to improve performance to a level that later allows to upgrade them to “Class A”. During the second year o f project implementation they must have upgraded to “Class A”. “Class B2” consists o f well performing UPKs with net loan funds between Rp. 50 and Rp. 125 million. T o reward their performance, and depending on willingness and prospects, they w i l l have access to a matching grant, the maximum o f which i s the difference between current loan funds and Rp. 125 mi l l ion (to be reviewed at appraisal). “Class B3” consists o f UPKs in the same net loan fund category but with a less convincing performance. They would be given the same opportunity only, i f they considerably improve performance during the f i rs t project implementation year.

“Class C” comprises UPKs that either have net loan funds smaller than Rp. 50 mill ion or have already lost more than half o f their init ial loan funds. Among them are well performing ones that, however, have net loan funds not larger than Rp. 25 million. The remaining worst performers include UPKs with relatively large net loan funds. Theoretically, they would be able to break even and sustain operations. However, this seems to be unrealistic because the loss o f more than half o f their loan funds points to serious problems that cannot be solved within the l i m i t s o f the proposed project.

“Class D ’ comprises the UPKs that do not participate in the surveys, an explicit condition to get access to follow-up support. I t i s assumed that they are either not interested in follow-up support, are close to bankruptcy or have already terminated revolving fund operations. All UPKs identified as revolving fund managers w i l l be covered by some project activities. But, “Class D/C” UPKs w i l l be assisted only to orderly and officially terminate revolving fund operations. In-depth assessments carried out during this activity may s t i l l come to the conclusion that single UPKs should be upgraded to

E. Project Implementation and Inputs

Major project activities

output 1 0

0

0

0

Socialization workshops for eligible UPKs at kabupaten level. Selection o f participating UPKs based on assessment o f development prospects and application documenting willingness to comply with project principles. Technical assistance to get ownership and governance structure right. Technical assistance to get organization and management right.

output 2 0

0

0

0

0

Assessment o f capability and training needs of UPK managers and staff. Workshop on preparing institutional development plans for each UPK and follow-up technical assistance. First training course on UPK organization and administration, accounting and financial reporting, target groups and credit management. Follow-up technical assistance to transfer knowledge o f first training into practice. Second training course on comprehensive credit management, internal control and financial analysis. Follow-up technical assistance to transfer knowledge o f second training into practice.

- 2 3 -

0

0

Third training course on financial management. Follow-up technical assistance to transfer knowledge o f third training into practice.

Indicative Bank-

(US$M) Total (US$M) Yo of financing Component costs

output 3

% of Bank-

financing

0

0

0

0

Workshop on establishing and strengthening UPK associations. Preparation o f by-laws and work plans for associations. Provision o f office equipment and staffing o f associations. Training on UPK supervision and follow-up technical assistance. Facilitating cooperation between associations and local government to prepare legal status, regulatory and supervision system for UPKs.

~~

Kecamatan Grants for Infrastructure Kecamatan Grants for Planning Community Capacity Building

Implementation Support M&E and Studies Incremental Operational Cost

UPK Microfinance support

Total Project Costs Front-end fee

Total Financing Required

output 4

253.00 67.1 155.10 62.1 25.90 6.9 25.90 10.4 41.80 11.1 35.20 14.1 8.70 2.3 8.70 3.5

39.90 10.6 17.90 7.2 3.10 0.8 3.10 1.2 2.40 0.6 1.90 0.8

374.80 99.5 247.80 99.2 2.00 0.5 2.00 0.8

376.80 100.0 249.80 100.0

0

0

0

0

0

0

Preparing logical framework and implementation manual. Procuring microfinance firm and/or capable microfinance experts. Preparing technical manuals and materials for training, technical assistance and supervision. Preparing implementation plans with technical assistance and supervision carried out at least once a month for each UPK. Transfer o f technical assistance and supervision functions to UPK associations. Cooperation with local government to establish enabling regulatory framework and cooperation model with UPK associations.

Table 3.1: Estimated Cost Table

2. Key policy and institutional reforms supported by the project:

The general policy objective o f KDP-3 i s to institutionalize the village-level planning framework. This w i l l be achieved through

a. the matching grant program, which continues to move participating kecamatans from a 100% grant base given to a limited number o f kecamatans, to a matching grant basis that can reach a larger number o f kecamatans across the country;

b. promulgating an administrative and regulatory framework to consolidate village governance, o f which the issuance o f the 13 perdas are the most important; and

- 2 4 -

c. strengthening the management capacity of the village financial institutions built through K D P l and 2 (this component complements the "Sustaining Micro-finance Project" being prepared by EASRD).

3. Benefits and target population:

KDPs target population i s the rural poor. Participating subdistricts are selected on the basis o f poverty measurements, and poverty i s one o f four criteria that villages use for ranlung proposals during kecamatan competitions. KDP-3, while s t i l l targeting the rural poor, aims to reach entire village populations rather than particular segments.

There are three immediate, measurable benefits from the K D P approach: (i) economic infrastructure built through K D P costs on average 20% less than other currently used methods used for community infrastructure; (ii) benefits f rom both the process and the products of KDP reach the poor; and (iii) surveys show high levels o f end user satisfaction from KDP.

Studies done for KDP-1 document some o f these benefits in more detail. Between 1998-2002, KDP funded some 50,000 infrastructure, economic, and social activities. E x post analysis using on-site data showed a weighted IRR o f 60%. They benefited an estimated total o f some 35 mi l l ion poor villagers. Approximately 2.8 mill ion villagers directly earned short-term employment f rom KDP infrastructure projects alone, and 70% o f the work force were from the poorest segments o f their communities, which themselves were selected on a poverty basis using expenditure-based wealth ranking. Another 18,000 community groups representing some 280,000 villagers received economic loans.

4. Institutional and implementation arrangements:

Overall management o f the KDP program i s by the Ministry o f Home Affairs. Sectoral issues are addressed through a national level coordination board that includes members o f a l l relevant sectoral agencies, finance, audit, and planning. Thus, while KDP- 1 only included the Ministry o f Infrastructure in i t s coordination board, KDP-2 brought in health and education. to provide policy guidance for their respective sectors. KDP-3 w i l l bring in the Bank o f Indonesia, BRI, and the relevant branch o f the Ministry o f Finance that deals with microfinance oversight.

Provincial and district management replicate the national structure. Each province and district maintains a coordination board that has multi-sectoral participation. I t reports to the district head (bupati) on a monthly basis.

Operational management i s through a national management consultant. In KDP-1, the national team included almost 50 senior staff (the project covered 16,000 villages). In KDP-2, the total number o f Jakarta based consultants dropped to 35, although the total number o f villages rose to 20,000. The reason for this change i s because each province developed a 5-7 person regional management unit to provide field oversight, coordination wi th local government, training, and reporting. KDP-3 w i l l continue to strengthen the regional management units by giving them limited procurement capacity and authority. Services to be procured at the provincial level w i l l include training programs (esp. for micro-finance), local printing, and specialized studies.

5. The Indonesian Pilot for Enhanced Disclosure of Information being pursued in the context of the Bank's revised Information Disclosure Policy:

As part o f the implementation o f the Banks revised disclosure policy, countries were selected for piloting enhanced disclosure i f the governments o f these countries were interested in participating. In Indonesia

- 25 -

during the CAS consultations and other discussions, both the government and civ i l society expressed keen interest in substantially greater access to information on Bank activities, especially during project implementation, to allow full public discussion o f project implementation findings. Under the Indonesia pilot enhanced disclosure i s proposed to enable c iv i l society oversight leading to greater transparency and openness. I t i s expected that init ially c iv i l society w i l l require time to become familiar and reach the level o f understanding o f the information being provided, to use i t constructively to reduce fiduciary r isks

In the Indonesia Pilot for enhanced information disclosure being carried out in the context o f the Bank’s revised Information Disclosure Policy, an approach to enhanced information disclosure has been agreed with BAPPENAS on behalf o f the Borrower. This approach consists o f the following arrangements:

a.

b.

C.

d.

Agreement on the approach for disclosure o f information for new projects to the effect that specific provision for enhanced disclosure w i l l be built into the project arrangements during project preparation for an agreed upon l i s t o f projects to be included in the init ial phase of the pilot. This agreed l i s t consists o f 4 projects, including the proposed Third Kecamatan Development Project.)

The specific issues where enhanced disclosure has been agreed upon concern: (i) final audit reports issued under projects in the pilot w i l l be made publicly available b y both the Borrower and the Bank; (ii) the mid-term report on progress under a project in the pilot w i l l be made publicly available by the Borrower; and (iii) the procurement process, where the Borrower has agreed that additional information concerning parts o f the procurement process in projects in the pilot w i l l be made publicly available. The Loan Agreement for this Third Kecamatan Deveopment Project includes specific undertakings to effectuate these agreements. These undertalungs would eliminate the need for Go1 approval to be obtained prior to the public release o f such information.

For documents other than those referred to in sub-paragraph b above (and which are currently not disclosed without Borrower consent), the Bank w i l l continue to consult GO1 prior to disclosure o f such documents. Go1 may consider moving to a more general practice o f automatic release of such documents after the Government completes i t s review o f enhanced information disclosure concerning the public provisions o f services that i t i s currently undertaking. In this regard, the anti-corruption guide for task teams and the anti-corruption annex (15) based on this guide (together with the covenants on disclosure o f audits, mid-term review report and procurement documents) are expected to facilitate the adoption o f enhanced disclosure, and more open and transparent practices.

Agreement to utilize an IDF grant to support activities for developing Go1 policies for increased information disclosure under all government projects in Indonesia. A GO1 implementation team has been established, and a Bank counterpart team has also been formed. Start-up activities for administrative arrangements and preparation o f terms o f reference o f consultants under this grant have been launched.

The experience under this pilot w i l l be reviewed after two years and recommendations for future developments under the Bank’s disclosure policy would be developed.

D. Project Rationale 1. Project alternatives considered and reasons for rejection:

Given the overall success o f KDPl and 2, no major alternatives were considered. However, a number o f variants to the basic KDP model were discussed. One possibility would have been to make a program

- 26 -

rather than an investment loan. With a total o f 30,000 o f 65,000 villages already included in K D P l and 2, a program loan might be a more efficient way to institutionalize KDP mechanisms. Two arguments against this approach held sway. First, Indonesia's apex institutions remain weak and divided. The national decentralization program also remains quite volatile, with highly uneven performance between kabupaten and an ongoing struggle over the division o f resources and responsibilities between the center, province, and the regions. In practice, this means that greater than usual Bank involvement in project oversight i s needed. Program loans are s t i l l beyond the reach o f DepDagri's management capacities. Secondly, there has been relatively l i t t le reform o f Indonesian fiduciary environment (this i s described more fully in the CAS and CPPR). Since there i s a noticeable hfference when the Bank retains oversight o f individual contracts, the program loan option was rejected because o f fiduciary risk.

Given that this i s now the third installment on a long-term program, an APL was also considered. However, because of the volatility o f Indonesia's institutional and economic environment, periodic re-appraisals o f short-term projects of the type being proposed here provide both the Bank and the Borrower with a more flexible tool for malung in-depth reviews and adjustments.

More detailed design alternatives were also considered, o f which three are o f special relevance for the proposed appraisal. The first concems project B. KDP3 at present i s limited to kecamatans that were part o f KDPl or KDP2. But another approach would have been to allow KDP-2 to continue as planned, while using KDP-3 to cover the approx.25,000 villages that s t i l l have not joined KDP. A follow-on programmatic project could then pick up the entire program. The task team and government selected the reverse sequence -- finalize the general design, build up the 5 year cycle and the matching grant program first -- so that the project could could work closely with local governments already familiar with the project on how to transfer i t into local funding and procedures. Each district can then become the nodal point for introducing the program into the subdistricts and villages not yet covered. However, appraisal w i l l assess a variation o f this theme: supplying the participating kabupatens with a fixed amount to the district rather than to the subdistrict, which would be used as the matching share to cover al l o f the kecamatans within that district.

A second design option i s to complement the current approach, which de facto l i m i t s investments to village-level projects, with an additional fund in the the subdistrict council itself whose purpose would be to support larger programs that cross village boundaries. The advantage o f this i s that i t would complete the planning ladder between K D P and the proposed project for kabupaten governance reform, KGRIP. I t was rejected because o f the additional complexity that i t would impose on KDPs management structure, but appraisal w i l l revisit the issue one last time. All technical and financial pre-requisites for such an addition already exist.

A third possibility for improving KDP's design would be to build in much stronger linkages with sectoral programs at the level o f investment, not just that o f planning. Thus, for example, communities opting for not just a school but also a teacher could hire contract teachers using their K D P funds. In principle this option already exists in the open menu, but i t has never been made operational. However, collaborative review with the HD program suggests that this option i s s t i l l premature until there i s a clearer path for ensuring sustainability.

- 2 7 -

2. Ma jor related projects financed by the Bank and/or other development agencies (completed, ongoing and planned).

Sector Issue Project

Ban k-financed What promotes community organizational reform effectively? Linlung C D D to other subnational governance reform programs Can micro-finance succeed in Indonesia?

Xher development agencies Micro finance

Local governance reform

Village Infrastructure

[npres Desa Tertinggal

Trade-offs involved in single sector versus multi sector village infrastructure programming

P4K (ADB) BI (GTZ support) Various (Ford Foundation, Partnership for governance) P2D (Japan), SwissAid, AusAid Go1

What promotes effective local government reform

Urban Poverty 1&2 CEP East Timor KGRIP, UGRIP (in. prep) Provincial Health Project Nusa Tengara Area Development Project

Village Infrastructure II KDP- 1 WSSLIC-2 WASPOLA Jogj a Uplands

Brazil NW development projects Cambodia R L G P

Latest Supervision (PSR) Ratings

(Bank-finance Implementation

Progress (IP)

Highly Unsatisfa

projects only) Development

Objective (DO)

3. Lessons learned and reflected in the project design:

Overview -- KDP-3 i s only part o f the Banks program for subnational assistance and i t both draws on other projects and w i l l contribute to their design. K D P s microfinance component i s being prepared in parallel with EASRD's upcoming project for sustaining microfinance, which w i l l provide microfinance loan funds to UPKs that have graduated from the K D P program. Similarly, the KDP team works closely with the proposed urban and rural projects for local government reform, KGRIP and URGRIP. In al l these cases, project preparation includes cross visits, shared consultants, and joint reviews o f design documents through in-house workshops. KDP-3 collaborates in a similarly close fashion with the multidisciplinary team preparing the proposed project for conflict areas, which EASES i s preparing in tandem with EASHD, and much o f K D P s thinking on health sector activities i s informed by the now active Provincial Health Project strategy for decentralized service delivery.

KDP-3 also tries to build in a broad range o f lessons learned from the earlier KDPs and from other community development projects. K D P i s built on five overarching design principles. The first i s that the project design i s set up to maximize end user choice. Menus are, with the exception o f a small negative l i s t o f items banned b y Bank policy, entirely open and communities can and do use the funds for a broad range o f local priorities. The second principle i s that o f contestation -- villagers can use their funds to purchase goods and services f rom whatever private sector, NGO, or moonlighting government agency can make the best deal.

The third principle i s that o f direct negotiation. Villages have no assurance that their proposals w i l l be funded. Funding comes only through negotiation, and there are always more proposals than there are funds. Land acquisition, project locations, dispute settlement, contract management, and other key elements in KDP proceed through direct negotiations between primary stakeholders in the inter-village forums, not through intermediaries such as NGOs, line agencies, or other external bodies. Fourth i s that project information must be actively shared, with the emphasis on "active" dissemination (a principle honored as much in the breach as in i t s practice). KDP's final principle i s to use existing village organizations rather than promote the creation o f new ones. Research by Pritchett et.al. shows that the common practice o f setting up project-specific user groups i s negatively correlated with the likelihood o f poor people receiving benefits; that is, not only do user groups tend to be taken over by local elites, but they simultaneously undermine non-participants' own organizations' ability to continue providing benefits.

Technical lessons -- More technical lessons reflected in the proposed design need to be grouped b y their respective components.Experience from the water supply projects and the village infrastructure program highlight the need not just for ownership b y newly empowered communities, but also for improved technical training and oversight. Nearly al l village technologies can be improved. Even simple steps such as providing village work teams with new tools has been shown to translate into significantly higher quality works. Reducing design complexity allows for improved village maintenance, and K D P manuals are being revised with such an objective in mind. Overall village-level infrastructure assessments have also proven to be useful and w i l l be reflected in the new project.

Fiduciaries -- KDP-3 strengthens the community based planning process in ways that improve financial management and reduce corruption. K D P s user-friendly formats and transparent procedures facilitate community oversight. A key lesson now reflected in project documents i s that there should never be a financial transaction wi th only two parties signing. Second, OSU has produced two key manuals on operational tools for reducing corruption in Bank-assisted projects, including community development projects, and their main recommendations are reflected in the new operational manual. More and more evidence from projects in Indonesia and elsewhere document the importance o f sanctions for

- 29 -

anti-corruption programs. KDP-3 w i l l include the results f rom an ongoing study linked with KDP-1 that looks at incentivehanction mixtures in village infrastructure projects.

Local Governance -- The two urban poverty projects in Indonesia and the three Community Empowerment projects in East Timor provide solid evidence that introducing improved procedures for the formation and operation o f community and subdistrict councils leads to more representative local government and thus, more efficient and effective resource allocations. CEP in particular highlighted the value o f basing such councils in formal law, and not just project-specific structures. KDP-3 moves away from KDP's init ial sole reliance on improving the planning process to more structured support for norms, regulations, and formal procedures.

Microfinance -- The global literature on microfinance i s large. KDP-3 builds on a series o f reviews o f microfinance program in Indonesia and elsewhere, most notably the ADB's P4K project, Bank Indonesia-GTZ cooperative program for microfinance, and international NGOs such as Grameen Bank, BRAC, and others. The literature i s clear enough on best practices for microfinance, but less clear on how to reconcile objectives o f sustainable microfinance with objectives o f community empowerment. For if the key to successful microfinance i s direct borrower-lender relationships and rigorous adherence to clearly defined rules, the key to community empowerment i s almost always multi-stakeholder involvement and collective decision-making. Previous K D P s have given priority to the empowerment goal: the current project i s operating in a sufficiently changed environment to justify a renewed emphasis on sustainability. KDP-3 avoids the path o f developing a large-scale system o f microfinance institutions but i t does provide technical training to i t s revolving funds to improve their sustainability and to lay the groundwork for the future Sustaining Microfinance project.

Monitoring -- KDP-3 builds in a robust program for monitoring and evaluation. The core o f the internal monitoring system i s the project's Management Information System (MIS). M I S information i s aggregated and used in each o f the regional management units, with a master system maintained by the national oversight team. External monitoring i s provided through contracts to independent provincial NGOs, and a blind contract to the association o f independent journalists (AJI). The contract provides them with operational expenses so they can visit and report on KDP project sites in regional and national newspapers. They do not provide any prior information to the project. Two copies o f their published articles are sent to Home Affairs, and an annual review summarizes their findings.The journalists provide a route b y which the independent NGO monitors and other c iv i l society groups can report on K D P activities.

Quantitative evaluations include a 4,600 household panel survey and a 55,000 household expenditure questionnaire appended to Sussenas. K D P s design draws on models developed for Cambodia's Seila program, the Jogja Uplands Watersheds Project, and the earlier KDPs. More qualitative methods, in particular community-based monitoring, draw on a series o f poverty assessments conducted across Africa in the 1990s, monitoring using photo documentation that has been developed for the JSDF widows in conflict areas project, and community monitoring and evaluation techniques developed b y the Aceh NGO forum in KDP- 1.

K D P s monitoring and evaluation system suffers f rom several weaknesses that must be fixed and w i l l be reviewed during appraisal. The three top p rob lem are:

0

f ield entries for the M I S are often delayed and the overall M I S system i s usually 2-3 months out o f date: national responses to field reports i s too slow and i s often inappropiate;

- 30 -

0 the monitoring system i s suffering f rom document proliferation, making i t unwieldy.

No. ACtiVity Objective

Some actions have been taken to remedy these problems but more need to happen before project start-up. Priority actions which w i l l be appraised in the field include the following:

outputs

0

0 0

0 simplify the formats.

assess the effectiveness o f the decentralized MIS; improve the s h l l s level o f the data entry team; revise the complaints handling response protocols; and

2

3

Evaluation reports have been less problematic although their procurement takes too long. Nevertheless, several have suffered from quality problems, particularly those involving statistical interpretation o f poverty impacts f rom KDP programs. KDP-3 addresses this concern b y adding concentrated inputs o f international technical assistance to support the statistical studies and write-ups. KDP-3 w i l l also commission a study to evaluate the impact o f the local government reforms introduced through the program.

Monitoring by Govt. Officials To monitor and regularly report upon KDP progress, national, provincial and lved trouble-shooting district level, DPRD, etc.

Govt. officials at the Reports and problems so

Community Monitoring To monitor projects within their Community members Activities monitored by

A summary o f K D P s monitoring system i s provided below, in Table 3.1

I communities I the community

I 1 I Monitoring by consultants/MIS 1 To monitor and regularly report /Consultants at the national, I Monthly reports, database, I

5

6

I I

. . and best practices of KDP

problems Handling Complaints Database of complaints

To improve the financial s k i l l s Training to UPKs and

groups and to check in the Financial finances checked and financiayadmin records at the Supervision and Training audited. kecamatan and village levels. Unit

occasional consultants Complaints Resolution Process To document and resolve field 6 full-time KDP staff in Resolved cases

Unit 5 full-time staff with Financial Supervision and

Training of UPKs and economic loan accounting backgrounds economic groups. Field

I upon KDP progress rovincial, district and kecamatan problems solved. IP,",,,

-31 -

Table 3.2: KDP's External Monitoring and Evaluation INGO Province-Based Monitoring b o monitor and provide an b0 provincial NGOs ]Monthly reports

information on KDP

and reporting on KDP by local Journalist monitoring and To provide independent monitoring 18 provincial journalists, LP3ES/AJI Newspaper articles, radio reports reporting

I bndewndent source of aualitative I I I

'ons; (b) to assess the conomic feasibility assessment

incomes and livin

4. Indications of borrower commitment and ownership:

KDP has never suffered from lack o f borrower commitment. Bappenas and M o F have confirmed their request for the project in writing, and, at a working level, Bappenas, MoHA, and the WB preparation team have bi-weekly review meetings. Some strictly financial indicators o f government ownership include facts such as an additional counterpart contribution o f US$30 mi l l ion during KDP-1, the request for a Supplementary Credit o f US$50 mill ion (also KDP-l), and the immediate take-up o f the matching grant option b y nearly half (70 o f 146) o f a l l participating local governments during the startup year o f KDP-2. Other indicators include the extent to which a broad range o f agencies j o in KDP supervision missions and reviews; the frequency of minister and director general -level visits to KDP sites, and the proliferation o f KDP "knock-offs" by local governments using their own funds.

Other actions, however, are not so positive. Government commitment at the level o f "wi l l " may be high, but at the level o f "delivery" i t i s often low. KDP-2 startup was delayed by nearly seven months because o f project-level management turmoil. Raised to the level o f several Ministers, the problems nevertheless lay unresolved for months. Government supervision standards remain quite lax, although i t i s hard to say whether KDP supervision i s any worse than normal government supervision. Government i s unwill ing to apply remedies to local government officials who misuse funds, although, to be fair, increasingly they do take actions o f this type if agreed during project supervision. Field audit follow-ups without Bank prodding are also generally rare to non-existent.

The proposed KDP-3 includes some strict tests o f the depth o f national and local government commitment to the program. Local "ownership" o f projects has in the past been a generally nebulous concept. When virtually al l local budgets were nothing but transfers f rom the central government, measurements o f ownership for the most part consisted o f self-selecting measures such as the enthusiasm o f government participants in preparation meetings, or the speed with which preparation documents were prepared. KDP-3 w i l l be one o f the first projects in the new generation Indonesian portfolio to use more

- 32 -

objective measurements: whether large amounts o f counterpart funds are committed through a parliamentary procedure.

5. Value added of Bank support in this project:

Bank contributions to the KDP program are valuable in four main areas. First, the Bank provides oversight and pressure on what al l stakeholders (even government) agree i s an extraordinarily poor fiduciary environment. Bank participation therefore contributes greatly to the effectiveness by which aid i s used. Second, Indonesian agencies normally do not carry out very rigorous monitoring and evaluation programs. This approach works reasonably well for tried and true programs which extend basic development benefits to new groups. Constantly evolving projects such as KDP, however, require much closer monitoring and evaluation because they are s t i l l at a stage where there are few standard procedures and known outcomes. The Bank has played and w i l l continue to play a central role in helping GO1 use quantitative and qualitative measurements to improve the program's design. Such studies are appreciated and used when they are done, but they w i l l not be done without WB involvement. Third, while Indonesia has some o f the worlds best experiences in providing sustainable small credit (through BRI), i t has considerably less experience with micro-credit for the poor. Village-level credit in the past was commonly provided as subsidized transfers through line agency programs, with l itt le expectation o f repayment or oversight o f use. Indonesia can no longer afford such programs. Nevertheless, a shift over to sustainable micro-finance w i l l require a major effort, where worldwide experience in other poor countries w i l l be o f major assistance.

E. Summary Project Analysis (Detailed assessments are in the project file, see Annex 8)

1. Economic (see Annex 4): 0 Cost benefit 0 Cost effectiveness 0 Other (specify) Detailed cost-benefit data already exists for 230 completed infrastructure subprojects and w i l l be available for another 50 by the time o f appraisal. They showed a weighted average return o f 38-65%. Schools and clinic are analyzed through cost-effectiveness methodologies. KDP-3 w i l l include comprehensive analysis o f the community based approach to primary social service construction. Non-representative data f rom year 3 sites suggests that KDP methods for school and clinic construction are significantly less than standard methods and their quality i s as good or better.

NPV=US$ million; ERR = % (see Annex 4)

2. Financial (see Annex 4 and Annex 5): NPV=US$ million; FRR = 5% (see Annex 4) N o special financial issues exist in this project. Appraisal updated the full financial capacity assessment that was prepared for KDP-2 in 2001/2. A QAG5 supervision review suggested greater attention be given to whole-system analysis. This suggestion has been accepted and i s now built into the OSU work program (see Figure 3).

- 33 -

Figure 3: KDP Fund Flow System I

Kecamatan

Special Account ransfer Funds

Bank of Indonesia

Villages' Collective Account installments of 40%, 40% and Banks (i.e., BRI, BNI, etc)

National

Provincial Bank of Indonesia

Disbursements to the villages' collective account at the kecamatan level are made in

Villagers / Groups

I

Fiscal Impact:

Village infrastructures built through KDP methods cost significantly less -- on average about one-third but in many cases more than half less -- than equivalent works built through Ministry o f Public Works contracts. Because the project provides grants to kecamatans, no costs are recovered by the project. Fiscal impact from the project i s small. Communities are responsible for maintaining works built by the project and thus pose no incremental burden on the government budget. At the national level, a Bank/lDA blend at international interest rates and with 5 and 10 year grace periods postpones the fiscal costs o f the project and avoids raising more expensive (and unavailable) local revenues.

3. Technical: KDP's engineering manuals and training program were updated in 2002. KDP also includes a broad-based technical training program. More than 2,000 field engineers were trained in low technology engineering design during the f i rs t year o f implementation. Follow-on training has helped the engineers work with village technical teams to produce overall village infrastructure technical assessments, which inform the KDP project selection process. In KDP-3, village technical training w i l l continue, wi th a increasing emphasis on village-wide operations and maintenance.

KDP also includes some engineering thresholds to ensure that villager's reach does not exceed their grasp. Concrete bridges supported by KDP, for example, cannot exceed 6 meters.

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4. Institutional: All Indonesia programs are taking place against a backdrop o f dramatic institutional change. Five are especially relevant for the K D P program:

0 Weak central agencies. The massive, centralized government agencies developed under the New Order regime have lost much o f their raison detre with both the weakening o f the top and the rise o f regional autonomy. At the micro, day-to-day level o f project implementation, institutional struggles over who controls which resources have become much more volatile. Thus, specialized line agencies increasingly claim that only they can manage specialized activities, while local governments increasingly ignore orders sent by the line agencies in Jakarta. Similarly, whereas in the past districts were the local branch o f the provincial and national government, today the province has l itt le role in decision-malung --but i s trying to claw one back.

Strengthened parliaments. The transformation o f the national and district parliaments into an increasingly autonomous branch of government has created both new opportunities but also new challenges from subnational projects such as KDP. Procedures for development project approval and review are being made up on a case by case basis.

Growth o f party politics. Indications are that Indonesia w i l l soon switch f rom indirect to direct elections for local government. Implications are likely to be more interest in large-scale voter organization in villages, which until now have stayed "below" party politics.

Withdrawal o f military f rom government. Indonesia's "dwifungsi" system by which the military retains a "shadow" role in local government has been in retreat since the fal l o f Soeharto. Reorganization o f the military has made some progress in reducing i t s day to day political role s t i l l further, although in many rural areas i t continues to be a central player.

Ongoing decentralization. The major implication o f the decentralization with respect to community development i s the suddenly strengthened role o f the districts, which now hold most o f the development funds and responsibilities. However, the link between subdistrict and village institutions was left largely undefined.

0

0

Information Disclosure

As part o f the implementation of the Banks revised disclosure policy, countries were selected for piloting enhanced disclosure if the governments o f these countries were interested in participating. In Indonesia during the CAS consultations and other discussions, both the government and c iv i l society expressed keen interest in substantially greater access to information on Bank activities, especially during project implementation, to allow full public discussion o f project implementation findings. Under the Indonesia pilot enhanced disclosure i s proposed to enable c iv i l society oversight leading to greater transparency and openness.

In the Indonesia Pilot for enhanced information disclosure being carried out in the context o f the Bank's revised Information Disclosure Policy, an approach to enhanced information disclosure has been agreed with BAPPENAS on behalf o f the Borrower. This approach consists o f the following arrangements:

a. Agreement on the approach for disclosure o f information for new projects to the effect that specific provision for enhanced disclosure w i l l be built into the project arrangements during project preparation for an agreed upon l i s t o f projects to be included in the init ial phase o f

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the pilot. This agreed l i s t consists of 4 projects, including the proposed Third Kecamaten Development Project. (The other 3 projects are the proposed Water Resources and Irrigation Sector Management Project, the proposed Private Provision o f Infrastructure Technical Assistance Project, and the proposed Health Workforce and Services Project.) Annex 13 provides for a more detailed information on these arrangements.

b. The specific issues where enhance disclosure has been agreed upon concern: (i) final audit reports issued under projects in the pilot w i l l be made publicly available by both the Borrower and the Bank; (ii) the mid-term report on progress under a project in the pilot w i l l be made publicly available b y the Borrower; and (iii) the procurement process, where the Borrower has agreed that additional information concerning parts o f the procurement process in projects in the pilot w i l l be made publicly available. The draft development credit agreement for this project [the Third Kecamaten Development Project] includes specific undertalngs to effectuate these agreements. These undertakings would eliminate the need for GO1 approval to be obtained prior to the public release o f such information.

c. For documents other than those referred to in sub-paragraph b above (and which are currently not disclosed without Borrower consent) agreement for the Bank to continue to consult GO1 prior to disclosure of such documents. GO1 may consider moving to a more general practice o f automatic release o f such documents after the Government completes i t s review o f enhanced information disclosure concerning the public provisions o f services that i t i s currently undertakmg. In this regard the anti-corruption guide for task teams and the anti-corruption annex (1 1) based on this guide (together with the covenants on disclosure o f audits, mid-term review report and procurement documents) are expected to facilitate the adoption o f enhanced disclosure, and more open and transparent practices.

d. Agreement to utilize an IDF grant to support activities for developing GO1 policies for increased information disclosure under a l l government projects in Indonesia. A GO1 implementation team has been established, and a Bank counterpart team has also been formed. Start-up activities for administrative arrangements and preparation o f terms o f reference o f consultants under this grant have been launched.

The experience under this pilot w i l l be reviewed after two years and recommendations for future developments under the Bank’s disclosure policy would be developed.

4.1 Executing agencies:

KDPs executing agency i s the Ministry o f Home Affairs, which has managed the KDP program since 2,000. M o H A has been a problematic agency, in part because o f frequent changes in i t s management, and in part because o f the constant change in i t s overall mandate and operations. Supervision for KDP-1 and 2 has flagged a number o f recurrent problems with M o H A management. The most important o f these has to do with an unclear division o f labor between the private sector consultants and the government K D P secretariat. Startup o f KDP-2, however, has seen a dramatic improvement in MoHa performance.

Because KDP-3 w i l l run concurrently with KDP2 for much o f i t s life, the key appraisal issue with respect to project management i s how KDP-3 management i s linked with the management o f KDP-2. GO1 has proposed that a single project manager be responsible for both projects. Technical responsibilities would then be given to the same district coordination teams and management consultants. This i s the preferred solution f rom the Banks perspective as well and the proposal should be ratified during appraisal.

4.2 Project management:

Overall project management has performed reasonably well given the magnitude o f the project and the

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rapidity wi th which i t was scaled up. Now that the project's scope has levelled o f f at some 20,000 villages, attention needs to be given to addressing the management weaknesses. Priorities are to improve the information reporting and response system, implement the division o f work between government staff and consultants, and improve the quality o f staff evaluations. Project appraisal also identified weaknesses in the management of the project's M&E system which w i l l require correction before project launch. Preliminary experience with the project's decentralization o f management functions to provincial management units i s positive but more systematic monitoring and on-site training by the national team w i l l be needed during the project's f i rs t year.

4.3 Procurement issues:

KDP-3's procurement assessment updates the 2001/2 assessment carried out for KDP-2 CPAR. KDP-2's procurement assessment risk rating was "medium", and i t i s expected that this w i l l be the case for KDP-3 as well. The government's procurement performance for KDP-2 has been satisfactory to highly satisfactory despite the scale o f the procurement required (i.e. reviewing 27,000 individual c.v's for f ield positions). E x ante review by the procurement unit and ex post review by the task team under guidance from the OSU group confirms the general impression that KDP-2 procurement was done well. (QAGS cited KDP's village procurement as regional best practice)

Different procurement r isks apply to the centrally procured Technical Assistance and to how the community grants are spent. For the former, key r isks are falsification o f personnel qualifications, false invoicing during training, and directed procurement by subcontractors. KDP-2 introduced a system o f direct contracting for community facilitators, whose salaries are managed through a private sector payroll agent. This system appears to have reduced quality problems, overhead costs, and other procurement r isks significantly. KDP-3 extends this system to include the district and national facilitators as well. But hands-on supervision w i l l remain key throughout the procurement process.

Procurement at the village level focuses as much on capacity building as i t does on r i sk mitigation. Comparative pricing and public procurement i s not the norm for village procurement in Indonesia, but i t i s required for all K D P activities. Documenting the price and quality gains that villages receive has a very convincing effect. KDP-2 monitoring i s measuring whether there are spillovers f rom KDP procurement procedures into non-KDP projects (anecdotal evidence from supervision provides several examples where villagers adopted KDP's comparative, public shopping procedures for their non-KDP activities) .

Table 4.1 below l i s t s the contract awards and amounts which are recommended for procurement as sole source selection (Le. amendments to the existing KDP-2 contracts). The core proposal i s to retain a unified management and payroll system but competitively tender al l new activities as well as al l activities where duplication would not produce major adverse impacts on the project (i.e. adding NGO monitors).

N o major r isks are anticipated for KDP-3's new activities. Facilitators at a l l levels w i l l a l l be procured as individual consultants. KDP-3 procurement for the national, district, and kecamatan facilitators w i l l be funded through KDP-2 using existing TOR, which runs concurrently with KDP-2 for the first two years o f the project. Thus, none of the payroll management f i r m s w i l l be procured using KDP-3 funds until the project's third year o f implementation. The NGO monitors similrly follow a path o f extending the f i r m s already worlung on KDP-2 (these are a l l small contracts valued at $30,000 or less). BPS, the national statistical agency, w i l l receive a sole source contract for the poverty impact survey work. The indigenous people's action programs w i l l also be provided on sole-source bases since there are no competitive suppliers in these very isolated parts o f the country: in addition, the current trainers are needed to provide continuity o f assignment.

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Table 4.1: Consultant Selection and Procurement Method

6. 7. 8. 9. 10. 1 I.

Publications NGO Provincial Monitoring 25-30 CQ 1.06 Yes District Profiles 1 ss 0.20 Yes Joumalists Monitoring 1 ss 0.49 Yes Impact Monitoring 2 ss 0.70 Yes Indigenous people’s program 1 ss 0.40 Yes Local Regulation’s best practice 1 QBS 0.20 Yes

12. 13. 14.

5.78 District workshops on local regs. Govt procedures 6.63 TOR Training cost for FKs and UPK experts Govt procedures 9.06 TOR Workshops for socialization Govt procedures 0.44 TOR

4.4 Financial management issues:

A full financial discussion was prepared for K D P in 2002. A financial management risk assessment i s being prepared for this project that updates the KDP2 and w i l l be available on file. I t s findings are similar to those o f the procurement assessment: country risk i s high, but internal financial management i s acceptable. Because such a large proportion o f the project takes place in villages, Annex 4 provides a more detailed presentation o f KDP’s financial management and reporting system.

I TOTAL

The current N M C under KDP2 employs five specialists to support UPKs on financial management and two specialists for disbursement and payments reconciliation. The project’s existing financial management i s adequate. In order to ensure that i t would capable o f taking on the additional demands for KDP3, two financial management consultants w i l l be added to the N M C to strengthen the subteam.

5. Environmental: 5.1 Summarize the steps undertaken for environmental assessment and EMP preparation (including consultation and disclosure) and the significant issues and their treatment emerging from this analysis.

No significant environmental issues are anticipated. KDP investments are very small, and under the Indonesia Environmental Assessment rules, they al l fa l l below the minimum size required for a formal environmental assessment. K D P s negative l i s t consists primarily o f activities excluded by Bank environmental policies, and these have been uniformly respected in the completed subprojects. KDP site selection also in principle rules out villages within demarcated protected areas (in practice bad data and fuzzy boundaries often leads to mistakes). KDP3s negative l i s t has been expanded to encompass lessons from experience and from other community development operations.

Environmental Category: B (Partial Assessment)

64.83

KDP’s operational manuals have been reviewed by a range o f environmental and environmental engineering specialists and they meet al l WB standards. However, experience under K D P l showed two

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kinds o f environmental risk that can affect community projects. First, communities l iv ing in or near protected habitats w i l l use natural resources from these areas regardless o f formal regulations unless suitable sanctions are imposed. Thus, some communities in South Sulawesi mined coral for their roadbeds. In other areas, communities have built roads that verge into protected forests. The second environmental risk i s poor placement o f water supply sources, which can lead to contaminated water supplies. The number of cases where this has occurred i s small, but review o f their cases shows that they happen when there are systemic failures in the project's system o f engineering oversight, reporting, and follow-up.

In both types of environmental malfeasance, the proposed mitigation and prevention methods are proper training and monitoring o f the supervising field engineers. In the cases noted above, the supervising engineers were either disciplined or dismissed. PMD, the project's executing agency, has recently activated a grant to hire an international environmental specialist to improve the environmental training and oversight program. Environmental review w i l l assess whether additional sanctions are recommended for village projects that violate the guidelines. Bank appraisal w i l l assess whether the upgraded KDP-2 engineering training and management program sufficiently reflects lessons learned about environmental management.

5.2 What are the main features of the EMP and are they adequate'?

N o separate E M P report w i l l be prepared.

5.3 For Category A and B projects, timeline and status o f EA:

As part o f preparation o f the new project, a review o f experience on the preceeding projects (KDP and KDP2) was undertaken and the results o f that review were incorporated into revised EMP procedures for KDP-I I I ( also see Annex 12).

Date of receipt o f f inal draft:

5.4 H o w have stakeholders been consulted at the stage o f (a) environmental screening and (b) draft EA report on the environmental impacts and proposed environment management plan? Describe mechanisms of consultation that were used and which groups were consulted?

NIA

5.5 What mechanisms have been established to monitor and evaluate the impact of the project on the environment? D o the indicators reflect the objectives and results o f the E M P ?

NIA

6. Social: 6.1 Summarize key social issues relevant to the project objectives. and specify the project's social development outcomes.

KDPs primary objectives are to support social development. Three topics are o f special concern and, while they are addressed elsewhere in this PCD at a generic level, deserve special mention in this section. These are social issues relation to inclusion, transparencylanti-corruption, and the strategy for local institutional reform.

Inclusion. Inclusion o f women and the poor have been problematic issues for development projects in Indonesia, including KDP. The overall participation o f women in Indonesian governance has generally dropped as decentralization progresses and traditional social institutions are revived. Nevertheless, KDP's gender action program has made good progress in some areas, and operational analysis i s also doing a good job identifying new methods for increasing the involvement o f women. The introduction o f a separate planning stream for women has been particularly effective, as have project decision malung

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rules that require the physical presence o f women in decision meetings. KDP-2 included a competition for a l l KDP facilitator groups to advance their best proposals for increasing the involvement o f women. Results f rom the competition w i l l be brought into KDP-3 operational manual and training programs. GO1 plans to produce a gender action matrix b y appraisal.

KDP uses a fairly sophisticated method o f general poverty targeting. I t begins with the development o f a master poverty l i s t using the national expenditure survey and an infrastructure gap assessment survey assembled b y Bappenas. Provinces then select eligible districts from this l ist , and the districts then propose eligible subdistricts. The final l i s ts are then re-verified b y Bappenas. While there are problems with both the quality o f survey data and some local manipulation o f eligibility criteria, by and large this method appears to be reasonably effective at identifying poor regions. Thus, for example, villages in non-KDP rural subdistricts are on average 51 k m s away from their district capital, while villages in KDPs second year o f operation were on average 70 kms . away; distance i s in some sense a proxy for poverty. Similarly, summarizing an 8 year series o f poverty measurements that control for time o f measurement, poverty rates in non KDP villages were 22% while K D P villages show an average poverty rate o f 30%.

This overall success, however, diminishes significantly when one examines poverty targeting within subdistricts and villages. Because K D P s decision making process i s based on public review of proposals, wealthier and therefore more educated groups are more able to succeed in the competition. Other variables that can act against the poor within subdistricts and villages include distance, language differences, and deep-seated hierarchies that make the poor unwill ing to speak up in public meetings. Better facilitation can break through some o f these barriers, but the ability o f local elites to control the KDP process remains a major challenge to the program.

Corruption. Nobody disputes that greatly improved transparency i s essential for tackling Indonesia's deep-seated corruption problem. Surveys carried out under KDP-1 show that satisfaction with the program i s highly correlated with the extent to which people feel they knew about and participated in the planning and management o f the project, significantly more so than whether the project succeeded or failed. Simply promoting transparency i s a key KDP objective. But promoting transparency itself has run into three major obstacles. The first i s relatively expectable: official resistance to disclosure, particularly o f financial information. In KDP-1, resistance was so ingrained that some local governments actually passed regulations banning the public posting o f financial information. KDP-2 adopted a project transparency policy and MoHa has actively promoted information disclosure through activities such as releasing audit findings in annual reports, support for press monitoring o f subprojects, etc. Nevertheless, resistance to transparency runs deep.

The second obstacle i s that projects lack a good toolkit for information dissemination. Most Bank experience with information disclosure has come through the EA process, but a draft EASES review o f disclosure effectiveness in environmental assessments found little evidence that target audiences either understood or could use the information being disclosed. K D P has also suffered from good intentions not being matched by operational effectiveness: information boards usually have too much information o f too little interest, dissemination meetings drone on about project achievements rather than providing an active forum for dialogue, and so on. KDP-2 commissioned a series o f studies to assess what communications media reach different target audiences, but teaching people how to use information w i l l be a problem that extends beyond the scope o f any one project.

The third and perhaps knottiest problem i s that Indonesia's judicial system i s unwilling and i s not set up to receive and act on complaints against government officials. One problem i s that the court officers --

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judges, prosecutors, police etc. themselves are notoriously weak and subject to pressure. But the structural impediments are equally culpable for Indonesia's continued failure to provide institutional ways for communities to act on information. Access barriers are high. Procedures for filing complaints are extremely time-consuming and lack clear guidelines for follow-up, while there i s n o regulatory protocol or agency that protects plaintiffs f rom physical intimidation. Without an effective institutional foundation by which villagers can use information, greater transparency w i l l allow social controls on corruption to work more effectively but i t s t i l l does not lead to a normalized environment where informal controls collaborate with a rule-based system o f public action.

Working with local institutions. Finally, the research series started with the Local Institutions ESW continues to raise important questions about how development projects can work effectively with community and local government institutions. Indonesia's ongoing decentralization program and the accompanying revival o f "adat" (customary) institutions and practices add a new level o f complexity to the question. While in general a l l studies show that people prefer their "own" organizations to development groups newly formed by government agencies, not al l traditional organizations are equally well received. An illustrative experience comes from the parallel Community Empowerment Project in East Timor, which i s also a national program. Two types o f community based councils were established, one through a democratic electoral process established through a UN regulation endorsed b y the Timorese "shadow" groups, and another that ratified the traditional "councils o f elders" which, though acknowledged to be deeply hierarchical, were believed to be more representative o f local culture. Three years into Timorese independence, the local councils flourish while the councils o f elders have al l but melted away as functioning governance bodies in most parts o f the country. "Adat" institutions in many parts o f Indonesia already face resistance from community members who see them as espousing sectarian rather than village-wide interests; for example, women who defy adat role-casting, or, as in NTT, poor people who do not accept the proposed restrictions on social mobility. The dynamic o f local institutional reform cannot be described in romantic oppositions.

For both traditional and modern institutions o f governance in rural Indonesia, lack o f alternative channels o f access and redress continue to be central challenges. KDP-2 to some extent addresses this problem through i t s programs to promote legislative monitoring of project implementation, and through the pilot programs to support barefoot lawyers, both o f which w i l l be broadened under KDP-3. But developing a full fledged system o f multiple checks and balances between different branches o f government and the smooth f low o f information between different levels o f political and c iv i l society i s a long-term reform project for Indonesia.

6.2 Participatory Approach: How are key stakeholders participating in the project?

KDP i s a participatory project. Primary stakeholders participate through al l stages o f the project.

6.3 How does the project involve consultations or collaboration with NGOs or other c iv i l society organizations?

KDP involves extensive N G O consultation. Approximately 53 NGOs already participate in the project, 40 as independent monitors, 3 as project executors in different kabupaten, and the remainder through special programs such as the work with widows and the paralegal aid program. More than 500 articles on K D P have already been published in regional newspapers through a "blind" contract that goes to independent journalists. KDP-3 w i l l expand i t s c iv i l society outreach program to promote dialogue with some o f Indonesia's large religious organizations, particularly with respect to microfinance.

6.4 What institutional arrangements have been provided to ensure the project achieves i t s social development outcomes?

Project design does this.

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6.5 H o w w i l l the project monitor performance in terms o f social development outcomes'?

K D P uses the following methods to monitor social development performance:

Poverty impacts: Social inclusion: Empowerment: Safeguards:

sample and panel surveys NGO monitoring, case studies panel survey, w h o n treatment sampling M I S , site reviews, output measurements (Irian)

7. Safeguard Policies:

7.2 Describe provisions made by the project to ensure compliance with applicable safeguard policies.

KDP-2 has a project land acquisition and resettlement policy that has been reviewed by EASES and LEGEA. Field reviews report good implementation o f the policy. KDP does not involve state powers o f eminent domain at any stage, and land transactions can only take place on a willing-buyer/willing seller basis. Land acquisition assessments are part o f the proposal review process and must be approved by the district level oversight engineer. Land and resettlement are also recorded in the project's master database and reviewed during field supervision. N o significant adverse impacts f rom land acquisition or involuntary resettlement have ever been reported from a K D P subproject.

As a highly participatory, demand-driven community project, there are few r isks o f adverse impacts on indigenous communities and none have ever been reported. Thus, no special action plan to mitigate adverse impacts w i l l be prepared. However, KDP does have an overall safeguard policy framework attached to i t s operating manual whose purpose i s to ensure that project activities provide culturally appropriate benefits through informed participation. There are opportunities to increase benefits for vulnerable ethnic minorities, however. KDP's general strategy i s to improve the quality o f information through better facilitation and local-language materials (i.e. support for local language community radio programming).

However, Papua presents a special challenge to the OPs directive to provide culturally compatible development benefits. Again, while no adverse impacts f rom KDP have ever been reported from Papua, benefits have not been where they should be, despite the program's general popularity in the villages. KDP-1 tried to address the problems o f Papua by working with Papuan NGOs and local governments to make a special operational manual appropriate to Papua's conditions, and b y out-sourcing facilitation one

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very isolated kecamatan to a Church-based NGO.Both actions led to some improvement, but results remained suboptimal.

and managers ins is t on strict application o f eligibility criteria External autonomy o f revolving fund management

One main constraint on KDP success in Papua has been the lack o f qualified field personnel. Past government strategies o f bringing in more qualified specialists f rom elsewhere in Indonesia have also become increasingly problematic given the political instability and rising nationalism o f the province.To address this, KDP-2 developed a unique program to recruit and train bright young Papuan villagers in a special training program designed jointly with Papuan NGOs and the provincial university. Each subdistrict participating in K D P can nominate three o f i t s brightest high school graduates for a nine month training course in the university, which w i l l be followed by one year o f mentoring by the trainers in their f ield stations. Graduates o f the program w i l l be certified c iv i l engineers.

The first year o f the program has seen 230 participants, three times as many as were anticipated during the appraisal o f KDP-2 (this i s because the decentralization laws gave Papuan local governments a windfall, and many o f them have already taken up KDP-2 matching grant option). Init ial assessments are very positive. Appraisal o f KDP-3 w i l l assess the sustainability o f the model, which at present i s too expensive. Options include private sector and local government co-financing, or concentrating on structured follow-through for the recent graduates.

F. Sustainability and Risks 1. Sustainability:

One objective of this program i s to facilitate the Banks exit strategy from direct support o f the KDP program so that i t can move towards programmatic involvement. This has been delayed because o f several factors described in the Indonesia CAS, including the decentralization turbulence, concern over Indonesia's fiduciary environment, and the usefulness o f having sufficient time to familiarize local governments and villagers with a sigificantly different way o f doing village development.

KDP-2's matching grant pilot program demonstrated that the project i s sufficiently popular wi th local governments that they w i l l make a significant contribution to i t f rom their district budget (DAU). However, not all districts are equally wealthy. The central government recently issued guidelines for onlending that provide a subsidy to poorer kabupaten. KDP-3 w i l l be adopting this formula for i t s matching grant.

The sustainability o f subproject investments i s already well-documented through ex post reviews, which have found that 85% o f the village infrastructure i s in good to very good five years after completion. Institutional benefits and longer term spillovers f rom KDP to non K D P activities are harder to measure, but there are anecdotal signs from supervision and NGO monitoring reports that these are substantial.

2. Critical Risks (reflecting the failure of critical assumptions found in the fourth column of Annex 1):

Risk From Outputs to Objective

Risk Rating

H

S

M

Risk Mitigation Measure

Follow-on support keyed to adoption

Supervision b y oversight N G O

Operational Manual pre-condition

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Locally available human resources Matching grants do not materialize

Component 4: Data collection quality i s bad

From Components to Outputs Component 1: Matching grant formula achieved Component 2: Regulations inadequate

Component 3: Component detached to separate agency Corruption risks:

Block Grants: Minimal r isks are expected to affect the block grant transfer.

Village Planning Capacity: Collusion risks exist with suppliers; nepotism with within-village selection

Implementation Support: Main r i sks l ie with procurement and with company transfers to field consultants

Micro-finance -- Ma in r isks are collusion among bidders and forced partnerships

Studies -- Ma in risk i s procurement collusion and substitution o f personnel Overall Risk Rating

Risk Rating - H (High Risk), S (Substantial Ris

M

M

M

M

M

M (Modest Risk), N

Outsourcing to NGOs and banks Refusing service to the districts that do not honor agreements TOR and contract w i l l specify on-site supervision

Working group within BAPPENAS and M o F

Consultations with specialists and local governments underway Written assignment o f executing agency from BAPPENAS and Home Affairs

Using block grants and independent document counterflows minimizes risk. Publicallydisclosed audits provide an additional check. End use oversight remains vulnerable.

Public accountability for a l l procurement limits supplier collusion. Open elections for FD positions l i m i t s favorite son choices

Main mechanism has been to switch to direct contracting o f consultants, with standard monthly payments transferred through payroll

Disclosure rules w i l l ensure competitition

Close monitoring b y WB

A more detailed fiduciary risk assessment i s provided in Annex 11 Jegligible or Low Risk)

3. Possible Controversial Aspects:

Any project in Indonesia has the potential for controversy. Risks in the popular press are those linked to Indonesia's overall debt situation and the likelihood that there w i l l be some reports o f subproject corruption.

G. Main Loan Conditions 1. Effectiveness Condition

1. The Borrower shall adopt and apply a Project Manual acceptable to the AssociationBank.

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2. Other [classify according to covenant types used in the Legal Agreements.]

1.

2.

3.

4.

5.

6.

7.

8.

9. 10.

11.

12.

13. 14.

15.

16.

17.

18.

19.

20.

21.

22.

The Borrower shall maintain the PMD Secretariat until the completion of the project wi th terms o f reference, facilities, staff, and a Project Manager at all times acceptable to the AssociationBank. Audits shall be carried out in accordance with BPKPs audit manual and in accordance with TOR agreed with the AssociationBank. B y October 31 in each year, inform each Kabupaten participating the project that all auditing activities for sub projects are to be carried out exclusively b y auditors appointed b y PMD in accordance with the manual and terms o f reference acceptable to the AssociationBank. A PJOK w i l l be appointed b y no later than November 30 in each year preceding the project fiscal year. The Borrower w i l l cause each Kabupaten participating n the project to appoint a Kabupaten Coordination Team b y no later than December 3 1st o f each year preceding the project fiscal year. The Borrower shall select a banlung institution acceptable to the Association to provide payroll services. The Borrower shall select project kecamatans from among the borrower's 35% poorest kecamatans based on Susenas and PODES data. The Borrower shall provide the AssociationBank ranking the financial capability o f each kabupaten participating in the project, by October 3 1,2003. Each Bappeda w i l l annually select project kecamatans from the PMD master l is t . Each provincial Bappeda shall furnish the annual consolidated l i s t of proposed kecamatans to the P M D Secretariat and to the Association by no later than November 30 for each year for the following Fiscal Year. The annual approved consolidated l i s t o f participating kecamatans shall be made available to the public free of charge as o f December 3 1 in each year. The Borrower through the relevant bupatis and camats shall issue by October 31 in each year public information disclosing to villagers and their representatives al l administrative, financial, social, procedural, technical, and environmental aspects o f the project. The Project Manual shall be available free o f charge at the kecamatan office. The Borrower w i l l provide Kecamatan Planning Grants in accordance with conditions agreed with the AssociationBank. The Borrower w i l l provide Kecamatan Block Grants in accordance with conditions agreed with the AssociationBank The Borrower shall ensure that prior to carrying out sub-project works, the Kabupaten engineer w i l l have completed a technical review o f each subproject to ensure that all financial and technical specifications have been complied with. The Borrower w i l l ensure that each infrastructure subproject shall receive a completion certificate f rom the kabupaten engineer. The Borrower w i l l ensure that UPKs w i l l recover amounts disbursed under the grant in accordance with community procedures in the even o f a finding o f unsatisfactory performance except for cases of force majeure. The Borrower w i l l minimize the acquisition o f land or assets and, where unavoidable, w i l l implement the project's Land Acquisition and Resettlement Guidelines. The Borrower w i l l avoid or minimize cultural, social, and economic effects on Isolated Vulnerable People, and i t w i l l involve them through a process o f informed participation to ensure that project benefits reach them in culturally appropriate ways. The Borrower shall ensure that information on complaints received by the PMD Secretariat and their resolution i s published annually in a local and national newspaper. Studies under Part E w i l l be carried out following terms o f reference acceptable to the

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23.

24. 25.

H.

AssociationIBank. The Borrower w i l l ensure that at least one independent nongovernmental organizations employed to monitor project activities in each province where the project i s implemented. Project monitoring w i l l monitor project indicators. P M D w i l l provide an Annual Report on the implementation and achievements o f the kecamatan grants, including findings from the monitoring and evaluation studies. These reports w i l l be reviewed with the AssociationBank and made publically available.

Readiness for Implementation 1. a) The engineering design documents for the f i rs t year's activities are complete and ready for the

start of project implementation. 1. b) Not applicable.

2. The procurement documents for the f irst year's activities are complete and ready for the start o f project implementation.

quality. 3. The Project Implementation Plan has been appraised and found to be realistic and of satisfactory

4. The following items are lacking and are discussed under loan conditions (Section G):

1. Compliance with Bank Policies 1. This project complies with al l applicable Bank policies.

0 2. The following exceptions to Bank policies are recommended for approval. The project complies with al l other applicable Bank policies.

Scott E. Guggenheim Team Leader

Maria Teresa Sena Sector ManagerlDirector Country ManagerlDirector

Andrew D. Steer

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Annex 1 : Project Design Summary INDONESIA: Third Kecamatan Development Project

Reducing poverty

Improving local governance

Project Development Objective: Component A: Kecamatan Grants: Cost-effective, community based investmenl plans are developed and implemented

Component B: Institutionalizing Community Empowerment:

Component C: Micro finance support: Sound community owned microfinance institutions (UPKs) increase scope and

Component D: Impact Evaluation

Key Performance Indicators

Sector Indicators: % poor

Satisfaction with leadership rises

Outcome / Impact Indicators: Number o f villages with plans completed

Cost and coverage of village infrastructure built

Villagers able to meet FM&D audit standards

Regulations required by law 22 are issues

% o f poor and women involved in planning, execution. and maintenance

Villagers aware o f rights % increase in number o f villagers and low-income borrowers served by UPKs

Percentage increase in the number o f UPKs classified as fiancially and institutionally sound based on standard rating system

Percentage o f UPKs with routine access to technical assistance and sypervision through service associations and extrema1 servicde providers. Poverty impact study completed IRR study completed Governance survey completed

Data Collection Strategy

Sector/ country reports: CAS, PRSP

Surveys

Project reports:

Annual report

Central database, audits

Central database

Audits, corruption study repor PMD master registry

M I S

Survey UPK reports, impact study

UPK supervision reports, database

M&E reports

Report

Report Report

Critical Assumptions [from Goal to Bank Mission) No gaps between macro and project objectives Macroeconomic staility :ontinues and investment Aimate trends reverse.

[from Objective to Goal)

Favorable local economic :onditions

Continued implementation o f local autonomy laws

Lack o f widespread conflict

Effective loan use by borrowers

Absence o f widespread economic crisis

Enforcement o f project risk assessment rules

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2omponent: Component A: Community dock grants

Clommunities are able to 'ormulate and implement levelopment plans

Clommunities can carry out nfrastructure assessments and irioritize needs

zommunities can access echnical services

<educed corruption

2omponent B: Commun..y Smpowerment

3inding outlines for 13 mplementing Regulations

iupporting structure for BPDs

nter-village forums

Key Performance Indicators

Output Indicators:

Quality of plans

Categorization o f village infrastructure on pre-defined ranking criteria

Increase in requests to public institutions for service delivery during UDKP

Greater output

Comprehensive report on existing regulations (perdas) based on review

National model for 13 perdas developed

Quality of perdas and consultation process

Numberltypelquality of training procided to BPDs, FADS and DPRDs

kunberlqualityltype o f civic .nformation and education xograms delivered

Yumberlgenderl profile o f iersons trained

Skills improvement in trainees

Clhanges o f attitude and iractices by institutional ,epresentatives and villagers

mplementing instructions roduced by MoHA

Data Collection Strategy

Project reports:

Annual report

NMC report

NMC report

Eonuption study

Report on existing perdas

Repodperdas

4nnual report

rraining plans, reports, pre md post training evaluations

Surveys regarding ski l ls, ittitudes and practices of rainees and villagers

'roject database, MoHA files

rTMC database

Critical Assumptions from Outputs to Objective)

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Zomponent C: Microfinance upport 'articipating UPKs have iotential to become financially md institutionally sustainable

'rudential UPK capital and :redit management

Number of representatives1 villages participating in public budgeting

Number o f interactive village activities, e.g. cross audits, workshops

Quality of perdas

Operate in areas with sufficient unmet credit demand and investment opportunity

JPK associations effective

jystems for UPK technical issistance and supervision ffective

Owners and local stakeholders willing to comply with project microfinance rules

Clear ownership

Seed capital matches break-even point o f Rpsw. 150 million Financial and credit information system meets project supervision standards Credit decisions based on borrower el;igibility, business feasibility, and repayment capacity Direct and transparent borrower-lender relationship for credit application, analysis, agreement, and supervision. Good or improving loan portfolio quality and capital growth. Association offices are equipped and staffed UPK fees cover operating costs Associations procure extemal services that meet UPK needs Association able to carry out UPK supervision Institutional development plans and needs assessment for each UPK are available.

UPKs assisted and supervised at least once a month, and monthly performance reports and ratings available

Supervision

M I S

Feasibility studies

M&E reports

M&E reports, UPK supervision reports M&E reports

M&E reports, UPK supervision reports

UPK supervision reports

UPK supervision reports

UPK supervision reports

M&E reports

M&E reports

M&E reports

M&E reports

M&E reports, UPK supervision reports

M&E reports, UPK supervision reports

)cal project stakeholders and inagers insist on strict 'plication o f eligibility iteria

ctemal autonomy of volving fund management

rtemal autonomy o f volving fund management scally available human sources

apacity and willingness to i y fees and for services

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Project Components / Su b-components:

rechnical assistance and supervision functions ransferred to UPK mociations

Inputs: (budget for each :omponent)

Block grants

M&E reports

Project reports: (from Components to Outputs)

[mplementation Support

Community Empowerment

Microfinance

Monitoring and Evaluations

27 8.9million$

39.9 million$

41.8million$

8.7 million$

3.1 million$

Annual reports

Quaterly reports

Annual report Final draft reviews Annual reports Monitoring reports Quarterly and Final reports

Agreement on matching grant formula AP for local government sdtaff materializes and i s paid on time, in full Contracting succeeds

Contracting succeeds, interpretive quality i s good

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Annex 2: Detailed Project Description INDONESIA: Third Kecamatan Development Project

The development purpose o f KDP-3 i s to reduce poverty. Its overall means for achieving this are b y providing investment resources to support productive proposals developed through community planning. KDP-3 also supports the development o f responsive institutional structures that enable bottom-up planning and provide for development oversight at the local level. Decision making i s left to the communities themselves, transparently and responsibly. All important decisions are made in community wide meetings. Monitoring o f activities i s undertaken by many actors, including the legislatures and NGOs, as well as independent teams selected b y communities themselves. Special dialogues w i l l be conducted among al l stakeholders in KDP-3.

KDP-3 w i l l provide two years o f additional support to the approximately 2,000 kecamatans that have or w i l l have successfully graduated from KDP-1 or 2. (A limited number of additional kecamatans can be added during annual programming reviews). Activities that w i l l be supported under KDP-3 include:

i. building or repairing basic productive infrastructure, such as small roads, irrigation infrastructure, clean water supply systems, etc;

ii. building or repairing social infrastructure, such as school buildings, clinics, etc; 111. training for revolving funds management; iv. assistance for the development o f district and subdistrict capacities, specifically

technical training in administrative drafting; v. carrying out a number o f carefully designed pi lot programs to provide special

assistance to disadvantaged or marginalized groups.

...

Community Grants -- The main activity in KDP-3 w i l l be the construction o f economic and social infrastructure that i s desired and needed by the communities. The selection o f activities i s open except for items specifically excluded through the project's negative l ist . All assistance i s given as a grant to the village by the govemment.Criteria for activities include:

0

0 Technically and financially feasible 0 A public need 0

Can be undertaken by the village, with locally available technical assistance

Gives benefits to the community, especially the poor in the village

KDP funds can be used for infrastructure such as roads or irrigation, for social services such as schools and clinics, or for training. Unlike in KDP-2, KDP3 w i l l not support economic activities except for village-level revolving funds managed by women's groups, although the project w i l l provide special training for the revolving fund management units (UPKs). Funds also cannot be used for items on the project's negative list, or for land purchase o f any lund.

The kecamatans receive an allocation from the project, which i s anticipated to be between 500 mill ion to 1.0 bi l l ion rupiah per year, depending on their population. In KDP-3, distirct government's must provide 30, 60, or 80% o f this amount as a matching grant using

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their own budgetary resources. The different amounts are based on a standard weighting formula based on poverty that i s issued by Bappenas.

L I

>50,000 >25,000 1 .O bil l ion rupiah 25,000-50,OO 15,000-25,000 750 mill ion rupiah 0

Table A2.1: KDP-3 grant amount allocation criteria /Java /Of f Java ]Size o f Grant

<25,000 1<15,000 1500 mill ion rupiah

Women's savings and loan activities are limited to 10 mill ion rupiah per village (if there are many villages, then there must be competition or each village w i l l receive somewhat less so that the maximum i s 10% o f the total allocation). The standard allocation i s not competed for but i t w i l l also be limited to 15 mill ion rupiah or 15% o f the total grant to the kecamatan. All other proposals are competed for.

Before the proposals are discussed at the Subdistrict Decision Making Forum, they undergo a verification process done by a team o f selected citizens with advice f rom the consultant. The team i s selected b y the Subdistrict Manager and the Empowerment Facilitator, and their technical expertise i s verified by the Management and Technical Facilitator. Verification i s undertaken o f each proposal on the basis o f technical feasibility, financial feasibility, and criteria. The team does not determine ranlungs or priorities. I f there were any proposals found to be unfeasible, these would be discussed with the communities at the time o f the visit, so that the proposal could be modified or at least the community could understand the reason for rejection b y the facilitators. However, while facilitators can recommend rejection, the communities must s t i l l make the decision themselves.

Subproject rules for procurement, financial management, technical oversight, and reporting to government and to the Bank are provided through the project's Operational Manual. The Manual i s re-issued annually as part o f each year's overall performance review and programming for the coming stage.

Local Government Capacity Development -- KDP-3 develops the community capacities developed under KDP-1 and 2 by strengthening the capacities o f the local government institutions created through the decentralization program. This w i l l take place through two mechanisms. First, KDP-3 w i l l promote the adoption o f the implementing instructions (perdus ) required by Law 22. But once they are adopted, a great deal o f training i s needed to familiarize officials and community members with their mode o f operation, rights, duties, and capacity for promoting village interests. KDP-3 w i l l also provide a l imited amount o f training to the technical staff o f district governments, including the district parliaments, who are concerned with village development.

Revolving: Funds -- The project includes an activity to improve the capacity o f subdistircts to manage the revolving funds (UPKKJEPs) created through KDPl and 2. However, KDP-3 does not create new microfinance organizations and does not add investment funds to their existing capital.

By Component:

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Project Component 1 - US$278.90 million Kecamatan Grants -- This component consists of two main activities: the provision o f block grants that communities allocate against proposals agreed in the Inter-Village Decision Forum (UDKPFAD); and support for bottom-up planning in villages. The block grants can be used for any productive purpose except for items prohibted b y the project's negative l ist , which has been agreed with the World Bank and i s incorporated into the project's operating manual. Support for bottom-up planning includes providing and training social and technical village facilitators, village cross-visits, and village operational costs for planning and management.

Project Component 2 - US$41.80 million Communitv Capacitv Building -- The core o f this component consists o f a comprehensive training program for village and subdistrict councils, administrative officers, and representatives involved in KDP management. Training w i l l be provided in a number o f forms: through regonal workshops, from specialized consultants, or NGOs, and from a specially prepared program o f cross-visits and study tours.The program w i l l train them in principles and procedures o f local governance, with a special focus on transparency, accountability, and public dissemination o f information. To promote greater use o f capacities, the program w i l l also support a broad program o f community-baswed development monitoring. At the kabupaten level, the project w i l l support training in technical drafting and project monitoring for the district parliaments and local government. This component also includes continuation o f KDP-2's pi lot programs to support female-headed households (Pekka), training in conflict resolution, the special program for Papua, programs for legal services to K D P villagers, a pilot program for cultural heritage.

Project Component 3 - US$8.70 million UPK Revolving Funds Sumort -- This component i s described in detail in the P A D text. I t consists o f consultant services to train and supervise the revolving funds (UPKs) formed under KDPl and 2. Provincial or national organizations such as private banks or NGOs experienced with microcredit w i l l provide on-site training in basic principles o f sound microfinance.

Project Component 4 - US$39.90 million Implementation Sumort -- This component provides technical consultants to support the national, provincial and district governments. The consultants are organized into; (a) a National Management Team that manages technical planning and oversight, including strategic planning and annual programming, budget oversight, complaints management, oversight reporting, and training management; (b) approximately 14 regional management units that each cover 1-2 provinces that consist o f an operations, training, and financial management unit; and (c) district support units that include technical and social specialists and their support structure. Consultants in KDP3 are hired as individual specialists, but the government i s supported through f i r m s that help manage contracts, payroll, and printing. This component also cover the overall management, coordinations, monitoring and supervisions at national, provincials, districts and subdistricts levels by GO1 staff to be financed b y GO1 counterpart funds.

Project Component 5 - US$3.10 million Monitoring and Evaluation and Studies -- KDP performance i s reviewed through a comprehensive monitoring and evaluation program that includes both internal monitoring systems and independent reports on performance. The details o f the K D P monitoring system are provided in the text o f this PAD. KDPs internal M&E system includes qualitative and well as quantitative studies. External monitoring i s provided through provincially based NGOs and by independent journalists who visit KDP field sites to public reports in local and national newspapers. Two statistical studies in KDP3 w i l l track the cumulative impacts o f KDP on governance and poverty reduction.

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Project Component 6 - US$2.40 million Incremental Operating Costs -- This component provides support for the Ministry o f Home Affairs' National KDP Secretariat so that they can visit K D P field sites. I t also includes the cost o f annual workshops with local government officials to review KDPs performance with respect to the implementation o f the local regulations on village autonomy. This component w i l l also support two cross-country study tours for govenrment policy makers and selected senior KDP management consultants to visit other innovative community development projects.

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Annex 3: Estimated Project Costs INDONESIA: Third Kecamatan Development Project

Project Cost By Component A. 1. Kecamatan Grants for Infrastructure

2. Kec Grants for planning B. Community Capacity Building C. UPK Microfinance support D. Implementation support E. Monitoring and Evaluation and Studies F. Incremental Operating Costs Total Baseline Cost

Physical Contingencies Price Contingencies

Total Project Cost:

Total Financing Required Front-end fee

240.40 24.60 39.70 8.20

35.90 2.90 2.30

354.00 0.00 0.00

354.00

354.00

12.70 1.30 2.10 0.40 4.00 0.20 0.10

20.80 0.00 0.00

20.80 2.04

22.84

253.10 25.90 41.80

8.60 39.90 3.10 2.40

374.80 0.00 0.00

374.80 2.04

376.84

Financing Plan Local Foreign Total

Borrower 119.3 7.7 127.0 IBm 191.9 12.3 204.30 IDA 42.7 2.8 45.5

_ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ USD Mi l l ion _______________

Total Financing 354.0 22.8 376.8

Notes: B. Reflects the total cost o f the Kecamatan Failitors and training needs C. Includes technical assistance, publication costs, administrative support and Go1 Implementation support 1/ Including pricie and physical contingencies

1 Identifiable taxes and duties are 0 (US$” and the total project cost, net of taxes, i s 362.3 (US$m). Therefore, the project cost sharing ratio i s 68.95%

o f total project cost net of taxes.

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Annex 4: Cost Benefit Analysis Summary INDONESIA: Third Kecamatan Development Project

Summary of Benefits and Costs: Because o f KDPs open menus, detailed cost-benefit calculations cannot be made ex-ante. Experience from the main investment types in K D P 1 and the VIP projects displayed I R R s ranging from 22%-90% with a mean o f 35-40%. Indirect benefits are not counted. Calculations for KDP-2 assume an average IRR o f 25%. The possibility o f localized failures i s included through the conservative benefit returns presented in this annex.

i. kecamatan and village facilitators provide a valuable service (information sharing, more people involved in public decision-making, higher ownership/maintenance to justify their cost);

ii. release o f the grants w i l l occur on time -- essential because o f the seasonality o f the rural calendar;

111. open menus do not distort choice or contaminate other public investment programs; iv. equipment needed for infrastructure construction i s available in local markets; v. internal markets remain relatively undistorted.

...

I t i s not easy to quantify KDP’s aggregate impacts because i t s most important objectives focus on the systemic rules and incentives that guide local governance in Indonesia as much as any one investment, and these require longer term benefit estimates. KDP’s open menus also make i t impossible to know with precision which investment proposals w i l l actually receive funding. Therefore, the cost-benefit analysis proceeds from a SWOT (Strength, Weakness, Opportunity, Threats) framework. The concluding section on benefits summarizes some o f the specific economic return data based on experience under KDP-1.

Institutional Aspects (SWOT)

Strengths o f the project design are (i) the open menus; (ii) the high degree o f transparency; (iii) use o f traditional institutions to organize decision-making; (iv) the contracting o f privately recruited and managed facilitators to share information and encourage free choice; and (v) the mandatory contribution o f distirct matching grant funds, which demonstrates ownership. Moving from sectoral to cross-sectoral menus allows for a better fit between end users perceived needs and project delivery. Indonesia’s existing bottom-up planning system already suffers badly f rom the fact that community investment decisions are primarily driven by the central budgets o f different technical agencies, regardless of need. Decentralizing funds to communities and allowing them to match their resources over a broad range o f expressed and negotiated priorities allows them to build more useful infrastructure. K D P s decision-malung process forces communities to ration their resources. I t also leads to better maintenance and thus a longer economic l i fe for the investment. KDP’s flexible design allows the project’s total size to match resources and capacities. KDP-3s improved design carries forward reforms started under KDP-1 and 2 by providing an institutional foundation for the community institutions developed through the first two programs and reinforced b y the national decentralization policy.

Weaknesses - include the lack o f technical sophistication, the loss o f economies o f scale and network programming, and the r isks o f elite capture over time. Districts pressed for resources under decentralization may also decide to reduce investment and services to KDP villages by way o f compensation, thus reducing program sustainability s t i l l further. Giving more control to local decision

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making increases the likelihood o f “not in my backyard” decision malung, despite the national benefits that could accrue from unpopular decisions. The new project’s design also runs a greater risk of local government capture than the original K D P did because o f the greater scope for DPRD and local government involvement than was allowed under KDP-1.

Strengths - o f issuing the perdas required b y Law 22 are that they provide the legally required basis for local government. (Article 22 invalidated the former structures). Program continuity i s also an important strength o f the new project since villagers can increasingly internalize and normalize expectations about revenue flows to make decisions over. Introducing the matching grant component provides a channel for expanding coverage and normalizing K D P approaches in an uncomplicated way. The new project’s design brings the microfinance institutions back into line with best practices and also provides the future candidates for the proposed Sustaining Microfinance Project with advance training and supervision, though not loan resources.

Weaknesses - o f the system are twofold: the small size o f the infrastructures built and their lack o f linkage to district planning; and the susceptibility o f the project to elite capture. The new project also faces a riskier overall environment, particularly given the s t i l l unclear mandate, resources, and responsibilities o f the newly empowered district governments. Decentralization across Indonesia has also led to drops in women’s participation which a more centralized project structure could address more effectively.

Strengths Outweigh Weaknesses - Social and economic benefits f rom the project (infrastructure for the poor, improving the match between investments and priorities, better maintenance, s k i l l s transfer) are considered to outweigh the r isks o f l ow sustainability and lack o f integration into district management plans, especially since these trends already show signs o f diminishing as K D P becomes more familiar to local government. Furthermore, the project’s low costs and high counterpart contributions by villagers outweigh possible benefits o f scale and better technology that could be gained by vesting decision-malung in more specialized technical branches o f government.

Opportunities - KDP provides two excellent opportunities for improving village development programs. Government policy now promotes the K D P design as a foundation o f i t s national poverty reduction strategy but because o f the crisis i t lacks the resources to implement i t in more than a small number o f locations without external assistance. Second, KDP-2’s unique system o f direct payment to facilitators potentially offers a very large cost saving to abroad range o f community development programs in Indonesia. With costs for facilitators averaging 20-25% across a broad range o f community project types (urban poverty, basic education), reducing TA management costs by approximately 50% w i l l amount to a large saving for the government (or else i t w i l l stimulate contractors to start providing a service for which development projects w i l l be wil l ing to pay).

Threats - The three major threats facing KDP-3 have already been discussed elsewhere in this PAD: (a) elite capture o f benefits; (b) opposition b y private contractors; (c) capture and distortion b y district governments. Technical “threats” integral to the project design itself hinge almost entirely around the caliber, training, and management o f the facilitators. Indonesia retains a strong tendency o f “guided” hiring. The project’s TA apparatus w i l l quickly be neutralized and ruined b y collusive hiring and management unless the TA can remain autonomous.

Summary of benefits and costs

Individual villages and project proponents choose their own subprojects f rom a completely open menu. Nevertheless, some 50% o f villages choices have been for all-weather roads and bridges. The

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project's IRR review showed a weighted return of 68% to these investments. Gains come from lowered transportation costs, higher farmgate prices, and the growth in local businesses previously not viable.

Sample calculations for KDP confirm these estimates but with high variance at the high end, with several bridges and road links exceeding IRRs o f 80%. Cost savings for transporting goods in the sample dropped by 75%. Time spent traveling was cut by between 66%-80%, and average increase in traffic on the roads or bridges was above 60%. Even these are conservative estimates because methods do not count benefits such as lowered infant and maternal mortality, better school attendance, and lower consumer prices.

Case studies did not confirm the hypothesis that people who previously earned a l iv ing by carrying goods to market would not find new jobs; in al l cases studied this social cost did not materialize, even despite Indonesia's ongoing economic crisis.

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Annex 5: Financial Summary INDONESIA: Third Kecamatan Development Project

63.4 76.1 63.4 63.4 12.7 10.1 8.8 10.4 8.7 3.8 3.9 0.8 3.2 0.8 0.0 4.6 4.6 10.3 10.3 10.2 0.0 0.4 1.6 0.5 0.5 0.5 0.5 0.5 0.5 0.5 2.1

84.6 91.2 89.3 842 27.6

Total Flnanc@ Requind ($ nillion) I I 278.9 41.8 8.7 39.9 3.1 2.4 2.1 376

Project Gmponen ts A Kecmtan Grants Infrastructure and planning B. C i " i t y Capaaty Bldg. C. UPKMimfinane supports D. Implemntation Supprt E. Monitoring &Evaluation and Studies E Incremntal Operation Costs Front end fee

56.7 58.9 61.0 55.9 17.3

4.5 4.5 4.5 4.5 4.5 15.8 18.8 16.3 16.3 4.3 7.5 9.0 7.5 7.5 1.5

84.6 91.2 89.3 84.2 27.6

249.8

22.5 71.5 33.0

376.9

baming Arrangemnts ($nillion) IBRWIDA Ci3V€XlllEIlt

Ckntral District

Beneficiaries

Total Project costs I

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Annex 6(A): Procurement Arrangements INDONESIA: Third Kecamatan Development Project

Procurement 1. Procurement o f goods and works w i l l be carried out in accordance with the World Banks Guidelines

on Procurement-Under IBRD Loans and IDA Credits (January 1995, revised January and August 1996, September 1997, and January 1999). Procurement o f services w i l l be done in accordance with the World Banks Guidelines on Selection and Employment of Consultants by World Bank Borrowers (January 1997, revised September 1997, January 1999, and M a y 2002).

2. Consultants dated July 1997, revised April 1998 and July 1999, and the associated Standard Forms o f Contract.

The selection o f consultants w i l l use the World Bank Standard Request for Proposal, Selection o f

3. KDP-3 i s a follow-on project to KDP-2 intended to add two more years to the same system, so virtually al l o f the basic design i s the same. Over eighty percent o f the BanWAssociation’s financing i s for grants under beneficiary sub-projects procured b y the villages in accordance with agreed procedures. Under these procedures, procurement i s managed by villagers using forms and procedures that were appraised by the Association and have been supervised in the field b y senior Bank procurement and financial management specialists. For the sub district grants, the key to minimizing leakage and collusion lies in the extent to which social controls can function. These controls are explained in detail under Annex 11. The agreed procedures are contained in the Project Manual which are the same as for KDP-1 and KDP-2. These procedures have been found to be satisfactory.

4. national government’s incremental operating costs:

The project budget structure (GOI+WB) covers 5 major components and a category to cover the

Component 1: Kecamatan Block grants $278.9 mi l l ion Component 2: Development community and local government $41.8 mi l l ion Component 3: Support to village revolving funds $8.7 mi l l ion Component 4: Implementation support $39.9 mi l l ion Component 5: Studies, evaluation, and special aprograms $3.1 mi l l ion Component 6: Incremental operating costs $2.4 mi l l ion

5. services. Over 90% o f the consultants procured for KDP3 are individual consultants providing facilitation services. A detailed description o i f their functions i s provided in the text o f the PAD and in the PAD for KDP-2. Services provided by the facilitation consultants are for technical and social facilitation; the technical consultants provide engineering oversight and review, while the social facilitators are responsible for promoting the participatory and transparency objectives o f the project. Every kecamatan in this national project must have at least one social and one technical facilitator in place. Kecamatan facilitators are managed by district level technical and social facilitators. Both report to the national consultant team (also procured as individual consultants), which has established 14 regional offices. Individual consultants in the national and regional offices provide the following core services: database management, training, technical oversight, monthly reporting, and planning.

Other than grants, the only other procurement actions under the project are for consulting

6. KDP-2 introduced a new system for procuring consultant management services. I t s key feature lay in the (competitive) individual recruitment o f the kecamatan facilitators, and a payroll management system. The main rationale for this strategy o f hiring individual consultants at a l l levels i s that no firms

- 60 -

were needed to provide individual consultants since the pool already exists; thus, the service being contracted i s to invoice and pay field staff. A separate note summarizing the detailed functioning o f this proposed management system was attached to the KDP-2 P A D and i s available in project files. The administrative support and payroll management f i r m s were selected competitively (QCBS). These f i r m s provided administrative support and services to manage invoicing and the payroll for Kecamatan Facilitators.

7. found to be satisfactory and significantly better than the more traditional firm-based system used for KDP-1. Savings to government f rom not having to pay company overheads are conservatively estimated to be about $10 million. Given the success o f the direct payment trial, under KDP-3 all o f the facilitators w i l l be switched to the direct payment scheme.

This system was tested during KDP-2 start-up and, though not without startup problems, was

8. the same districts. All o f the facilitators at every level w i l l switch over to the direct payment system. Travel costs are also standard and can be channeled through the payroll manager rather than having to pass through a firm. Each company thus w i l l only be providing administrative management.

KDP-3 w i l l overlap with KDP-2 for two years (of 4) and, by design, and w i l l be taking place in

9. would be extremely disruptive, as well as confusing in the field. Therefore, the main management contracts w i l l be negotiated amendments to the existing management services contracts under KDP-2. N o new contracts are needed for this service until the third year o f KDP-3. Thus, total incremental amounts for the four amendments are relatively small: $0.84 mill ion for contract management for National Management Consultants, and $1.89 mi l l ion for three contracts for kecamatan and district facilitators. Switching al l o f the national and district facilitators onto the same payroll system as that used for the kecamatan facilitators w i l l further reduce costs to the government significantly.

Procuring entirely new management contracts for the same services to work in the same places

10. Statistical Office (BPS) i s uniquely qualified to carry out large scale sample surveys and impact monitoring. The other sole-source i s to support the indigenous people’s program for Papua, where continuity with the pre-existing training program i s essential (and there are no alternative consultants for these services). Other contracts for firms include about 30 very small contracts to provincial NGOs for approximately $25,000-$35,000 each (final numbers w i l l depend on how many provinces participate in KDP3).

All other contracts w i l l be selected competitively, with the following exceptions. The National

11. available on project files. I t updates the KDP-2 assessment, which covered legal issues, project cycle management, organization and functions, support and control systems, record keeping, staffing, the general procurement environment, and overall risk assessment in accordance with the instructions issued b y OCSPR.

A Procurement Capacity Assessment Report Updute(PCAR) was conducted for the project and i s

12. The assessment has rated the proposed project’s procurement risk as “medium” for the following reasons: (i) this i s a third phase project; performance under the first two phases have generally satisfactory; (ii) the project does not involve any large or complicated packages. Nevertheless, Indonesia’s general procurement environment i s weak and collusive practices have been found in several contracts.

Actions taken to mitigate procurement risk in KDP-3 are given below:

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Employ three addition procurement specialists in PMD. Enhanced disclosure of information to further enable c iv i l society oversight. The procurement plan has been and an updated procurement plan w i l l be required for each new fiscal year before disbursements can be initiated. A Project Operations Manual has been developed during preparation. This manual contains a section on procurement which covers procurement procedures, procurement methods, and reporting requirements. The manual was reviewed during appraisal. The project Loadcredi t Agreement w i l l specify that all changes to the manual must be approved b y the Association. Procurement supervision wi l l be conducted every six months and the procurement plan w i l l be monitored on an on-going basis. To enhance procurement capacity o f the villages, procurement training wi l l be conducted as part o f the capacity building for project management in al l participating villages. All contracts for consulting assignments for firms w i l l be prior reviewed. All TOR for individual consultants w i l l be prior reviewed. Use o f competitively selected consulting firms to coordinate invoicing, and payroll management. These firms w i l l not handle payments directly but w i l l prepare all evaluations and paperwork for PMD signature and release o f funds.

11. Procurement Methods

13. Procurement methods are summarized in Tables A and Al , and the thresholds in Table B.

(A) Consulting Services

14. The World Bank loan w i l l finance 100% o f the project's consulting services. Four contracts are needed for the contract and payroll management system for a total o f $2.73 million. For the first two years o f the project, these w i l l be added to the existing KDP-2 contracts as amendments since (i) the competitive selection o f these firms under KDP-2 for a three year assignment as specified in the RFPs, o f which only one year has been used; (ii) amending the existing contracts i s more advantageous than hiring additional new firm for similar work. All o f these contract services are exactly the same between the two projects, and are required in the same geographical locations as well. Contracts w i l l be renegotiated since the scope o f services has changed. For the remaining two years, these f i rms w i l l be selected on single-source selection procedure if the performance i s fully satisfactory because the assignment w i l l be a continuation o f previous work and no benefit i s expected from a competitive selection.

15. Not counting the individual consultants, the remainder o f the selection o f consultants under the project consists o f approximately $3.05 mi l l ion divided among 36 contracts, of which 30 are for selection under the selection based on consultants qualification method (CQ) lump sum contracts to provincial NGOs for approximately $25-35,000 each. For the 6 remaining contracts, 1 firm i s selected on the basis o f QBS for development o f local regulation templates for a contract estimated to cost $200,000 and 5 firms selected based on single source selection (SS) procedures. O f these five contracts, three contract w i l l be awarded to the national statistical agency (BPS) due to the unique qualifications o f this entity, one ($200,000) to support statistical profiling and two ($700,000) for impact monitoring. One contract estimated to cost $490,000 w i l l be awarded to national association o f journalists (AJI) to provide independent monitoring b y journalists, also due the unique qualifications o f this entity. And, finally one contract estimated to cost ($400,000) w i l l be awarded on a SS basis for the Special Program for Papua due to the unique qualifications o f the firm given their knowledge o f indigenous peoples program and the need for continuity. All other contracts are for individual consultants. Amounts for these individual consultants are less than $50,000.

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16. Individual consultants are selected through a competitive process by advertising in provincial newspapers and selected by a province level recruitment committee. Terms o f reference for all Year 1 positions have been prepared b y the government. They are the same or very slightly varied f rom the TOR that were appraised b y the Bank and have been used for KDP-2 startup. They were re-appraised by the Bank and are available in project files. All contracts at or above US$200,000 must be advertised in a national gazette or national newspaper and in Development Business. Individual consultants w i l l be selected per Section V o f the Consultants Guidelines.

(B) Beneficiary Sub-projects

17. The above component w i l l finance beneficiary subprojects which are demand driven in nature, making i t diff icult to determine ex-ante what i s to be procured. Grant funds from the project can be used for services, consultants, goods, training, scholarships, and works, as these are needed to prepare and implement subprojects. Proposals for all subprojects are approved b y the oversight consultant and two members o f the village and sub-district council. All proposals are attached to an Implementation Agreement signed b y the members o f the subproject proponent and the facilitator (see PAD Annex 12). Both the proposal and the implementation agreement are approved by the project manager (PjOK) before funds are released: however, whilst they can be approved or rejected, they cannot be changed.

18. Most works (an estimated 95-98%) undertaken under this project w i l l use community participation to mobilize and pay labor. A very small number o f works may need to be procured through small works. These w i l l be contracted on the basis o f lump-sum, fixed-price contracts awarded on the basis o f quotations obtained locally f rom at least three local contractors (can include NGOs) in response to a written invitation. The invitation includes basic specifications, start and completion dates, an agreement format acceptable to the World Bank, and relevant drawings. Bids are opened in public meetings and read aloud. The award i s made to the contractor who offers the lowest price quotation for the work. No restrictions on participation in bidding are allowed. This method i s described in the Project Manual. Annex 12 o f the PAD for KDP-2 includes the main forms required b y the Project Manual in English, which have been agreed with the Bank and which have been extensively reviewed in the field b y qualified procurement and FMS specialists.

19. KDP3 also includes for kecamatan planning grants. These w i l l be used for village-level facilitators. T w o village facilitators are selected in each village from a candidate l i s t of at least six candidates who are ranked by criteria agreed with the Bank. Final selection i s b y the kecamatan and district facilitation team. Village facilitators receive approximately $15/month each, which includes their travel costs.

(C) Training, Workshops and Incremental Operating Costs

20. Expenditures for training and workshops cover cost for travels, accomodations, meals and venue which follow the standard government procedures. The incremental costs refer solely to the costs o f travel and per diem for P M D Secretariat staff carrying out project supervision. A semi-annual estimated travel schedule for these incremental costs i s prepared and submitted to the WB. Tickets are purchased through normal government procedures. . Per diem allowance for travel follow standard government procedures. All expenditures must be documented.

111. Prior Review Thresholds

21. Prior review threshold for goods and works i s $100,000 and for consulting firms i s $50,0000. For

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consulting contracts w i th individuals the prior review threshold i s $30,000. All sole-source selection w i l l be pr ior reviewed.

Expenditure Category

The Procurement Plan for KDP-3 has been agreed w i th government and i t i s available on file.

ICB

Procurement methods (Table A)

0.00 278.90 (0.00) (18 1-00) 0.00 0.00

(0.00) (0.00) 0.00 48.72

(0.00) (48.72) 0.00 16.10

Table A: Project Costs by Procurement Arrangements (US$ million equivalent)

0.00 (0.00) 0.00

(0.00) 0.00

(0.00) 28.60

(0.00) 0.00

(0.00) 0.00

(0.00) 0.00

0.00 II* Works I (0.00)

(16.10) (0.00) 2.10 0.00

(2.10) (0.00) 2.40 0.00

(1.90) (0.00) 348.22 28.60

2. Goods

3. Services (0.00)

(0.00’)

6. Incremental Operational cost

4 Miscellaneous (incl. costs for training, workshops and other gov‘t expenditures for project’s supports)

(0.00) 0.00

(0.00)

15. Front-end fee

Total

0.00

0.00 (0.00)

(0.00) 0.00

(0.00) I (249.82) I (0.00) I’ Figures in parentheses are the amounts to be financed by the Bank Loadcredit. All costs include

*’ Includes civil works and goods to be procured through community participation, consulting services, services o f contingencies.

contracted individual facilitators and consultants, training and workshops carried out through government procedures, and increniental operating costs related to (i) managing the project, and (ii) on-granting project funds to local governments.

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Table A1 : Consultant Selection Arrangements (optional) (US$ million equivalent)

Consultant Services Expenditure Category

Selection Method

QCBS QBS SFB LCS CQ Other N.B.F. Total cost' A. Firms

B. Individuals

Total

0.00 0.20 0.00 0.00 1.06 4.53 0.00 5.79 (0.00) (0.20) (0.00) (0.00) (1.06) (4.53) (0.00) (5.79) 0.00 0.00 0.00 0.00 0.00 42.93 0.00 42.93 (0.00) (0.00) (0.00) (0.00) (0.00) (42.93) (0.00) (42.93) ~

0.00 0.20 0.00 0.00 1.06 47.46 0.00 48.72 (0.00) (0.20) (0.00) (0.00) (1.06) (47.46) (0.00) (48.72)

Prior review thresholds (Table 6 )

Contract Value Threshold Procurement

Expenditure Category (US$ thousands) Method

Table B: Thresholds for Procurement Methods and Prior Review'

Contracts Subject to Prior Review (US$ millions)

1. Works

2. Goods

100 Community Procurement 0

100 Community Procurement 0

3. Services Firms

14. Services, Individuals I 30 I IC I 4.24 I

50 CQ, QBS 1.26

15. Miscellaneous I I I I

0

Total value of contracts subject to prior review:

Frequency of procurement supervision missions proposed: Overall Procurement Risk Assessment: Average

One every 6 months (includes special procurement supervision for post-review/audits)

Note: For the kabupaten and subdistrict facilitators, the Bank w i l l only prior review their TOR. Total value of these contracts i s US$38.69 million. I\

Thresholds generally differ by country and project. Consult "Assessment of Agency's Capacity to Implement Procurement" and contact the Regional Procurement Adviser for guidance.

ss 4.53

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Annex 6(B): Financial Management and Disbursement Arrangements INDONESIA: Third Kecamatan Development Project

Financial ManaPement

1. Summary of the Financial Management Assessment The project w i l l satisfy the Bank’s minimum financial management requirement as stipulated in OP/BP 10.02 after completion o f the agreed action plan (Attachment 6.2). The system includes checks and balances in funds withdrawals, accounting and reporting o f expenditures as well as periodic inspections in the field. The systems are supplemented by communities’ social controls and transparency. Village’s capacities to manage these systems vary, but for the most part the gaps can be minimized by hands-on training and technical assistance. A more detailed financial control measures adopted in the community level i s shown in Attachment 6.3.

Special Account: GO1 w i l l establish a Special Account (SA) at Bank Indonesia (BI) denominated in US dollars, based on a 6 months cash projection. The S A w i l l be under the name o f the Directorate General o f Budget (DGB), Ministry o f Finance. The procedures to withdraw funds from the SA w i l l follow government procedures used for other projects acceptable to the Bank. The DGB shall forward the bank statements o f the SA received from B I to the K D P project manager. The project manager w i l l prepare FMR as a basis for SA replenishment request.

90-day Advance Account: Under KDP2, the project manager establishs a 90-day advance payroll account in a competitively selected commercial bank to manage the payroll system for kecamatan facilitators, Le. PT. Bank BNI. A deposit for an estimated o f 3-months salaries are made to the payroll account. The bank automatically releases funds to the consultants accounts each month in accordance with a set of criteria agreed up-front. The bank provides bank statements and summary o f payments made each month which are used as the basis for replenishing the payroll account f rom Special Account at BI. Any unutilized funds in the payroll account w i l l be refunded to the Special Account. The use o f bank services to manage consultants payroll1 w i l l be expanded in the second year o f KDP2 to cover a l l consultants, including FKs, KMs, R M s and NMC consultants. Accordingly, such mechanism w i l l continue to be used under KDP3.

Report-Based Disbursements: The GO1 confirms the application o f FMR-Based Disbursement system. The project supporting documents for consultant w i l l be retains at PMU whereas documentation for sub-project and sub-loans w i l l be retained at PJOK and UPK at kecamatan level. All documentations w i l l be made available to the Bank and auditor upon reques.

2. Audit Arrangements There i s no outstanding audit on the previous project KDP-1( and KDP-2 has just started). A single FMR audit report i s required. The KDP project manager w i l l prepare and produce consolidated FMRs which consist o f progress report, financial report and procurement report. The financial report w i l l cover the project financial statement, SA and SOE. The auditor w i l l also audit the attainment o f objectives according to the agreed performance indicators. The annual audit reports shall be furnished to the Bank no later than six months after the end o f the govemment fiscal year. Immediately after issuance, al l the audit reports w i l l be made available to the general public.

Prior to negotiations, P M D has issued a letter requesting auditor to audit the project in accordance with (i) Terms o f Reference for the audit o f special purpose financial statement as in Attachment 6.1, and (ii) the audit manual for the community projects (Pedoman Pelaksanaan Audit dun Pelaporan for Program Pengembangan Kecamatan, issued b y BPKP in April 13, 1999). P M D ensures that these w i l l be the sole

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guidelines fo r project auditing. PMD has agreed to in fo rm annually the KDP’s Kabupatens and Provinces that the audit of the subprojects i s to be carried out exclusively by the auditors appointed by PMD.

Expenditure Category Total Bank I D A (USD Million) (SDR)

3. Disbursement Arrangements

IBRD Percentage of (USD) expenditure to be

financed

Allocation of loankredit proceeds (Table C)

la. Grants for sub-projects lb. Kec planning Grants

2. Training facilitation support and

155.1 20.13 126.615 30%; 60%; 80% 11 25.9 3.36 21.135 100% of Grant

amount disbursed 38.1 4.94 3 1.065 100%

workshops 3. Consultants services for:

(a) Implementation Support 23.73 3.08 19.375 100% (b) M&E and Studies 3.1 0.40 2.49 100%

4. Incremental operating costs 21 1.92 0.25 1.57 80% Front-end Fee (IBRD) 2.1 2.043

11 30% of Grant amount disbursed for Sub-projects in Kabupatens with above average financial capacity, 60% of Grant amount disbursed for Sub-projects in Kabupatens with average financial capacity, and 80% of Grant amount disbursed for Sub-projects in Kabupatens with below average financial capacity, as defined pursuant to Decree MOF-No. 35/KMK.072/2002.

21 Incremental operating costs means the reasonable and documented expenditures incurred by the Ph4D Secretariat for staff travel and consumables for purposes o f implementing the Project and which expenditures would not have been incurred absent the Project.

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Attachment 6.1

INDONESIA: THIRD KECAMATAN DEVELOPMENT PROJECT

TERMS OF REFERENCE for the Audit of Special Purpose Project Financial Statements

Objectives

The overall objectives o f the audit are: (i) to enable the auditor to express a professional opinion on the project financial statements, the operation o f the overall financial management system including internal controls, and compliance with financing agreements; (ii) to enable the auditor to verify financial management information that required under FMR-based disbursement; and (iii) ) to assess the achievements o f the project objectives as measured b y performance indicators.

The audit should cover the entire project, i.e. covering all sources and application o f funds b y al l implementing agencies. The auditor should visit the various implementation units and other agencies as considered necessary for the audit.

Scope

The audit w i l l be carried out in accordance with International Standards o f Auditing and with the Audit Manual for World Bank-Financed projects (July 1998). I t w i l l include such tests and controls as the auditor considers necessary under the circumstances. Specific areas o f coverage o f the audit w i l l include the following:

(1) An assessment o f whether the project financial statements have been prepared in accordance with consistently applied generally accepted accounting principles and give a true and fair view o f the operations o f the project during the year and the financial position o f the project at the close o f the fiscal year. Any material deviations f rom the accounting principle, and the impact o f such departures on the project financial statements as presented would be stated;

(2) An assessment o f the adequacy o f the project financial management systems', including internal controls. This would include aspects such as adequacy and effectiveness o f accounting, financial and operational controls, and any needs for revision; level o f compliance with established policies, plans and procedures; reliability o f accounting systems, data and financial reports; methods o f remedying weak controls or creating them where there are none; verification o f assets and liabilities; and integrity, controls, security and effectiveness of the operation o f the computerized system (if any); and

(3) An assessment o f compliance with provisions o f financing agreements, especially those relating to accounting and financial matters. This would inter alia include verification that:

a. a l l external funds have been used in accordance with the conditions o f the relevant financing agreements, with due attention to economy and efficiency, and only for the purposes for which the financing was provided.

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b.

C.

d.

e.

f.

g.

h.

i.

counterpart funds have been provided and used in accordance with the relevant financing agreements, with due attention to economy and efficiency, and only for the purposes for which they were provided; expenditures charged to the project are eligible expenditures and have been correctly classified in accordance with the relevant financing agreement; goods and services financed have been procured in accordance with the relevant financing agreement; a l l necessary supporting documents, records, and accounts have been kept in respect o f all project activities; clear linkages exist between the accounting records including accounts books and the Project Financial Statements; where Special Account has been used, i t has been maintained in accordance with the provisions o f the relevant financing agreement; FMR used as the basis for the submission o f withdrawal applications accurately reflect expenditures and activities during the project period; and project expenditures as reported b y the project implementation agencies are reconciled with the amounts withdrawn from the Special Account and the amounts deposited to the special account are reconciled with the amounts disbursed from Loan/Grants.

(4) An assessment o f procurement management whether procurement performance has met procurement plan agreed at negotiations or subsequently updated and highlight key procurement issue (if any).

(5) An assessment o f project implementation and whether financial and physical progress are consistent during the project period. The monitoring o f expenditures in relation to physical progress i s ensuring that the project i s under proper financial control.

(6) An assessment on the achievements o f the planned results o f the project as measured by the performance indicators as stipulated in the relevant financing agreement.

Project Financial Statements

Project Financial Statement prepared b y the project executing agency would be based on the project’s compilation Financial Monitoring Reports (FMR) and should include: (i) Annual Project Sources and Uses o f Funds; and (ii) Cumulative Project Sources and Uses o f Funds. (iii) deposits and replenishments received from the Bank; (iv) withdrawals f rom the special account; and (v) the remaining balances o f the special account at the end o f the fiscal year. Sources o f funds would show Loadcredit, other donors, and GO1 counterpart funds separately. Project expenditures would be summarized b y main project components, disbursement categories and b y project location (province or kota) both consolidated for the current fiscal year and accumulated to date.

Special Account: The auditor should assess a reconciliation report between the project expenditures made from the special account and the withdrawals f rom the special account. Reconciliation should also be made with the amounts paid f rom the pre-financing account and direct payments (if any). The auditor should assess a reconciliation report between the amounts deposited to the special account and disbursed by the Bank to the special account.

The auditor should asses the FMR as a basis for the submission o f withdrawal applications, accurately reflect expenditures and activities during the project period. The auditor should (i) ascertain that the financial management system i s reliable to produce the FMR and has met Bank’s

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requirement during the year; and (ii) asses the possible r isks o f continuing to use the method of disbursement in the future. The auditor should apply such review and tests o f controls as the auditor considers necessary. These expenditures should be carefully checked eligibility against relevant financing agreements, and by reference to the Project Appraisal Document and other project documents. Ineligible expenditures should be identified.

Audit Report

The audit report shall contain the auditor’s opinion on the fairness o f the project financial statements and a separate paragraph commenting on the management o f the special account; and the accuracy and propriety o f expenditures withdrawn based on FMR and the extent to which the Bank can rely on FMRs as a basis for Loadcredi t disbursement. The report should refer to the auditor’s TOR. The auditor should submit the report to the project executing agency who should then promptly forward one copy o f the audited accounts and report to the Bank. I t should be received b y the Bank no later than s i x months after the end o f the project’s fiscal year.

Management Letter

In addition to the audit reports, the auditor w i l l prepare a “management letter,” in which the auditor wil l:

a. give comments and observations on the accounting records, systems, and controls that were examined during the course o f the audit; and identify specific deficiencies and areas o f weakness in systems and controls and make recommendation for their improvement;

b. give comments on economy, efficiency, and effectiveness in the use o f resources; c. report on the achievement of the planned results o f the project; d. report on the degree o f compliance o f each o f the financial covenants on the financing

agreement and give comments, if any, on internal and external matters affecting such compliance;

e. communicate matters that have come to the auditor attention during the audit which might have a significant impact on the implementation o f the project; and

f. any other matters that the auditors considers pertinent.

General

The auditor should be given access to all legal documents, correspondence, and any other information associated with the project and deemed necessary by the auditor. Confirmation should also be obtained o f amounts disbursed and outstanding at the Bank.

The auditor should be familiar with the Bank’s Audit Manual for World Bank Financed Projects which provides guidance to auditors conducting audits o f Bank-financed projects.

‘The financial management system would include methods and records established to identify, assemble, analyze, classify, record and report on transactions and to maintain accountability for the related assets and liabilities.

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Attachment 6.2

INDONESIA: THIRD KECAMATAN DEVELOPMENT PROJECT Action Plan on Financial Management

Issues/ Problems

1. Organization structure

2. Project staffing

3. Project management

4.Project Management capacity

Manual (PMM)

Juklak/Juknis

5. Budget & Funding for the first year implementation

DG Budget 6. Circular letter (SEI by

7. Audit Arrangement

Remedial Action Responsibility Unit

project organization structure agreed and PMD acceptable to the Bank Establishment project organization structure Proposed staff for the project management PMD

Appointment o f Project Managers and their

training plan for project stakeholders PMD

P M M completed and acceptable to the Bank. PMD

unit

team

PMM formally issue by the GO1 PMD

M I S

budget document issued and or revised PMD

Draft SE PMD SE issued and circulated DG.Budget draft TOR audit PMD Auditor assignment agreed PMD

Due Date

Done

0 Done Done

Done

On going

Done before Loan

before Loan

Nov 30,2003

Effectiveness

Effectiveness

Done Nov 30,2003

Done Nov 30.2003

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Attachment 6.3

INDONESIA: THIRD KECAMATAN DEVELOPMENT PROJECT FINANCIAL CONTROL MEASURES IN THE COMMUNITY LEVEL

The Financial Process

KDP begins with a fixed total amount that i s assigned to a sub-district. This amount i s standard and i s widely publicized so that all stakeholders know how much total money i s available. Within the sub-district or village, the money supports individual proposals that come from village assemblies. The allocation o f funds to a particular village i s based on completed designs and budgets drawn up together b y the village and the field engineer and approved b y the local government’s project manager. Once determined, this amount o f funds i s never changed, although how i t i s spent and the physical works undertaken can easily be amended by the three parties.

Upon ratification of the plans b y the project manager and responsible party f rom the village, the village implementation team requests an init ial withdrawal from the local branch o f the treasury at the district level. They use a standard administrative format that simply withdraws a standard percentage o f the allocated funds. I t i s signed b y the village representatives and b y the project manager. The size of the withdrawal i s a standard percentage o f the budgeted total. The treasury office requires a few simple things to accompany the f i rs t withdrawal: proof that the project manager and village representative are indeed the authorized parties, a copy o f the grant agreement with the village, and signature samples. The funds are transferred directly into the account o f the village implementation team in a local branch o f a government or commercial bank.

without countersigning b y the consultant. Both the consultant and the responsible person from the village would have previously submitted their signature samples to the bank, along with proof that they were the authorized persons. In order to obtain the approval o f the field engineer, the village implementation team has to produce an acceptable Funds Utilization Plan - a detailed l i s t o f anticipated expenditures for the immediate future. The frequency o f withdrawals depends in part on physical proximity to the bank from the village, but in principle the amount o f cash kept in the village i s as small as practical. On Java, access to the banks i s nearly always easy, although remote branches o f banks often required some advance notice to be sure to have sufficient funds on hand for a large withdrawal. Off-Java, special contracts with commercial or state banks are signed to provide regular cash deliveries to outlying locations. Every expenditure made by the village has to be accounted for in an Expense Report. An adequate receipt i s one that has the signature o f the person receiving the funds, a clear description o f what the expenditure was for, a clear amount and date. All receipts o f materials and services in the Expense Report require the attachment o f delivery orders, wherein a designated person notes the items and quantity received, countersigned by the person delivering them.

Even though the funds are in their own bank account, the village team cannot withdraw funds

Withdrawals f rom the bank continue to be made until the f i rs t tranche’s funds are nearly exhausted. At this point the village requests additional funds from the treasury, using the same form countersigned b y the project manager. This shows both the funds requested and cumulative status. In addition to this request, the project manager requires two other items prior to submitting the request to the treasury. The f i rs t was the summary o f expenses found in the Expense Report, and the second was a status report signed by the local bank saying how much funds remained deposited f rom the previous tranche.

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The full expense report includes a summary o f expenses and receipts, including the amount o f cash on hand in the village. This sheet i s backed up with the proof o f every expenditure and their associated delivery notes, a l l of which are glued to blank sheets o f paper and bound. One expense report - book i s prepared for each withdrawal f rom the treasury, but these books stay in the village. They can be examined b y the consultant, the project manager or his designate, any inspectors, and any person in the village who had an interest.

Payment o f incentive wages to villages i s accomplished through the use o f two standard payment forms. These are used for any payment to a villager, whether working for at a daily rate or working on a piece rate based on accomplishment. The form for pay based on attendance l i s t s the workers in a particular group (usually around 20 workers, men and women), their attendance, their accrued wages this period, and their signature (or thumb print if they were illiterate) confirming that they had received the given amount o f money. Most payment i s on a weekly or bi-weekly basis. Payment based on accomplishment also shows the l i s t of workers, the basis for calculating the volume accomplished, the division o f payments to each individual (decided amongst themselves), and their individual signatures. All o f these payments and rates are posted on publicly displayed signboards.

The Cash Book

A key to financial control i s the requirement that the implementation team maintain an accurate cash book in a standard format, updated daily. The key features o f the cash book are that:

0

0 0

0

0

0 0

0

The information i s maintained in a ledger so that corrections and additions are apparent; I t contains a detailed l i s t o f all financial transactions, both receipts and expenses; Expenses are described at the same level o f detail as the official receipts, with each expenditure entered into a column corresponding to the sub component o f the project i t corresponded to (including the village team’s administrative expenses) All expenses are coded with a simple expense category and listed with the number written on the proof o f expense Two kinds o f incoming funds are recorded: f rom the treasury into the bank, and from the bank into the village treasurer’s hands. Balances were calculated using the latter. Erasures, white-out, and obliterating marks are forbidden, so that corrections are visible. Books are closed near the end o f each month and books are then signed b y four persons: the village treasurer, the responsible party, the f ie ld engineer, the village chief in his capacity as controller, and two villagers as witnesses. A running balance i s maintained, with the proviso that the balance cannot be negative. In this way, the books always show the actual status o f expenses and cash, without hidden expenses and loans to complicate the understanding o f an inspector.

Village-level meetings are held during implementation to review procurement and expenditures, and al l information i s posted on public signboards (avg. 10 per village). An accountability meeting i s held at project completion for the village implementation team and the facilitators to account for funds and to hand over the project to the village, represented by the council and the village head.

Inspecting

Several government inspection agencies make formal inspections o f a given VIP or KDP village. The district and provincial inspection offices typically made inspections during implementation to a small sample o f villages in their area. They are usually more concerned with administrative inspections,

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~~~ ~

but they also review the physical works to some extent. The National Development Auditing Agency BPKP performs a larger scale inspection several months after the end o f the fiscal year, again on a sample o f villages. In the field, representatives o f their regional branch offices inspect both the administrative and physical aspects, as well as the visible benefits. Their reports are sent both to the project manager in Jakarta as well as to the World Bank.

More frequent inspections are made by other project consultants. Senior engineers are assigned to each district, and more than half their time (by contract and TOR) i s spent in visiting villages to check on the physical works and on the work o f the field engineers. This includes checking the administration. In cases where the works or administration are below standard, recommendations and instructions are left with the implementation team and field engineer. An independent inspector visits villages at random without any accompanying consultants, and this serves as a crosscheck o f all the above.

Conclusions

Although lacking in sophistication, the financial control system in the community projects for the most part i s effective in limiting leakages and in detecting leakages that occurred. The system includes checks and balances in funds withdrawals, detailed bookkeeping and records of expenses, and periodic inspections in the field. The formal systems are coupled with the communities’ social controls and fueled b y transparency. Village’s capacities to manage these systems vary, but for the most part the differences can be remedied through hands-on training and follow-up. This i s not to say that malfeasance never occurs, but i t i s usually relatively easy to detect, often reported when i t does occur, and in enough cases actors have been subjected to administrative sanctions when i t was detected to prevent any widespread contagion effects.

Weaknesses in the system appear to revolve largely around implementation externalities rather than aspects of the system itself. For example, while the community projects’ financial management systems can usually detect leakages, there i s a much less well developed system for imposing sanctions on people who steal. Similarly, local government auditors have been accused o f falsifying reports or to ask villagers for money to not report supposed financial abuses.

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Annex 7: Project Processing Schedule INDONESIA: Third Kecamatan Development Project

Project Schedule Planned Actual

ITime taken to prepare the project (months) I 5 I I First Bank mission (identification)

Appraisal mission departure

Negotiations

Planned Date of Effectiveness

09/01/2002 051 1512003 06/02/2003 11/01/2003

Prepared by:

Preparation assistance:

3ank staff who worked on the projeci Name

Yaseer Rana Yogana Prasta Unggul Suprayitno Sentot Satria Victor Bottini Enurlaela Hasanah Chitrawati Buchori S r i Kuntari Soroso Josostromo Karin Nordlander Arie Purwanti Retno Widuri Anj u Sachdeva Thomas Walton Jacqueline Pomeroy Viv i Alatas Menno Pradhan Susan Wong Scott Guggenheim

ncluded:

Procurement Disbursements Financial Management Team leader Operations Grievance Procedures Gender Engineering management Engineer Lawyer ACS ACS Document management Environment Economist Economist Economist Monitoring and Evaluation Anthropology

Speciality

- 76 -

~~ ~ ~~

Annex 8: Documents in the Project File* INDONESIA: Third Kecamatan Development Project

A. Project Implementation Plan

TOR for microfinance program Timetables Financial Management, Procurement, and Disbursement review Eligible l i s t o f kecamatans Procurement plan Management assignment

B. Bank Staff Assessments

KDP supervision mission reports QAG5 review o f supervision Q A G quality at entry revierw

C. Other

Overview of KDP3 (Bappenas) K D P impact review on local governance (Bappenas) K D P microfinance review KDP3 microfinance preparation report (Holloh) KDP3 village and intervillage review (Evers) KDP-1 IRWeconomic review (Dent) KDP poverty targeting review (Molyneaux) K D P impact evaluation (Univ. Indonesia) K D P corruption study (Woodhouse) Monthly N G O reports on K D P implementation (in Indonesian) AJI review o f journalists participation in K D P (in Indonesian) KDP 1 Completion Report (PMD)

*Including electronic files

- 77 -

Annex 9: Statement of Loans and Credits INDONESIA: Third Kecamatan Development Project

06-Mar-2003 Difference between expected

Original Amount in US$ Millions and actual

disbursements' Project ID FY Purpose IBRD IDA GEF Cancel. Undisb. Orig Frm Rev'd

PO40578 2002 ID-Eastern Indonesia Region Transport 200 00 0.00 0.00 000 164.66 24.53 0.00

PO72652 PO73970 PO49539 PO40526

PO66051 PO66949 PO73025 PO59930 PO59477 PO49545 PO56074

PO55821 PO401 96 PO63732 PO41695 PO641 16 PO36049 PO03967 PO39644 PO40061 PO40062 PO03993 PO4671 5 P 0 3 6 9 5 6

PO36046 PO03967 PO42540 PO4 1694 PO36047 PO04026 PO03700 PO49051 PO40195 PO37097

PO04006 PO0401 6

PO0401 1 PO04021 PO04010

2002 2002 2001 2001

2001 2001 2001 2000

2000 2000 1999 1999 1999

1999 1999 1999

ID-URBAN POVERTY II ID-GLOBAL DEV LEARNING (LlL) ID-PROVINCIAL HEALTH II ID-W. JAVA ENVMT MGMT ID-GEF-W. JAVA ENVT MGMT ID-LIBRARY DEVELOPMENT PROJECT - LlL ID-SECOND KECAMATAN DEVELOPMENT PROJ DECNT. AGRICULTURAUFORESTRY EXTENSI ID-WSSLIC II ID-PROVINCIAL HEALTH I ID-MUNICIPAL INNOVS ID-URBAN POVERTY ID-SUMATRA BASIC EDUCUATION ID-CORPORATE RESTRUCTRG ID-SULAWESI BASIC EDUC. WATSAL

1999 ID-EARLY CHILD DEVELOPMENT 1999 ID-FIFTH HEALTH PROJECT 1996 ID-W. JAVA BASIC EDUCATION 1996 BENGKULU REGIONAL DEVELOPMENT 1996 CORAL REEF MGMT REHA

1996 ID-SUMATRA REG'L RDS 1996 Indonesia. IlDP

1996 ID-SAFE MOTHERHOOD 1996 CORAL REEF MGM REHAB

1997 ID-CENTRAL INDONESIA SEC. EDU. 1997 ID-IODINE DEF. CONTROL 1997 ID-SUMATRA SECONDARY EDUCATION 1997 ID-BAL1 URBAN INFRA. 1997 ID-Railway Efficiency

1997 ID-Solar Home Systems 1997 BEPEKA AUDIT MODERNIZATION PROJECT

1997 ID-QUALITY OF UNDERGRADUATE EDUC (QUE 1996 ID-E.JAVA SEC.EDUC. 1996 NUSA TENGGARA DEV. 1996 ID-Strategic Urban Rds 1996 SULAWESI AGRI AREA 1996 POW. TRANS 8 DlST II 1994 DAM SAFETY Project

29 50 2 66

63 20 11 70

0 00 0 00

206 90 13 00

0 00 0 00 5 00 0 00

54 50

31 50 47 90

300 00 21 50 44 70

103 50 20 50

0 00 234 00

34 50 42 50

6 90 10400 26 50 96 00

11000 105 00

0 00 1640 71 20 99 00

27 00 86 90

26 60 373 00 55 00

70 50 0 00

40 00 5 75 0 00 4 15

111 30 5 00

77 40 36 00

0 00 100 00 20 10

0 00 1593 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00

0 00

0 00 0 00 0 00 2 54 0 00 0 00 0 00

0 00 0 00

0 00 0 00 0 00

0 00 0 00 0 00 0 00 0 00 0 00 0 00 4 10 0 00 0 00

0 00 4 10 0 00

0 00 0 00 0 00 0 00

24 30 0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00

0 00 0 00 0 00 0 00 0 00 0 00 0 00 0 00

0 00 0 00

0 00 0 00 0 00

24 50 0 00 0 00

1065 5 00

3 76 5 00 0 00

50 00

8 50

9 15 0 00 0 00 9 70 0 23

36 03 47 33

1025 0 90 9 89 3 63 4 90

10 00 3 70

163 71

19 60

103 01 2 63

100 15 1679 2 61 3 97

306 50 9 25

67 02 29 63

1 07 23 66 36 37

1 52 39 27

150 00 4 07

19 14 26 60 11 36

1 04 56 37 7 02

1029 2 66

31 19 4 10

1607 15 61 34 37

7 66 7 69

14 12 21 46

165 2 57 1 26

11 00 0 36

3 29 0 51

29 73 4 52 2 22 176

-17 92 2 66

-9 26 12 77

1 07 25 67 22 33 26 02 31 71

15000 1432

19 60 -6 47 12 40 0 98

64 71 1552

16 78 2 66

31 19 1360 16 30 39 94 61 69

20 15 8 59

20 15 25 10

6 55 12 57

4 56 174 71

20 16

0 00 0 00 0 00 0 00

000 0 00 0 00 0 00 000 0 00 0 95 3 12 0 00 0 45 0 00

0 00 14 32

000 0 00 6 19 1 46

-19 93 7 02

11 36 1 39 0 00

11 30 000

17 71 1 38 2 69

7 69 10 45 0 00 1 65

-1 99 -0 43 64 71

-0 04

Total 267676 466 13 3504 43664 137018 92574 14167

- 78 -

INDONESIA STATEMENT OF IFC's

Held and Disbursed Portfolio Jun 30 - 2002

In Millions U S Dollars

Committed Disbursed IFC IFC

FY Approval Company Loan Equity Quasi Partic Loan Equity Quasi Partic 2001 Dianlia 4.00 0.00 1.00 0.00 0.00 0.00 0.00 0.00 1994 KDLC Bali 0.00 1.72 0.00 0.00 0.00 1.72 0.00 0.00

1988 Manulife 0.00 0.32 0.00 0.00 0.00 0.32 0.00 0.00 1997 PT AdeS Alfindo 0.00 6.98 0.00 0.00 0.00 6.98 0.00 0.00

1997 PT Alumindo 13.16 0.00 0.00 10.00 13.16 0.00 0.00 10.00 198919 1/94 PT Astra 0.00 5.82 0.00 0.00 0.00 5.82 0.00 0.00

1993196 PT BBL Dharmala 11.29 0.00 0.00 21.34 11.29 0.00 0.00 21.34

1997100 PT Bank NISP 5.00 0.00 5.00 0.00 5.00 0.00 4.97 0.00 1997 PT Berlian 7.42 20.00 0.00 18.72 7.42 16.65 0.00 18.72

PT Grahawita 2.16 0.00 0.00 0.00 2.16 0.00 0.00 0.00 1995 PT Indaci 0.00 0.00 1.44 0.00 0.00 0.00 1.44 0.00

1990191193195199101 PT KIA Keramik 16.51 0.00 0.00 53.49 16.51 0.00 0.00 53.49 1992194196 PT KIA Serpih 15.00 0.00 0.00 49.50 15.00 0.00 0.00 49.50 1995 PT Kalimantan 20.00 15.00 0.00 5.22 20.00 15.00 0.00 5.22 1997 PT Makro 0.00 1.32 0.00 0.00 0.00 0.79 0.00 0.00 1997100 PT Megaplast 7.00 2.50 0.00 0.00 7.00 2.50 0.00 0.00 1998 PT Nusantara 7.63 0.00 0.00 5.93 7.63 0.00 0.00 5.93 1993 PT Pramindo Ikat 25.00 3.94 25.00 36.18 25.00 3.94 25.00 36.18 1996 PT Samudera 0.00 5.00 0.00 0.00 0.00 5.00 0.00 0.00 1993 PT Sayap 7.50 0.00 0.00 6.00 7.50 0.00 0.00 6.00 1997 PT Sigma 0.00 3.00 0.00 0.00 0.00 3.00 0.00 0.00 2001 PT Viscose 20.31 0.00 0.00 23.33 20.31 0.00 0.00 23.33 1992195 PT Wings 6.51 0.00 0.00 6.40 6.51 0.00 0.00 6.40 1997 PTAstra Otopart 0.00 1.07 0.00 0.00 0.00 1.07 0.00 0.00 1997 Prudential Asia 0.00 2.24 0.00 0.00 0.00 2.24 0.00 0.00 1994 SEAVI Indonesia 0.00 1.26 0.00 0.00 0.00 1.26 0.00 0.00

1980187 Sunson 12.41 0.00 0.00 7.87 12.41 0.00 0.00 7.87 2001

1991 LYON-MLF-Ibis 2.01 0.00 0.00 2.01 2.01 0.00 0.00 2.01

1989 PT Agro Muko 0.00 2.20 0.00 0.00 0.00 2.20 0.00 0.00

1997 PT Astra Graphia 0.00 2.00 0.00 0.00 0.00 2.00 0.00 0.00

1995 PT Bakrie Pipe 33.57 0.00 0.00 0.00 33.57 0.00 0.00 0.00

1991 PT Indo-Rama 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

1991 Semen Andalas 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Total Portfolio: 216.48 74.37 32.44 245.99 212.48 70.49 31.41 245.99

Auurovals Pending Commitment FY Approval Company Loan Equity Quasi Partic 2001 PT BLT I1 12.00 0.00 0.00 0.00 2002 Wings Oil Palm 11.50 0.00 0.00 10.00 2002 NISP RI 0.00 0.00 3.64 0.00 1993 PT INDORAMA SWAP 10.00 0.00 0.00 0.00 2002 ManulifePrincipl 0.00 0.00 0.04 0.00

Total Pending Commitment: 33.50 0.00 3.68 10.00

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Annex 10: Country at a Glance INDONESIA: Third Kecamatan Development Project

POVERTY and SOCIAL lndonesla

2001 Population, mid-year (millions) GNI per capita (Atlas method, US$) GNI (Atlas method, US$ billions)

Average annual growth, 199501

Population ("A) Labor force (%)

Most recent estimate (latest year available, 199501)

Poverty ("A of population below national poverty line) Urban population (% of fotal population) Life expectancy at birth (years) Infant mortality (per 1,000 live births) Child malnutrition (% of children under 5) Access to an improved water source (% of population) Illiteracy (?A of population age 15+) Gross primary enrollment PA of school-age population)

Male Female

KEY ECONOMIC RATIOS and LONG-TERM TRENDS 1981

GDP (US$ billions) 92 5 Gross domestic InvestmenUGDP 26 7 Exports of goods and servicedGDP 29 0 Gross domestic savingdGDP 31 7 Gross national savingdGDP

Current account balance/GDP Interest paymentdGDP Total debffGDP Total debt service/exports Present value of debffGDP Present value of debffexports

-0.6 1.5

24.6 14.0

1981-91 1991-01 (average annual growth) GDP 6.4 3.2 GDP oer caoita 4.5 1.6

213.6 680

1447

1.6 2.5

13 42 66 41 24 74 13

113 115 110

1991

116.5 35.5 28.4 37.4 33.0

-3.7 3.2

68.3 34.3

2000

4.9 3.2

East Asia & Paclflc

1,826 900

1,649

1 1 1 3

37 69 36 12 74 14

107 106 108

2000

152 2 14 6 42 4 25 2 18 8

5 3 4 7

93 1 36 2 88 7

182 0

2001

3 3 1 8

LOW- Income

2,511 430

1,069

1.9 2.3

31 59 76

76 37 96

103 88

2001

145.3 17.0 41.1 25.5 24.4

4.7 4.1

91.6 35.4

2001 -05

4.4 2.4

Development dlamond'

Life expectancy

T

i I

1 Access to improved water source

y*=ie** lndonesia Low-income group

I Economic ratios.

Trade

T

Trade

Investment Domestic savings

1

Indebtedness

L

Indebtedness

Indonesia Low-income group

"'a+Il__l_

~. Exports of goods and services 5 2 4 3 265 1 9 4 4

STRUCTURE of the ECONOMY

("A of GDP) Agriculture Industry

Services

Private consumption General government consumption Imports of goods and services

Manufacturing

(average annual growth) Agriculture Industry

Services

Private consumption General government consumption Gross domestic investment Imports of goods and services

Manufacturing

1981

23.4 41.2 12.1 35.4

57.2 11.0 24.0

1981 -91

3.6 8.1

12.9 6.6

4.5 4.6 8.1 1.4

1991

19.5 41.2 21.3 39.3

53.4 9.1

26.5

199101

1.8 4.1 5.7 2.9

6.0 -0.1 -3.8 3.5

2000

17.0 47.0 26.2 35.9

67.7 7.1

31.7

2000

1.7 5.9 6.1 5.2

3.6 6.5

-1.2 21.1

2001

16.4 46.5 26.1 37.1

67.0 7.4

32.6

2001

0.6 3.3 4.3 4.4

5.9 8.2 -0.7 8.1

Growth of Investment and GDP (%) 20 T

Growth of exports and imports ( O h ) I 20

0

20

Note: 2001 data are preliminary estimates. 'The diamonds show four key indicators in the country (in bold) compared with its income-group average. If data are missing, the diamond will be incomplete.

- 80 -

Zndonesia PRICES and GOVERNMENT FINANCE

Domestic prices (77 change) Consumer prices Implicit GDP deflator

Government finance (“A of GDP, includes current grants) Current revenue Current budget balance Overall surolusideficit

TRADE

(US$ millions) Total exports (fob)

Fuel Estate Crops Manufactures

Total imports (cif) Food Fuel and energy Capital goods

Export price index (1995=700) Import price index (1995=100) Terms of trade (7995=100)

BALANCE of PAYMENTS

(US$ millions) Exports of goods and services Imports of goods and services Resource balance

Net income Net current transfers

Current account balance

Financing items (net) Changes in net reserves

Memo: Reserves including gold (US$ millions) Conversion rate (DEC, local/US$)

EXTERNAL DEBT and RESOURCE FLOWS

(US$ millions) Total debt outstanding and disbursed

IBRD IDA

Total debt service IBRD IDA

Official grants Official creditors Private creditors Foreign direct investment Portfolio equity

World Bank program Commitments Disbursements Principal repayments Net flows Interest payments Net transfers

Composition of net resource flows

1981 1991

.. 9.4 10.4 -1.1

.. 18.1

.. -4.3

1981 1991

.. 29,635

.. 10,895

.. 826

.. 10,679

.. 25,869

.. 1,081

.. 2,323

.. 11,631

1981 1991

23,797 32,457 21,540 31,398 2,257 1,059

-3,073 -5,581 250 262

-566 -4,260

192 5,788 374 -1,528

10,250 10,250 631.8 1,950.3

1981 1991

22,761 79,548 1,309 10,597

632 829

3,492 11,475 148 1,412

7 20

124 262 974 3,250

1,087 1,967 133 1,482

0 0

0 1,533 383 1,398 47 621

335 777 107 811 229 -34

2000

3.7 11.1

21.4 -0.7 -1.9

2000

65,408 14,386 1,111

22,287 37,087 2,782 6,071 9,212

2000

70,541 55,293 15,248

-8,440 1,190

7,998

-2,956 -5,042

29,268 8,421.8

2000

141,691 11,623

695

26,868 1,970

30

0 1,627

-15,509 -4,550 -1,911

164 1,218 1,006

212 994

-782

2001

11.5 12.6

20.1 -1 .o -3.7

2001

57,365 12,648

872 22,275 31,328 2,497 5,523 9,050

2001

62,673 51,615 11,058

-8,143 3,985

6,900

-1,858 -5,042

28,018 10,260.9

2001

133,073 1 1,435

722

23,556 1,753

32

0 1,334

-13,590

0

645 585 853

-268 932

-1,200

lntlatlon (96) I

Export and lmporl levels (US$ mill.) I Mi 000

40 000

20 000

0

I I 95 $8 $7 98 99 00 01

BS Exports W Imports

Current account balance to GDP (%) /BT 4

2

0 $8 99 w 01

2

4

1 Composition of 2001 debt (US$ mlll.)

A. 11,435 I G20.029

F 33,271

E: 35,397

A - IBRD E - Bilateral B. IDA D -Other multilateral F - Private C . IMF G - Short-term

ueveiopmenr monomics YI 1 J/UZ

- 81 -

Additional Annex 11 : Anti-Corruption Strategy INDONESIA: Third Kecamatan Development Project

Projects in Indonesia operate in a high-risk environment when i t comes to issues o f leakage and corruption. Project preparation for KDP3 updated the 2002 financial management assessment and disbursement action program for KDP-2, which provides the compliance framework for fiduciary management. Nevertheless, highly dispersed community projects such as K D P operate in somewhat different institutional environments than standard projects do which must be addressed b y their anti-corruption strategies. A well-implemented strategy that makes greater use o f social controls and transparency can ensure levels o f confidence demonstrably higher than traditional project designs that operate in these very same villages.

This annex summarizes the general anti-corruption strategy for KDP-3. I t draws heavily on the general OSU Indonesia anti-corruption framework and the recently issued World Bank guide for fiduciary management in CDD projects, but it also builds on field experiences over the past three years o f KDP implementation.

Identifying Corruption in Indonesian Community Projects - Traditional community development projects have a relatively limited number o f well-known points of leakage. A non-exhaustive l i s t would include:

a. Transfers - Financial transfers to communities usually come earmarked or in kind. The Local Level Institutions (ESW) study found that less than 50% o f the nominal Rps. 20 mill ion cash grant per village got there at all, and less than 15% o f that amount actually came as a cash grant. IDT (Inpres desa tertinggal), a $200 mill ion nationwide poverty program, also suffered badly f rom delivery o f goods in kmd (usually o f an inferior kind).

b. Poor contractor management - Contractor management for communities i s normally handled by district technical offices, not by villages. Contract awards are often “directed” to favored companies, regardless o f qualifications or experience. Anecdotal interviews b y WB staff have found endemic problems o f substitution o f inferior materials, unfinished works, and o f f the top payments for contract awards. There are no sanctions for inferior work.

c. Poor pricing practices - Because contractor markets are not competitive, both over billing and overdesign are endemic.

d. False taxes and charges - Government charging for “services” i s so common that officials w i l l even issue receipts for blatantly illegal practices, such as a standard 5% charge on al l funds going through a village head. Virtually every financial transaction in a development project has a charge on it to get the proper form signed and the funds released.

e. Standard financial control systems often work against rather than in favor o f sound financial management - villagers everywhere report recurrent charges being levied by auditors and inspectors to not find fault with financial reporting, often on formats that either have never been given to villagers or else contradict the ones already in use.

The corruption problems with technical assistance for community projects are also wel l known and, while they are not very different f rom Indonesian development projects in general, stand out in the case o f community programs because communities often have few alternative suppliers and nobody from whom they can seek redress:

i. Improper billing practices b y consultant firms - in KDP-1, students f rom one company called the W B to complain about how they and a l l other candidates (more than 100) were given

- 82 -

instructions on how to falsify their c.v’s to meet the project’s TOR. Another (fired) company claimed that i t was forced to swallow a merger with the second-ranked company, including a Rps. 300 mi l l ion cash payment and the absorption o f 20 entirely unqualified staff.

ii. Cuts in salaries and travel allowances - often QCBS “winners” can beat the competition because apparently competitive overhead costs are “subsidized” b y later cuts f rom staff salaries and travel allowances.

iii. Pnce fixing between TA staff and local government (including village heads) i s also common, aided b y a general lack o f public information about prices.

KDP’s anti-corruption strategy has three main themes: (i) eliminate complexity; (ii) shine bright lights on every financial transaction; (iii) respond quickly to complaints. The guiding principle underlying the anti-corruption program i s that KDP procedures must encourage oversight and action b y multiple stakeholders, not just the World Bank or the government. . Eliminate complexity - In many traditional community-oriented projects, money disappears due to the welter o f transfer levels, intermediaries, and processing requirements involved in turning World Bank project funds into bridges, roads, and water supply system in distant villages. KDP simplifies every aspect o f this system. Because money goes straight f rom the national level to the village accounts, there are almost none o f the delays or leakages normal to designs that step funds down through inter-governmental transfers. The project’s handover o f budgets to the villagers also supports simplified management: when agencies start listing the many forms and procedural requirements needed to get started, the villagers almost always take their business elsewhere.

KDP has also simplified al l o f the steps involved in financial management and disbursement so that many kinds o f stakeholders can easily understand and use them. There are no “hidden” charges allowed other than those listed on the forms, and M o F ratification included notes to auditors that no other financial reporting or license documents were to be used other than those negotiated with the project. All o f the basic formats attached to the appraisal report are the same as those used in the field.

Shine a bright light -- Transparency lies at the core o f KDP’s anti-corruption work, and i t takes place in three main arenas. First, there are a broad range o f materials and procedures to ensure that al l financial information i s both public and publically displayed within the villages. For example, local shopping price quotations for materials must be read out loud in public meetings to be valid; signboards posted around the villages state material and labor unit costs; and al l bookkeeping i s managed by an elected “implementation committee.” Unlike standard practice, there isn’t a single format in K D P that would allow a lone official to withdraw or transfer funds: al l require at least three signatures, including gone from an elected villager and a second from the project facilitator.

Second, as noted in the PCD text, K D P involves a broad range o f entirely independent groups whose job i s to inspect K D P sites for signs o f irregularity. These groups have full access to KDP documents. The provincial NGOs also have monthly meetings with the consultant and government management teams to l i s t the problems they encounter and review proposed corrective actions.

Third, the government management group has also taken many steps to ensure national level transparency. K D P i s the first World Bank project in Indonesia to send i t s audit summaries to c iv i l society oversight groups. Contract provisions and follow-up letters for the NGO monitors provide them with full discretion to share all findings, and the independent journalist contracts specify that there i s no prior review. For Year 3 o f KDP, PMD i s publishing an expanded version o f the problems database summarized below in commonly read provincial newspapers so that independent organizations can check

- 83 -

for themselves whether problems have been reported and fixed.

Respond to complaints - The last major element in the strategy i s to follow-up on reported cases of corruption - and to be seen to be following up on corruption by the villagers and other stakeholders. KDP has several channels for villagers to complain, including a well-used national “complaints box” whose address i s printed on al l village graphical materials. However, by far the most common source for complaints are those relayed b y or through the technical consultants. 77% o f all complaints received b y the oversight team came from the field consultants themselves; an additional 7% were reported by Home Affairs and 2% were sent through the mass media.

Table 1 summarizes the reporting and follow-up from KDP’s f i rs t three years. This i s a national level database, updated weekly, which i s routinely shared with c iv i l society watchdog groups, including the press. At the provincial level, reports by f ie ld staff, villagers, and the monitors are logged in, reported to local government and the national team, and then pursued every two weeks until resolved. In several districts and provinces, increasingly active project coordination teams also pursue corruption problems. In some extreme cases they have removed abusive village heads and camats (e.g. North Sumatra, South Kalimantan) and succeeded in getting missing funds restored. More common than restoring funds i s f ixing bad quality infrastructure, and project files document several cases where corrective action plans were proposed and implemented. Approximately 5% o f the TA staff have also been replaced because o f corruption or letting corruption happen without reporting it. (By way o f providing some perspective, the database refers to a total o f 55,000 village subprojects.)

Type of Complaints

‘defined as restored original program (i.e. money returned, works finished, etc)

KDP-1 also enforced a vigorous financial management improvement campaign for the national level contracts. This included:

0

letters f rom PMD and the companies to al l f ield staff informing them o f their salaries and entitlements; spot on-site inventory reviews o f equipment and paycheck stubs; retroactive payment corrections as conditions for contract extensions (esp. for travel); semi-annual meetings with al l companies to review their performance; spot ex post reviews o f staff qualifications. replacement o f recurrent offending companies.

KDP design and corruption -- KDPs anti corruption action program consists of three major sets o f actions. First, the project design uses a variety o f procedures to minimize leakage during national level procurement, contract management, and financial transfers, as discussed in the relevant parts o f this PAD. Second, prior to appraising KDP-2 in 2000, the project carried out an anti-corruption diagnostic that supplemented project specific fiduciary requirements with an incentive map o f opportunities for corruption within the village planning process (Table 2). The village-level action plan used that map to

- 84 -

~~ ~

identi fy opportunities fo r minimizing corruption risks, although i t should be noted that this i s an ongoing process.

Ta’ STAGE (1) Dissemination o f information & selection o f

I (2) Socialization: villagers leam how the project

works and what their rights are (3) Villages prepare proposals

(4) Technical teams look at the proposals to see if they are feasible

(5) Villages choose proposals that wi l l be funded

(6) Preparations for implementation: funds are released

(7) Implementation: 0 Materials are bought

Village labor i s mobilized 0 Roads & bridges are built

(8) Post-implementation: 0 Loans repaid; revolving funds set up 0 Maintenance o f infrastructure

.e 2: Incentive map of KDP OPPORTUNITIES FOR CORRUPTION Low

0 But risk o f nepotism in choosing consultants & elite capture for later kickbacks

Low 0 But risk o f elite capture

High Kickbacks with selection o f TA; collusion; budget-mark-ups; false groups formed to get micro-credit

Low 0 But incentive to try to influence results of

assessment in village’s favor L O W

villages: leads to bad projects High

a Main threat i s collusion among three signatories of bank withdrawal to take a cut of funds before transferring to village Extremely high

0 Most common source o f corruption in KDP (apart from operational funds & consultants’ payments) i s with procurement o f materials. Implementation team buy cheaper materials than those specified and pocket the difference. Medium

corruption with user fees for maintenance.

0 But incentive to simply split funds among

a Loan repayments managed badly; risk o f

KDP’s design allows for graduated sanctions because funds cannot be released to the f ie ld unless the facilitators are present to s i g n o f f on transfers. Removing the facilitators f r o m the f ie ld location i s relatively easy to carry out and has become a sanction preferred by M o H a as a response to supervision findings. Conversely, once restitution has been made, the facilitator can be returned to the f ie ld and the project continue.

Although in i t ia l ly reluctant to use this sanction, the Ministry o f Home Affairs has become increasingly confident that i t produces rapid results.In a number of cases, M o H a w i l l temporarily suspend an entire kecamatan until corruption problems reported by individual villages have been rectified. This i s an effective remedy because i t introduces peer pressure rather than making corruption entirely a matter o f enforcement by the center.

Overall performance - There are three major sources o f evidence which suggest that there i s less corruption in KDP than most other community projects. First, KDP produces an average o f 20-25% more output for the same input (ongoing studies w i l l provide a more quantified report o f this early finding). Technical reviews also conclude that output quality i s the same or better. Second, interviews w i th f ie ld staff and companies by Bank missions and reporters suggest a strong downwards trend in

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diversions. A growing number newspaper reports and village self-reporting point to spillover effects: villagers reject demands for kickbacks and in several cases have run people asking for bribes out of town. Finally, independent reviews by profesionally qualified auditors (i.e. SGS) also report generally low corruption levels in KDP subprojects.

So much for the good news. The bad news i s that (i) there i s s t i l l corruption in KDP; (ii) not all remedies work; and (iii) there has been little progress in improving the overarching fiduciary environment within which the project must work. Local level collusion, often wi th district and village governments, remains the single biggest source o f problems. Of special difficulty has been the endemic tendency to avoid sharing information, or limiting i t s access only to officials and elites. Another recurrent problem has been the harassment and the physical intimidation of staff who report corruption. Fear o f reprisals inhibits facilitator’s willingness to report corruption, although reports f rom the facilitators s t i l l remain the best source o f information about diversions and leakage. Overall, the reporting o f problems and their disposition needs to be improved and better protection provided for the whistleblowers who are threatened.

Sanctions and remedies -- Three o f the project’s consulting firms (of 19) were not extended in the project’s second year because o f concerns over delays or cuts in payments to field staff. Not surprisingly, the poorest and most isolated provinces have suffered most f rom corruption. A very informal group discussion with government counterparts suggested that aggregate corruption in K D P amounts to 10% (project audits estimated that only 5% o f funds could not be accounted for) but al l such numbers must be treated as working assumptions, at best.

B y and large official complaint channels have proved to be o f little use and complaints to authorities have not provided an effective corruption sanction. Nevertheless, there has been progress over time. In KDP-1’s final year, at least 15 legal cases were successfully brought against village and subdistrict officials by communities worhng with NGOs and justice officers. When pursuit o f official corruption happens, sanctions are nearly always the outcome o f villager and consultant appeals to higher-level officials, l ike bupatis, or the outcome o f WB supervision follow-up, and are not due to a functioning, accessible system o f legal redress.

Central government response to the corruption problem has been relatively encouraging. The project management secretariate has expanded the program o f legal assistance to KDP villages. They have also initiated monthly meetings with the independent journalists and with the NGO vmonitors to review progress on their findings. A particularly relevant indicator o f growing government interest in the anti-corruption work has been the suspension o f two provinces because o f failure to act on corruption reports. In one case the suspension was lifted when the offending parties were removed and the funds returned, wihle in the other the main district where the problems were happening was dropped from the project entirely.

KDP-3’s anti-corruption strategy

KDP-3 extends the basic principles o f the strategy outlined above, but i t also adds some additional elements. The most important new decision facing KDP-3’s anti-corruption strategy w i l l be how to deal with decentralization. Decentralization in principle offers new opportunities to promote government accountability. In practice, at least during the transition to a decentralized administration, the opportunities for rent-seeking are more l ikely to rise than to fall. Nevertheless, just as center-district relationships are being entirely re-worked, executive-legislative relationships are also a site o f struggle. KDP’s anti-corruption strategy w i l l chart a course through this broken landscape in the following ways:

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a.

b.

C.

d. e.

f.

g.

h.

Technical assistance procurement w i l l remain centralized (a pi lot program under VIP-2 to decentralize contracting to the provinces failed), although al l f ield staff w i l l be f rom their province; Increasingly deep involvement o f DPRDs, including routine provision o f audit reports and the jo int implementation monitoring teams; Carrying out spot audits f rom the center by the national management consultant company; Using prior year performance as the basis for increasing each district’s KDP-2 allocations; Preparation o f an on-site auditing manual that w i l l be issued b y M o F and distributed to al l K D P participants with an M o F cover letter saying that no other auditing formats are allowed; N o projects w i l l be allowed to enter a new project year until problems in the master M I S complaints database have been satisfctorily resolved; Distribution and public posting in each district o f a unit cost price table based on real expenditures; More sharing o f information with c iv i l society watchdog groups.

In the past, government commitment to pursuing corruption problems was at times lackadaisical in part because o f the conflict o f interest created b y the unified c iv i l service. That is , the district level c iv i l servants involved in unauthorized diversions were often outposted members of the same central agencies. Sanctions by past or future colleagues were minimal, and usually taken only in response to strong Bank (and a times, community) pressure.

Decentralization changes this configuration somewhat. All of KDP’s local implementing agencies are now part o f local government, not Jakarta line agencies and ministries. At least in theory, the built-in conflict between regulation and implementation i s eliminated. Part o f KDP3’s anti-corruption strategy, therefore, consists o f encouraging the Jakarta group to exert their regulatory role more forcefully. Evidence that there i s some willingness to move this way i s already appearing within the current KDP:

0

0 0

Strong P M D support for the idea o f legal advocacy b y using university-based lawyers to help bring legal cases against corruption in KDP; Suspending entire provinces and kabupaten in South Sulawesi and North Sumatra because o f local corruption. Strong involvement in DPRD alliance-building; Good, critical audits by BPKP.

The World Bank and Corruption in KDP -- The Banks program for K D P oversight involves a number o f managerial innovations. OSU involvement in capacity assessment and prior reviews i s extended much further. OSU staff routinely jo in field supervision, and they also organize hands-on short courses for task teams and senior counterpart staff. Hands-on involvement in KDP’s anti-corruption work provides a close link between the general institutional reform stratgy for fighting corruption being coordinated through OSU, and day-to-day practical actions in a large Bank-funded operation.

In addition to KDP’s collaboration with the WB OSU group, three additional activities promote anti-corruption work in the project. First, because K D P i s managed through the resident mission, i t i s feasible to adopt a supervision strategy that involves constant rather than periodic oversight. Supervision missions visit f ield sites every month.

Second, the Bank plays a very active role in pursuing corruption cases. Project supervision i s not

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~~

done randomly: the project's M I S i s used to select cases where corruption or other anomalies have been reported. The government and Bank pursue verified cases until restitution has been made or the subproject suspended.

Third, the Bank's ESW program on governance and anti-corruption includes several KDP-based activities, such as the work on mapping corruption in CDD projects, a AAA activity on how poor commnities can access the legal system, or a recently started program to conduct research on the effectiveness o f incentive and sanction regimes in community programs. While results f rom such programs benefit the Bank's overall governance reform strategy, they also provide immediate benefits to KDP implementation.

Bank oversight for KDP-3 work can be strengthened in a number o f ways. First, project appraisal and first year supervision w i l l pay special attention to the quality of the mechanisms for receiving and responding to complaints f rom the field. The Bank team w i l l provide monthly reviews o f this system for the f i r s t six months o f operation. Second, the Bank's new disclosure policy allows for a more in-depth involvement b y c iv i l society organizations, particularly those concerned with transparency and governance reform in Indonesia. Third, the pilot program to outsource auditing to private f i r m s w i l l be extended to KDP-3. Last, during appraisal, the Bank and government w i l l agree on an appropriate regime o f sanctions for cases where corruption i s discovered.

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Additional Annex 12: Environment Screening Criteria INDONESIA: Third Kecamatan Development Project

Environmental Screening

Review of Experience to Date and Proposals for KDP-I11

Any construction activity w i l l have some impact on the environment although the significance i s largely proportional to the scale o f the construction activity. The Kecamatan Development Program i s concerned about preserving the environment, hoping that any negative effects from KDP activities can be avoided or at least ameliorated. As part o f preparation o f the Third K D P Project, a review o f environmental management experience has been carried out and the results have been incorported into the design o f the proposed KDP-III.

This Annex: 1. describes procedures for environmental impact analysis in Indonesia 2. summarizes the general approach to environmental management that was taken on the first

and second KDP projects 3. summarizes the results o f a review of investments and impacts implemented during the third

year o f KDP-I, and, 4. describes the proposals for incorporating the results of the review into the design of KDP-lII.

Environmental Impact Analysis in Indonesia

The Kecamatan Development Program follows official Indonesian government policy in regards to environmental impacts. The government has paid significant attention to the problems o f environmental impact. Government Regulation 29 of 1986 established the required methodologies for environmental impact analyses. This regulation was superceded by Government Regulation 51 of 1993, which was intended as deregulation and simplification. This regulation can also be seen as an attempt to improve the quality o f existing planning. Planned development activities were divided into two classes. The f i r s t class included those activities that clearly have a large potential impact, which require a formal impact analysis. The second class included those activities with relatively minor potential impacts, and for these an explicit impact analysis was not required. According to the later Decree o f the Minister for the Environment No. 11 o f 1994 for Activities Obligated to be Supported b y Impact Analysis, the types and sizes o f activities undertaken by the Kecamatan Development Project are exempted f rom formal impact analyses due to very small scale o f investments and consturction activities supported.

Even though exempt f rom formal studies, planners o f KDP infrastructure are required to consider environmental effects. In the Second KDP, the planner i s a graduate c iv i l engineer who works with the local communities assisted by a village technical facilitator. In analyzing environmental effects, the planner must be capable o f imagining al l sorts of effects that might arise as a result o f the activity. Environmental effects are defined as those changes that arise directly as a result of development activities, both positive and negative. The types o f problems encountered are determined based on the experience of experts, the field experience o f the planner , interviews, literature, simulations and the like. Analyses on K D P concern both effects occurring during construction and those occurring during operations.

An example o f environmental effects for a rural road can be seen in the table below, according to types o f impact:

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Category I : Serious but local problems e Water flow concentration

e L o s s of productive land due to landslides Category 3: Negative effects of slight probability or

Category 2: Serous negative impact on environment e Sale of land to outsiders

Increased sediment load due to road erosion Category 4: Unclear effects, positive or

e Landslides I e Deforestation

Category 5: Clearly positive impact Outsiders move into the village

Category 6: Negative impact, but clearly acceptable to

less important impact negative

e Air pollution from vehicles e Flooding due to improper siting of bridge e Increase in airbome dust e Increase in criminal activity in the village e Noise pollution

e Increase in use of chemical fertilizers and pesticides

e Establishment of small industries that pollute e Increased intensity in farming or livestock e Residents seek employment outside the village e Moving houses to roadside

e Reduction in erosion from agricultural land due to

e Availability of construction materials in village e Increase in communication, including access to

application of improved technologies

health and education facilities

the local community e Traffic accidents e Loss of land required for road widening

From the above table i t can be seen that categories 1, 2, and 4 require special attention. Category One includes problems o f short-term impact even though the effects might be widespread. These are handled through the application o f standardized design and operational procedures which are implemented right across the project. This i s also the case with deforestation and increased sediment f rom Category 2.

Approach to Controlling Environmental Impacts on KDP

The principle behind controlling environmental impacts in KDP i s to l imi t possible negative effects and to develop the positive effects of any infrastructure construction activity. As part o f the planning process, a checklist o f potential environmental problems i s completed, which i s then followed up during and after implementation b y the village and technical facilitator.

The determination o f negative effects requires experience, coupled with the use o f input f rom the various existing manuals. Negative environmental effects for roads and bridges, for example, arise especially f rom the dsturbances o f unstable soils that are sensitive to landslides or f rom changes in the f low o f water. Excavation and embankment frequently result in landslides or erosion. Landslides bring with them four kinds o f negative impact

0 disturbing traffic (not an environmental problem, per se) endangering agricultural land or housing increasing erosion because the soils are not compact diverting the flow o f rain water

Erosion o f road sides can have large negative impact i f the soil i s transported to productive land or if the soil i s carried in suspension to a reservoir, as this w i l l reduce i t s storage capacity. At the same time, both landslides and serious erosion w i l l result in unsightly scars near the road. Changes in water courses can destroy productive lands or irrigation canals, as well as disturb the road itself. The are four steps in the process of reducing environmental damage.

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0 identifying potential dangers 0 0

0

selecting an alignment that reduces environmental disturbances utilizing c iv i l works and vegetative treatments to limit negative impacts undertaking maintenance and repairs in a timely fashion

The f i rst two are the most efficient, and they are the responsibility o f the surveyor and designer. A good survey can truly reduce or eliminate many environmental problems. This i s emphasized in pre-service training.

Roads are often located in critical lands that are sensitive to erosion and landslides, where soil types and climate combine to multiply r isks. The designer must consider a variety o f treatments to build infrastructure that w i l l not harm the environment while s t i l l bringing sustainable benefits. To analyze the environmental effects one needs to record information about three things, as follows:

Treatments necessary to overcome environmental problems, including: * Changing the alignment to reduce steep grades

Moving houses Building civ i l works to stabilize side slopes Using vegetative treatments to stabilize side slopes or prevent erosion Using special treatments to overcome the problem o f ground water, such as drains

. *

*

Negative environmental effects that might s t i l l exist after construction: . Side slopes that are unstable and endanger housing or agricultural land

Excavation that results in the stockpiling o f unstable soil Sideslopes that are left bare, without any vegetative cover The muddying o f rivers as a result o f construction Changes in the course o f a stream, which could cause flooding, erosion, or sedimentation Changes in water f low that damage productive land An increase in erosion and sediment as the result o f uncontrolled discharge from ditches or culverts The cutting down o f the forest

.

. *

.

Socioeconomic problems that arise as the result o f constructing a bridge or road.

These problems include the sacrifice of productive lands or other land holdings. If other problems arise, i t i s necessary to record any information that need to be considered about the type and extent o f the problem.

For water supply projects or sanitation projects, there i s always the possibility o f increasing contamination, for example a water source contaminated by surface water entering f rom outside, or ground water contaminated by a poorly designed or constructed waste control system. One also must consider the formation o f an operations and maintenance committee for water or sanitation projects.

Environment Impact Control Strategy

The method used to ensure that proper attention i s paid to environmental problems i s a combination o f standard checklists and a special checklist for the environment.

For each type o f subproject, a technical standard i s included in project manuals, and these include considerations of environmental effects. For example, the magnitude of the grade o f a road and the steepness o f the cross-slope perpendicular to the road are limited. Drainage for the road must be installed, together with culverts to discharge water safely. Leeching fields f rom latrines have to located

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~ ~~ ~ ~~

at least ten meters from any water supply, and located downstream as groundwater flows. Water supplies cannot be located near any potential source o f contamination.

The completion o f the special checklist for the environment i s an obligatory part o f the planning process. Each type o f project i s checked for the various treatments that must be performed on i t to avoid or repair environmental problems. At the midpoint of construction, the same form i s brought out to the field and inspected again, at a time when i t i s s t i l l feasible to easily repair deficiencies. At the end o f construction, the form i s checked one more time against the original plan.

The kabupaten engineering consultant i s responsible for reviewing al l infrastructure designs on KDP projects in the kabupaten. H e or she w i l l reject any design not accompanied b y a completed checklist, and may also request clarification for any feature where a problem i s anticipated.

One other element o f handling environmental problems i s the use o f technical inspection forms, which exist for many types o f subprojects. Among the items inspected are those dealing with aspects of environmental impact, such as for roads where the forms include slope protection, drainage ditches, and shoulders. These forms are fi l led out incidentally by anyone who inspects the infrastructure.

Review of Experience on the First Kecamatan Development Project

A total o f 14,175 small scale infrastructure projects were financed during the third year o f the first KDP project. These were considered to be representative o f investments in al l years and al l o f them have been classified into one o f ten infrastructure development types and the investment costs tabulated. The summary data are shown in the table f rom which the following conclusions can be drawn:

i. o f the ten categories of development, only five are o f a type which would raise any potential concern f rom an environmental point o f view, namely; roads, irrigation, bridges, water supply and wharves.

ii. the average scale o f construction was extremely small. For example, the average road investment financed development o f only 1.2 hlometers of new road at a cost o f about 36.6 mill ion rupiah (US$ 4,100) per kilometer. Most o f the irrigation development involved rehabilitation o f small schemes although there was some new construction as well. T o provide some perspective, for new construction, the average investment o f around 25.3 mill ion rupiah (US$2,850) would finance only five or six hectares of new, low-technology irrigation command. The other forms of development were similar: bridges include small scale steel girder bridges with wooden decks, concrete bridges, wooden bridges, and suspension bridges; water supplies come from a variety o f sources, but mostly come from springs and dug wells. Most distribution systems are gravity fed, but some utilize electrical or diesel pumps.

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~~ ~~ ~~

Infrastructure in Year Three of KDP

Location

Kecamatan Sosopan, South Tapanuli, North Sumatra

Lancap Jae, Kecamatan Arse

Riau province

F ie ld oversight reviews have not identi f ied significant o r recurrent environmental impacts. Site visits b y oversight engineers and the national project management database record environmental concerns, and these were reviewed during the appraisal o f KDP-2 and KDP-3. Bank supervision missions also include environmental impact specialists as we l l as engineers w i th environmental training.

Nevertheless, some environmental issues were reported to the KDP complaints unit and some typical examples are set out in the fol lowing table along w i th comments, where appropriate, o n possible control strategies that could be used to avoid similar problems in the future.

Sample Cases of Environmental ImDact in KDP Activity

Irrigation project Aek Bustak

Use o f heavy equipment in constructing a new road

Construction o f a road leading to protected forests

Tana Toraja, South Sulawesi

Culverts in general built without protective structures including wingwalls, drop structures, and lined discharge channels.

~

Cilacap, Central Java

Environmental Impact

Construction o f a bridge with a reduction in the wetted perimeter o f the channel

Caused downstream areas to suffer drought from lack o f flow

Disturbed wildlife in the surrounding forest

Became a link in the transportation o f illegal logging

In relatively flat areas the uncontrolled discharge damaged field or orchards.

In mountainous areas led to landslides on the sideslopes o f the road.

Reduction in flow area caused the stream to overflow, causing damage to productive ricefields.

Comment

Incorporate standard guideline requiring design engineer to check effects o f incremeental water demand on downstream users.

Largely unavoidable and only of short term effect. No special safeguards recommended

Potentially significant but difficult problem to deal with. One option might be to include a prohibition o f such investments in the negative l i s t .

Failure to follow good design principles. Need to find out why communities or their engineering advisers were not applying standard design safeguards.

Failure to follow good design principles. Need to find out why communities or their engineering advisers were not applying standard design safeguards.

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In general, the number o f complaints formally recorded in the system was quite small. This may be due to one or a combination o f three reasons:

0 A lack o f importance associated with environmental problems. There i s not yet a widespread appreciation for environmental dangers, such as dynamiting reefs to free coral for use as a road building material or building access roads into protected forests.

An inability to identify environmental problems.

A reluctance to report problems upwards

0

0

Proposed Responses for KDP-I11

The review illustrated several key facts:

i. the basic environmental impact potential o f investments supported through the project i s low so the general strategy followed under KDP-I remains relevant;

ii. nevertheless, the desk review suggested that a small number of environmental issues were encountered. Most o f the issues had their origin in apparent failures to follow best c iv i l engineering practice and i t i s l ikely that these can be addressed through continued training and supervision o f engineering staff providing technical advice to participating kabutpatens; and

iii. the small number o f environmental complaints made to the KDP complaints unit may be a reflection o f the very l ow adverse impact potentials o f investments supported under the project but i t also could be a reflection o f lack o f interest in environmental issues on the part o f beneficiaries or a reluctance to report problems upwards.

These three items have been addressed in the design o f KDP-2 and KDP-3. I t has been made clear that the national government, the donor, and the national consultants place high importance on attention to the environment. I t i s the responsibility o f the kecamatan facilitators to explain the basis for this to the villages and to monitor implementation. Causing environmental damage i s enough to cancel an activity. Not paying attention to the environment i s enough to have the facilitator replaced. This attention to the environment i s equally important at the kabupaten level, where the kabupaten consultants and especially the kabupaten engineering consultant must enforce environmental standards. In addition, the following items have been added to the project's negative l i s t (reflected in the project's legal documents):

In addition, the following items have been added to the project's negative l i s t

0

0 0

0

0 0 0

0 0 0

procurement o f any products containing asbestos procurement o f pesticides or herbicides production, processing, handling,storage or sale o f tobacco or products containing tobacco any activities within a nature reserve or any other area designated b y the Government o f Indonesia for the management andor protection o f biodiversity except with the prior explicit and written approval o f the government agency responsible for the management andor protection o f that area mining or excavation o f l ive coral water resources developments on rivers which f low into or out o f other countries alterations to river courses land reclamation larger than 50 ha. new imgation larger than 50 ha. construction o f water retaining or storage structures of capacity greater than 10,000 cubic

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meters

In KDP-3, each kabupaten and each kecamatan i s served b y a graduate engineer, who has been provided with training to help them identify and avoid potential environmental problems. There was much emphasis placed in pre-service training on the ability to anticipate problems, including environmental problems. In the first KDP, there were few engineers at the kecamatan level, so many technical problems o f the type identified in the above table remained undetected - the outside persons hired to design and supervise construction had litt le interest in making problems for themselves.

Reluctance to report problems i s widespread in most projects. Problems w i l l be reported faithfully only if several conditions are met:

0

0

0

There are no negative effects f rom reporting problems There are positive results f rom reporting problems, i.e. help i s given There are negative effects f rom not reporting problems

The design o f KDP-3 attempts to address all three of these conditions. Reporting o f problems i s a major point in the performance evaluation system. Problems that are reported are discussed and handled at monthly meetings, and doing this i s a major point in the performance evaluation of kabupaten consultants. The first item i s connected with the attitude o f senior consultants, government officials, and donor representatives when confronted with reported problems. They should perceive these reports as evidence that the system i s working and as opportunities to improve performance in the field.

Success in the field depends upon the discipline of project actors meeting these three conditions, which i s a task for senior management. A review o f the effectiveness o f these measures w i l l be included in the first-year evaluation and measures for correction w i l l be agreed with the Bank prior to the approval o f the second year program.

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Additional Annex 13: Guidelines for Resettlement, Land and Asset Acquisition INDONESIA: Third Kecamatan Development Project

I. GUIDELINES AND PRINCIPLES FOR LAND ACQUISITION IN KDP

During the construction o f village infrastructure i t i s nearly inevitable that some land, crops, trees, houses, or other assets might need to be acquired to allow the most effective, efficient, and beneficial use o f resources. For example, existing village paths are often upgraded to become all-weather roads with slightly wider running surfaces, plus shoulders and drainage ditches. The so-called right-of-way therefore needs to be increased one or two meters, and this can only happen if the land bordering the road i s acquired. Similarly, i t i s not always possible or desirable to locate water supplies, latrines, bridges, markets, or jetties on communally held land.

KDP has a simple policy framework and set o f operational procedures to guide cases o f land acquisition in village subprojects. The objective o f these guidelines i s to ensure that no family affected by land acquisition experiences a material reduction in their income, l iv ing standards, or livelihoods. Implementation o f these guidelines i s built into the project oversight and facilitator terms o f reference, and the project provides both internal and independent monitoring o f their implementation.

Minimizing acquisition

The Third Kecamatan Development Project follows the same acquisition procedures as the first two Kecamatan Development Projects. Policy guidelines and procedures meet the standards o f World Bank policies on resettlement. K D P s guidelines and reporting formats are incorporated into the project operating manual and are tracked through the MIS. The overarching objective o f K D P s guidelines i s to ensure that the acquisition o f lands i s minimized and does not result in persons losing their home or suffering any decline in income, livelihood, or l iv ing standards as a result o f the project. All proposals must be reviewed and their location, alignment, or specifications changed as necessary. Proposals to widen road right-of-ways must also be reviewed carefully.

As i t w i l l not be possible in many cases to eliminate the need for acquisition, the guidelines allow for acquiring assets through the following two methods:

a. Voluntarilv In accordance with local custom, community members have the right to donate their land or other assets or to move their homes temporarily or permanently without seelung or being given compensation;

Donated with compensation. Persons who donate their land or other assets have the right to seek and receive compensation.

Voluntary contribution o f land and other assets i s quite common in Indonesian villages, assuming that no individual loses too significant a portion o f their land. Losing a meter or two o f land on the side o f the road i s quite attractive to farmers, who w i l l then have an all-weather road directly abutting their fields. Voluntary contribution for other purposes besides KDP i s not unusual. Paying compensation for land i s also beyond the financial capacity o f the village.

Providing appropriate compensation

Guidelines have been established to manage compensation for persons in the second category so that all these persons improve or at least hold steady their quality o f life, income, and production capacity compared to pre-project conditions.

b.

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Principle of Compensation -- The village must guarantee that one o f the following methods was used in timely fashion to compensate the persons who were affected by the project (but project funds absolutely cannot be used for compensation):

land was replaced with other land o f equal productivity, or wi th other productive assets o f equal value

materials and labor were given to replace permanent structures that were removed

plants destroyed or missing or damaged were compensated in accordance with their value

other acceptable compensation was given

a.

b.

c.

d.

Principle of Consultation -- The village must ensure that al l the people affected by the project are consulted at a public meeting I nthe village. During this meeting, their right to compensation must be explained, as well as such alternatives as found in the guidelines. Formal minutes o f the meeting are made and must include the main points o f discussion as well as any decisions reached, including:

a. for voluntary contributions, the name o f the donor and details o f the donation:

Affected Assets

1. Agricultural land (m') 2. Other lands

Area affected (mz) Houses or buildings (units/mz)

3. Plants affected by the project

Compensation Additional Promised Agreements

c. In addition, the minutes w i l l contain the signatures o f the affected persons and the village chief. There w i l l be notes about complaints made by the affected persons. And there w i l l be a map showing the location o f the affected assets.

The kecamatan facilitator w i l l deliver a copy o f the above notes to all those people who are affected by the project, to determine directly their wishes in regards to compensation, their perception o f whatever agreements had been reached, and their complaints (if any).

Project approval

As the process o f determining compensation i s the responsibility of the village, wherein the facilitator has no decision-mahng power, the kecamatan facilitator i s bound to do the following:

a. H e or she must delay final approval until a l l persons affected by the project are satisfied with the compensation they are to receive, even if this causes utter stalemate, the changing o f designs, and interminable negotiations. Outsiders must not intervene to impose a solution.

b. He or she must delay implementation until compensation i s realized. Whenever a project has reached the implementation stage, the senior consultants, government officials, and donor should assume that compensation has been successfully delivered.

c. In principle, if more than 200 persons are affected and require compensation, a

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compensation plan must produced and then agreed to by the Secretariat o f the National Coordination Team prior to project approval. In the six years o f the VIP and three years o f KDP this has never occurred.

Right to voice complaints and take legal action

All complaints should be handled and solved at the village level. I f the problem cannot be solved in the village, complaints and legal action against these guidelines, the implementation o f agreements found in the minutes, or other grievances can be fi led b y the person affected or his or her representative to the kecamatan. If s t i l l not solved, it can be further submitted for a decision by the Bupati. Complaints also can be sent to the Complaints Handling Unit of K D P at the regional or national level, where they w i l l be analyzed and an investigation organized.

Verification

At any time, al l records regarding compensation, including minutes o f the meeting and proof of receiving compensation must be available for inspection by the kecamatan facilitator, kabupaten management consultants, auditors, and persons assigned to monitor aspects o f the project b y the project Secretariat or National Management Consultants. The Village Minutes and evidence o f compensation having been made shall be provided to the kecamatan empowerment facilitator assisting the village, to supervising engineers, auditors and socio-economic monitors when they undertake reviews under the project.

KDPl experience

Aside from the national oversight team and the implementation consultants, KDP i s well-monitored by more than 30 independent NGOs and the media. TOR for the NGOs specify that problems associated with land acquisition should be checked on site and any problems reported. N G O and media reporting i s not censored or confined to govemment transmission routes, so this form o f monitoring provides a useful check on safeguard performance independent of the project implementation structure. There have not been any reports o f involuntary displacement, and only a very small number o f cases o f land compensation disputes have been reported b y either group o f monitors.

Supervision by the World Bank has also never reported any case o f families being involuntarily displaced by either VIP or KDP, but, as noted above, there are cases both o f facilitators not following the rules and also cases o f the rules being followed but families nevertheless dissatisfied wi th their outcome. However, Bank missions have never found cases o f people visibly losing significant productive resources or experiencing drops in income, livelihood, or l iv ing standards because of a K D P project. In general, the Bank's field reviews suggest that lack o f govemment involvement in K D P whether b y national or local agencies seems to limit land acquisition to a bare minimum, and where i t does happen, direct negotiations b y villagers with the community councils produces outcomes that meet the Banks policy objectives o f safeguarding against adverse impacts.

Conclusion

While no process o f land acquisition w i l l ever be fully free o f problems, KDP's small size and the need for a local-level consensus does appear to provide an effective control system that minimize the scope andd impact o f land acquisition. KDP3 w i l l continue to monitor impacts closely.

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Additional Annex 14: Indigenous Peoples- Special Program for Papua INDONESIA: Third Kecamatan Development Project

Overview

Indonesian communities covered by the World Bank's policy on indigenous people can generally be classified as falling in to one of three categories. First, there are small pockets o f highly isolated, vulnerable groups such as the Mentawai or other small island populations. Such groups can easily be adversely affected by development projects because o f unfamiliarity with modern market mechanisms, cultural and administrative prejudices against them, or inability to retain control over productive and natural resources.

A second category refers to the much larger ethnic populations which meet most o f the World Bank's typological requirements (own language, sense of identity, traditional attachments) but exhibit varying degrees o f vulnerability. Populations such as the so-called Dayak o f Kalimantan or the tribal groups o f Nusa Tenggara Timor fit here.

The third group refers to heterogenous communities, where a segment o f the population i s culturally or economically marginalized. Several o f the fishing populations of the eastern islands, for example, have unique identities and also occupy subordinate positions within local social structures.

Review of Experience -- As a project that begins from starting principles of grassroots participation and flexible project designs determined through local planning, KDP did not anticipate any significant adverse impacts on indigenous or culturally distinct populations and none have been found during project supervision. Test cases specifically supervised for this purpose have included the Baduy, on Java, who as a rule reject outside development projects, and indigenous communities on the island o f Nias, near West Sumatra, In both cases KDP practice proved highly adaptive. In Baduy the project did not enter until i t was approached by traditional leaders and the terms o f encounter negotiated and recorded by both sides. In Nias, KDP has experienced several implementation problems because o f i t s isolation and the deeply hierarchical village structures, but again no adverse impacts could be identified. General supervision in the eastem islands also failed to turn up any systemic adverse impacts on ethnic minorities. Specific measures in the project design that appear to promote culturally appropriate activities include the villager's own election o f their representatives to the project, use o f sub-village planning units, and flexibility in facilitator's operational funds that allows them to support traditional rituals.

The project design itself has also proven to be somewhat more flexible than anticipated when i t f i r s t started. Thus, in provinces such as Aceh or West Sumatra, where kin-based descent units also carry out important administrative functions, the project produced special guidelines that used these traditional units rather than the standard kecamatan desa structure. (Both provinces benefited in this respect from the 2001 decentralization laws). Needless to say, in parallel with the increased use of culturally apposite forms of social organization has come an entirely new generation o f problems associated with the people excluded by traditional social structures, such as, for example, women, immigrants or low status groups. These problems do not have easy

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solutions. For the moment the primary means for addressing them i s through better facilitation, with some trials (i.e. in Aceh) to work with traditional leaders on making their group's workings more inclusive.

Special Program for Papua -- While implementation and ex post reviews failed to turn up any significant or recurrent pattern of adverse impacts from KDP on indigenous communities, in several o f the more culturally isolated areas the lack o f technical capacity limited the benefits that indigenous communities received from KDP. Some o f KDP's planning features, such as the use o f kecamatans rather than villages for decision-making, also required change. Nowhere was this more true that in the easternmost island o f Indonesia, the province o f Irian JayaPapua.

KDP has been active in Papua since i t s inception, and in KDP-2 the program has expanded into nearly every kabupaten. As in other areas, the program in Papua has the goal o f empowering villagers to undertake their own development through a process o f village and kecamatan-wide meetings with the facilitation of consultants. Villages have undertaken the construction of infrastructure as well as group economic activities. Local governments have been eager to expand KDP activities, funding more kecamatans with district-level funds than any other province. KDP i s a highly popular program throughout Papua, as evidenced by the fact that there i s a higher percentage o f local governments contributing their own counterpart funds so that more kecamatans can be covered by KDP than anywhere else in Indonesia.

However, the mid-term review o f KDP-1 showed there have been two main problems that have constrained KDP performance in Papua. The f i rs t i s that the special cultural, geographical, and economic conditions o f the province mean that the standard provisions o f the national community development project required adjustment to perform in the local environment. To that end, in 2002 KDP created a special project manual for Papua. The manual was developed by a working group made up o f the KDP technical team, independent Papuan NGOs, and the provincial government.

The manual was introduced through socialization workshops in each kabupaten, and then piloted for a f i r s t round before being adopted for the entire province. Features o f the manual include much greater use o f villages rather than kecamatans as the organizing unit (because o f distance and sociological variations), increased operational allowances, involvement o f traditional leadership, and so on. This manual i s a public document and copies are in the subdistrict meeting hall o f every kecamatan that joins K D P as well as with the NGO and journalist monitors.

KDP's training program in Papua-- The second constraint i s that i t has been very difficult to find qualified local persons to take the positions o f kecamatan and district consultants, even as there has been evermore insistence that these positions be filled with native residents o f Papua. Despite an energetic recruitment campaign, positions could not be filled with local people meeting the same qualifications as in other provinces, especially for technical positions. In KDP-2, each kabupaten has two consultants, a c iv i l engineer and an empowerment consultant; each kecamatan has at least two facilitators, a c iv i l engineer and at least one empowerment facilitator. The civi l engineers are needed to ensure that whatever infrastructure i s selected can be built by the villagers, are designed properly, and constructed to a reasonable standard o f quality. Past community development projects from a broad range o f donors and NGOs shows

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that employing unqualified consultants quickly leads to poor quality and rapidly destroyed infrastructure.

The shortages o f qualified engineer i s a reflection of the general lack of participation by Papuans in universities and technical schools. Thus, fill ing KDPs technical slots with Papuans was not going to be a function o f simply making salary rates more attractive - salary levels for Papua work on KDP are already significantly higher than national averages. Instead, in keeping with the general social development goals o f KDP, the KDP team developed an an educational program for over 200 young Papuans to fill technical facilitator positions. Objectives o f this special program for Papua were twofold - first to meet the KDP project’s needs for qualified Papuans to work in the kecamatans and villages, but second, to develop an operational and replicable methodology for promoting Papuan human capital development through routine investment projects.

The methodology for recruiting the candidate consultants was designed to involve the local commmunities as much as possible. An orientation was conducted for each kecamatan, wherein each village was told about the education program by a local NGO hired to facilitate the orientations. The attendees returned to their villages and helped their respective villages select one or two persons as candidates from the kecamatan. Representatives o f all the villages in the kecamatan screened the applicants and selected three candidates by voting, with at least one man and one woman selected. While not every kecamatan followed the guidelines religiously, about 90% o f the candidates seemed to meet all the criteria.

The training i s being done locally at Cendrawasih University in Jayapura, utilizing twelve technical trainers with previous experience in village infrastructure programs elsewhere in Indonesia. The technical and project management parts o f the curriculum were developed by the instructors, allocating about twenty percent of the material developed by local instructors. The graduates o f this program wi l l receive the equivalent o f a first level diploma from the University.

The curriculum includes the basics o f a good technical education, emphasizing mathematics, technical drawing, materials science, structural calculations, earth science, basic hydraulic calculations, basic irrigation design, and lots of construction management and practices. The local portion o f the curriculum includes information from Papuan history, anthropology, ethnology, and sociology. A portion o f the training was reserved for ski l ls in lateral thinking, training design and delivery, facilitation, and long-term visioning. The last three weeks of the training introduces the basics o f the K D P process and the duties o f kecamatan facilitators.

The results o f the educational program have astounded nearly everyone connected with i t or visiting it. From shockingly low level o f ski l ls demonstrated during a pre-test, the participants have acquired a reasonable level o f engineering knowledge and ski l ls . Ninety percent of the participants stayed with the program from the beginning, as the inappropriate ten percent dropped out. The participants have also demonstrated their capabilities by constructing c iv i l works of f campus, including a bridge, a road, repairs to a nonfunctioning local water supply system, and a wharf for fishing boats. The students are punctual, often work into the night on their own initiative, and manage themselves through a system o f representatives who negotiate directly with the instructors and with the University administrators. In-class discipline was high.

The training was completed in mid-April 2003. The graduates w i l l be assigned directly to the

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KDP program in time for the f i rs t year o f implementation o f KDP-2. The graduates w i l l be assigned back to their home kecamatans, with two or three graduates in most kecamatans, in part to make up for the size o f kecamatans in Papua and partly to support each other as fresh graduates from a beginners’ course in civ i l engineering. Some graduates have elected to serve in other kecamatans for personal reasons.

Next steps -- Under KDP-3 the graduates w i l l continue their education during their first year in the f ield through a program of on-the-job training and coaching by their former technical instructors. One o f the f i rst tasks o f the facilitators in the field w i l l be to assist the villages in identifying two persons to be trained as village facilitators, a man and a woman. One o f the two w i l l be especially trained to handle technical matters, the other wi l l specialize in empowerment. I t i s hoped that being exposed to good training for six months, the new graduates w i l l be able to empathize with the village facilitators and give them good training and advice, as most o f them come from similar backgrounds and level o f formal education (secondary school). Performance o f both the graduates and their instructors w i l l be part o f the routine NGO and project monitoring. Approximately $0.5 mil l ion have been budgeted to support the program, with the possibilities o f increase if more funds are needed.

The overall KDP program in Papua i s supervised by a regional coordinator based in Jayapura, assisted by two deputies and a small team o f facilitators specifically responsible for training, the management information system, and complaint handling. They have general responsibility for the success o f this program as well. Although KDP-3 w i l l concentrate on field-level support for the graduates, there have also been some discussions with district government and some o f the large private companies to re-start the core classroom program later on using counterpart support. KDP-3 design includes a small allocation to develop a larger-scale program that would allow more local graduates to develop professional ski l ls.

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MAP SECTION