1. society
2. work
3. unemployment

Document o f
The World Bank
FOR OFFICIAL USE ONLY
Report No.: 28570
MEMO~NDUM
OF THE PRESIDENT
OF THE
INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT
TO THE
EXECUTIVE DIRECTORS
ON A
COUNTRY ASSISTANCE STRATEGY
FOR THE
REPUBLIC OF COSTA RICA
April 20, 2004
Central America Country Management Unit
Latin America and the Caribbean Region
This document has a restricted distribution and may be used by recipients only in the performance o f
their official duties. Its contents may not otherwise be disclosed without World Bank authorization.
CURRENCY E Q U I V A L E N T S
Currency Unit = Colon
US $1.0 = 418 (December 2003)
Fiscal Year:
January 1 - December 3 1
(e)
G L O S S A R Y OF A C R O N Y M S AND A B B R E V I A T I O N S
AAA
A&A
BCCR
CAS
CAFTA
CASCR
CCSS
CABEI
CAE
CAF
CEM
CINDE
CFAA
CPAR
CZFA
ESW
FDI
FIAS
FIRST
FSAP
FSA
FSSA
FODESAF
GEF
GDP
ICA
ICE
IBRD
IDB
IDF
IFC
IMAE
IMAS
IMF
INEC
INTEL
JBIC
LAC
MDGs
MEP
MIGA
PCF
PER
PHDR
RAMP
RUTA
R&D
UNDP
Analytical and Advisory Sevices
Water and Sanitation Enterprise (Empresa de Acueductos y Alcantarillados)
Central Bank o f Costa Rica (Banco Central de Costa Rica)
Country Assistance Strategy
Central American Free Trade Agreement
C A S Completion Review
Social Security Institution (Caja Costarricense del Seguro Socil)
Central American Bank for Economic Integration
Country Assistance Evaluation
Andean Development Corporation (Corporacion Andina de Foment0 )
Country Economic Memorandum
Costa Rican Investment Board
Country Financial Accountability Assessment
Country Procurement Assessment Review
Americas’ Free Trade Zone (ComitC de Zonas Francas de las AmCricas)
Economic and Sector W o r k
Foreign Direct Investment
Foreign Investment Advisory Service
Financial Sector Reform and Strengthening Initiative
Financial Sector Assessment Program
Financial Sector Assessment
Financial System Stability Assessment
Social Development Fund (Fondo de Desarrollo y Asistencia Social)
Global Environment Facility
Gross Domestic Product
Investment Climate Assessment
State Electricity Company (Instituto Costarricense de Electricidad)
International Bank for Reconstruction and Development
Inter-American Development Bank
Institutional Development Fund
International Finance Corporation
Monthly Index o f Economic Activity (Indice Mensual de l a Actividad Economica)
Social Welfare Institute (Instituto Mixto de Asistencia Social)
International Monetary Fund
National Statistics and Census Bureau (Instituto Nacional de Estadisticas y Censos
High Technology Corporation (Corporacion de A k a Tecnologia)
Japan Bank for International Cooperation
Latin American Countries
Millennium Development Goals
Ministry of Public Education (Ministerio de Educacion Publica)
Multilateral Investment Guarantee Agency
Prototype Carbon Fund
Public Expenditure Review
Japan Policy and Human Resources Development Fund
Reserves Advisory and Management Program
Regional Unit for Technical Assistance
Research and Development
United Nations Development Program
FOR OFFICIAL, USE ONLY
MEMORANDUM OF THE PRESIDENT
OF THE
INTERNATIONAL BANK FOR RECONSTRUCTIONAND DEVELOPMENT
TO THE
EXECUTIVE DIRECTORS
ON A
COUNTRY ASSISTANCE STRATEGY
FOR THE
REPUBLIC OF COSTA RICA
TABLE OF CONTENTS
EXECUTIVE SUMMARY .................................................................................................
I. INTRODUCTION..........................................................................................................
I1. COUNTRY CONTEXT ................................................................................................
111. RECENT DEVELOPMENTS ......................................................................................
A . Political Context......................................................................................................
B. Economic Performance...........................................................................................
C. Poverty, Gender and Social Development ..............................................................
D. Human Capital Development................................................................................
I V. COSTA RICA’S DEVELOPMENT CHALLENGES ...............................................
A . Maintaining Macroeconomic Stability .................................................................
B. Strengthening Trade and Competitiveness ...........................................................
C. Sustaining Social Progress ....................................................................................
D. Continuing The Leadership In Environmental Management................................
V . WORLD BANK GROUP’S COUNTRY RELATIONS ..........................................
A . The Last CAS: Impact and Lessons ......................................................................
B. Current Bank Group Program...............................................................................
C. Country Assistance Strategy FY04 - FY07 ..........................................................
D. Coordination with Partners ...................................................................................
CAS Program Risks ......................................................................................................
V I.
CONCLUDING REMARKS................................................................................
i
1
1
4
4
5
9
11
14
14
17
19
22
23
23
24
27
36
39
39
TEXT TABLES
Table 1: MillenniumDevelopment Goals .......................................................
Table 2: Selected Economic Indicators...........................................................
Table 3: IBRD Active Portfolio and ProposedBase Case Bank Assistance Program
FY04 - FY07.............................................................................
Table 4: Ongoing Donor Activities ...............................................................
3
7
29
38
CHARTS
Chart 1: Governance Indicators for 1996-2002 ................................................ 5
Chart 2: Costa Rica Poverty Incidence 1991-2003 (as o f % o f total households). .......11
This document has a restricted distribution and may be used by recipients only in
the performance of their official duties I t s contents may not be otherwise disclosed
lwithout W o r l d Bank authorization
.
.
ANNEXES
A I : Country at a glance
B1a: Costa Rica CAS Completion Review
B1b: Country Program MatrixlCAS Results Framework (FY04 - 07)
B2: Selected Indicators o f Bank Portfolio Performance and Management
B3: Proposed IBRD Base Case Scenario Lending Program
B4: Summary o f Non-lending Activities
B5: Costa Rica - Social Indicators
B6: Costa Rica - Key Economic Indicators
B7: Costa Rica - Key External Debt Exposure Indicators
B8: Status o f Bank Group Operations/ Status o f IFC Committed and Disbursed Portfolio
B9: CAS Summary and Development Priorities
C:
Social Spending and the Poor
D:
Public Debt Management and Domestic Debt Market Development
E:
Synthesis o f Financial Sector Assessment
F:
Consultations with Civil Society
IBRD
Vice President:
Country Director:
Country Operations Advisor:
Task Manager:
David de Ferranti
Jane Armitage
Neeta Sirur
Ana Lucia Armijos
The team would like to acknowledge the contributions of
several colleagues in the LAC region, especially Ricardo
Tejada, as well as BCFBD, SFRCR, ISGIA, IFC, IMF and
IADB.
EXECUTIVE SUMMARY
1
This Country Assistance Strategy, which covers FYs 04-07, is the first to be
prepared for Costa Rica since 1993. Over the last decade, collaboration between Costa
Rica and the Bank had been relatively limited, focused primarily on ensuring effective
implementation o f a small portfolio o f projects and the provision o f analytical and
advisory services. This CAS, prepared at the request o f the Pacheco Administration
which took office in 2002, envisages a highly selective program o f lending and nonlending services, focused less on resource transfer objectives and more on knowledge
sharing and advisory services in areas o f mutual interest. The aim i s to focus cooperation
in areas where (i)
lessons from Costa Rica’s successful poverty reduction and economic
diversification efforts and pioneering leadership in environmental management would be
instructive for other Bank clients; and (ii)the Bank’s global experience could support
Costa Rica’s efforts to address second generation problems in key sectors. In its
discussion o f this CAS, the Board may wish to consider the following:
D o Executive Directors agree with the primary rationale for Bank engagement in
Costa Rica - Le., mutual learning and knowledge sharing rather than significant
resource transfer?
Are the size o f the program and the specific areaslinstruments chosen for Bank
engagement appropriate to further the CAS’S knowledge objectives?
ii
Costa Rica i s a development success story in many respects. The country has a
long tradition o f political stability, with successive democratically elected governments
transitioning peacefully to power since 1949. The political climate i s characterized by
well-established processes for consultation and consensus-building on policy reform
which, in turn, have engendered social and political stability, contributed to the
sustainability o f reforms and helped maintain the credibility and accountability o f public
institutions. Since the mid-l980s, Costa Rica has followed a successful strategy o f
outward-oriented export-led growth, openness to foreign investment and gradual trade
liberalization. As a result, the structure o f the economy has been transformed from one
highly dependent on agriculture and agro-industry to one that i s now led by high-tech
computer and electronic industries, services, non-traditional agriculture and tourism. The
country has successfully attracted foreign direct investment, fueling economic growth,
which averaged 5 percent in the 1990s -well above the Latin American average. The
combination o f steady economic growth and sustained investment in human development
has led to a substantial reduction in head-count poverty, and the country has already met
or is well on the way to meeting the Millennium Development Goals. In the future, it is
expected that the free trade agreement recently negotiated with the United States will
further boost exports and attract new national and foreign investment..
...
As the above suggests, Costa Rica is in a strong position vis a vis its Latin
American neighbors as it enters the new century, but faces new issues and challenges as it
strives to achieve continued sustainable growth, further reduce poverty and promote
social equity in an increasingly integrated and competitive global economy. To address
111
these challenges, the Government has identified four main areas o f emphasis for the
coming years -- maintaining macroeconomic stability, strengthening trade and
competitiveness, sustaining social progress with particular attention to reaching
indigenous and Afro-Costa Ricans, and continuing Costa Rica’s leadership on
environmental issues.
iv
Linked to the above emphases, and taking into account the lessons o f the CAS
Completion Review (Annex Bla), the CAS includes a relatively modest lending program
o f US$2 18 million for six projects over four years, focused on developing sustainable,
innovative solutions to the second-generation challenges being encountered in a number
o f sectors. These include: (i)education, where government i s seeking to resolve
remaining problems o f inequity and to improve overall system efficiency; (ii)
water and
sanitation, where with JBIC, the Bank will help establish modernized approaches to
improving coverage, quality and sustainability; environment, (iii)regional development
in the Puerto Limon area on the Caribbean coast, through an operation aimed at
revitalizing the port and related infrastructure as a means o f reducing the region’s
relatively high poverty rates and increasing the country’s overall competitiveness; (iv) a
possible follow-on environmental project targeted to improving financial sustainability in
the sector; (v) a small e-Government learning and innovation loan aimed at improving
public sector efficiency; and (vi) an Agriculture Sector project designed to help
smallholders fare adequately under the more competitive conditions which will likely
result from the CAFTA agreement.
v.
In addition to the lending operations described, the CAS includes a substantial
program o f knowledge and advisory services and analytical work. For example,
capacity-building activities on both a reimbursable and grant basis are foreseen to support
reforms in critical areas o f public sector debt management, domestic debt market
development, financial sector reform, Central Bank management o f international reserves
and management o f private participation in infrastructure. In addition, the Bank will
undertake a number o f economic and sector work activities in cooperation with the
Government, including the five core diagnostic studies, an investment climate assessment
and selected regional studies on key issues for Central America.
vi
Specific indicators have been identified for evaluating the results and impact o f
the CAS. The results based approach is linked to the development challenges, to which
the government and all it’s partners, including the Bank Group, will contribute. The main
risk concerns the potential for macro-economic instability, triggered by external factors,
deterioration o f the fiscal situation, andor financial system weaknesses. However, this
risk i s judged to be modest for the CAS period, given the country’s track record o f
successfully weathering regional crises and enacting reforms and attracting funds on the
capital markets when needed, the prevailing broad consensus and agreement in the
National Assembly on the need for fiscal reform (although details are s t i l l being worked
out), and the steps taken in the past two or so years to strengthen the regulatory and
prudential framework o f the financial system and recapitalize the Central Bank, thereby
significantly lowering the risk o f a banking or financial crisis.
*.
11
MEMO~DUM
OF THE PRESIDENT
OF THE
INTERNATIONAL BANK FOR RECONSTUCTIONAND DEVELOPMENT
TO THE EXECUTIVE DIRECTORS
ON A COUNTRY ASSISTANCE STRATEGY FOR THE
REPUBLIC OF COSTA RICA
I.INTRODUCTION
1.
The last Country Assistance Strategy (CAS) for the Republic o f Costa Rica was
presented to the Board in March 1993, together with an adjustment operation aimed at
continued reform of public sector management, the financial sector and trade. That
operation was cancelled two years later and since then, the collaboration between Costa
Rica and the Bank has been relatively limited, focused primarily on ensuring effective
implementation o f a small portfolio o f projects (in health, education, environmental
services and water and sanitation) and the provision o f non-lending analytical and
advisory services. Despite the scaling back o f Bank financial support Costa Rica
advanced significantly in achieving many o f the objectives laid out in the 1993 CAS.
The Pacheco Administration, which took office in mid-2002, has indicated strong interest
in forging a closer relationship with the Bank, leading to the development o f this new
CAS after a period o f over 10 years. This CAS envisages a highly selective program o f
lending and non-lending services, focused less on resource transfer objectives and more
on knowledge sharing and advisory services in areas o f mutual interest - Le., areas where
lessons from Costa Rica’s successful poverty reduction and economic diversification
efforts and pioneering leadership in environmental management would be instructive for
other Bank clients, as well as areas in which the Bank’s global experience could benefit
Costa Rica’s efforts to address second generation problems in key sectors.
11. COUNTRY CONTEXT
2.
Costa Rica i s a development success story in many respects. A middle-income
country o f about 3.9 million people, Costa Rica boasts one o f the most stable
democracies in Latin America, with uninterrupted democratically elected governments
since 1949. Several factors have contributed to this stability, including the limited
presence and power o f land-based oligarchies, the existence o f effective social mobility
mechanisms, the abolition o f the army after a brief civil war in 1948, the enactment o f a
new constitution in 1949, and the foundation o f one o f the region’s first welfare states.
The President and a Legislative Assembly comprised o f 57 legislators are elected for 4
year terms. Two major political parties have generally alternated in power, although the
country has seen greater political diversity in recent years, with the rise o f a number o f
smaller parties. Costa Rica’s government and politics have long placed a high premium
on achievement o f wide socio-political consensus on major policies. While sometimes
delaying decisions, this emphasis on consensus has the advantages o f creating a broad
social base, enhancing the sustainability o f economic and social reforms and helping to
maintain the credibility and accountability o f public institutions.
3.
Since the mid-l980s, Costa Rica has followed a successful strategy o f outwardoriented export-led growth, openness to foreign investment and gradual trade
liberalization. As a result, the structure o f exports and the economy itself has been
transformed from one highly dependent on agriculture and agro-industry - coffee and
bananas represented 56 percent o f exports in 1985 vs. only 12 percent in 2003 - to one
that i s now led by high-tech computer and electronic industries, services, non-traditional
agriculture and tourism. The ratio o f exports to GDP grew from 20.8 percent in 1991 to
36.5 percent in 2000, and greater trade openness contributed greatly to growth during the
decade. Costa Rica attracts foreign direct investment at a rate o f about 3 percent o f GDP
annually, and has been successful in attracting high-tech investors such as INTEL. As a
result, the economy grew by an average 5 percent rate in the 1990s, with factor
productivity accounting for two fifths o f this performance, In the future, it i s expected
that the free trade agreement recently negotiated with the United States (know as Central
America Free Trade Agreement or CAFTA) will further boost exports and attract new
national and foreign investment, increasing the country’s development prospects.
4,
At least in part, Costa Rica’s rapid productivity growth and attractiveness to
investors i s the result o f sustained investment in the education and health o f its population
over the past two decades. The country’s social indicators are currently closer to those
prevailing in developed countries, far above the norm for countries with similar per capita
GDP ($4,193 in 2003). Coverage o f basic education and health care services is nearly
universal today, although there have been some signs in recent years that the efflciency
and effectiveness o f social spending has begun to plateau, or, in some cases (e.g.,
secondary education), has actually suffered some decline. Continued improvements in
social areas w i l l have to rely on better use o f expenditures, as the scope for further
increases in social spending is likely to be limited by fiscal and financial constraints.
5.
The combination o f respectable economic growth, relatively low inequality along
both gender and class lines, and large investments in human development have led to a
substantial reduction in head-count poverty in Costa Rica over the past decade.
Headcount poverty declined from 3 1.9 percent in 1991 to 20.6 percent in 2000, while the
proportion o f the population living in extreme poverty fell from 11.7 percent to 6.1
percent during the same period. After stagnating for several years, during which time the
numbers o f poor immigrants entering the country from Nicaragua accelerated, the
poverty rate f e l l sharply in 2003, probably due to the pick-up in GDP growth.
6.
Table 1, below, shows Costa Rica’s progress with regard to the Millennium
Development Goals (MDGs). The indicators measured there clearly reflect the country’s
notably strong development performance on a number o f dimensions over the past two or
so decades, While continued improvements are necessary in some areas -and these could
be more difficult to achieve as “easier” milestones have already past - the Government i s
well aware o f the challenges ahead and i s working to bring about the political consensus
needed to move forward with needed reforms. Recent developments in Costa Rica and
some o f the specific challenges faced by the country in the medium-term are discussed
further in Sections I11and I V o f this document.
2
Table 1: Millennium Development Goals
~
Millennium
Development Goals
1990-2015
1990
MDG
Present Status
Benchmark'
1. Poverty and Hunger
Latest
Estimates'
+
Likelihood
of achieving
results
Achieved
MDG
Goals
11.7%
5.1%
5.9%
Extreme poverty declined from (1991)
(2003)
11.7% in 1991 to 5.1 % in 2003..
by half.
4.7%
* Reduce malnutrition * Child malnutrition in children 6.0%
under 5 decreased from 6.0% in 1985 (1985)
rate by half
(1996)
to 4.7% in 1996.
2.
Achieve universal
primary education
* Increase enrollment * Net enrollment in primary school 86.3%
91.0%
(200 1)
ratio in primary school to increased from 86% in 1990 to 91%
in 200 1.
100%
3.
Promote gender
equality
100.0%
* Raise ratio girlslboys in * There are no significant differences 95.8%
100% Achieved
primary and secondary between the genders in respect of
(200 1)
education
school to 100%
4.
Reduce
child
mortality
11
* Reduce child mortality * The child mortality rate fell from 17
Likely
6
in children under 5 by 17 to 11 per 1,000 live births between
(2001)
1990 and 2001.
two-thirds
5.
Improve maternal
* Consistently among the top 40
health
* Reduce the rate o f countries in the world in terms o f
9
35
maternal mortality (for maternal mortality and health systems
(1995)
-each 100,000 live births) performance. The maternal mortality
rate was 35 per 100,000 in 1995.
by three-fourths.
6. Combat H I V l A I D S
and other diseases
-* Halve the incidence o f * Incidence o f HIVlAIDS in men
0.6
tlIV/AIDS by 2015 and and women (ages 15-24) i s 0.6% and
(2001)
begin
to
reverse 0.3% respectively. Slightly below the
0.3
average for LAC.
propagation.
(2001)
7.
Ensure
* Access to improved water was 95%
95%
98%
Likely
environmental
in 2001, greater than the average for
(200 1)
sustainability
LAC o f 86%.
I. Halve the proportion of
individuals without access * Annual deforestation rate was
to improved water source. 0.06% between 1997 and 2000 and
0.24% between 1987 and 1997. A 41.6%
4 1.6% Surpassed
45.4%
* Halt forest degradation significant reduction in land use. The
CA average for the 1990-2000 period
(2000)
(% o f total land).
was 2.4%lsignificantly higher.
' Data refers to 1
Spending and the Poor Report (World Bank 2002) and INEC; Sanchez, Arturo, et al.. 2002. Estudio de
cobertura forestal de Costa Rica con imagenes LANDSAT TM7 para el aiio 2000.
* Reduce extreme poverty *
I
t
I
__
__
3
__
-_
7.
Costa Rica has also been a world leader on environmental issues, successfully
exploiting linkages between environmental protection and poverty reduction. It has set
aside about 25 percent o f its land to protected areas and has put in place innovative ways
to pay its citizens for good environmental practices. Given Costa Rica’s rich biodiversity
- about 5 percent o f known species worldwide and improving tourist infrastructure,
eco-tourism has become, after the INTEL chip plant, the principal foreign exchange
earner, and a driver for rural development. In addition, Costa Rica has been a leader in
developing markets for global environmental services, such as Carbon Trading Offsets,
as well as for local environmental services, where water bills in parts o f the country now
include a charge to pay farmers upstream for “producing water”. Studies show payments
for these global and local services can be effective ways to reduce rural poverty in a
sustainable way.
--
111. RECENT DEVELOPMENTS
A.
Political Context
8.
President Abel Pacheco o f the Social Christian Unity Party (PUSC) was sworn
into office in May 2002, but his Party does not have a majority in the Legislative
Assembly. Congress is currently divided into blocks: Partido Unidad Social Cristiana
(PUSC), Partido Liberacion Nacional (PLN), Partido Accicin Ciudadana (PAC),
Movimiento Libertario (ML) and a minority block o f independents. While the President
continues to enjoy popular support, policymaking has been slow as the Executive can
count on only one third o f the seats in the Assembly (19 o f 57 deputies). Between
October 2002 and December 2003, there have been a number o f changes in the cabinet,
including the Ministries o f Justice, Planning, Finance, Education, Presidency, Science
and Technology and Economy, Industry and Commerce. Although the administration
began with ambitious promises which raised the expectations o f the population, a more
cautious economic policy has prevailed in the cabinet. In the past year or so,
Government, jointly with a wide spectrum o f political parties, private sector and civil
society organizations, has been able to build wide consensus on the importance o f passing
a key fiscal reform. This emphasis on consensus-seeking i s a hallmark o f Costa Rican
government and politics and helps ensure the sustainability o f economic and social
reforms. At the same time, it often makes for slow and complicated policy-making, as it
needs the participation o f all four political parties and coalitions. Additionally, key
initiatives are often further delayed when opponents refer them to the Constitutional
Chamber (or Sala IV) created in 1989 to regulate the relationships between the different
branches o f government and guarantee citizen rights.
9.
Transparency International ranked Costa Rica 40* in i t s 2002 Perceptions o f
Corruption Index (second only to Chile in Latin America). The current Government’s
fight against corruption i s one o f the priorities o f the country’s development plan. While
Costa Rica i s a clear Leader among Central American countries (and near the top for Latin
America) on most governance measures, there has been a deterioration in recent years on
several fronts. This trend i s also borne out by WBI’s governance indicators, which show
4
that the country's performance has been declining on measures such as government
effectiveness, regulatory quality, and rule o f law. Furthermore, data from the latest firmlevel survey place Costa Rica below the 50thpercentile among 102 countries on various
measures o f governance and institutional capacity. Addressing these issues w i l l be critical
if Costa Rica hopes to continue to pursue FDI in high-technology and high value-added
service industries (Chart 1)
Chart 1. Governance Indicators for 1996-2002
I
COSTA R I G A C20023
I
I
I
I
II
Voice and Accountability
Political Stability
Governnent Effectiveness
Regulatory Quality
Rule o f Lau
Control of Corruption
I
I
I
I
0
25
50
75
I0
Conparison betueen 2002, 2000, 1998, 1996 {top-botton order)
Country's Percentile Rank 10-1001
Source: D. KauCmnnr 1. Kraar and H. tlactruzzir 2903: Governance H a t t e r 5 111: Governance Indicators For 1996-2002
thtfp:/~.worldbank.ors~i/sovernance/pubs/scun;ltterr3.html)
B.
Economic Performance
10.
Macro Economic Performance Following a debt crisis in the late 1980s, Costa
Rica reestablished relatively stable macroeconomic performance over most o f the 1990s.
Real growth averaged about 5 percent for the period 1990-99 and public debt levels were
manageable through most of the decade, at a level o f about 50 percent o f GDP. By the
end o f the decade, however, real growth slowed to an average o f about 2 percent for
2000-2002 (reflecting both external and domestic factors)', while inflation remained at an
annual rate o f about 10 percent over the same period, due mainly to relatively large
annual fiscal deficits. The overall public sector deficit increased significantly to 5.7
~~~~
' However, if the contribution of the high-tech industry to GDP i s excluded, the decrease o f real growth
during the same period i s lower (from an average o f 4.6 percent during 1990-1999 to an average o f 3
percent between 2000 and 2002), demonstrating that growth volatility did not affect as much the traditional
sectors o f growth
5
percent o f GDP in 2002 due to stagnating tax revenues and unchecked growth in
expenditures, associated, inter alia, with increases in interest payments, higher-thanplanned rises in wages, investments in the state telecom and electricity company (ICE),
and Central Bank losses.
11.
Debt levels, rose from 44.9 percent o f GDP in 1999 to 51.9 percent o f GDP in
2002 (Table 2). At end-2002, about 60 percent o f the public sector debt was
denominated in foreign currency and a growing share i s at floating interest rates, making
public finances vulnerable to a real depreciation o f the colon or increases in international
interest rates. Moreover, unfavorable terms o f trade and fiscal imbalances have been
contributing to an external current account deficit since 1996, which has been financed
since the late 1990s by large inflows o f foreign direct investment. The growing external
imbalance reflected a decline in the terms o f trade over the last three years, due mostly to
low international coffee and banana prices, increased o i l prices, and the downturn in the
U.S. technology sector, all o f which resulted in a reduction in Costa Rica’s net exports,
highlighting the country’s continued vulnerability to external developments despite great
progress in export diversification.
In 2003, however, Costa Rica’s economic performance was significantly stronger.
12.
According to the latest official information, the annual rate o f growth o f the economy
was 5.6 percent, and, if the contribution o f the high-tech industry to GDP is excluded,
real growth in 2003 reached 4.4 percent. Exports increased by 16 percent driven by a
pick-up in tourism (6.1 %), high technology industries (8.6%), and non-traditional
agriculture (4.7%). Consequently GDP growth in 2003 was much higher than originally
anticipated, while the external current account deficit remained at 5.7 percent o f GDP
(same level o f 2002) and the level o f total public debt increased to 54.7 percent o f GDP
(versus 51.9 in 2002). The inflation rate closed at 9.4 percent, slightly higher than in
2002 (9.2 percent).
13.
In light o f the unfavorable economic trends over the 2000-2002 period and the
structural weaknesses they demonstrated, the newly-installed Pacheco administration
launched a formal Economic Recovery Plan through a process o f public debate and
consensus building with a wide range o f political actors and civil society. The main goals
of the Plan are to increase economic growth and reduce poverty by eliminating the fiscal
deficit and giving specific support to tourism, agriculture and small and medium
enterprises. In the short-term, however, government efforts are focused on two key
objectives: fiscal reform and a new free trade agreement with the United States
(CAFTA). To address the fiscal deficit, the Government adopted a very tight budget for
2003 aimed at reducing the deficit to 3 percent, via a one year Fiscal Emergency Package
(approved in December 2002) and an associated expenditure control plan. However, at
end-2003 the overall public sector deficit was 4.1 percent o f GDP, reflecting slippages
with respect to both spending and revenues. On the revenue side, a comprehensive tax
reform package - aimed at providing Costa Rica with a tax system that would increase
revenue, eliminate the distortions created by multiple taxes, reduce tax evasion and
contribute to fairness and competitiveness - has been under discussion for over a year and
a half, following its presentation to Congress in July 2002. While the package is expected
6
to be approved in the second quarter o f 2004, important changes have been introduced
that may dilute i t s revenue generating impact. Progress on CAFTA has been more
encouraging, as discussed further in para. 17 below.
Table 2: Selected Economic Indicators
(as YOo f GDP, unless otherwise indicated)
1990
Real Growth Rates
GDP at market prices (mp)
GDP (mp) excluding High Tech Industry
Inflation (average, % change)
GDP per capita
3.6
.,.
19.0
1.4
As percentage o f GDP, unless otherwise noted
Gross Domestic Investment (as % o f GDP)
Gross National Savings (as % o f GDP)
Current account balance
N e t reserves (months o f imports o f GNFS)
Foreign direct investment
Total public sector revenues
Total public sector expenditures
Public sector primary balance
Overall public sector deficit
Total public debt
Domestic
External
External public debt service (% o f exports o f GNFS)
Interest on external debt (% o f exports o f GNFS)
20.8
12.3
-8.0
0.3
2.2
...
..*
...
...
67.1
17.6
49.5
22.8
8.3
1999 2000 2001 2002 2003*
8.2
2.8
10.0
5.7
1.8
2.9
11.0
-0.5
1.0
3.2
11.3
-1.0
2.9
3.0
9.2
0.9
5.6
4.4
9.4
3.6
17.1
12.0
-4.3
2.1
3.9
19.8
23.5
0.6
-3.7
44.9
25.6
19.3
6.6
2.4
17.1
12.6
-4.4
2.0
2.5
20.7
25.1
0.5
-4.4
45.9
26.2
19.8
7.6
2.6
20.1
13.3
-4.5
2.3
2.8
22.3
26.1
1.2
-3.8
48.3
28.5
19.8
10.4
3.4
22.2
14.0
-5.7
2.5
3.9
22.0
27.7
-0.5
-5.7
51.9
32.0
19.8
9.7
3.3
20.6
14.5
-5.7
2.7
3.4
21.7
25.8
0.9
-4.1
54.7
33.4
21.4
13.2
3.0
* Data for 2003 are ureliminaw estimates.
See Annex B6 for a complete list o f economic indicators.
Source: Central Bank of Costa Rica and IMF.
GNFS =goods and non-factor services.
14.
Financial Sector. At the request o f Government and in close coordination with
its economic team, the Bank and the IMF carried out a joint Financial Sector Assessment
Program (FSAP) in 2001-02. That exercise identified several issues, including weak bank
supervision, undercapitalized public banks which represent about 75 percent o f total
banking deposits; the preferential tax and regulatory status that public banks enjoy over
private banks; and lack o f a clear bank resolution framework. At the same time, about 60
percent o f loans o f the consolidated (onshore and offshore) banking system are dollar
denominated, increasing the balance sheet risks o f devaluation. Progress has been made
in implementing the recommendations following the findings o f the FSAP and the
government% aware of, and committed to, implementing further steps to strengthen the
financial sector.
7
15.
The FSAP also highlighted some potential weaknesses o f the current exchange
rate system. Since the early 1980s, Costa Rica has followed a somewhat flexible
exchange rate crawl, in the sense that the devaluation rate has been regularly adjusted
(usually on a yearly basis) to compensate for differentials o f past inflation between Costa
Rica and its main trading partners. In addition, the central bank has adjusted interest rates
upwards to defend international reserves in times o f turbulence. The exchange rate
regime has considerable credibility in Costa Rica and has avoided large real exchange
rate overvaluations and currency crises. However, by trading short-term real certainty
against long-term nominal uncertainty, through the systematic targeting o f the real
exchange rate, rather than inflation, the current regime has promoted dollarization.
The FSAP also signals that the exchange rate crawl, together with the central
16.
bank’s negative net worth and the weak fiscal situation, limit the capacity to reduce and
stabilize inflation. Inflation has been around 10 percent for the last five years and lower
inflation would facilitate monetary management by reducing uncertainty in real interest
rates and limiting incentives for dollarization. However, an essential condition to achieve
sustainable inflation stabilization i s that the central bank be recapitalized, so as to
eliminate its operating losses. Early 2004, the Government announced a strategy for the
capitalization o f the Central Bank that will take place over the next three years. To that
end, in January 2004, the Government’s external bond issue o f US$250 million w i l l be
used to partly recapitalize the central bank.
17.
Trade and Competitiveness. Negotiations on CAFTA were successfully
completed in January 2004. Following ratification by the Costa Rican and U S
Congresses, the treaty would consolidate Costa Rica’s access to i t s major market for both
exports and imports and is expected to further boost trade, foreign direct investment and
growth. CAFTA will provide a more permanent framework for trade expansion than that
currently available through the Caribbean Basin Initiative, which is temporary and
subject to unilateral changes by the US. CAFTA is expected to extend benefits beyond
the trade arena, providing disciplines for the non-discriminatory treatment o f investors,
dispute resolution, protection o f intellectual property rights and other areas that are likely
to strengthen perceptions o f Costa Rica’s commitment to stable rules o f the game and
attract further investments. Currently, Costa Rica i s reviewing its regulatory and
institutional frameworks for trade and investment, with a view to ensuring that
complementary measures are in place to take maximum advantage o f the opportunities
afforded by CAFTA.
18.
The CAFTA agreement signed by Costa Rica is an important instrument to
promote trade expansion. However, it i s also an important indicator o f the national
commitment toward modernization o f the economy and the creation o f a more
competitive environment. In the past, Costa Rican had been reluctant to entertain
privatization and private participation in infrastructure, with certain key sectors telecommunications, insurance, energy- subject to considerable restrictions andor closed
to private participation andlor foreign investment. With the signing o f CAFTA, the
Government o f Costa Rica has accepted opening up to private participation, both
domestic as well as foreign, the provision o f cellular telephone services, internet, private
8
data networks and the provision o f both voluntary and mandatory insurance services.
Opening to private participation w i l l be gradual and results w i l l begin to materialize as
early as December 2004, and with sectors fully opened by 2008.
By and large, Costa Rica has an open international trade and investment regime
19.
and investors have been attracted by i t s political and economic stability and its welleducated labor force. The legal framework i s conducive to attracting foreign direct
investment as the investment requirements do not discriminate between foreign and
national investors. The World Economic Forum Microeconomics Competitiveness
Ranking provides a useful starting point to assess the business environment o f a country
by conducting qualitative surveys on the state o f factors such as physical infrastructure,
logistics, human resources, capital markets and competition policies. Among 80
countries surveyed, Costa Rica ranked 44 in the index for 2003, making it the leader
among Central American countries. The Global Competitiveness Report also highlights
Costa Rica’s notable strength in areas such as research and development, labor-employer
relations and quality o f management schools.
20.
In spite o f Costa Rica’s past accomplishments and enviable competitiveness
position, the country faces some important challenges that call for attention in the years
to come. The Global Competitiveness report identifies three major areas where Costa
Rica shows competitive disadvantages: overall infrastructure quality, venture capital
availability and administrative burden for startups. Regarding infrastructure provision,
investments in this area are carried out by public companies that have and continued to
face fiscal constraints, preventing them from undertaking new projects. As a result,
coverage has not improved, especially in areas such as water and sanitation, ports, and
telecommunications; maintenance has deteriorated in some areas; and quality has
suffered.
21.
The Doing Business Survey, conducted by the World Bank, provides additional
information on the obstacles to growth that firms face in relation to starting a business,
labor regulation, contract enforcement, and credit registries and procedures for closing a
business. In terms o f business registration costs and procedures, Costa Rica ranks
relatively well when compared to other Central American countries, especially with
respect to the necessary expenses to start a business. However, there i s s t i l l room for
advances to reduce the number o f days needed for registration where Costa Rica ranks
lower than some o f i t s Central American neighbors. In terms o f contract enforcement,
evidence suggest that many indicators for Costa Rica lag behind other Central American
countries. This difference i s especially important in the case o f the duration o f procedures
and the costs associated with them. In addition, evidence suggests that Costa Rica has
relatively complex procedures for enforcement o f contracts.
C.
Poverty, Gender and Social Development
Poverty Trends As noted earlier, Costa Rica made substantial progress in
reducing headcount poverty and improving social sector indicators over the 1990s, driven
largely by economic growth and significant public investment in the social sectors. As a
22.
9
result, the proportion o f people below the poverty line declined from 3 1.9 percent in 1991
to 20.6 percent in 2000, while extreme poverty declined from 11.7 percent to 6.1 percent
in the same period, as can be seen in Chart 2 below. At end 2003, official data from a
survey made by the National Statistics and Census Bureau shows that the number o f
families living in poverty decreased to 18.5 percent. This i s the first time in five years
that this index shows a significant drop. The survey also found that the percentage o f
families living in extreme poverty decreased to 5.1 percent in 2003.
Chart 2. Costa Rica Poverty Incidence 1991-2003
(as o f YOof total households)
35.m
3.0%
25.0Dh
20.oo/o
15.@h
1o.m
5.m
O.CP/a
I
31Yh
1
I
294%
1
I
232%
X)Ph
204%
1
I
216%
X)Ph
1
I
19Ph
1
I
I
20699 1 206%
1
20Yh
1
I
206%
1859
Gender Costa Rica has also made significant progress in closing gender
23.
disparities. A reduction in the total fertility rate from 7 children in the 1950s to 2.8 in
2000 has facilitated women's entry into the labor force, while taking the pressure o f f men
as the main family providers. Women now comprise over 30 percent o f the economically
active population, compared to 25 percent on average for Central American as a whole.
Costa Rica has also successfully closed the education gender gap, although some new
disparities are emerging, especially at the secondary level. Currently enrollments levels
for males and females are roughly equal at primary and tertiary levels, but girls
outnumber boys at secondary level (1 11:lOO). For the population as a whole literacy is
higher among women than men. Costa Rica does well in terms o f the gender wage gap.
In 2000, women's salaries were 86.3 percent that o f men's salaries, which is a much
smaller gap than that prevailing in many OECD countries, L i f e expectancy at birth for
females i s about 5 years higher than for males, approximating the difference prevailing in
higher-income countries. However, there are gender issues which deserve continuing
policy attention: (i)there is an increasing share o f women-led households among families
10
living in extreme poverty; (ii)
women, together with young adults (less than 25 years old)
the adolescent fertility rate o f 85 per
show the highest open unemployment rates; and (iii)
1,000 in women aged 15-19 i s greater than the average for Latin America (75 per 1,000
adolescent women).
24.
Social Inclusion Costa Rica’s success in reducing the poverty headcount - an
undeniably significant achievement
has not yet, however, overcome the social
exclusion o f indigenous peoples and Costa Ricans o f African descent, who are
disproportionately represented among the poorest 5 percent o f Costa Rican households.
Indigenous households, which comprise about 1.7 percent o f the Costa Rican population,
s t i l l live in conditions o f extreme poverty, about 42 percent in indigenous territories and
the remainder in surrounding areas or in urban centers (principally San Jose). In part, this
reflects the fact that the National Commission for Indigenous Affairs has not been fully
effective in fulfilling its mandate o f defending indigenous rights and coordinating across
sectors to ensure that development programs are adapted to indigenous needs. The AfroCosta Rican population, too, continues to be concentrated in the poorest parts o f the
country (Limon province and the immediate vicinity). While a small minority has
attained social and financial success and some important advances are apparent in
education and national political participation, it remains the case that Afro-Costa Ricans,
like the country’s indigenous inhabitants, disproportionately experience low human
capital development, high unemployment, and limited access to infrastructure services.
--
25.
Over the past decade or so, Costa Rica i s grappling with a new challenge to i t s
efforts to reduce poverty and promote social inclusion- namely accelerating immigration
from neighboring Nicaragua. Currently, 8.8 percent o f the population i s o f Nicaraguan
origin? Thus far, Costa Rica has shown a unique attitude within L A C countries in
maintaining a policy o f social inclusion vis a vis Nicaraguan immigrants, including
promotion o f respect for diversity and non-discrimination in labor polices and the
provision o f social services. Despite these efforts, the welfare o f Nicaraguan migrants i s
noticeably below that o f the rest o f the Costa Rican population. Currently 7.1 percent o f
Nicaraguan households in Costa Rica live in shanty-towns (versus 1.5 percent o f Costa
Rican households), and only 38.8 percent o f children o f Nicaraguan origin aged between
13-19 years attend school (versus 61.3 o f Costa Rican origin). To avert increasing social
tension, renewed efforts are needed to develop a coherent policy framework to deal with
the formalization o f immigrants and the adoption o f actions to reduce opportunity gaps
o f Nicaraguan immigrants in accessing education, housing and qualified employment,
and reinforce a culture o f recognition and tolerance.
D.
Human Capital Development
26.
As discussed at the outset o f this document, Costa Rica’s strong and sustained
effort with respect to strengthening social services has had important pay-offs for the
welfare o f its population. Overall, the main human development indicators are far above
those o f neighboring countries and have shown considerable improvement over time: life
expectancy at birth i s close to 78 years, the infant mortality rate was 11 per thousand live
FLASCO, based on MEC, July 2002
11
births in 2001, access to safe drinking water i s around 80 percent, primary enrollment i s
near-universal and illiteracy has dropped to only 5 percent o f the population over 12
years o f age.
27.
Currently, Costa Rica spends more on social services, relative to GDP and as a
share o f public expenditures, than other countries in Latin America, and considerably
more than the average for other countries at similar stages o f development outside the
region, Over the last ten years, Costa Rica's total public spending grew seventy percent
in real terms, and the share o f public spending allocated to the social sectors increased
from 59 percent to 63 percent, with spending in education and pensions growing more
rapidly than spending in health and social protection. The level o f spending, and the fact
that many social programs are well designed and targeted, will help Costa Rica attain the
MDGs. Nonetheless, continued attention to improvements in sector resource use and
management is needed in some o f the social sectors, given the country's tight fiscal
situation which leaves little room for continued increases in social spending to address
the service gaps and coverage needs. In this context, the Government i s currently
developing a strategy to improve the institutional framework to coordinate the
implementation o f social programs and to improve coverage for the rural and poorest,
most vulnerable population groups. The Bank has assisted in this effort via a study on
social expenditures which i s summarized in Annex C. The study highlights priorities for
education, health and social protection in meeting the needs o f the poor, and includes
policy recommendations aimed at improving the impact o f existing resources.
28,
Education Costa Rica has made major advances in the education sector, reaching
nearly universal primary coverage and low rates o f illiteracy, and has gone further than
most countries in introducing modern technology. There have been some improvements
in secondary education enrollment, increasing from 40 percent in 1990 to nearly 50
percent by 1999 and further increasing to 54 percent by 2001. By 2002, 97% o f all
children aged 7-12, 61% o f adolescents aged 13-15, and 61% o f youth aged 16-18 were
enrolled in different levels o f the education system.
29.
Despite increases in spending and in coverage rates, high repetition and dropout
rates indicate that system performance has not kept pace over the decade. The problem
o f over-age children i s worrisome, parti'cularly in the last years o f secondary school.
Twelve percent o f children aged 10 are already behind in terms o f the appropriate grade
for age, and the problem increases with age to 30% o f children by age 12, 50% o f
adolescents by age 13, and 62% o f youth by age 18. In terms o f school completion, only
78.4% o f children finalize the primary cycle, 53.4% finalize the third cycle (grades 7-9),
and 33% the secondary cycle (grades 11-12). These indicators are significantly worse for
the poor and rural populations.
30.
There are concerns regarding equity in education achievements in all grades and
the situation did not improve in the 1990s despite substantial increases in spending. In
1999, 92% o f all children in the highest income groups but only 62% in the lowest
income groups completed primary schooling, and the rate for the latter group was the
same as in 1990. Overall, only 15% o f 20 year olds from the lowest income quartile
12
have completed 12 years o f education, whereas the proportion i s 4 times higher for the
highest income quartile. During the period 1995-1999, enrollment in lower secondary
increased for the wealthiest quartile from 90.8% to 92.4%, but decreased slightly, from
67.8% to 66.8%, for the lowest income quartile. During the same period, preschool
enrollment o f 5 year-olds from the highest income quintile increased by 25%, but only by
18% for the rest o f children in the age group.
Health The Constitution o f Costa Rica requires the State to finance and ensure
31.
the provision o f far-reaching social services to the people. A result o f this mandate is the
establishment o f a universal health system, which gave the State an overwhelming
presence in the health sector. Starting in the 60s, efforts to strengthen the health system
focused on public sector financing and delivery. However, factors such as the poor
organization and the lack o f incentives to use resources efficiently and effectively
exposed the health system to significant risks that threatened the attainment o f the
Government’s goals. To correct these problems, the authorities put in place a wideranging health sector reform at the beginning o f the 90s that received support from key
stakeholders as well as from all political parties.
32.
A s a result, the efficiency o f public resource use increased and outcomes
improved. By the end o f the 1990s, health conditions in Costa Rica were among the best
in LAC: life expectancy at birth was about 8 years higher than the L A C average;
mortality rates in infants and children under five were about 4 times lower; and health
insurance coverage reached 65% o f the labor force3. The coverage o f primary healthcare
was further expanded and hospital productivity increased. At the same time, public health
spending was reduced from 6.7% o f GDP in 1990 to 5.3% o f GDP in 1999. The strong
national commitment to the reform and government leadership in promoting dialogue and
consensus-building for change underpins the reform effort.
33.
Social Assistance Costa Rica has a well-established social assistance network
which spends an estimated o f 1.5 - 1.8 percent o f GDP per year to protect vulnerable
groups and to deliver a wide variety o f social programs. There are, however, critical gaps
in social assistance provided to key vulnerable groups such as inadequate coverage o f
programs for poor children under five years o f age and for the elderly poor. The
importance o f increasing the effectiveness o f i t s programs is underscored by the fact that
Costa Rica spends a much higher percentage o f GDP on social assistance than other
similar countries. There have been recent improvements in program coordination and a
few programs have been eliminated, but efforts are needed to continue improving the
system. Targeting o f most safety net programs has been traditionally weak but it i s
anticipated that the introduction o f a new system that selects beneficiaries for a number o f
programs, such as the school voucher and scholarship programs, school stipends to poor
children, and other direct income support programs operated by the Instituto M i x t o de
Ayuda Social (IMAS), should improve the situation.
Social Sector Reform to Improve Poverty Outcomes: Lessons from Costa Rica and El Salvador WB
Report, October 2003
13
IV. COSTA RICA’S DEVELOPMENT CHALLENGES
34.
As the preceding analysis indicates, Costa Rica is in a strong position vis a vis its
Latin American neighbors as it enters the new century, but faces a number o f challenges
in continuing i t s impressive record o f sustainable growth, continued poverty reduction
and social equity in an increasingly integrated and competitive global economy. The
Costa Rican Government has identified four main challenges: maintaining
macroeconomic stability, strengthening trade and competitiveness, sustaining social
progress with particular attention to reaching indigenous and Afro-Costa Ricans, and
continuing Costa Rica’s leadership on environmental issues. These challenges and the
Govemment’s strategy for addressing them are summarized below.
A.
Maintaining Macroeconomic Stability
35.
Putting the economy back on a sustainable growth path requires dealing with
recent deterioration in fiscal accounts and improving monetary and financial policies. The
strategy should include actions on four fronts: (i)achieving fiscal sustainability; (ii)
strengthening public sector debt management and debt market development; (iii)
strengthening monetary policies to address the dollarization risk; and (iv) continuing the
reform o f the financial sector to avoid macroeconomic and fiscal risks.
36.
Achieving fiscal sustainability. The noticeable deterioration in public finances
since 1999 i s fundamentally explained by a combination o f sluggish tax revenues and
inflexible public expenditures. While part o f the growing domestic debt is cyclical,
stemming from depressed international conditions and slow domestic growth, structural
deficiencies on both the revenue and expenditure front require prompt action to avoid
longer term sustainability problems,
37.
In order to address fiscal imbalances, Costa Rica needs to deepen reform efforts in
two key areas. The first i s the modernization o f the tax structure. The system would
benefit from replacement o f the current sales tax with a true value-added tax with fewer
exemptions, as well as applying income taxes to all income, regardless o f whether
generated in Costa Rica or abroad. The second is the rationalization o f public
expenditures, including the removal o f some o f the rigidities that have been gradually
introduced into the budget and that leave little room for discretionary fiscal policy. In
2001, over 60 percent o f expenditures covered wages, pensions and interest costs, while
47 percent o f tax revenues were earmarked for specific expenditures! Public expenditure
reform also requires improved prioritization o f investment expenditures and better
targeting o f social protection programs.
The Government’s strategy to address the above challenges i s defined in its
38.
Economic Recovery Plan.’ In relation to fiscal sustainability, the government i s aware
Agenda de Transformacion Fiscal para el Desarrollo. Report prepared by the Ad-hoc Commission o f
Former Finance Ministers in April 2002.
* The “Plan de ReactivacibnEconomica 2002 - 2006” was prepared by the Economic Counsel and
launched by the Govemment in July 2002.
14
that a significant improvement in public finances i s needed and the strategy includes (i)
the adoption o f an emergency tax package and o f a strong expenditure reduction program,
that took place in 2003; (ii)enhanced efforts in tax administration and the approval o f a
comprehensive Fiscal Reform, that w i l l ensure fiscal sustainability in the medium term;
(iii)the restructuring o f the Public Sector debt; (iv) the strengthening o f customs
administration; and (v) the implementation o f the Public Sector Budget Law aimed at
improving the budget administration and promoting transparency and accountability
39
Strengthening Public Debt Management and Domestic Debt Market
Development.6 Weak public debt management can contribute to high real interest rates
and vulnerability to external interest and exchange rate shocks. Prudent management o f
the risks inherent in a debt portfolio and development o f a deep and liquid domestic debt
market go hand in hand with assuring short- and long-term funding o f the fiscal deficit.
In addition to its high level, the structure o f Costa Rica’s domestic public debt also is
risky in terms o f i t s exposure to exchange rate and interest rate shocks and i t s relatively
short maturity.
During the past few years, the authorities have been making important progress in
40.
modernizing public debt management. However, this progress has been divided among
different government and central bank units. The key reason for this division i s the
quasi-fiscal deficit o f the Central Bank (BCCR), which requires that, in addition to the
debt issued by Tesoreria, BCCR also issues debt both for open market operations
(OMOs) as well as funding its deficit. As a result, debt issuance objectives are
sometimes conflicting, and this has led to a lack o f an integrated strategy for managing
the aggregate public sector debt portfolio and i t s risk implications for the government
balance sheet, and for developing the domestic debt markets.
41.
To strengthen and modernize public debt management it will be necessary to
focus on issues such as governance, strategy and risk management; and institutional
capacity building. The government requested participation in the Bank Treasury’s
program for public debt management and domestic debt market development, and the
Country Assessment has been carried out. The government has begun to develop a reform
plan to strengthen debt management as well as the development o f the debt markets. The
reform plan will be designed by country officials from the BCCR and Bank staff from
Treasury who are involved in debt management and debt analysis, together with officials
from the three key Superintendence in the areas o f Securities, Pensions, and Banking.
Annex D summarizes the Costa Rica Country Assessment in Debt Management and
Domestic Debt Market Development.
Strengthening monetary policy. Dollarization i s on an increasing trend, starting
42.
from an already-high level. According to the recent financial sector assessment, 45
percent o f deposits and 50 percent o f loans o f the onshore banking system are dollardenominated. As all operations o f offshore banks are in dollars, about 60 percent o f loans
o f the consolidated (onshore and offshore) banking system are dollar denominated. The
Based on the joint World Bank-IMF Aide Memoire o f the Public Debt Managementand Domestic Debt
Market Development Country Assessment.
15
consolidated private banking system i s much more dollarized than the public system.
Over 75 percent o f private bank loans are in dollars, compared to 47 percent in the case
o f the consolidated public banks; and it is estimated that about half o f onshore dollar
loans are to debtors whose incomes are not in dollars, which increases the vulnerability o f
the system to exchange rate shocks.
43.
Costa Rican authorities are aware that the high degree o f dollarization i s a major
vulnerability and the challenge i s to strengthen the macroeconomic framework to better
balance the risks o f the transactions in colones and dollars. Dollarization in Costa Rica
also appears to reflect other factors, including increasing international integration and
uncertainties about public sector debt sustainability, which undermines the role o f the
colon as a store o f value, fostering deposit dollarization, and raises the domestic real
interest rate, contributing to loan dollarization. The authorities are taking steps to reverse
this trend, such as: removing distortions that favor lending in U S dollars (eliminating
differentiated tax treatment o f deposits in different currencies, increasing provisioning on
dollar loans, raising capital requirements on dollar loans) and encouraging banks to build
their dollar liquidity.
’
The Bank-Fund financial
44.
Continuing the Reform o f the Financial Sector
sector assessment (FSA) o f Costa Rica, based on information available as o f end-2001,
presented an overview o f the country’s financial system, key vulnerabilities and a set o f
recommendations. Besides the findings related to weak bank supervision,
undercapitalized public banks and preferential regulatory status that public banks enjoy
over private banks, the study indicated that the entry o f the private sector into the
financial system has not been accompanied by a well-defined bank resolution strategy for
public financial entities. Private financial entities, which initially competed among
themselves in businesses not dominated by public banks, such as offshore banking and
fund management, have been increasingly competing with public banks. At the same
time, public banks correctly argue that the elimination o f certain privileges implies a
slow death o f public banks under the pressures o f competition, unless the governance and
administrative constraints on the public banks’ capacity to compete are simultaneously
lifted. In order to increase the performance o f the financial sector in i t s key role o f
intermediating resources for investment, the financial assessment also recommended
among other things, the elimination o f obstacles to a level playing field for all financial
institutions.
45.
In 2002 the government launched a comprehensive effort to address financial
sector challenges with a series o f reforms aimed at strengthening prudential regulations,
bank supervision and the financial system safety net. The government’s strategy also
includes the insurance sector, which at present constitutes a state monopoly, preventing
the development o f domestic insurance markets, and limiting consumer choice.
Regarding anti-money laundering, important progress has been made in strengthening the
anti money laundering legislation. Reforms approved by Congress in early 2002 aligned
the anti-money laundering law closer with international standards, while the
Based on the Financial Sector Assessment (FSAP) report for Costa Rica that was completed in August
2002 and discussed extensively with the authorities on September and November 2002
16
,
Superintendency o f Financial Intermediaries (SUGEF) issued new guidelines and rules
establishing the minimum standards that are to be complied with by Costa Rican
institutions. However, there are some remaining areas for improvement and the Bank i s
ready to discuss policy measures to further improve AMLlCFT systems and seek ways to
provide necessary assistance. The authorities have incorporated the recommendations of
the FSAP into a reform agenda, within a coherent plan that sets out priorities, allocates
institutional responsibilities, and provides for coordination mechanisms. Annex E
summarizes the main findings and recommendations of the financial sector assessment,
as well as the salient measures adopted by the authorities since year 2002.
B.
StrengtheningTrade and Competitiveness
Although overall, Costa Rica’s business environment compares well to the rest o f
46.
LAC, there i s s t i l l ground for further gains in order to provide the basis for sustainable
growth. To further improve the investment climate and facilitate private-sector led
growth, key areas o f attention include: (i)administrative simplification; (ii)continue
lowering obstacles to Costa Rican exports through CAFTA and other bilateral, regional
and global agreements; (iii)broaden access to financial services; (iv) improve key
infrastructure; and (v) invest in innovation and technology.
Administrative Simplification As mentioned elsewhere, Costa Rica has a long
47.
l i s t o f accomplishments and an enviable position in the area o f competitiveness.
However, the country faces some challenges with respect to administrative simplification,
where the country has began to lose ground vis a vis i t s main competitors and some o f its
regional neighbors. Areas that require attention and improvements include: (i)labor
markets are over-regulated, (ii)enforcement o f contracts can be cumbersome, time
consuming and expensive; (iii)
procedures for creation o f new firms are time consuming
even though they are l o w cost; (iv) taxation at central and local level is relatively
complex; (v) custom procedures could be streamlined; (vi) business regulations and
registration procedures could be improved and Costa Rica could strive for a simpler,
streamlined, and digitalized process, making it possible for investors to apply online for
company registration.
48.
Supporting Trade Costa Rica’s trade openness is high, near the top in LAC,
with the ratio of trade to GDP reaching 70 percent in 2002. The high exposure o f the
economy to international markets has been a key-driving factor behind the positive
growth and diversification record o f recent years. High levels o f trade are due to tradefriendly policies including unilateral trade liberalization since the mid 1980’s,
complemented by an aggressive agenda o f bilateral and regional free trade agreements.
In January 2004 Costa Rica successfully completed free trade negotiations with the
United States. This treaty i s expected to (i)boost exports by making permanent and
expanding the Caribbean Basin Initiative trade preferences currently enjoyed by Costa
Ricans exporters and (ii)improve perceptions o f the investment climate by locking-in
many o f the reforms o f recent years and thus attract new national and foreign investment.
In addition, CAFTA is expected to consolidate the Central American Common Market
trading block. Key challenges that Costa Rica will face in the implementation o f CAFTA
17
include how to derive the most benefit from new trade opportunities, how to ensure that
the benefits o f the treaty spillover to all segments o f the population, and how to cushion
the potential negative impact on a few sensitive protected activities (mainly traditional
agricultural activities). On the latter, Costa Rica was able to obtain a long tariff phaseout periods (10 - 20 years) for most o f its sensitive crops, as well as the exclusion o f
tariff reduction commitments for potatoes and onions.
In the area o f private participation CAFTA presents important challenges to the
49.
government and the country at large, including
e
e
e
e
Designing and adopting new legislation for ICE (Instituto Costarricenese de
Electricidad) in 2004. The plan i s to obtain Congress approval o f a new
Telecommunications Law in 2004.
Creation o f a new regulatory agency for the telecommunication and the insurance
industry in 2006. In telecommunications, Costa Rica has a regulatory entity,
ARESEP, that mainly reviews tariffs, but it will have to re-engineer it or create a
new entity to oversee the telecom sector, as the issues become much more
complex in a liberalized and competitive market.
Developing the legal and institutional framework for private participation in
internet and data networking in 2006, in cellular telephony in 2007, for the
purchase o f insurance through foreign private providers as soon as CAFTA enters
into effect, and for the creation o f private companies providing voluntary
insurance in 2008. Finally, in 201 1, Costa Rica will have to be ready with the
legal and institutional framework to allow for the creation o f private companies
providing mandatory insurance services.
Providing the space and mechanisms to allow for consultation and consensus
building in support for the reforms and ensure that private participation i s
compatible with the country’s policies o f universal service coverage and social
protection.
Broadening Access to Financial Services. The financial sector i s increasingly
50.
diversified, though centered on banking intermediation. Credit i s allocated on market
terms, although the state-owned banks sometimes act as development banks for those
activities deemed to be o f public interest, such as SMEs. The four state-owned banks
accounted at end 2002 for more than 50 percent o f the banking system, but the 17 private
banks have been steadily increasing their share. While banks account for the lion’s share
of financial sector assets (77 percent), investment funds (mutual funds and pension funds)
have grown rapidly in recent years. While small and medium enterprises s t i l l face
constraints in accessing credit, some positive developments are apparent on which Costa
Rica hopes to build: first, increased competition in the banking sector - driven by the
rise in private banks -- has meant that both private and public banks are seeking to
expand their customer base; and, second, a number o f non-governmental foundations
have arisen which focus on providing small and medium enterprises with better access to
credit through indirect and direct financial assistance.
18
5 1.
Improving Key Infrastructure. Given the reduction in public sector
investments in the recent past, Costa Rica’s efficiency indicators in the key infrastructure
sectors are starting to lag behind other countries, especially compared to countries which
compete with Costa Rica in attracting investments, Sustained economic growth requires
significant investment in infrastructure that the public sector will continue to face
difficulties in undertaking given Costa Rica’s severe fiscal constraints. Consequently,
there i s a need for increasing cash generation by service providers and for attracting
private sector investment in all infrastructure areas. Although political circumstances in
the recent past have not favored privatization, efforts are being made to build support
towards a greater participation o f the private sector through management contracts and
concessions to encourage private investment in key areas o f the economy, including
roads, airports, ports, electricity, telecommunications and water and sanitation
infrastructure. In this context, regulatory uncertainty regarding private sector
participation in the sector should be addressed. If not addressed, it could raise the level
o f regulatory risk perceived by investors, and limit private investment to the sector.
52.
Investing in Innovation and Technology. Costa Rica displays an efficient and
functional National Innovation System. The amount o f patents produced per dollar
invested in R&D i s high for L A C and worldwide standards. This i s due to the higher
quality o f research institutions and the strong collaboration between public and private
efforts. However, Costa Rica’s indicators o f innovation performance (Le., number o f
patents and scientific publications) are not above international norms mainly due to l o w
levels o f R&D expenditure, a characteristic that it shares with most L A C countries.
Recent Bank analytical work suggests that Costa Rica should be investing more in R&D
than in the 1990s due to the high economic returns to this type o f investment.
C.
Sustaining Social Progress
53.
The past decade has demonstrated that significant improvements are possible in
the socioeconomic condition o f the poor when economic growth is combined with social
programs that are well designed to reach the poor. However, progress in poverty
reduction and social sector performance has been uneven, and there are important gaps
between rich and poor. Sustained progress w i l l have to rely on better use o f expenditures,
as further increases in social spending i s likely to be limited by fiscal and financial
constraints.
54.
The impact o f social spending in Costa Rica could be improved with the creation
o f mechanisms that exploit synergies, reduce program overlaps, and improve overall
effectiveness of programs in the areas o f education, health, and social protection. The
strategy o f the Government is to progressively improve the impact o f social spending and
ensure poverty reduction even in periods o f slower growth, through the implementation
o f the recommendations o f the Social Spending and the Poor study in education, health
and social protection.
*
’
Based on the Document ofthe World Bank “Costa Rican Social Spending and the Poor” finalized in
October 3 1,2003.
19
Education Despite commitment o f a high share o f public resources to the
55.
education sector, outcomes have been mixed. Compared to other middle income
countries, Costa Rica has better than average education outcomes (especially so in
primary education), but these outcomes are uneven across regions, rural and urban areas,
and across income groups. In secondary education, however, outcomes are considerably
below average, even when spending outpaces other medium income countries. Evidence
shows that education services in Costa Rica are not sufficiently reaching the poor, 65
percent o f whom live in rural areas. In order to redress the situation, the Government
expects to achieve improvements in the following areas: (i)quality o f rural education
(formal and non-formal modalities); (ii)secondary education access through creative and
cost-effective education strategies; (iii)student-centered pedagogical strategies and
pertinent curriculum application supported by teacher training, educational materials and
technology; (iv) equity o f access, specifically improving targeting and impact o f
education demand-side programs managed by the Ministry o f Public Education (MEP)
and other institutions such as IMAS (school vouchers, cash transfers to poor families,
scholarships, transportation, and school meals); (v) efficiency and synergies among
education sector institutions and optimization o f allocated resources; and (vi)
collaboration with the productive and corporate sector to increase school-to-work
opportunities and develop pertinent skills and competences.
Health In order to keep the achievement o f health related MDGs by 2015 on
56.
track, improve the quality and equity o f health care, and assure financial sustainability o f
its almost universal health insurance system, the Costa Rican government i s committed to
continue the health reform process started in the early 1990s by: (i)strengthening the
stewardship role o f Government on the sector; (ii)improving performance o f the well
extended primary health care model, integrating better targeted health education and
public health programs; (iii)further developing the separation o f the purchasing and
provision functions within the public system and streamlining the corporate structure and
procedures o f the Caja Costarricense de Seguro Social; (iv) increasing management and
financial autonomy and capacity o f health providers in the public sector; (v) reducing
current disparities in expenditures levels by region; (vi) increasing performance o f public
facilities by reforming the payment and incentive mechanisms; (vii) substituting
unnecessary hospital care with more efficient care modalities; (viii) optimizing the
prescription, utilization and procurement o f pharmaceuticals and medical supplies; (ix)
strengthening collection o f social security revenues and the financial information system
o f the Caja Costarricense de Seguro Social; and finally, (x) developing alternative
delivery arrangements through public-private partnerships.
57.
UN AIDS estimates the prevalence o f HIV in the adult population o f Costa Rica
at 0.6%. At this level o f prevalence, the epidemic i s s t i l l believed to be largely
concentrated among high-risk groups. Like many countries, Costa Rica's surveillance
system has major problems o f coverage, under-diagnosis and under-reporting o f HIV. A
sentinel HIV prevalence survey i s underway in the country which should yield later this
year more information about the epidemic. Most funding for H I V I A I D S prevention and
treatment comes from domestic public and private spending. Costa Rica's Social Security
20
System finances anti-retroviral treatment for people living with HIVIAIDS. In terms o f
external assistance, the Global Fund to Fight AIDS, TB, and Malaria signed a grant
agreement in July 2003 for $2.3 million for Costa Rica for a two-year program o f HIV
prevention and comprehensive care. As o f January, 2004, only $100,000 had been
disbursed.
58.
Water and Sanitation Costa Rica has made meaningful progress in expansion o f
water services in urban areas over the past decade. In 2000, Approximately 98 percent o f
the urban population was connected to water supply. A similar percentage was either
connected to public sewerage or individual septic systems. Rural coverage i s lower, with
about 75 percent o f the population connected to public water supply and about 97 percent
connected to sanitation services, mostly through the use o f septic tanks. Coverage rates in
water and sanitation countrywide mask significant shortcomings in the quality o f service.
Water systems are operating with high water losses, In addition, only about 70 percent o f
the population receives water o f potable quality per estimates o f A and A’s National
Water Laboratory. As for sanitation services, 96 percent o f all urban wastewater collected
i s discharged into rivers and receiving bodies without any treatment, generating
respective public health risks and water resources contamination problems. In the
metropolitan area o f San Jose, only 47 percent o f the population is connected to sewerage
networks, which discharge raw sewage to the water courses that cross the city. Overall,
the country water production capacity is very close to current demand, so the risk o f
future water deficits i s high.
59.
Going forward, the Government o f Costa Rica envisages maintaining urban water
coverage at 98.5 percent and a drastic increase coverage o f urban sewerage from 21 to 89
percent by 2020. It also envisages an increase in rural water supply from 75 to 90
percent over the same period.
The total investment required for implementing this
program would amount to about US$1.6 billion or approximately US$SO million per
year, reflecting the many years o f neglect in the maintenance o f A and A’s assets. This
corresponds to four times the average annual investment during 1991-1998 and over five
times the amount during the eighties. In the past, over 60 percent o f the sector
investments came from government resources, half o f which was financed by multilateral
loans. However, given the current investment needs o f the sector, the government can no
longer continue to provide such a level o f support. The main problems faced by the water
and sanitation sector in Costa Rica are: (i)outdated centralized sector model and
inadequate sector policy framework; (ii)unsatisfactory performance o f service providers
and low quality o f provided services; (iii)large backlog in sanitation infrastructure; (iv)
high investment needs in the sector; and (v) low tariffs and poor cost recovery.
Social Assistance Although Costa Rica has a well-established social assistance
60.
network aimed at protecting vulnerable groups, spending priorities in social assistance
need an urgent change. To offer better services, avoid duplications and reduce costs,
institutions need to be strengthened and modernized. Priority actions should be taken in
the following fronts: (i)improve coordination and reduce program duplication; (ii)
introduce legislative changes to the law that governs the Social Development Fund, so
that the government may change spending priorities according to needs, allowing a rapid
21
respond to crisis times; (iii)improve targeting mechanisms and apply them to allocate
resources and select beneficiaries in social sector agencies, particularly FODESAF,
IMAS and the CCSS; (iv) reorganize social assistance programs within IMAS to improve
effectiveness, increase coverage, and reach the poorest and more undeserved population;
and (v) complete coverage o f the poor by non-contributory assistance pension programs
D.
Continuing The Leadership I n Environmental Management
6 1.
Costa Rica has in many ways been at the forefront o f sustainable environmental
practices:
pioneering debt-for-nature swaps in the mid- L980s, putting in place
institutional structures and responsibilities for environmental management, and
establishing ecological reserves covering close to 25 percent o f the country’s territory.
Given Costa Rica’s rich biodiversity - about 5 percent o f known species worldwide - it
has been a world leader in environmental issues and has developed markets for global
and local environmental services, providing the country with a source o f foreign
exchange and contributing to rural development. The country’s progressive
environmental policies have fostered the development o f an important eco-tourism
industry, the conservation o f biodiversity, the preservation o f important forest ecosystems
on privately-owned lands, the promotion o f the sale o f environmental services by private
sector forest owners, the valorization o f environmental services by private forest owners,
and the production and sale o f certified environmentally friendly products.
62.
Despite its pioneering leadership and remarkable progress in environmental
management and biodiversity conservation the Government faces a major challenge namely achievement o f financial sustainability in the sector. This is an ongoing issue o f
great importance because the conservation and sustainable use o f Costa Rica’s natural
wealth is dependent to a large degree on a substantial Government role in maintenance o f
the vast national park system, the payments for environmental services, and the many
other roles the ministry plays. The budget o f the Ministry o f Environment in Costa Rica
i s larger than that o f all other ministries o f environment in Central America combined,
and improving the financial sustainability o f its programs is critical.
63.
Other challenges which could affect Costa Rica’s leadership and image in the
environmental sector lie: (i)in the water and sanitation sector, where improvements in
management and performance urgently needed (see para 57 above); and (ii) in the
exploration o f the nexus between agriculture and the environment. Both the Ministry o f
Environment and o f Agriculture are strongly committed to finding solutions that will
allow for a productive, sustainable agriculture both reduces poverty among smallholders
and incorporates conservation practices that are fully integrated into the rural landscape.
Costa Rica has already advanced considerably in this area and has marketed certified
environmentally friendly products in many parts o f the world.
22
V.
A.
WORLD BANK GROUP’S COUNTRY RELATIONS
The Last CAS: Impact and Lessonsg
64.
The World Bank’s Board o f Directors discussed the last CAS, in conjunction with
S A L I11 o f $100 million, in March 1993. It proposed lending o f about US$280 million
for the period 1993-1997, to support a continuation o f the Government’s adjustment
efforts in the areas o f public sector reform, financial sector reform, trade and the
regulatory framework, and also a selective program o f investment loans in the water and
sanitation, urban, health, transport, education and forestry sectors. The adjustment loan
straddled two administrations and after a number o f extensions was cancelled two years
later under President Figueres’ Administration (1994-98) following mutual agreement
that the tranche release conditions were unlikely to be met in the foreseeable future. The
process leading up to the cancellation o f the adjustment loan negatively affected Bank
relations with the Figueres Government. In 1995, the Government requested Bank
management not to consider new lending, since i t s extremely tight fiscal position would
not allow it to provide the necessary counterpart funding. Instead, it was agreed that the
Bank would focus on ensuring effective implementation o f the ongoing portfolio and the
provision o f non-lending services that could help the country implement i t s reform
program.
65.
The Government o f President Rodriguez, (1998-2002) appreciated the nonlending support provided by the Bank and was also keen to reestablish a lending
relationship, Two new IBRD projects were approved: Ecomarkets (FYOl) and Health
Sector Strengthening and Modernization (FY02). During this period, the Bank also
continued to support reform efforts through formal sector work, non-reimbursable
technical assistance, grants, and analytical and advisory services in the areas o f pension
and financial sector reforms, investment o f international reserves, energy environment,
forest conservation, bio-diversity, social programs, health, education, gender and
information technology. A total o f about US$18.9 million in grant funding (PHRD, GEF,
IDF) was provided between FY98 and FY2002. (see Annex B4)
66,
The CAS Completion Review (CASCR) in Annex Bla, analyses the relationship
between Costa Rica and the Bank since the last CAS, Drawing both on the FYOO
Country Assistance Evaluation (CAE) carried out by OED and the L A C Region’s own
assessments o f past experience the CASCR emphasizes the following lessons:
a
Given Costa Rica’s institutional environment, a thorough and inclusive process to
build wide social support i s needed to get National Assembly approval and to
implement reforms, hence Bank lending should focus on areas where a broad
consensus has already been forged as to both the need for reform and the general
direction o f expected reforms. This i s especially true given the political context
’See Annex B l a for a fuller discussionofthe evaluation o f the contribution o f the Bank’s program in
Costa Rica and the lessons learned during the previous CAS period (1993-1997).
23
e
B.
described in paragraph 8 and the potential for delays in key initiatives given the
role o f the Constitutional Chamber (Sala IV).
In Costa Rica’s case, it may not always be appropriate to link potentially
productive individual projects to broad sector-policy reforms. When trade and
price policies are crucial for the results of an investment project, the Bank should
ensure that the proper environment i s in place before the project i s approved, but
not as condition for effectiveness.
The Bank can effectively partner with Costa Rica via non-lending activities
including well-focused ESW, advisory services and grants in areas o f mutual
interest. In several areas, including the social sectors and the financial sector, the
Bank’s support for analysis and policy dialogue helped build a consensus on the
need for reforms and change. Similarly, IDF, GEF and PHRD grants have
contributed, through studies, analyses, capacity building and evaluation o f pilot
activities, to build consensus around sectoral policies and programs. Finally,
well-focused and structured advisory services (such as the R A M P program) have
clearly helped build considerable capacity within the public sector.
Current Bank Group Program
67.
IBRD and GEF Assistance
The implementation capacity among the
Government and the different entities i s quite strong and the portfolio implementation o f
Costa Rica has been good. Over the past three decades 87% o f Bank projects achieved
satisfactory development outcomes, compared with 70% for L A C and 74% Bank-wide.
The Bank’s current lending portfolio in Costa Rica includes two projects: The
Ecomarkets Project ($32.6 million approved in FYOl) and the Health Sector
Strengthening and Modernization Project ($17.0 million approved in FY02). The
portfolio also contains two GEF grants for Biodiversity and Ecomarkets, with net
commitments o f US$15 million. In the absence o f significant new lending over the past
decade, analytical and advisory activities became an important vehicle o f Bank
assistance, including the Poverty Assessment update (FY97); Pension Reform Strategy
(FY99); INTEL’S Plant Report (FY98); Reserves Advisory and Management Program
(FY02); Social Spending and the Poor (FY02) and Financial Sector Assessment Program
(FY02).
68.
Ecomarkets Project Costa Rica’s progressive environmental policies have
fostered the development o f an important eco-tourism industry and the Bank has been
helping Costa Rica to address some cutting edge environmental problems through the
Ecomarkets project. This project is financed by a combination o f an IBRD loan, and
grants from the GEF and the Prototype Carbon Fund and aims to foster biodiversity
conservation and preserve important forest ecosystems on privately owned lands outside
o f government protected areas in the Mesoamerican Biological Corridor. The Bank,
through the Prototype Carbon Fund (PCF) and related carbon finance vehicles, has taken
a leading role in the early implementation o f the Kyoto Protocol and can be help to
further develop Costa Rica’s growing carbon trading market by new project development,
capacity building and replication o f best practices. Special efforts are undertaken to link
24
carbon finance benefits to community development and poverty reduction. Current
efforts are centered on the Renewable Energy Umbrella Project, which replaces fossilfired electricity generation with a package o f mini-hydro and wind sub-projects. Further
potential has been identified for projects that aim to use landfill gas for power generation
and thereby further improve sustainable waste management practices, for new renewable
electricity projects, and for activities in the forestrylland management and transport
sectors.
69.
Health Sector ~odernizutjonProject The health reforms in Costa Rica, which
have been supported from their inception by the World Bank, have contributed to further
reduce poverty in the country, from i t s already low levels by Latin American standards.
As a result o f the advances made, the challenges facing Costa Rica’s health sector are
now similar to those facing much more advanced countries. As part o f the Health
Strengthening and Modernization Project, the Bank is supporting the Government o f
Costa Rica to improve health system performance and financial sustainability by
supporting the ongoing policy changes in the health sector in Costa Rica. Most o f these
changes are part o f second-phase reforms in the Costa Rican Social Security Institute
(CCSS). For the short- to medium-term, these policy changes will: (i)align the
organizational and functional structure o f the CCSS with recent changes separating
financing, purchasing and provision o f health services at all levels; (ii)promote
improvements in quality and fulfillment o f consumer rights, as well as the efficiency and
effectiveness o f the Ministry o f Health (MOH) as a regulatory agency, by strengthening
the institutional and regulatory framework; (iii)
improve the quality and efficiency o f the
CCSS health delivery system by supporting decentralization o f decision-making,
consolidation o f the primary care delivery network based on a population-based system,
and introduction o f performance-based incentives for providers; (iv) reduce inefficiencies
in the pharmaceutical sub-sector and promote rational drug use by introducing changes in
the planning, purchasing and distribution o f pharmaceuticals and supplies; (v) develop
financial mechanisms that will improve the equitable distribution o f resources, improve
efficiency in the provider payment mechanisms and strengthen the CCSS’s capacity to
collect payroll contributions; and (vi) improve targeting o f public social expenditures by
updating and strengthening the current system (SIPO) and improved sectoral coordination
among human development actors: CCSS, MOH, MEP, and IMAS.
70.
In addition to lending in support o f sector-wide reform in health, the World Bank
i s also supporting policy dialogue and analysis on how best to contain and reverse the
HIV epidemic in Costa Rica. In 2002 the World Bank developed a tool to help countries
better understand which prevention activities should be well funded if the HIV epidemic
i s truly to be reversed as soon as possible. The tool is called the Allocation by Costeffectiveness (ABC) Model and was applied in a participatory workshop in Costa Rica in
early February 2004. The model helps policymakers, NGOs, donors, and representatives
o f civil society determine the resource allocation that will prevent the maximum number
o f new HIV infections at any given budget level. The model can be used to simulate the
effect o f alternative resource allocations and generate consensus around the HIV
prevention interventions that have the greatest impact on the epidemic.
25
71.
International Finance Corporation IFC’s strategy since the 1993 CAS was to
invest in viable manufacturing, education, infrastructure, tourism and financial sector
projects to help diversify the economy and support private sector growth. During this
period, however, IFC’s activity was limited due in part to a considerable role that has
been played by the state sector in the economy, and significant public opposition to
reforms, which inhibited further opening o f various sectors to private participation, IFC’s
strategy in the infrastructure sector has focused on supporting viable projects that could
demonstrate the existence o f attractive private sector opportunities with a high
developmental impact. Such i s the case o f the FYOl U S 1 2 0 million (including US$S5
million from participants) committed investment for the Juan Santamaria International
Airport project approved in FYOl -- 1FC’s largest ever investment in Costa Rica. Thus
far, this investment has been affected by uncertainties related to the tariff methodology,
as the Contraloria issued a report invalidating some o f the costs inputs used by the
government. Negotiations between the Government and the sponsors on t h i s issue are
advancing. The outcome o f the negotiations will likely have an impact on future private
sector participation in other infrastructure projects.
72.
IFC’s portfolio, as at the end o f November 2003, amounted to U S 1 8 2 million
(US$97 million for IFC’s own account and US$S5 million for the account o f participants)
by the held balance (including the outstanding and the undisbursed). A large part o f the
portfolio consisted o f investments in infrastructure, retail trade, and the financial sector.
During the FY99-04 period (through November 2003), six projects have been committed
totaling US$212 million (including US$S5 million for the account o f participants), in
retail trade, finance, health, infrastructure, and agribusiness. This includes the airport
investment mentioned above and a FY99 US$40 million financing to assist a Costa Rican
retail operation to expand, not only in Costa Rica but to other Central American countries
and the Dominican Republic. In November 2003, IFC also committed US$20 million
financing for Banco Interfin, a leading private sector bank in Costa Rica. The
investment, which followed IFC’s two previous credit lines primarily for SME onlending, US$5 million in FY93 (fully repaid) and US$15 million in FYOl, would be used
for SME on-lending, and the bank’s capital strengthening, among others.
73.
Multilateral Investment Guarantee Agency (MIGA) Costa Rica became a
member o f MIGA in February 1994. The outstanding portfolio in Costa Rica consists o f
15 contracts o f guarantee, o f which 11 are in the tourism sector, two in the infrastructure
and two in the manufacturing sectors, with a total gross exposure o f US152.4 million
and net exposure o f US$128.3 million. During FY03, one project totaling US$81 million
in the tourism sector was executed in Costa Rica. MIGA has not had any technical
assistance engagements in Costa Rica in recent years, however, MIGA’s on-line
investment promotion services partner with two organizations who provide investment
promotion content: The ComitC de Zonas Francas de las AmCricas (CZFA) - based in
Costa Rica - concluded FDI Xchange Content Partner cooperation agreement with MIGA
in July 2003; and the Costa Rican Investment Board (CINDE) concluded the F D I
Exchange Content Partner cooperation agreement with MIGA in October 2002. MIGA’s
on-line investment promotion services feature 119 documents on investment
opportunities and the related legal and regulatory environment in Costa Rica.
26
C.
Country Assistance Strategy FY04 - N O 7
74.
This CAS envisages a highly selective program o f lending and non-lending
services, focused less on resource transfer objectives and more on knowledge sharing and
advisory services in areas o f mutual interest - Le., where Costa Rica’s successful poverty
reduction and economic diversification efforts and pioneering leadership in
environmental management would be instructive for other Bank clients as well as areas in
which the Bank’s global experience could benefit Costa Rica’s efforts to address second
generation problems in key sectors. Given the very tight fiscal situation in Costa Rica,
the Government has indicated that it i s only interested in projects that “pay for
themselves” through efficiency gains leading to cost-savings or revenue generation from
tariff increases. The CAS will seek to support the country’s development objectives
through: (i)selective priority investment projects in education, water and sanitation,
environment, infrastructure, agriculture, and information and communications
technologies ; (ii)knowledge and advisory services to support reforms in critical areas o f
public sector debt management, domestic debt market development, financial sector
reform, Central Bank management o f international reserves and to support greater private
participation in infrastructure; and (iii)economic and sector work, including the five core
diagnostic studies, an investment climate assessment and regional studies on key issues
for Central America. Table 3 below summarizes the Bank’s assistance program for FY
2004-2007.
CAS Results Framework The Government of Costa Rica and the Bank have
75.
agreed to develop this country strategy as a result-based CAS. The results monitoring
framework i s shown in Annex Blb. The approach which w i l l be implemented and
refined over time, was constructed on the basis o f Costa Rica’s development challenges
outlined in this proposed country strategy. The monitoring indicators were developed
jointly with the Government and Government i s fully committed to achieving the results
specified. Progress toward the medium-term outcomes, to which the government and all
its partners, including the Bank Group, contribute, should be achievable within the CAS
period (2004-2007) and will be monitored using intermediate indicators and the
Government’s own data collection and monitoring and evaluation systems. The results
framework lays out planned lending and non-lending Bank activities which contribute
towards specific outcomes during the CAS implementation period. Progress within the
framework would be reviewed during periodic joint program reviews between the
government and the Bank’s country team. I t should be noted that the indicators to be
monitored are already effectively collected on a regular basis by the Ministry o f Finance,
the Central Bank, the General Comptroller’s Office and the sectoral line ministries. Bank
staff has reviewed the existing systems for data collection and information related to the
results identified and found them to be of adequate quality to enable meaningful
monitoring o f development progress.
27
76.
Lending The CAS envisages a lending program o f about US$218 million, which
would involve six operations covering the period 2004-2007. Three areas where the
preparation o f new lending operations are relatively advanced are: (i)education, where
the Bank is partnering with Government to develop a new approach to tackling remaining
the water and sanitation sector, where
inequity and efficiency problems in the sector; (ii)
the Bank in partnership with the Government o f Japan (JBIC) i s proposing a new
approach to tackle problems o f coverage, quality and sustainability; and (iii)Puerto
Limon area (one o f the poorest areas o f the country), which aims to transform the city
into a regional center o f economic growth, contributing to alleviate poverty and
inequalities particularly for the Afro-Costa Rican population, as well as improving the
overall competitiveness o f the country. In addition, the CAS envisages a possible followon environmental project aimed at improving financial sustainability in the sector, a small
e-Government learning and innovation loan aimed at improving public sector efficiency
and citizen services through rationalized information technology applications, and an
Agriculture Sector project aimed at helping the smallholders, including ethnic minorities,
fare adequately under the more competitive conditions which will likely result from the
CAFTA agreement.
77.
The proposed lending program, albeit quite modest, represents an increase in both
the scope and size o f Bank lending compared to the last decade. The Govemment i s
clear about the areas where they would like Bank support and i s not interested at this
stage in discussing additional lending under a high case scenario. As usual, a CAS
Progress Report would be prepared in case o f significant changes to the CAS program
laid out in this report, for example if during CAS implementation the Government
should request additional lending. Conversely, in case o f adverse developments - for
example if portfolio implementation were to deteriorate, or continued difficulties on the
fiscal side were to lead to problems with counterpart funding the Bank would review
with the Government whether to proceed with the lending operations in the outer years.
-
78.
Education Project
(FY04 US830 million) During the development and
preparation o f the Education Loan, the Bank has supported the development o f the
Ministry o f Education’s “Plan de Relanzamiento Educativo” which aims at closing the
quality and equity gaps between rural and urban education, while improving the
efficiency o f the education sector institutions and the resources allocated to them. The
Project w i l l support Costa Rica’s education policies in the following areas: (i)
increasing
quality and equity o f rural education; (ii)improving targeting and impact o f the education
equity programs (scholarships, school meals, school transportation, and conditional
transfers for l o w income families), and (iii)strengthening the efficiency o f the existing
institutional capacity o f the education sector, at the central, regional and school levels.
The Project will support an innovative mechanism including targeting and monitoring
tools (Sistema de Informacion de Rezago Educativo, SIRE) to identify and support those
municipalities with the lowest level o f education indicators (mostly rural). Such targeted
support should also take into account those municipalities with a majority o f indigenous
people, and would explore possibilities to introduce bilingual/inter-cultural education.
The proposed implementation strategy will promote coordination, synergy and efficiency
o f the existing capacity o f the Ministry o f Education and i t s operational and technical
29
units. Regional Departments and Schools will be involved in defining strategies and
investments to achieve the education policies targeted by the Project. Both institutions
administrating the Equity Programs and the school level community participation entities
called (Juntas Escolares y Administrativas), which already receive an important share o f
the education budget, will be strengthened so that they can be more effective in
improving education outcomes
79.
~ o ~ e r n i z a t i oonf the Water and Sanitation Sector (FY0.5 US$70) The
development objectives o f the project are: to initiate the modernization process o f the
water and sanitation sector in Costa Rica; and to complete the construction o f the sewage
collection, conveyance and treatment system o f the metropolitan area o f San JosC. The
project would be composed o f the following components: (i)development and
implementation o f a Design Built Operate (DBO) contract for collection, treatment and
disposal o f the wastewater o f San Jose to be managed by a private operator; (ii)
development and implementation o f a contract for hiring a private operator to manage the
commercial operations o f the water and sewage public enterprise (AyA); (iii)
modernization o f financing mechanisms for water and sanitation services in rural areas;
(iv) development and implementation o f a pilot program for incorporating the private
sector in the provision o f W&S services in four medium size cities; (v) preparation and
implementation o f a program for reduction o f unaccounted for water; (vi) development o f
a long term strategy for water supply in the metropolitan area o f San JosC; (vii)
implementation o f an institutional reform o f the sector and o f AyA; and (viii)
strengthening o f environmental management capacity. The estimated project cost
amounts to US$230 million. J3IC demonstrated interest to finance component A, which
has an estimated cost o f about U S $ 160 million.
80.
Port City of Limon (FY05 US$ 70 million) The long-term purpose o f this project
i s to collaborate in the transformation o f the Port-City o f Limon into a regional center o f
economic growth, thus helping to improve the country’s overall competitiveness and to
alleviate the city’s very high poverty rate and social inequalities particularly with respect
to the black population. Achieving this would require working both at the national and
local level, developing soft skills and capacities, carrying out reforms and upgrading the
quality o f infrastructure facilities and services locally. This i s an ambitious agenda, which
cannot be fulfilled within the term o f a typical investment project. Under that perspective,
the project i s conceived as a first step towards that direction, with development objectives
less ambitious than the one stated before. The key development objective would be to
improve the business environment within the port, and revitalizing the urban situation o f
the city o f Limon. The project would seek to: (i)improve the port’s business environment
and build consensus regarding subsequent and more complex reforms needed to ensure
long-term sustainability; (ii)revitalize the urban environment in the conurbation o f
Limon; (iii)leverage the interface and synergies between the port and the city; and (iv)
reduce poverty and increase social inclusion o f Afro-Costa Rican households in the
Province through the provisioning o f increased economic opportunities and their active
and informed participation in project related activities
30
.
Environment/Ecom~rkets 11 Project (FY06 US$30 million) This loan w i l l be
81.
focused on enhancing the financial sustainability and value added o f the country's
protected area system (public and private). Having made a major decision on the use o f
such a large part o f its land, the country could generate much greater returns from i t s
protected areas by improving access and making parts accessible to tourists with
minimum facilities such as small museums, paths, and other amenities which in turn
could generate substantial returns from higher entrance fees. I t is anticipated that the
park system would become financially sustainable, rather than a burden on public
finances. The same is true for the payments for environmental services, where a more
concerted effort to extend the (small) fees to more users could also make this close to self
sustaining, while protecting the environment and reducing poverty. In addition to the
Ecomarkets Loan 11, the proposed GEF grant for the Central-America Indigenous
Integrated Ecosystem Management Project would also support the conservation and use
o f the rich natural resources by indigenous communities in Costa Rica.
82,
E-Government Citizens Services Learning Innovation Loan (LILj (FY06 US3)
The key objective o f this loan would be to increase public sector efficiency and improve
citizens' access to public services via a coherent and coordinated application o f
information technology applications and provision o f web-based services to the general
public. The project would support: (i)
Government's efforts to devise a coherent strategy
and detailed time-bound action plan for how to integrate the different disjointed I T based
systems currently operating in the public sector; and (ii)
implementation o f key aspects o f
the "integrating strategy". This effort would include a critical review o f the Digital
Govemment Program (DGP), an assessment o f the steps and resources needed to
integrate the already-operational IT based systems with new applications, and a reformatting o f the DGP, to adjust it to the requirements o f possible inputslsupport from
donor agencies. In the course o f project preparation and implementation, the Bank would
also help formulate a strategy to help secure the funding necessary to fully implement the
"integrating strategy" above. In this regard, the Bank would help facilitate donor
coordination and donor financing to leverage grants from different funds and agencies in
support o f the different IT components o f the Costa Rican Digital Government Program.
83.
Agriculture Project (FY07 US$15) Since the 1980's Costa Rica has made an
extraordinary effort to increase and diversity i t s exports. This has been especially
important as the world market prices o f most traditional exports, including coffee, have
continued to decline. The agricultural sector has been particularly successful at
diversifying: basic grains which are noncompetitive have largely been eliminated, and
substituted by a number o f nontraditional exports including shrimp, tropical fruit, agroindustrial products, sustainable products (organic, fair trade, etc), root crops, ornamentals
and many others. However, there is concern how the smallholders w i l l fare under
CAFTA. The Bank will help Costa Rica address this concern with a proposed operation
which would better prepare the agricultural smallholder sector for this heightened
competition and new opportunities under CAFTA.
31
84.
IFC Strategy. In Central America, IFC's support to the countries i s provided at
both the country and the regional level. The small economies o f the Central American
region would benefit from economies o f scale, through greater integration o f their
physical and financial infrastructure. In the case o f IFC, the regional approach has
increased investment opportunities in Central America. In the Central American region,
IFC i s focusing on: (i)physical infrastructure; (ii)strengthening and deepening the
financial sector; (iii)supporting competitive f i r m s in agriculture and industry; and (iv)
promoting investments into Central America from other Latin American and emerging
market economies. The strategy in Costa Rica has focused more on pursuing investment
opportunities, when they arise, in (i)regional capital markets development and possible
strengthening of local financial institutions, (ii)viable manufacturing and service
projects, and (iii)the agricultural sector. These will continue to be IFC's strategy pillars
in Costa Rica during this new CAS period.
85.
Knowledge and Advisory Services A key focus i s assistance in the area o f
public debt management and domestic debt market development, following the
completion o f an initial country assessment by the Bank in July 2003. The Bank i s also
providing training in reserves management to Central Bank staff. Following the
completion of an FSAP for Costa Rica, the government has indicated interest in
continued Bank support for the implementation o f financial sector reforms via technical
assistance and other advisory services. This will be pursued, possibly with support from a
recently established donor supported grant facility (FIRST) to assist the FSAP follow-up.
Finally, the Government has requested technical assistance to improve infrastructure
through public-private partnerships, with initial priority given to telecommunications.
86.
The Public Debt Manag~mentand Debt Market Development Country Assessment
and Action Plan The objective o f Bank involvement is to provide support to the Costa
Rican authorities to develop an action plan, based on a detailed World Bank assessment,
to improve the government's capacity in central government debt and cash management
(including management o f financial guarantees), and in the development o f the domestic
debt market. This project will require the active participation o f the authorities to support
the areas that need strengthening, propose strategies for their resolution and implement
the action plan. The Bank has already begun to provide advice and assistance, helping to
ensure coherence of the overall process and act as catalyst to coordinate efforts across
institutions.
87.
Reserves Advisory and Management Program @AMP)
Under RAMP, the
Treasury i s managing a part o f BCCR's foreign exchange reserves and providing
technical advisory services aimed at upgrading the internal and international reserves
management capacity. The engagement was initiated in December 200 1 and significant
progress has been made in building internal capacity. Over the first two years, TRE has
sent about 10 on-site missions and around 18 staff from BCCR has been to Washington
for training. The Central Bank o f Costa Rica entered into the third year o f the asset
management and capacity building engagement with the World Bank Treasury. The
engagement encompasses governance, investment strategy, portfolio management and
analytics and systems support. The BCCR has to date met all o f the performance
32
objectives set out in the original needs assessment and annual project plans. The term o f
such engagements i s limited to three years and BCCR i s on track to "graduate" from the
program in December 2004. TRE fully expects, however, to continue a collaborative
relationship with the BCCR to sustain the progress made to date. The program has
constituted an extremely useful non-lending facility aimed at strengthening the internal
and international reserves management capacity o f the Central Bank o f Costa Rica.
88.
Financial Sector Assessment and its Implementation The Bank assistance would
support the main recommendations o f the FSAP such as the establishment o f effective
consolidated supervision; leveling o f the playing field for public and private banks;
strengthening o f the system for crisis management; opening up o f the insurance state
monopoly to competition; and, modernization o f the pension system. The messages o f the
FSA Report, recently published through the World Bank website, particularly the
messages regarding public banks and the risks o f unsupervised offshore banking, have
generated a healthy public debate on reform options. The World Bank has started to help
enrich the debate through recent presentations by Bank members at the Costa Rica's I11
Banking Association Congress (June and August 2003) that have been well received and
have created a good environment for further policy dialogue with World Bank
participation. Finally, following the signing o f CAFTA, Costa Rica would gradually open
up its insurance sector and with the help o f the World Bank has started to prepare a
diagnostic report that would include a medium-term strategy. The Bank assistance will
concentrate on: (i)the preparation o f a draft insurance law; (ii)the report on the
a market evaluation; and (iv) a strategy
observance o f standards and codes (ROSC); (iii)
for the reform taking into consideration the framework o f the free trade agreement.
Financial Sector Reform and strengthen in^ Initiative (FIRST) This i s a multi89.
donor joint venture being undertaken by the World Bank, IMF, the UK, Switzerland,
Canada, the Netherlands, and Sweden, and has been set up, among other things, to fund
follow-up to FSAPs, covering: banking systems and supervision; capital markets,
domestic debt markets and management; financial systems diversification; and all other
areas relevant to financial sector integrity and development. The Costa Rican authorities
have showed considerable interest in accessing FIRST funds to finance assistance for the
financial sector reform and following a FIRST mission to Costa Rica in June 2003, the
Bank i s working with the Costa Rican Authorities in a joint identification o f reform
priorities and derived TA work programs.
90.
Technical Assistance to Improve I n ~ a s ~ u c t u r ethrough public-private
Partnersh~s. As previously mentioned, Costa Rica's capacity to compete in export
markets, i t s capacity to maintain i t s competitiveness as a destination for foreign
investments and, in general, the business climate is affected by the quality and coverage
of i t s infrastructure. New investments to improve coverage and quality have not kept pace
with growing needs. Public companies continue to face fiscal constraints, preventing
them from undertaking new projects. Bank assistance to Costa Rica will be aimed at
facilitating private involvement in the financing, operation, rehabilitation, maintenance,
or management o f eligible infrastructure services. Bank involvement in this area will
include: (i)developing strategies and measures to tap the full potential o f private
33
involvement in infrastructure in ways compatible with Costa Rica’s traditions and
existing legislation, (ii)identifying, disseminating, and promoting relevant best practices;
(iii)
building consensus for appropriate policy, regulatory, and institutional reforms; (iv)
designing and implementing specific policy, regulatory, and institutional reforms in areas
identified by the Government; (v) supporting the design and implementation o f
pioneering projects and transactions, (vi) building government capacity in the design and
execution o f private infrastructure arrangements and in the regulation o f private service
providers.
91.
The Government o f Costa Rica and the Bank have agreed that during this CAS
period, it will be o f high priority to support the country meet the challenges associated
with C A F T A in the area o f telecommunications. Even though the support for private
participation will include other sector such as roads and water, the telecommunication
sector will be the highest priority, specially in areas such as: (i) preparation o f new
telecommunications law and regulations; (ii)assistance to the new telecom regulator to
grant new licenses for cellular mobile service, internet and data services, international
service and private networks; (iii)assistance to develop the new regulator staff and
capacity building; (iv) assistance to prepare a strategic plan for the management and
monitoring o f the radio frequency spectrum.
92.
Tax incentives assistance through Foreign Investment Advisory Service (FUS).
The FIAS Program i s considering providing additional assistance to Costa Rica on tax
incentives and an acceptable effective tax burden for high-tech industries. The assistance
will involve a review of the relative importance o f tax issues for these industries in their
international location strategies, with the purpose to inform the parliamentary debates
about the planned tax reform, as well as setting the country’s investment strategy with
respect to high-tech industries. This work i s a follow-up assistance to the one completed
in early 200 1 on the issue o f tax reform.
Economic and Sector W o r k In carrying out the core diagnostic ESW required
93.
for active Bank Borrowers, the Bank proposes to focus the analysis on specific topics o f
particular interest and strategic relevance to Costa Rica. The sources o f growth and
competitiveness, with particular attention to addressing the bottlenecks in infrastructure
through greater participation o f the private sector, would be covered in a Country
Economic Memorandum (CEM) in FYOS. The Poverty Assessment (FY05) w i l l focus on
recent poverty and inequality trends and in-depth analysis o f why the growth elasticity o f
poverty was low during 1994-2002 , as well as the implications o f migration. A Public
Expenditure Review (PER) would further update social spending analysis, including
expenditure tracking to support monitoring and evaluation o f specific programs in FY06.
94.
Country Financial Accountab j ~ Assessment
i ~
and Country Procurement
Assessment. The C F A A will analyze and give advice on financial management practices
in the public sector, thereby supporting the Government strategy to improve public
finances and administrative simplification in key areas: modernization o f tax and customs
administration, operational implementation o f the Public Financial Management and
Budget Law, effective use o f the integrated financial management system, and sound
34
mechanisms to track public expenditures - particularly in the social sectors. The CFAA
will also analyze the implementation o f the internal and external control norms for
transparency and accountability, Regarding the country procurement assessment, the
Bank has limited direct experience in Costa Rica and has relied upon what i s known from
an earlier CPAR prepared by IADB. The new CPAR should highlight a few issues such
as: ex-ante as well as ex-post controls by Contraloria, which may cause undue delays in
awarding contracts; gaps in the regulatory framework and procurement law not covering
semi-autonomous entities such as public utilities that carry out the bulk o f procurement;
new e-procurement initiatives; lack o f capacity of executing agencies and Ministries to
prepare bidding documents; and lack o f experienced procurement staff among civil
servants. Following previous successful experiences in Latin America, the Bank w i l l
seek to conduct the CFAA and CPARjointly with the IDB.
95.
Regional Studies There are several region-wide initiatives in the Bank's
analytical pipeline that w i l l benefit Costa Rica. A planned Central America wide regional
study on CAFTA will be completed in FY04, to be followed in FY05 by a regional study
on Trade Facilitation and Logistics, both o f which should support the design o f an agenda
to obtain maximum benefits from the free trade agreement with the US. ALSO,an analysis
o f the Drivers o f Rural Growth in Central America (FY05) i s expected to develop new
insights into rural development strategies with a strong emphasis on geographic
considerations. Finally, social protection issues related to shocks in the countryside will
be the subject o f the Central America-wide study on Shocks and Social Protection
(FY04).
96.
Investment Climate Assessment As mentioned before, Costa Rica has achieved a
relatively good competitive position among the CAFTA countries but shows some areas
for further improvement. To overcome limitations inherent in qualitative and subjective
surveys and to provide a useful tool for policy design, the World Bank has designed the
Investment Climate Assessment (ICA) which consists o f a large survey followed by in
depth studies o f conditions related to the investment and business environment in which
the f i r m s operate. To meet this challenges and simplify business registration and
operation, the Government o f Costa Rica and the Bank have agreed on the
implementation o f an Investment Climate Assessment (FY05), that will collect and
analyze information and formulate recommendations on issues such as investment
approval and licensing; other authorizations require form private companies;
businesslcompany registration; central bank and finance ministry (income tax, VAT)
registration or approvals; required registrations with statistical offices, social security, labor,
etc.; immigration and expatriate visas, work permits, and residence permits; local and
municipal business licenses; access to land and land titles or long-term leases; construction
and building permits; environmental permits and approvals; utility hook-ups (including
telephone, water, sewerage, and electricity); selected sectoral approvals (from line
ministries); general regional or municipal authorizations (if any); and formalities required
after firms begin operations, such import'export clearances and licenses, labor, health or
safety inspections, tax and customs reporting and reimbursements, etc. The assessment will
identify the number o f days required to complete each stage o f the investment process
could detail the costs o f each step o f the process. The I C A will provide policymakers with
35
information to make policy decisions that address Costa Rica’s most pressing bottlenecks
for businesses. The I C A i s part o f a broader approach to faster private sector
competitiveness in Costa Rica and complements other activities in the CAS, including the
proposed Water and Sanitation Project, the Puerto-Limon Project, the Financial Sector
Assessment and Financial Sector Reform and Strengthening Initiative (FIRST) and the
Regional Study o f Trade Facilitation and Logistics. The Bank would be open to discuss
avenues for supporting the implementation o f the I C A recommendations.
D.
Coordination with Partners
97.
There i s no formal aid coordination mechanism in place for Costa Rica (the last
CG meeting, chaired by the Bank, was held in 1993), and the Government coordinates
assistance programs directly with each o f i t s creditors. The Bank has been coordinating
with other partners on specific projects and activities, such as education, environment and
financial reform, We will continue to work closely with the Government and its creditors
to ensure complementarity and coordination o f the respective assistance programs.
98.
Inter-American Development Bank (IDB) The short and medium term
objective o f the IADB Strategy with Costa Rica i s to accelerate economic growth as a
necessary condition to reduce poverty. This objective could be achieved creating a
favorable environment for business and improving competitiveness in the production o f
goods and services through two strategic axis: (i)
consolidate macroeconomic stability,
mainly reducing fiscal deficit; and (ii)develop production to facilitate the integration
process to the regional and world economy, and take full advantage o f trade
liberalization. IDB i s Costa Rica’s largest lender with a total net commitment o f $592
million and an undisbursed portfolio o f US$204 million at end February 2004. The
program contains a hybrid operation” o f $350 million that will support fiscal reforms
aimed at creating a stable macroeconomic environment, and will fund public sector
investments for road improvements, secondary education, modernization o f technology,
strengthening o f the capacity o f the public sector to manage foreign trade, development
o f a competitiveness strategy, improvement o f the business climate, and helping the
adjustment o f the small and medium enterprises to free trade. The program also includes
another policy based loan o f $100 million intended to strengthen public expenditure
efficiency. These operations will be coordinated with the Bank’s proposed operations
under this CAS . IDB and other donor operations and their links to development
challenges are shown in Table 4.
99.
To the extent that the first stage objectives are attained, the strategy would
continue supporting the strengthening o f fiscal discipline with a second stage o f the
program consisting o f a second “hybrid operation” o f an amount to be determined, that
would put emphasis on reforms needed to enhance spending efficiency, modernization o f
the tax revenue collection o f local governments, and strengthening o f the administration
and service delivery systems. The investment program during the second stage would
lo
Called “hybrid operation” because it includes a policy based loan (PBL) component and an investment
component.
36
include modernization o f government procurement, streamlining o f bureaucracy, and
support for financial reform.
100. International Monetary Fund (IMF) Costa Rica does not plan to seek a formal
arrangement or a staff-monitored program with the IMF. The Government agrees with
the Fund on the need to reduce the fiscal deficit, with the suggestions to move towards a
more flexible regime, and specially with the need to eliminate the quasi-fiscal losses o f
the Central Bank, however the Government has its own plan and pace. The IMF Board
welcomes the govemment commitment to address the vulnerabilities as well as their
desire to retain full ownership o f the necessary adjustment effort. In March 2003 the
Article I V Consultation was concluded and submitted to the Board, together with the
Financial System Stability Assessment (FSSA) based on the work o f the joint
IMFlWorld Bank financial sector assessment conducted in October and December 2001.
This assessment reflects the state o f the Costa Rican financial system as o f end-2001 and
the findings were discussed with the authorities in November 2002 and January 2003, as
part o f the 2002 Article I V Consultation. On this occasion Executive Directors praised
Costa Rica for being at the forefront o f economic and social progress in Latin America
over the past few decades and commended the authorities on their long-standing
traditions o f democratic accountability, rule o f law and governance. However, Directors
noted that macroeconomic vulnerabilities have increased sharply in recent years,
presenting the authorities with major policy challenges.
101. The Central American Bank for Economic Integration (CABEI) This Bank
maintains an important lending program in Costa Rica. I t s current portfolio includes eight
programs with a total commitment o f $300 million and an undisbursed amount o f $225
million distributed in loans for the following sectors: infrastructure and energy (66%);
health, education, water and sanitation (34%). The loans have been given to the public
and private sector. C A B E I will be involved in 2004 in other specific projects for the
roads sector and lines o f credit for financial institutions. Given the active presence o f
CABEI in Costa Rica, the World Bank and CABEI should coordinate the areas o f
interventions through lending services.
102. Corporacion Andina de Foment0 (CAF)
The Andean Development
Corporation's efforts in Costa Rica are aimed at supporting infrastructure integration
projects and other infrastructure projects that are considered as priorities by the
govemment. CAF is currently analyzing a program for Costa Rica, in agreement with the
government, o f about US$60 million for the 2003-2006 periods. This financing
comprises investment projects for the development o f the areas o f Santa Clara, Puerto
Limon and Sixaola. CAF i s also analyzing technical cooperation for the financing o f
several required studies (environmental impact, feasibility and engineering) for the
infrastructure projects. CAF i s also studying the possibility o f financing the construction
o f a pipeline o f 123 Kilometers for the Costa Rican Petroleum Refinery (RECOPE), for
an estimated amount o f $72 million. Finally, CAF would lend the Costa Rican Electricity
Institute (ICE) in 2004, a $30 million loan for investments that were already assessed in
2003 but were not approved due to debt limits imposed to I C E by the authorities. The
37
World Bank and the CAF are coordinating their lending and non-lending services to
avoid duplication.
103. Japan Bank for international Cooperation (JBIC) The Japanese Bank will
cooperate with the World Bank in financing the proposed Costa Rica Water Sector
Modernization Project. The cooperation w i l l be based on parallel financing o f the project.
JBIC will finance Component A o f the Project and IBRD w i l l finance the rest o f the
project components. JBIC has indicated its interest in financing component A, whose
estimated cost i s about US$ 160 million. As part o f the loan processing JBIC has offered
to the government “Special Assistance for Project Formation” (SAPROF), which i s
basically a comprehensive project preparation study. The study i s expected to start on
January 2004 and be completed on August 2004.
104. Regional Unit for Technical Assistance (RUTA)This i s a unique technical
assistance project for rural development and environment. Its partners include seven o f
the Ministers o f Agriculture o f Central America (including Belize) as well as the main
donorsltechnical assistance agencies in the region: DFID, IICA, FAO, IFAD, World
Bank, IDB, UNDP and more recently IFPRI. RUTA supports Central American
Governments efforts to alleviate poverty and promote competitive sustainable activities
in rural areas. It has an office in the Ministry o f Agriculture in each Central American
countries, but the headquarters i s in Costa Rica. RUTA has an annual work program o f
about 130 activities agreed by all the partners, and it expends about $3 million annually.
Table 4: Ongoing Donor Activities Supporting the four CAS Development Areas
7
IDB
Other Donors
I
* Fiscal sustainability
* Government eWciency
* Public debt management
* Domestic debt market
* Monetaly policy
,
I.MAINTAINING
MACROECONOMIC
STABILITY
i * Structural Reform project ($12.7m) j IMF Financial System Stability Ass. and
i * Cadastre Modemization proiect
1. regular
. _
- Article I V follow UPS.
($65m)
I * Judicial Modernization project
($22,4m)
1
1
I
a. The table only includes the Word Bank’s ongoing activities, future activities (lending and non-lending ) are listed in Table 3.
38
CAS Program Risks
105. The risks associated with the modest assistance program proposed in this CAS are
relatively low, but could escalate in the absence o f continued progress on economic
reforms. The main risk which could materialize concerns the potential for macroeconomic instability, which could be triggered by external factors, financial system
weaknesses, and deterioration o f the fiscal situation, if the government fails to pass and
implement its proposed fiscal reform. However, the risk that macroeconomic stability
w i l l be jeopardized in the period covered by this CAS is judged to be modest: firstly,
Costa Rica has shown it can take difficult macro decisions when faced with deteriorating
economic situation; secondly, there is broad consensus on the need for fiscal reform,
which i s expected to be approved by the National Assembly in the second quarter o f
2004; thirdly, Costa Rica weathered well the 2002 South American crisis and moved
quickly in securing needed financing (placing $450 million in global bonds in January
2003) and avoiding contagion; and fourthly, since 2002 the Government adopted a
number o f measures to strengthen the regulatory and prudential framework o f the
financial system, thereby significantly lowering the risk o f a banking or financial crisis.
Moreover, a very positive development occurred early 2004 when the Ministry o f
Finance announced that the Government’s recent external bond issue o f US$250 million
will be used to recapitalize the central bank. Finally, since taking office, the Government
has consistently taken a prudent stance vis a vis macroeconomic management and there i s
broad support in the Legislature on the need for sound macroeconomic policies. Although
Costa Rica exceeds the Bank guideline for preferred creditor debt service to total public
debt service, it is well below the other exposure guidelines pertaining to debt and debt
service owed IBRD.
VI.
CONCLUDING REMARKS
106. The objective o f this World Bank Group assistance strategy i s to support Costa
Rica’s efforts to continue its record o f equitable economic growth and improvements in
social indicators, and its leadership in environmental management. The proposed
strategy i s the result o f analytical work, lessons from previous experience and country
consultations. It i s focused on mutually beneficial activities that allow the Bank to learn
from Costa Rica’s rich and successful experience in areas that are central to the Bank‘s
mission, while helping Costa Rica improve the quality and impact o f public programs in
key sectors, and enhance i t s competitiveness in an increasingly integrated global
economy.
James D. Wolfensohn
President
By:
Shengman Zhang
Washington DC
April 20,2004
39
Costa Rica at a glance
POVERTY and SOCIAL
Latin
America
Uppermiddle.
39
4,070
16 1
527
3,280
1,727
331
5,040
1,668
2.0
2.5
15
22
1.2
costa
Rica
4115104
I
Life expectancy
T
Average annual gro
21
60
78
9
5
95
4
107
I08
105
27
19
11
130
131
128
90
7
105
106
105
4982
1992
2001
2002
2.6
24.7
45.1
27.6
13.2
8.6
20.2
35.2
156
15.0
16.4
20.1
41 6
17.2
13.3
16.8
21.9
42.4
16.8
14.7
-11.6
4.2
$398
21.2
4 7
1.2
38.4
9.5
4.5
1.4
19.8
9.9
20.7
47.2
-5.6
1.4
19.8
9.2
21.6
48.6
1982-92
1992-02
2001
2002
2002-06
44
1.5
8.9
4.6
2.5
9.2
11
-06
-9.2
3.0
1.2
5.1
4.3
2.8
9.2
1982
1992
2001
2002
27.7
29.1
23.0
43.2
13.3
30.9
23.3
55.8
8.6
29.8
22.0
61.6
8.4
29.1
21.6
62.4
57.8
14.6
42.2
72.0
12.4
39.8
68.5
14.3
44.5
68.4
14.7
47.4
1962-92 1992-02
2001
2002
Female
9
86
Gross
primary
nroliment
Access to improved water source
--Costa
Rica
Upper~idd/e-jn~me
group
KEY ECONOMIC RATIOS and LONG-TERM TRENDS
GDP (US$ bilhons)
Gross domestic i
Exportsof goods
Gross domestic saving
Gross national savingslGDP
P
Current account batancelGDP
entslGDP
debtlGDP
Total external debt servicalexports
Present value of debtlGDP
Present value of debtlexports
(average annualgrowth)
GDP
GDP per capita
Exports of goods and services
STRUCTURE of the ECONOMY
(% of GDP)
Agriculture
industry
Manufacturing
Services
Private consumption
General government consumption
Imports of goods and services
(average annual growth)
Agriculture
Industry
Manufacturing
Services
Private consumption
General government consumption
Gross domestic investment
Imports of goods and services
4.0
4.4
4.5
4.7
3.4
5.3
5.6
4.4
0.7
4.9
-8.4
4.5
-2.0
2.3
2.3
4.3
4.7
2.0
9.3
10.6
3.7
1.9
5.0
6.9
1.3
3.5
26.4
0.0
3.1
1.6
7.9
7.0
Economic ratlos*
Trade
Domestic
savings
investment
Indebtedness
30
20
10
0
-
-10
GDI
GDP
I
I
Growth of exports and imports
(%I
.
. .
30
20
10
0
-
97
-20
98
99
Exports
Note: 2002 data are preliminaryestimates.
* The diamonds show four key indicators in the country (in bold) compared with its incomegroup average. If data are missing,
the diamond will be incomplete.
I
Growth of investment and GDP (%)
w
01
Imports
02
I
Costa Rica
PRICES and GOVERNMENT FINANCE
Domestic prices
(% change)
Consumer prices
Implicit GDP deflator
1982
1992
2001
2002
90.1
84.2
21.8
20.5
11.3
8.4
9.2
9.1
22.3
0.2
-3.8
22.0
-1.2
-5.7
Overall Public Sector finance
(% of GDP, includes current grants)
Current revenue
Current budget balance
Overall surplusldeflcit
TRADE
1982
1992
2001
2002
870
237
228
272
868
115
187
166
2,386
202
522
1,302
2,974
406
216
610
4,923
162
516
3,645
6,569
854
41 1
1,050
5,259
165
478
4,011
7,188
915
372
1,277
16
17
91
64
67
95
176
196
90
192
219
88
1982
1992
2001
2002
1,125
1,053
72
3,061
3,417
-356
6,835
6,927
-92
7,141
7,724
-583
Net income
Net current transfers
-404
30
-214
163
-793
148
-532
169
Current account balance
-303
-407
-737
-946
Financing items (net)
Changes in net reserves
416
-113
495
-88
750
-13
1,109
-163
Memo:
Reserves including gold (US$ millions)
Conversion rate (DEC, locallUS$)
-81
37.4
556
134.5
1,099
328.9
1,264
359.8
(US$ millions)
Total exports (fob)
Coffee
Bananas
Manufactures
Total imports (ci9
Food
Fuel and energy
Capital goods
Export price index (1995=100)
Import price index (1995=1001
Terms of trade (1995=100)
BALANCE of PAYMENTS
(US$ millions)
Exports of goods and services
Imports of goods and services
Resource balance
PUBLIC EXTERNAL DEBT and RESOURCE FLOWS
1982
(US$ millionsJ
3,645
Total debt outstandingand disbursed
IBRD
200
IDA
5
1992
2001
2002
3,289
372
3
3,243
102
2
3,338
91
1
Total debt service
IBRD
IDA
245
28
0
300
77
0
709
37
0
691
33
0
Composition of net resource flows
Official grants
Ofticial creditors
Private creditors
Foreign direct investment
Poitfolio equity
5
105
17
29
0
10
63
-52
210
-17
14
-119
216
445
39
6
-223
226
637
337
0
20
12
8
16
-9
41
28
46
-19
31
-50
17
8
27
-19
10
-29
0
12
23
-11
10
-22
World Bank program
Commitments
Disbursements.
Principal repayments
Net flows
Interest payments
Net transfers
Development Economics
97
9s
w
99
DP deflator
01
"O'GPl
Export and import levels (US$ mill.)
8,000 7
7,000
6,000
5,000
4,000
3,000
2,000
1.000
0
96
97
98
99
Exports
w
01
02
mlmports
I
Current account balance to GDP (%)
II
Composition of 2002 debt (US$ mill.)
I
A91
-
A IBRD
B - IDA
C IMF
6 1
D -Other multilateral
E - Bilateral
F -Private
G -Short-term
4115104
I
CAS Annex Bla
Costa Rica CAS Completion Review 1993-2003’
1.
T h i s completion review undertakes an assessment o f the relationship between
Costa Rica and the Bank in the 1993-2003 period. I t assesses the outcome o f the last
CAS, approved by the Board on March 20, 1993 and covering the period 1993-97, as
well as more recent cooperation over the period leading to the present CAS. The review
draws heavily on the Operations Evaluation Department’s last Country Assistance
Evaluation (CAE) which was prepared in late 2000 and covers the Bank’s assistance
strategy in Costa Rica in the 1990s.
A.
The Country Context
2.
Costa Rica i s one o f the most stable democracies in Latin America, with a long
standing commitment to inclusive economic growth, social welfare and the environment.
I t s economic and social indicators show better results than those in all other lowermiddle-income Latin American countries. Historically, however, the pace o f reform has
been slow and driven by a highly democratic process o f achieving consensus. Growth and
the absence o f military expenditures allowed the Government to devote a high share o f
public funds to social programs and environmental concerns, however high domestic
debt and serious fmancial imbalances in the 90s led to the questioning o f the long term
viability o f the Costa Rican model.
3.
After a strong decline in coffee prices in 1978 and the o i l crisis in 1979, Costa
Rica did not adjust public expenditures accordingly and the Government suspended
servicing i t s external debt. To deal with the crisis, the Government initiated in 1982-83 a
stabilization program supported by the IMF and a structural adjustment program
supported by the Bank and IADB. The main objective o f the reform program was to
~ anti-export bias o f the trade regime and
overcome two severe impediments to g r o the
an overextended and inefficient public sector. The structural reforms during the period
1984-93 were aimed at liberalizing international trade and reducing the role o f the state in
productive activities, reducing effective protection, increasing incentives to exporters,
and improving the efficiency o f public sector institutions. The Government was
committed to reducing export taxes, maintaining a competitive exchange rate and
decreasing the level and dispersion o f import taxes.
4.
During the period 1994-99 the Government’s program gave priority to re-defining
the role o f the state and improving the efficiency o f private markets, while continuing to
provide for poverty alleviation and environment’s protection. President Figueres (199498) was able to continue the trade liberalization program, improve fiscal discipline and
managed to attract a significant volume o f foreign direct investment in high-tech
industries. The Government o f President Rodriguez (1998-2002) gave high priority to the
fmancial sector reform and to open public enterprises to competition with the private
sector. Specifically, important areas for reform included changes to the banking and
’ Preparedby Ana Lucia Armijos, Senior Economist, LCSPE
social security systems and to the regulatory framework to allow private participation in
public utilities and natural monopolies controlled by the state.
B.
Evaluation of the Country Assistance Strategy 1993-1997
5.
The Country Assistance Strategy (CAS 93) was presented to the Board on March
10, 1993 in conjunction with a proposal for a Third Structural Adjustment Loan (SAL,
111), which was to be the last quick disbursement lending operation for Costa Rica. The
strategy also proposed to focus on a relatively small investment program based upon &e
Bank's perceived comparative advantage at the time, The overall program was contingent
on the Government maintaining an appropriate macroeconomic framework and on
successful implementation o f the structural adjustment program. The reform program,
supported by the FY93 CAS, included four pillars: (i)
public sector reform, (ii)
social
sectors and poverty alleviation, (iii)
trade and regulatory framework and (iv) financial
sector reform aimed at reducing the country's vulnerability to external shocks and the
recurrence o f macroeconomic disequilibria prompted by inappropriate fiscal policies
equitable society.
6.
The proposed lending program also included six sector investment loans in water
and sanitation, health, forestry and bio-diversity, transport, education and urban. The
economic and sector work (ESW) program was expected to produce a Country Economic
Memorandum to focus on public sector reform. An ongoing forestry sector review would
support an operation to improve forestry and bio-diversity managemat. An urban sector
study would help define policies to be included under a proposed urban project. Finally, a
Poverty Assessment study would review progress in poverty alleviation and seek
improvements in targeted interventions and the poverty orientation o f social spending.
7.
The outcome o f CAS 93 was unsatisfactory. The adjustment loan straddled two
administrations, and was cancelled after two years following mutual agreement that the
tranche release conditions were unlikely to be met. None o f the other sector investment
lending, and only part o f the planned economic and sector work, was delivered during the
1993-1997 period covered by the CAS. Indeed, following the cancellation o f the
adjustment operation, the government explicitly requested the Bank to reduce lending and
to increase technical advice.
8.
OED believes that the authorities were uninterested in Bank lending because of
their perception that it would be difficult to reach agreement with the Bank on the
political feasibility and a realistic schedule o f policy and institutional reforms. The C A E
concluded that the 1993-97 CAS was based on a correct diagnosis o f Costa Rica's long
term development problems and included highly relevant objectives. However, it
included inappropriate lending instruments, overlooked lessons o f experience and ignored
political realities on the feasibility and timing o f some o f the specific measures required.
Consequently, the Bank was unable to deliver i t s lending program and the policy
dialogue deteriorated. The C A E notes:
2
The CAS included inappropr~atelending instruments and poorly designed reform
programs, in spite of available lessons of experience. The adjustment operation
was not appropriate to pursue the proposed objectives since i t included
comprehensive institutional reforms in the public, financial and social sectors
which required Congress approval o f legislation as conditions for loan
effectiveness. The lessons o f experience show that Costa Rica has been a steady,
but slow, reformer, with a long process of internal debate and consensus building
before major reforms are approved by Congress. However S A L I11 included the
passage o f legislation as a condition for loan effectiveness. Consequently, the
Bank had to extend the deadline for the loan effectiveness six times while waiting
for the authorities to achieve the required passage o f legislation by Congress, and
ultimately the loan was cancelled.
The CAS ignored political conditions. The Bank assistance strategy was
undermined by a poor appreciation o f the political conditions determining
ownership o f the reform program. The Project Completion Note o f SAL, I11
concluded that the loan was terminated because the program was designed,
negotiated and signed by one Administration while its implementation was left to
a new Administration that had a markedly different approach to the issues
involved.
9.
Following the cancellation o f the SAL,, the Bank supported the objectives o f the
strategy mainly through supervision o f the small portfolio o f projects already under
implementation. According to the Bank's internal performance indicators, Costa Rica
has achieved satisfactory development outcomes in implementing the Bank-supported
portfolio. The portfolio (total commitments o f US$310 million) evaluated by the Bank
during 1994-99 achieved satisfactory development outcomes. The evaluation includes
three projects subjected to independent evaluation by OED and four ongoing projects
evaluated by the region, not yet subjected to independent evaluation, which the Bank
rated as satisfactory. It i s noteworthy that over long evaluation periods, the overall
portfolio o f the Bank in Costa Rica has generally achieved better results than in most
other clients.
Over 1970-1999, about 87 percent o f Costa Rica's portfolio achieved
satisfactory development outcomes, which is much higher than the 70 per cent or the 74
per cent satisfactory rating achieved in the same period by LCR or by the Bank,
respectively.
10.
During the 1993-1997 period, the Bank failed to complete a Country Economic
Memorandum that was needed to define the policy agenda for discussions with the
Government o f President Figueres in 1994 and failed to produce an urban sector study
intended to define policies to be included under a proposed urban project. However, it
did prepare an update o f a poverty study (Ey97) to identify the needs o f the poor and an
influential study proposing a pension reform strategy.
3
C
Post CAS 93 period
11.
In the last few years, Bank lending to Costa Rica has resumed on a very modest
scale, with the Bank Board approving two loans - an Environment Loan for U S $ 32
million in 2000 and a second Health Sector Modernization Loan for US$17 million in
2001. Furthermore, during the latter part o f the nineties, the policy dialogue improved
and the Bank was instrumental in providing advice to help implement those reforms that
had achieved political support and studies to help achieve consensus on those reforms
s t i l l under discussion in the Assembly. The Bank supported reform efforts using a
variety o f non-lending instruments, including formal sector work, non-reimbursable
technical assistance, grants, and analytical and advisory services (See Annex B 4 for a
surnmary o f non-lending services in recent years). The CAE concluded that non-lending
services have provided valuable analysis, advice and technical assistance that have
influenced policies and built capacity in many areas, including monetary and fmancial
sector policies, international reserves management, public debt management, foreign
investment, environment, forest conservation, bio-diversity, health, education, gender,
social programs, rural electrification and information technology, Non-lending services
have also influenced the discussion o f still unresolved political issues about increasing
private participation in key strategic sectors, reforming the pension system, restructuring
andor privatizing state banks and strengthening prudential regulations and supervision o f
fmancial intermediaries.
12.
The experience in the social sectors and in the environmental sector provide good
examples where the Bank has maintained a sustained and productive relationship with
Costa Rica, over the past decade, providing technical assistance, analysis, advice, grants
and some financing in key areas where internal consensus existed about the issues,
priorities and future directions.
In health, the Bank has been engaged in supporting Costa Rica’s reforms since the
13.
first health sector modernization loan was approved more than ten years ago. In 1990,
health conditions in Costa Rica were among the best in LAC. However, the demands on
the system were becoming more complex, and the health system’s underlying problems
were: poor organization, which undermined accountability, and lack o f incentives,
affecting the efficiency and effectiveness o f the resources. To correct these problems,
Costa Rica outlined a general health sector reform that was intensively debated and
received the support from key stakeholders. The Ministry o f Health shifted from fmancier
and provider o f services to regulating and policy formulating agency, resulting in an
increase o f the efficiency o f public resource use and improved outcomes. By the end o f
the 90s, Costa Rica was able to further raise l i f e expectancy, reduce s a n t mortality rates,
expand the coverage o f primary health care, increase hospital productivity, while at the
same time, reducing public health spending. In addition to the technical advice and
finance provided under the f u s t and second health sector modernization loan, the Bank’s
presence contributed to continuity o f the reform process during three administrations and
the corresponding management changes.
4
14.
In the social sectors more generally, since 1999 the Bank and Government have
pursued joint sector diagnosis and followed up with dialogue and technical support. Key
issues include improving equity and effectiveness in education, and improving the
targeting o f social assistance programs. Progress has been gradual but sustained, based
on diagnostic work which creates awareness o f issues and then fosters consensus about
next steps. The Bank has maintained dialogue and presence by engaging with key people
in the sectors (health, education, social protection) and the social cabinet, and by carrying
out the diagnosticlsector analysis which later became the Social Spending and Poverty
Perhaps the most important outcome has been the identification o f areas for
improvement in education, such as efficiency and equity in rural schools and steady
improvement in institutional effectiveness. T h i s work i s now being incorporated into the
planned FY04 Education Project.
Report.
15.
In the environmental sector, the forestry sector review was one o f the first
attempts worldwide to value the individual components o f the forest, including the
biodiversity, carbon captured, wood and other values, and it greatly influenced
Government’s intervention in the sector. The work led to one o f the frrst environmental
service payment schemes in the world, which i s now being emulated around the globe.
This program i s being supported by the Bank in the innovative Ecomarkets project, and a
second project has now been requested by Government to make the sector fmancially
self-sufficient. In addition, in agriculture, although a planned agricultural sector reform
project never became effective, the preparatory analysis and policy dialogue also
influenced the sector considerably - for example, Government retired from grain
marketing, and implemented market based refoms in technology and other reforms.
Finally, in the areas o f indigenous peoples and gender, the Bank supported Government
efforts through IDFs, which (although they weren’t implemented in full) helped define
policy for indigenous peoples, including the development o f a national indigenous profile
and a development plan, and helped mainstream gender analysis into most o f the
ministries.
D.
Overall Conclusion and Lessons for the new CAS
16.
Throughout the past decade, Costa Rica continued to implement reforms at its
o w n pace, with financial assistance from other donors, domestic borrowing and, lately, by
selling bonds in the international capital market. While reforms have been slow, Costa
Rica has achieved better social and economic results than similar countries in Latin
America, and i t s political and social stability has been extremely attractive to investors
and tourists alike.
During and beyond the CAS period, Costa Rica advanced
significantly toward many o f the objectives proposed under the CAS 93, in spite o f
minimal fmancial support from the Bank. Key areas include:
Progress in implementing structural reforms. Costa Rica has continuously made
progress in opening-up trade, diversifying exports and implementing the
recommendations o f the fmancial sector assessment, while maintaining political
stability and attracting high-tech foreign investment.
5
0
0
0
Progress in i m p l e ~ e n t i n gsocial and environ~entuzreforms. The authorities have
also undertaken measures to improve the efficiency, targeting and level o f social
expenditures, including rationalization o f govemment agencies and closer
cooperation with private providers o f social services. Environmental policies
have been strengthened with the passage o f the Environment Law in 1996 and the
implementation o f a strategic plan.
Progress in gender policies. Costa Rica has been a pioneer in incorporating
women in the process o f development. After the approval o f the Law to Promote
the Social Equality o f Women in the early 199Os, Costa Rica reached the forefront
in sponsoring women’s rights with legislation comparable to the legislation o f
many developed countries.
Progress in forestry policies. Costa Rica is considered a pioneer in reforestation,
forest management and forest protection policies.
17,
Although the Bank gave very little financial assistance to Costa Rica over the last
decade, from the late nineties the Bank made significant efforts to improve the policy
dialogue by providing technical advice, mostly financed through grant facilities, and
responding quickly b many formal and informal requests for analysis and advice made
by the authorities. The Bank’s non-lending assistance became an important source o f
advice to the Govemment on the design and implementation o f reforms, and the Bank
served as a catalyst in promoting discussion and consensus-building in key policy areas.
The key to the effectiveness o f these efforts has been to identify and support areas where
there i s internal consensus about issues and direction for reform, and to provide
diagnostic and technical advice on demand.
18.
Give the lessons from the Bank’s relationship with Costa Rica over the last
decade, the future CAS should be highly selective and totally demand-driven, Le. in areas
where the Costa Ricans specifically request Bank assistance because there is intemal
consensus about the need for and overall direction for reform, and they believe that the
Bank’s global experience can add value to the diagnosis, dialogue and implementation o f
reforms. Furthermore, given their very tight fiscal situation, the Government has
indicated that it i s primarily interested in borrowing for projects that “pay for themselves”
through efficiency gains leading to cost-savings or through revenue generation from
enhanced cost-recovery from say tariff increases. The Bank in turn has considerable
interest in being engaged in areas where the lessons from Costa Rica’s successhl poverty
reduction and economic diversification efforts and pioneering leadership in
environmental management would be instructive for other Bank clients.
Overall,
therefore, the country assistance strategy should focus more on knowledge sharing and
advisory services and less on resource transfer objectives, and should continue to
promote reforms by supporting the policy dialogue through non lending services,
including well-focused and properly disseminated ESW, technical assistance and grants.
More project-specific lessons include:
Where an appropriate policy and institutional environment is needed for projects
to yield expected benefits, the Bank should ensure that the proper environment i s
in place before the project is approved, not as condition for effectiveness. In
6
particular, lending to support structural reforms should be considered only if the
required legislation i s approved before lending i s committed.
Given Costa Rica's institutional environment, wide social support i s needed to get
National Assembly approval and to implement reforms, hence conditions agreed
with the Executive related to key reforms should be strictly under control o f the
Executive and not dependent upon Congress approval.
7
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CAS Annex B2
Costa Rica
Selected Indicators* of Bank Portfolio Performance and Management
Indicator I By Fiscal Year
Portfolio Assessment
Number of Projects Under Implementation
Average ImplementationPeriod (years)
Percent of Problem Projects by Number a , c
Percent of Problem Projects by Amount
Percent of Projects at Risk by Number a,
Percent of Projects at Risk by Amount a,
Disbursement Ratio (%) e
Portfolio Management
CPPR during the year (yeslno)
Supervision resources (thousands of US$)
Average supervision (thousands of US$lproject)
MemorandumItem
Proj Eva1 by OED by Number
Proj Eva1 by OED by Amt (US$ millions)
% of OED Projects Rated U or HU by Number
% of OED Projects Rated U or HU by Amt
2001
2002
2003
2004
5
5.3
0.0
0.0
0.0
0.0
17.4
6
5.4
0.0
0.0
0.0
0.0
19.0
5
5.9
0.0
0.0
0.0
0.0
16.5
4
5.3
0.0
0.0
0.0
0.0
18.5
No
262.0
52.4
No
242
40.3
No
334
66.8
No
328.7
82.2
Since FY 80 Last Five FYs
23
3
591.3
91.4
0.0
9.5
11.0
0.0
a.
b.
c.
d.
e.
As shown in the Annual Report on Portfolio Performance (except for current FY).
Average age of projects in the Bank's country portfolio.
Percent of projects rated U or HU on development objectives (DO) andlor implementation progress (IP).
As defined under the Portfolio Improvement Program.
Ratio of disbursements during the year to the undisbursed balance of the Bank's portfolio at the
beginning of the year: Investmentprojects only,
f. Supervision resources for FYOI to FY03 are actuals, for FY04 budgeted information was used.
* All indicators are for projects active in the Portfolio (including GEF grants) with the exception of
Disbursement Ratio, which includes all active projects as well as projects which exited during the fiscal
year.
As of 31112004
CAS Annex €33
-
Costa Rica Bank Group Program Summary
Proposed IBRD Base-Case Lending Program a
Fiscal Project
year
US$(M)
2004
2004
2005
2006
2006
2007
30.0
70.0
70.0
3.0
30.0
15.0
Education Reform Project
Water and Sanitation Sector Modernization
Limon Area Development Project
E-government Citizens Services LIL
Ecomarkets II
Agricultural Sector Project
Strategic
Rewardsb
Implement
ation
Risks
H
H
H
H
M
M
L
M
H
L
L
M
218.0
Total Result
a. This table presents the proposed program for the next three fiscal years.
b, For each project, indicate whether the strategic rewards and implementation risks are expected to be high (H),
moderate (M), or low (L).
-
Costa Rica IFC and MlGA Program, FY 2001-2004
Category
IFC approvals (US$m)"
Bv Sector (%l
Finance L? Insurance
Health Care
Transportation and Warehousing
Total
B y Investment instrume~t(%~
Loan
Equity
Quasi-equity (Equity type)
Quasi-equity (Loan type)
Risk Management
Total
MlGA guarantees issued (US$m)
*Though February 2004.
2001
2002
2003
2004*
50.0
7.0
0.0
20.0
30
0
70
0
100
0
100
100
100
0
0
0
0
100
0
0
0
0
100
100
n.a.
100
86.3
108.4
152.4
149.6
100
0
0
n.a.
100
75
0
0
25
0
""IFC's own account only, excluding Participant's account.
As of 311912004
Annex 84
Costa Rica: Summary of Nonlending Services
Cost or Grant
FY
Product
~ v s ~ o oAudience
o~ a
Objective
...
KG, PD, PS
KG, PD, PS
KG, PD
KG, PD, PS
KG, PS
Analvtical and Advisow Activities
Recent completions
Identifying social needs for the poor (PA update)
Costa Rica -A pension reform strategy
INTEL'S Costa Rican plant (FIAS paper)
Social Spending and the Poor
Financial Sector Assessment Program (FSAP)
Completion FY
FY97
FY99
FY98
FY02
FY03
Underway
Public Debt Management and Market Development
Shocks and Social Protection (regional)
CAFTA Trade Challenges (regional)
Drivers of Rural Growth (regional)
Financial Sector Stregthening Initiative(FIRST)
Trade Facilitation (regional)
ReservesAdvisory & Management Program (RAMP)
FY04
FY04
FY04
FY05
FY05
FY05
FY05
Planned
Poverty Assessment
Investment Climate Assestment (FIAS)
Country Economic Memorandum
Country Procurement Assessment Rev.
Country Financial Accountability Assess.
Public Expenditure Review
FY05
FY05
FY05
FY05
FY05
FY06
...
...
...
...
...
...
...
G, B, PD
G, 0, PD
B, PD
G, 0, PD
G, 0
...
...
G
G, 0 , PD
G, 8, PD
G, B, PD
G
...
G, 0
G
...
KG, PS
KG, PS
KG, PS
KG, PS
KG, PS
KG, PS
KG, PS
G, B
G, 0
G, B, PD
KG, PD, PS
KG, PD, PS
KG, PD, PS
KG, PS
KG, PS
KG, PD, PS
486.1
500.0
75.0
58.3
300.0
100.0
76.7
G,PS
G,PS
G, PS
G, PS
G, PS
G, PS
G, PS
KG, PS
KG, PS
KG, PS
KG, PS
KG, PS
KG, PS
KG, PS
7,000.0
530.0
475.9
8,000.0
260.0
725.0
302.3
G, D, 0
G, B
G, 0
G, D, 0
G, B
G, PS
KG, PS
KG, PS
KG, PS
KG, PS
KG, PS
KG, PS
KG, PS
1..
...
...
...
...
1..
G, B, PD
G, B, PD
G, B, PD
IDF Grants
Approval FY
Privatization implementation assistance
Forest Conservation
Public communications on M0C (regional)
Strengthning supreme audit instutions (regional)
Ecomarkets project grant
CAFTA Trade Capacity Building (regional)
Strengthening Afro Communities. (regional)
FY99
FY99
FYOl
FY02
FY02
FY03
FY03
Other Grants
Approval FY
Biodiversity resources development GEF
Education Development (PHRD grant)
Pension System & Financial Sector Reforms (PHRD)
Ecomarkets GEF
Poverty Reduction and Social Protection (PHRD)
Sustainable Production Indigenous Cacao Farms (GEF)
Ecomarkets (PHRD grant)
FY98
FY98
FY98
FYOO
FYOO
FYOl
FY02
~~
a. Government, donor, Bank, public dissemination.
G, 13
~
b. Knowledge generation, public debate, problem-solving
3/2/2004
CAS Annex B5
Costa Rica Social Indicators
Same regionlincome group
Latest single year
POPULATION
Total population, mid-year (millions)
Growth rate (% annual average for period)
Urban population (% of population)
Total fertility rate (births per woman)
1970-75
1980-85
1995-2002
2.0
2.5
42.5
3.9
2.6
2.9
51.O
3.7
3.9
2.0
60.0
2.3
POVERTY
(“A of population)
National headcount index
Urban headcount index
Rural headcount index
INCOME
GNP per capita (US$)
Consumer price index (1995=100)
Food price index (1995=100)
Births attended by skilled health staff (%)
523.6
1.5
75.8
2.5
503.6
1.3
77.2
2.3
3,580
4,550
20.6
16.9
25.2
1,030
3
1,280
19
46
INCOMEICONSUMPTION DISTRIBUTION
Gini index
Lowest quintile (% of income or consumption)
Highest quintile (% of income or consumption)
SOCIAL INDICATORS
Public expenditure
Health (% of GDP)
Education (%of GDP)
Social security and welfare (% of GDP)
Net primary school enrollment rate
(% of age group)
Total
Male
Female
Access to an improved water source
(% of popu/ation)
Total
Urban
Rural
Immunization rate
(% under 12 months)
Measles
DPT
Child malnutrition (% under 5 years)
Life expectancy at birth
(years)
Total
Male
Female
Mortality
Infant (per 1,000 live births)
Under 5 (per 1,000 live births)
Adult (15-59)
Male (per 1,000 population)
Female (per 1,000 population)
Maternal (modeled, per 100,000 live births)
Latin America 8 Upper-middleCaribbean
income
4,060
202
188
45.9
4.5
51.0
6.6
5.1
4.1
3.2
4.4
4.4
5.5
3.3
4.4
3.5
4.4
92
92
93
84
83
84
91
91
91
97
98
96
96
97
95
95
99
92
86
94
65
88
94
69
78
90
6
82
88
5
91
89
9
94
94
9
70
68
72
74
72
77
78
75
80
71
67
74
72
68
75
38
55
18
22
9
11
28
34
23
27
180
130
159
100
131
78
35
22 1
124
218
114
83
98.2
Note: 0 or 0.0 means zero or less than half the unit shown. Net enrollment rate: break in series between 1997 and 1998 due to
change from ISCED76 to ISCED97; ratios exceeding 100 indicates discrepancies between the estimates of school age population
and reported enrollment data.
2003 World Development Indicators, World Bank
31112004
Annex 86
Page 1 of 2
Costa Rica - Key Economic Indicators
Indicator
1999
2000
2001
2002
Preliminar
2003
Projected
2005
2004
2006
National accounts (as YOof GDP)
100.0
8.3
9.7
100.0
9.0
8.6
100.0
9.7
7.8
100.0
9.6
7.6
100.0
9.6
7.8
100.0
10.1
7.5
100.0
10.0
7.4
100.0
10.2
7.3
Industry
32.2
29.2
26.9
26.3
26.2
26.1
26.0
25.8
Services
49.8
53.2
55.6
56.4
56.4
56.3
56.6
56.6
Total Consumption
Gross domestic investment
Government investment
Private investment (includes inventory changes)
77.2
17.1
4.3
12.8
80.2
17.1
4.2
12.9
82.8
20.1
4.0
16.1
82.9
22.2
4.5
17.7
81.6
20.6
3.8
16.8
82.2
18.7
4.0
14.7
80.7
20.3
4.3
16.0
79.2
21,9
4.5
17.4
E X P O ~ ~(GNFS)~
S
Imports (GNFS)
51.6
45.9
48.5
45.7
41.6
44.5
42.4
47.4
46.2
48.3
48.5
49.4
50.7
51.7
53.0
54.1
Gross domestic savings
22.8
19.8
17.2
17.1
18.4
17.8
19.3
20.8
Gross national savings
12.0
12.6
13.3
14.0
14.5
13.4
15.4
17.3
Gross domestic product a
Net indirect taxes
Agriculture
~ e m o r a n d u mitems
Gross domestic product (US million)
GDP per capita (US$)
15,796
4,116
Real annual growth rates (%, calculated from 1991 prices)
8.2
Gross Domestic Product
Gross Domestic Income
7.9
15,946
4,062
16,394
4,090
16,818
4,112
17,484
4,193
18,319
4,315
19,025
4,520
20,634
4,745
1.8
-2.8
1.o
-0.4
2.9
1.8
5.6
6.7
4.4
4.2
3.7
4.0
4.0
4.1
Real annual per capita growth rates (%, calculated from 1991 prices)
Gross domestic product
5.7
-0.5
-0.3
-1.2
Total consumption
Private consumption
-0.2
-1.2
-1.0
-0.7
-1.0
0.9
1.o
1.2
3.6
0.3
0.7
2.8
0.7
0.0
2.1
0.5
1.o
2.5
0.5
0.5
Balance of Payments (US%millions)
Exports (GNFS)
Merchandise FOB
Imports (GNFS)
Merchandise FOB
Resource balance
Net income and current transfers
Current account balance
Foreign direct investment
Long-term loans (net)
Other capital (net, incl. errors & ommissions)
Change in reserves
~ e m o r a n d u mitems
Current Account balance (% o f GDP)
8,192
6,576
7,763
5,813
6,835
4,923
7,123
5,259
8,062
6,069
8,765
6,636
9,363
7,108
9,867
7,508
7,154
5,996
1,038
-1,719
7,310
6,024
454
-1,160
6,927
5,743
-92
-645
7,720
6,535
-597
-363
8,422
7,221
-361
-642
8,800
7,559
-34
-791
9,273
7,985
90
-853
9,772
8,434
95
-921
-681
-707
-737
-960
-1.003
-825
-763
-825
615
106
44 1
-480
400
139
14
154
454
40
255
-12
662
67
396
-165
587
323
434
-341
556
-15
134
150
550
-9
122
100
5 84
121
171
-50
-4.3
-4.4
-4.5
-5.7
-5.7
-4.5
-4.0
-4.0
(Continued)
31112004
Annex 86
Page 2 of 2
-
Costa Rica K e y Economic Indicators
(Continued)
Estimate
Indicator
1999
2000
2001
2002
2003
Projected
2004
2005
2006
Overall Public sector (as % of GDP at market prices)e
Total revenues
19.8
Tax revenue
11.9
Nontax revenue and transfers
7.9
20.7
12.4
8.3
22.3
13.2
9.1
22.0
13.2
8.8
21.7
13.2
8.5
22.2
13.7
8.5
22.9
14.1
8.8
23,l
14.3
8.8
23.5
19.2
4.3
25.1
20.9
4.2
26.1
22.1
4.0
27.7
23.2
4.5
25.8
22.0
3.8
26.3
22.3
4.0
27.0
22.7
4.3
27.0
22.5
4.5
-3.7
-4.4
-3.8
-5.7
-4.1
-4.1
-4.1
-3.9
Net Foreign financing
1.6
0.6
0.4
1.3
Net Domestic financing
2.1
3.8
3.4
4.4
0.7
3.4
0.5
3.6
0.8
3.3
0.6
3.3
Monetary indicators
M 2 I GDP (Ya)
Growth o f M 2 (%)
Private sector credit growth (Yo)
33.8
29.0
36.3
36.8
18.4
29.1
37.0
10.4
26.6
39.8
20.9
22.2
39.8
14.7
18.4
39.8
15.1
18.0
39.8
13.4
15.4
39.8
13.4
13.7
Price indices( 1991 -100)
Exports o f GNFS price index
Imports o f GNFS price index
Terms o f trade index
306
281
109.2
314
313
100.6
325
333
97.6
355
373
95.1
372
388
95.7
371
387
96.1
377
393
96.1
383
399
96.1
Annual average exchange rate (C$ I USS)
285.7
308.2
328.9
359.8
398.3
439.3
468.1
498.3
Real exchange rate index (US$ I C$)'
105.9
109.3
114.5
112.0
109.0
108.1
108.1
108.1
Consumer price index (YOchange, ave.)
10.0
11.0
11.3
9.2
9.4
9.0
8.5
8.9
GDP deflator (YOchange)
15.0
7.1
8.4
9.1
9.0
9.9
9.0
9.0
Total expenditures
Current expenditure
Capital expenditure and net lending
Deficit (-) Surplus (+)
a. GDP at current market prices.
b. "GNFS" denotes "goods and nonfactor services."
c. Gross Domestic Savings plus net current transfers and net factor income.
d. Includes privatization proceeds, if any.
e. Includes NFPS and Central Bank operations. Main source: IMF.
f. A n increase in the index denotes appreciation.
31112004
Annex 87
-
Costa Rica External Debt Exposure Indicators
Actual
1999
2000
3,056.5
3,150.6
Net disbursements (US$m)"
159.8
Total debt service (US$m)a
Preliminary
Projection
2002
2003
2004
3,242.5
3,337.7
3,738.1
3,834.1
152.5
96.8
2.9
400.4
96.0
148.6
120.5
537.9
591.0
708.5
690.5
1068.0
503.7
515.0
512.0
TDO IExports o f GNFS
37.3%
40.6%
47.4%
46.9%
46.4%
43.7%
42.5%
41.6%
TDO I GDP
19.3%
19.8%
19.8%
19.8%
21.4%
20.9%
20.9%
19.9%
Total debt outstanding (US$m)a
2001
2005
3,982.8
2006
4,103.3
(mol
(TDS)
Debt and debt service indicators (%)
6.6%
7.6%
10.4%
9.7%
13.2%
5.7%
5.5%
5.2%
Preferred creditor debt 1TDO
43.0%
40.0%
40.5%
37.2%
33.4%
29.4%
25.1%
21.8%
Preferred creditor D S I TDS (%)
47.5%
39.4%
41.2%
50.6%
28.9%
52.9%
51.0%
46.4%
8.7%
7.6%
5.3%
4.8%
2.4%
4.3%
4.3%
3.2%
TDS IExports o f GNFS
IBRD exposure indicators
IBRD DSI TDS
0.5%
0.3%
0.2%
0.2%
0.2%
IBRD TDO (US$m)
148.9
121.0
102.2
91.2
80.1
83.5
80.6
83.4
Share o f IBRD portfolio (%)
0.12%
0.10%
0.08%
0.07%
0.07%
0.07%
0.07%
0.08%
IBRD DSI Exports o f GNFS
0.6%
0.6%
0.5%
a. Includes only public and publicly guaranteed debt as private non-guarantee debt represents less than 1% o f GDP.
b. "GNFS" denotes exports o f goods and non factor services.
c. Preferred creditors are defined as IBRD, IDA, the regional multilateral development banks, the IMF, and the BIS.
31112004
.. .. .. ..
m
0
0
N
a
c!
N
0
c
0
v)
m
m
1
m
n
u)
.-
E
0
.w
!?
Q,
4
c
m
v)
m
al
m
c
V
0
c
w m - r ~
b 0 - m
a o m a
a w - m
m m a b
0 0 0 0
aaaa
rdd
CAS Annex B8
Page 2 o f 2
Costa Rica
Statement of IFC's Committed and Outstanding Portfolio
(In US Dollars Millions)
Committed
Outstanding
-
-
IFC
..
IFC
*.
FY Approval
199312001-04
1994
1998
199912003
2001
2002
2003
Company
INTERFIN
Hidrozarcas
ClMA
Superunidos
Aeropuerto IJS
Gutis
Cuscatlan
Total Portfolio:
Loan Equity Quasi Participation
27.5
0
5.0
0.0
0.6
0
0.7
0.0
0
1.2
0
0.0
23.6
0 10.0
0.0
35.0
0
0
85.0
7.0
0
0
0.0
0
0
5.0
0.0
93.7
1.2
20.7
85.0
Loan Equity Quasi Participation
18.3
0 5.0
0.0
0.6
0
0.7
0.0
0
1.2
0
0.0
10.6
0 10.0
0.0
26.3
0
0
63.9
0.0
0
0
0.0
0
0 5.0
0.0
55.8
1.2 20.7
63.9
Data as of 2/29/2004
Annex B9
Costa Rica
CAS Summary of Development Priorities
Network area
Poverty Reduction &
Economic Management
Poverty reduction
Country
performancea
Excellent
Economic policy
Fair
Public sector
Fair
Gender
Social inclusion
Human Development
Department
Education
Excellent
Fair
Excellent
Health, nutrition &
population
Excellent
Social protection
Fair
Environmentally &
Socially Sustainable
Development
Rural development
Environment
Finance, Private Sector &
Infrastructure
Financial sector
Good
Excellent
Fair
Private sector
Good
Energy
Good
Infrastructure
Fair
Major issue
Country
priorityc
Improve effectiveness and targeting
High
of social sector spending
Fiscal sustainability and public debt
High
management
Improve government efficiency and
High
delivery of public services and
technoloav
Gap in secondary education levels Moderate
Increase inclusion of indigenous
High
and afro-costa Rican population
Quality of rural education and
secondaw education access
Financial sustainability while
maintaining quality and equity
aspects of an universal health care
svstem
Improve targeting, coverage and
design of social assistance
vroarams
'
High
High
Low
High
High
High
High
High
High
High
Reconciliation of
country and Bank
priorities
High
High
Smallholders production
High
diversification; development of ecotourism industrv
Moderate
Achieve financial sustainability of
the sector
Continue financial sector reform
and policies to address dollarization
risks
Domestic debt market
development; improve access to
credit and trade facilitation to SMEs
Bank
pHorjfyc
Ongoing dialogue
Moderate Other donors have
the lead
High
Ongoing dialogue
High
High
Moderate IADB has the lead
and ongoing TA
policy dialogue
Allow private sector participation in
the sector
Low
Modernization of ports, water
quality and water resource
manaaement
High
Moderate Ongoing dialogue
and CABEI has
the lead
High
a. Use "excellent," "good," "fair," or "poor."
b. Indicate principal country-specific problems (e.g., for poverty reduction, "rural poverty;" for education, "female secondary completion;* for
environment, "urban air pollution").
c. To indicate priority, use "low,' "moderate," or "high."
d. Give explanation, if priorities do not agree; for example, another MDB may have the lead, or there may be ongoing dialogue.
311 912004
CAS Annex C
Executive Summary of Costa Riea
Social Spending and the Poor
Goodprogress, but a worrying slowdown in poverty reduction1.
Costa Rica made substantial progress in reducing headcount poverty and
improving social sector indicators over the 1990s. Driven by economic growth averaging
4.5 percent o f GDP, and strong investment in the social sectors, the proportion o f people
below the poverty line declined from 27 percent in 1990 to 21 percent in 2000 and the
proportion o f extremely poor households dropped from 10 percent to 6 percentalthough the pace o f reduction in poverty slowed down during the second half o f the
nineties. While coverage o f education and health remains nearly universal in the case o f
basic education and access to healthcare services, there are worrying signs that social
sector indicators and the efficiency and effectiveness o f social spending has begun to
plateau or decline in some cases. Between 1990 and 2000, Costa Rica fell from 28th to
48th in the Index of Human Development. In education, there has been increase in gross
secondary enrollment to 62.1 percent , but there were also increases in repetition rates.
Across the board, education levels are worse for those in the lower income quintiles. In
health, performance continues to improve in terms o f life expectancy infant mortality,
and health systems performance, but there i s increasing dissatisfaction with the system as
waiting lists grow daily and patients requiring more sophisticated treatment for chronic
diseases are turned away. However, there i s no consensus as to whether or not this
situation represents stagnation in social conditions. For example, while little progress was
made in reducing poverty between 1995 and 1999, during this period social indicators
that are normally associated with better living conditions-such as reductions in infant
mortality and improvements in life expectancy-have shown improvements.
-despite real increases in social services expenditures2.
Over the last ten years, public spending grew seventy percent in real terms, and
the share o f public spending allocated to the social sectors increased from 59 percent to
63 percent, with spending in education and pensions growing more rapidly than spending
in health and social protection. Costa Rica spends more relative to GDP, and as a share o f
public expenditures, on social services overall than other countries in Latin America, and
considerably more than the average for other countries at similar stages o f development
outside the region. The level o f spending, and the universal focus o f many o f these
programs, mask the true effectiveness o f these programs-in terms o f reaching the poor
and vulnerable groups living in rural areas and city slums. Despite recent growth in the
economy, many o f the poor and vulnerable do not have access to social programs, which
in part reflects the inflexible legal framework that guides social spending budget
allocation-distributing resources without considering the changing conditions and
needs o f the poor.
3.
Current macroeconomic circumstances do not seem likely to provide Costa Rica
with an easy solution to these problems. Economic projections do not show signs o f the
consistent growth that has characterized the past ten years, and allowed the government
to continue increasing investment in the social sectors. Given the country’s tight fiscal
situation and the high level o f public debt, there i s little room for continued increases in
social spending. This underscores a key finding o f this report: that the social sector
challenges will not be resolved only by allocating more resources, they w i l l require
undertaking reforms to improve management and efficiency in the use o f available
resources and to eliminate structural obstacles in most sectors. New instruments and
approaches w i l l be required that focus on obtaining value for money in the social
programs.
-raising three key questions4.
There are three key questions which frame our analysis. First: who are the poor
and vulnerable groups in Costa Rica-and what are their most important needs? The
report addresses this by providing an in-depth, multi-dimensional analysis o f poverty.
Second: what has been the impact o f social spending on the welfare for the poor- how
are the needs o f the poor being met by existing programs? We answer this by examining
the effectiveness o f government policies and spending on the poor in the social sectors.
Despite a generally good track record, there are s t i l l some key areas in which the needs o f
the poor are not being adequately addressed. Finally, given these problem areas, we ask:
how can government spending be used more effectively to reach the poor, improve social
indicators and contribute to reducing headcount poverty? The report provides both sectorspecific and general policy options. A common theme in the sector specific
recommendations i s the need for greater flexibility in the implementation o f
existing programs, coupled with more efficient administration. More generally, we
advocate the creation o f a policy-making mechanism, charged with setting social policy,
exploiting synergies, and reducing program overlap.
-which suggest that structural reforms are needed, not increased funding5.
The past decade has demonstrated that significant improvements are possible in
the socioeconomic condition o f the poor when economic growth i s combined with costeffective social programs that are well designed to reach the poor and to contribute to
welfare improvements. However, progress in poverty reduction and social sector
performance has been uneven, and there are important gaps between rich and poor.
Continued improvements will have to rely on better use o f the available resources. If the
success of the past is to be replicated, the government o f Costa Rica should undertake
structural changes to improve overall effectiveness o f programs in the areas o f education,
health, and pensions that offer opportunities for improving the condition o f the poor and
ensure that they reach the most vulnerable groups o f the population. One o f the key
elements to achieving greater effectiveness o f social spending i s an improved institutional
framework to coordinate the implementation o f social programs, and greater flexibility in
programs to improve targeting and respond to the needs o f the poor. Each o f these issues
is addressed in summary in Part Io f the report, and in greater detail in Part 11.
2
I.
Profile o f the Poor
Highlights the priorities for education, health and social protection to meet the needs
of the poor6.
The report starts with a profile o f the poor, which provides policymakers with key
information on who and where the poor are. This overview will lead to more informed
decision-making when public policies have to be made regarding how social spending
can effectively contribute to alleviate poverty. The rapid poverty assessment shows that
the poor have the following general characteristics:
-poverty is not equally dispersed across the population7.
As in other Latin American countries, poverty in Costa Rica affects more rural
than urban residents. Poverty incidence i s highest in families whose heads are working in
agriculture, self-employment, micro enterprise and in domestic service-or those
unemployed, or under-employed. Women head an estimated 48 percent o f families in
extreme poverty compared to only 33 percent in near-poor families. Poor families are
younger, and have higher dependency rates than non-poor families, while most have no,
or only one, income earner. Poor families are larger than non-poor families and have a
higher number o f people younger than 12 years o f age who demand both more
expenditures and time from their parents.
-the poor benefit lessfrom educ~tionalopportunities8.
Education levels are much lower for the population in the lowest income quartile
group. The percentage o f people in the poorest 25 percent o f the income distribution who
completed primary education was only 62 percent in 1999, about the same rate o f 1990,
while the percentage o f the richest 25 percent is much higher and has shown some
improvement in recent years. In urban areas, only about 15 percent o f the heads o f the
poorest income quartile have more than primary education, in contrast to 77 percent o f
the heads in the highest 50 percent group. In rural areas, most household heads in all
income groups have only primary education. Regarding children’s human capital, only
about 62 out o f 100 children in the lowest income quartile complete primary education,
while 82 percent o f children in the richest quartile finish their primary education. And,
while only 15 percent o f youngsters in the lowest quartile complete 11 years o f
education, 60 percent (still a low number) o f children belonging to the top quartile o f the
income distribution do so.
9.
For secondary education, the completion rates o f the poorest are less than one
fourth o f those in the top 25 percent. Only about 15 percent o f the poorest children
complete secondary education, a level considered as a threshold to break
intergenerational poverty cycles in countries o f Latin America. The situation i s far worse
for children 14-18 years o f age, where 47 percent are out o f school, O f those not
attending school, about half o f them v i i work while the rest stays inactive. I t has been
estimated that about 33,600 youth 13-18 years o f age are out o f the school system and
should be induced to return to school or to receive special training to upgrade their skills
for the modernizing Costa Rican economy.
3
-may have trouble accessing healthcare10.
The poverty profile shows that despite a universal health system, roughly 30
percent o f the poor are having trouble accessing the Caja Costarricense de Seguro Social
(CCSS) programs for the uninsured. This reflects problems with knowledge and access.
Health conditions also vary considerably between the non-poor and the poor. The results
show that more than half o f the poor and extreme poor had a self-declared health
condition at the time o f the survey. More importantly, a majority o f the remaining people
in extreme poverty indicated having a permanent physical or mental limitation. Over 113
o f the elderly in extreme poverty had a permanent limitation, and another 10 percent a
temporary limitation. While the country has made the epidemiological transition, the
health system has yet to fully adjust to the changing nature o f health care needs.
-and children younger than five and adults older than 65 years of age are the most
vulnerable groups11.
Despite the relative strength o f the healthcare system and the progress in
extending primary education, children 0-5 years o f age are a highly vulnerable population
group in Costa Rica. About 84,000 o f them (95 percent o f the poor group) are not
attending CEN-CINAI or Hogares Comunitarios centers. Most children stay at home
under the care o f
mothers, older siblings, or relatives. Over 80 percent o f mothers o f these children have
only primary education and may be unable to provide adequate stimulation and the motor
and social skills their young children need to start breaking the poverty cycle. The elderly
over 65 years o f age in extreme poverty are also a highly vulnerable group because o f
their ill health and low incomes. About 46 percent o f extreme poor people older than 65
years o f age reported permanent or temporary physical or mental limitation. About
14,000 elderly in extreme poverty and poor (about 50 percent o f group) are not covered
by contributory or assistance pensions.
11.
The Impact o f Social Spending
Mixed results, despite a large increase in social expenditures12.
During the decade o f the 1990’s, Costa Rica made impressive progress in making
social spending a priority and increasing the allocations to priority programs. As a result,
the main indicators improved significantly: l i f e expectancy at birth is close to 76 years,
the infant mortality rate dropped from 15 to 13 for every thousand live births (10.3 in
2001), access to drinking water i s around 80 percent, and illiteracy has dropped to only 5
percent o f the population over 12 years o f age. Despite these accomplishments, analysis
indicates that the results have been mixed. In some areas, notably health care, Costa
Rica’s striking performance is a sharp contrast to other countries in the Region and
even approaches some OECD countries. In other areas, such as secondary education,
progress has been uneven. Although access to services for poor groups has improved
considerably, there are gaps in outcomes between poor and non-poor students and
between urban and rural areas, resulting from a lack o f efficient targeting mechanisms
which reduces the cost-effectiveness o f social programs.
4
Education
AccompZishments in primary education and Ziteracy13.
Costa Rica has made major strides in the education sector, including nearly
universal primary coverage and low rates o f illiteracy, and has gone further than most
countries in introducing modern technology, mainly at the primary level. There have been
some improvements in secondary education enrollment, increasing from 40 percent in
1990 to
nearly 50 percent by 1999 and further increasing to 54 percent by 2001'. Increasing
spending per student over the decade has contributed to improving coverage rates.
Despite the increasing spending and increasing coverage rates, there are signs that
performance decreased over the decade. Although secondary coverage improved, little
progress was made reducing the gap between rich and poor. During the second half o f the
1990's, enrollment o f 5 year-old children in the lowest income quartile was 50 percent
lower than the highest income quartile; furthermore, enrollment shows great differences
between urban and rural areas.
-but high rates of drop-out and grade repetition amongst the poorThere are particularly alarming results in the areas o f repetition, dropout rates,
14.
low secondary completion rates and targeting. Key figures are:
0
0
0
0
Overall more than 10 percent o f all students grades lSt-6th repeat at least one
grade, with higher rates for repetition in 1st- 7 th grades (16%). Decreasing
repetition has a great impact since cost reduction and resource allocation can be
used for improving quality and coverage equity.
Each year nearly 23,000 students drop out at the primary school level and 19,000
drop out at high school level.
Only 113 o f the Costa Rican youth 20 years old have completed high school
education. The differences are even more acute between regions and income
quartiles. Only 15% o f the 20 years old from the lowest quartile have completed
12 years o f education, while almost 60% for those in the highest income quartile.
There are important weaknesses in the targeting o f education programs aimed at
the poor. Four education programs have been developed in an attempt to reduce
inequality: School Vouchers, Student Transportation, School-Lunch Programs
and Scholarships. There is, however, a problem in resource allocation since
beneficiaries in the lowest income quintile receive less than 40% o f the School
Voucher Program benefits and 34%of the School Lunch Program benefits. These
problems are the result o f the universal concept under which these programs
function, and because targeting criteria for the most vulnerable groups have not
been applied in allocating resources.
'
The total secondary enrollment rises to 62 percent if other Secondary programs such as IPEC are
considered in the matriculate
5
Health
Substantial improvements in efficiency of healthcareprovision15.
Over the past decade, Costa Rica has made substantial progress in improving the
health o f the population, and has actually decreased spending while extending access and
improving productivity. Despite these improvements, the health sector i s starting to feel
increasing strain as Costa Rica’s epidemiological and demographic profile changes and
the opportunities to use the private sector to generate efficiency, quality and competition
have started to expand.
16.
From 1996 to 2000, the CCSS introduced key changes aimed at extending access
to primary care services, establishing a framework for decentralization, improving
community participation, strengthening hospital management and introducing a culture o f
performance based evaluation. The management contracts incorporate a clear definition
o f objectives for all healthcare providers and establish an evaluation process that
motivates performance improvement. By the end o f the decade, results were already
evident in lower average length o f stay, lower hospital infection rates, greater user
satisfaction, and the introduction o f total quality management programs.
17.
Through these efforts the Government addressed the dual objectives -contain
spending and focus on allocating resources more efficiently- to improve quality, equity
and efficiency o f service delivery. Total public health spending decreased slightly over
the decade to just under 5.5 GDP in 99. Despite this fall as a share o f GDP, real per capita
public expenditure on health increased 19% during the decade, to almost US$ 210 in 99.
Private health expenditure i s among the lowest in the L A C region (20% o f all health
expenditure in 98 was carried out in the private sector), but at national level, it i s
significant, as it represents close to 2% o f GDP.
The CCSS offers healthcare to all and has obtained coverage o f nearly 90% o f the
18.
population. Nonetheless, nearly 30 percent o f the poor are uninsured, and have problems
accessing basic services. For those that do get access, waiting l i s t s are a problem as
average waiting times are over 12 months for several services. The pressure o f a free
health system i s increasingly evident.
-but medium to long term problems remain19.
The report highlights a number o f important results regarding access, equity, and
financing in the sector.
The extension o f the PHC model to nearly 90% o f the population had an
important impact. Access and utilization o f health service are highly progressive,
indicating the pro-poor benefits o f a universal health insurance system and
improvements in access through recent strategies o f basic health teams and areas.
The data analyzed show a clear trend toward increasing use o f general
practitioners and ambulatory services, which will eventually lead to lower costs
and shorter waiting times.
6
e
e
e
During the last decade the CCSS has maintained financial equilibrium, even
producing an operational surplus in most years, due to faster increases in real
contributions per direct insured person than the real cost per direct insured person.
Reducing levels o f evasion and late payment-focused mainly on salary underreporting and non-insurance-is critical to making further improvements in CCSS
financing and equity. There are two obstacles to reducing evasion levels: first, the
limited development o f systems for monitoring and measuring evasion; second,
contribution control systems for small and middle-sized companies do not comply
with the minimum requirements o f technical support.
In the next fifty years, the population pyramid will show a large expansion among
the elderly population. This, together with changes in the epidemiological profile,
will increase the more costly and complex causes o f medical visits and hospital
expenditures, and lead to escalating costs and real expenditure.
The report indicates that financial sustainability in the medium and long term w i l l
be strongly determined by real wage levels, the ability to reduce evasion and by
the possibility o f controlling the expenditures and improving results-or, in other
words, increasing “value for money”.
Social Protection
Significant reforms to pensions20.
In pensions, Costa Rica has made some significant reforms in the past decade.
The majority o f the reforms addressed the most pressing financial problems posed by the
diversity o f benefits among the many different pension schemes. Under the 1992 and
1995 reforms, most o f the special pensions programs were eliminated, benefit schemes
were unified, and requirements and benefits were rationalized to make some progress to
uniformity. The reforms achieved a significant reduction in the actuarial liabilities
financed by the Central Government Budget and in the government subsidy needed to
cover expenses, even though in the short-term it increased fiscal expenditures to meet
acquired rights due to existing beneficiaries.
21.
At the end o f the last decade, approximately 59% o f the Economically Active
Population (EAP) were covered by the National Pensions System (SNP). This represents
a decrease in coverage from 66% at the beginning o f the decade; however, the coverage
o f self-employed workers increased to 27% (99). As a consequence o f the maturity level
o f the IVM Plan, the coverage o f beneficiaries by non-contributory programs is much less
than coverage by contributory programs, protecting 36% o f the population aged 60 years
or older in the year 2000. The report finds that approximately 35% o f the population over
65 years o f age i s not covered by any benefit.
-with l i m i t e ~ ~ s impactca~
22.
The approval o f the Ley de Proteccibn a1 Trabajador was an important step
towards establishing a capitalization based pension system, as a second pillar, under the
supervision o f the recently created Pension Superintendence. While this latter reform
could be criticized for not going deep enough in reforming the existing pension system, it
has the advantage that, compared to reforms in other countries, it has a limited fiscal
7
impact, Part o f the fiscal impact o f the reform w i l l be the strengthening o f expenses,
including information campaigns, strengthening the Superintendence o f Pensions, and
establishing the centralized collection system in the CCSS. Another fiscal impact could
arise from the implementation o f the new rules for the means-tested old age pensions.
-a well-established and well-flnanced social assistance networkIn social assistance, Costa Rica has a well-established social assistance network
23.
which spends an estimated o f US$250 million per year to protect vulnerable groups and
to deliver a wide gamut o f social programs. There are, however, critical gaps in social
assistance provided to key vulnerable groups, as many o f the benefits do not reach the
poorest individuals. Among the critical gaps in social assistance are the inadequate
coverage o f programs for poor children under five years o f age, who may lack adequate
education and stimulation, and assistance for the elderly poor not covered by the formal
pension system. Institutional strengtheningand modernization would help to avoid
duplications, reduce costs, and offer better services and they could be complemented by
delivery systems involving communities and NGOs.
-but funds are inflexibly allocated24.
The importance o f increasing the effectiveness o f social assistance programs is
underscored by the fact that Costa Rica spends between 1.5-1.8'70 o f GDP in social
assistance (a much higher percentage than that o f other similar countries). There have
been recent improvements in program coordination and a few programs have been
eliminated, but efforts are needed to change the inflexible system, often resulting from
outdated laws and institutional arrangements. For example, the Costa Rican government
has invested an annual average o f $39 million in its two main nutrition programs over the
last decade, equivalent to 0.3% o f GDP-although malnutrition in Costa Rica i s quite
low, even in poor families.
-and are not well targeted25.
Targeting o f most safety net programs has been weak. According to household
surveys statistics for 99, only about 24% o f subsidies involved in the public provision o f
early child education have gone to the poorest 25% o f the population, and about 25% o f
housing subsidies have gone to the poorest 25% o f the population. Overall, the share o f
social assistance programs resources received by the poorest 25% just approximates their
share in the population, implying little or no re-distributive impact o f spending. Targeting
o f assistance programs has improved recently with the introduction o f the SIP0 system to
select beneficiaries for a number o f programs, including the school voucher and
scholarship programs, school stipends to poor children and other direct income support
programs operated by IMAS. Considerable work will be required to ensure that the most
needy are targeted and that more transparent mechanisms are used to assign benefits.
8
111.
The Way Forward: Policy Recommendations
Education
26.
The recommended measures for primary education include, among others: (i)
strengthening the teaching and learning of reading, writing and math skills in first
through sixth grades; (ii)making more effective use o f learning assessment findings; (iii)
improving in-service teacher training; and (iv) strengthening community and parental
participation in school-related matters.
27.
If improvements in value for money are to be obtained, structural changes will
have to be made in the following directions: (i)update the existing curriculum; (ii)
improve teacher training; (iii)increase secondary education supply through a menu o f
options, including traditionat schools, distance learning, open-access education, virtual
schools and vocational training; (iv) promote the collaboration with the private sector to
strengthen the relevance o f secondary education; and (v) help parents and students,
especially in rural areas, to finance part o f opportunity costs o f studying through
scholarships, conditional cash transfers, and other supplemental financing schemes.
28.
Progress among the poor has been limited over the past five years as compared
with the top income groups. Consequently, in addition to efforts to improve coverage and
quality described above, the Ministry o f Education needs to improve the targeting and
equity o f programs, such as school feeding, transportation and scholarships.
29.
The cost implications o f the recommended primary and secondary education
measures are relatively modest when compared with existing resources for education. In
total, it i s estimated that the cost increases o f the suggested measures would sum to
between 6 and 7% o f current expenditures. These increases could be financed by
improving internal efficiency, through reduction in repetition rates, for example; and by
reducing poorly targeted programs, which distribute resources to less needy populations.
Crude estimates show that repetition in primary school costs about $2 1.2 million per year
or about 10% o f the education budget for primary education, while the costs for
secondary education repetition are equivalent to $14.8 million per year.
Health
30.
Costa Rica needs to continue the reform process started in the early 90s to reduce
waste and improve services by: (i)
consolidating the Ministry o f Health role as steward
and policy maker and strengthening health education and public health programs; (ii)
consolidating the EBAIS model and further extending access to the estimated 12% o f the
population that i s not covered by this model; (iii)improving administrative and budgeting
procedures in the CCSS and consolidating the culture o f performance agreements with
hospitalslother health providers to increase coverage o f primary health care and improve
efficiency; (iv) promoting changes in the system to increase management and financial
autonomy o f health providers in the context o f the 99 Law on Deconcentration; (v)
reducing current disparities in expenditures levels by region; (vi) introducing changes in
9
the pharmaceutical procurement system to produce savings in storage and procurement;
(vii) strengthening the CCSS’ collections system and promoting changes in the financial
information systems; and (viii) developing alternative delivery arrangements through
public-private partnerships that complement public services and gradually introduce
managed competition in the healthcare market.
31.
The cost implications o f the continued reform process have been estimated at
about US$70 million over 5 years, but these costs are about half the savings that can be
obtained from the reforms over the same period. The Costa Rica Health Sector Project
will produce substantial savings for the sector, primarily through reductions in
hospitalization costs resulting from ambulatory surgery, pharmaceutical management,
and reduced overhead from increasing decentralization ($12 million per year).
Improvements in pharmaceutical supply chain management alone could save over $30
million per year by reducing unnecessary inventory costs. Even under conservative
assumptions, direct benefits would exceed $24 million per year.
Social Protection
32. Pensions: There are important issues remaining for the future. These include: (i)
reduce replacement rates and future costs o f the public plans and introduce incentives for
contributing a greater share o f actual earnings in the earlier years o f the earnings cycle, in
order to guarantee their financial sustainability; (ii) expand coverage, improve
membership management and control o f contributions; (iii)extending coverage and
improving targeting of the non-contributory pensions; and (iv) consolidating reforms that
w i l l guarantee the long-term sustainability o f the pension schemes for Government
workers. If reforms are not undertaken, as the population ages sharply over the next 30
years the increasing financial imbalance could lead to pension fund insolvency.
33.
Spending priorities in social assistance need an urgent change. Priority actions
are in three fronts: (i)introduce legislative changes to FODESAF’s law, so that the
government can change spending priorities according to needs and direct more resources
to priority vulnerable groups; (ii)
consolidate efforts to improve coordination o f programs
and eliminate duplications; and (iii)improve targeting, coverage and design social
assistance programs; and (iv) complete coverage o f the poor by non-contributory
assistance pension programs.
34.
The cost implications o f expanding E C D programs for poor children and noncontributory pensions for the elderly poor are also relatively modest and appear to be
affordable within the current social assistance budget. It has been estimated that
increasing ECD coverage to all children in a mix o f center-based care and community
and parental care, would cost about US$26 million per year. The current budget o f the
CEN-CINAI program i s about US$19 million per year, and it i s estimated that an
additional U S $ l 1 million would be required to cover all poor children. These are rough
estimates that assume that non-poor children are not attended in the public programs.
Costs could be reduced further if the CEN-CINAI programs are changed to reduce food
subsidies and health care provided by the CCSS. In relation to covering the estimated
10
7,000 elderly poor still not covered, the annual cost could amount to about US$3.1
million which can be financed by shifting resources from non-poor pensioners that
currently receive a public pension.
Program Coordination and Evaluation
3 5.
Improving InstitutionaZ Coordination, The impact o f social spending in Costa
Rica could be improved, particularly its impact on the poor, with the creation o f a policymaking mechanism charged with setting social policy, exploiting synergies, and reducing
programs overlaps. The government should consider possibilities for improving
coordination o f social policies by exploring the creation o f a Council for Social Policy
Coordination under the direction o f the President, with a technical secretariat to define
priorities and regularly evaluate the impact and targeting o f social programs. Such an
entity would define programs and their goals, beneficiary populations, and the
institutional arrangements to carry out key strategies, Efforts in this direction have been
undertaken in recent administrations, but they have been hampered by institutional
rigidities and laws which have undermined coordination efforts and the reform or
elimination o f ineffective programs or institutions. In this regard, allowing FODESAF
greater flexibility to channel resources to vulnerable groups and to respond to changing
conditions, particularly during crisis, will greatly contribute to improving the
effectiveness o f social spending.
36.
Strengthening, monitoring and evaluation systems. The lack o f an effective
monitoring and evaluation systems system for the social sectors i s an impediment to
ensuring value for money in social spending. This i s most evident in programs such as the
CEN-CINAI where-had a good evaluation program existed-resources could have
been saved by finding the most cost effective alternative for child care. Different
modalities o f child care, some including only parental education, others-including
center-based stimulation and early child education4ould have been evaluated to
determine their impacts and relative costs. Monitoring and evaluation i s key to evaluate
progress, evaluate impact o f programs and make more efficient decisions on programs to
improve social indicators o f the poor. The practice o f establishing base-lines and
measuring the impact o f specific programs should be implemented routinely in order to
draw lessons from experience-which can be used to modify programs and improve their
impact. In addition, instruments such as Living Standards and Measurement Surveys and
improved household surveys provide valuable information on key target groups and on
the outcomes o f the main social programs, complementing the annual household surveys
currently carried out by the Statistical Institute. At the same time, evaluation should
include ex-ante and ex-post evaluation o f social sector programs using cost-effectiveness
and cost-benefit analysis to assess programs.
37.
The collective impact o f the actions presented in this report would contribute to
progressive improvements in the impact o f social spending and to ensuring that poverty
reduction i s not tied exclusively to rapid economic growth. Clearly, improvements should
focus on how to improve the impact o f existing resources and ensuring that any
additional resources that may be allocated to the social sectors are targeted to the poor.
11
CAS Annex D
Costa Rica Public Debt Management and
Domestic Debt Market Development Assessment Report
summary
Costa Rica’s public debt has significant exposure due to its relatively high level (over
50% o f debt-to-GDP) and i t s vulnerabilities to exchange rate, interest rate and
refinancing risk. The Costa Rican authorities are aware o f these risks and wish to better
manage them, which includes a further development o f the domestic debt market. The
authorities have requested participation in the Bank’s Program o f Country Assessment
and Reform Plan in Debt Management and Domestic Debt Market Development, and
have already hosted the Assessment mission. The corresponding Assessment Report i s
the base for discussion o f the reform plan design, a stage which is being initiated with the
full support and active participation o f the authorities. However, as developing capacity
in debt management and debt markets i s a lengthy process, the Bank will also help the
country develop appropriate forms o f continued assistance beyond the scope o f the
Program.
I.
Background
Public debt management and domestic’debt market development in Costa Rica should be
evaluated within a context o f macroeconomic vulnerability. While widely considered to
have the most stable political environment and highest social indicators in its region,
Costa Rica has suffered recently in terms o f lower economic growth, and significant
public sector and current account deficits.
With a relatively high debt-to-GDP ratio (over %YO),debt sustainability i s becoming an
issue, according to a recent debt sustainability analysis (DSA) made by the Banco Central
de Costa Rica (BCCR). The government’s continued ability to service i t s debt is
considered vulnerable to external shocks, even moderate, that could diminish economic
growth rates, cause a real currency devaluation or lead to an increase in real interest rates.
The government has made it a key priority to pass fiscal measures that would address
growing imbalances, but the riskiness o f the debt structure itself could cause the
necessary fiscal adjustment to be much larger should these risks materialize. Costa Rica’s
public debt - o f which almost 70% corresponds to the central government- i s potentially
risky not only because o f its relatively high level, but also because its structure i s exposed
to exchange rate, interest rate and refinancing risk.
Currently, close to 45% o f central government (CG) debt has exposure to currency risk ,
30% has exposure to floating interest rates, and refinancing r i s k for the next year i s fairly
significant, with 23% o f debt coming due; in particular, the central government’s
domestic debt has significant refinancing risk, as 32% matures in less than 1 year and an
’ Source of data i s detailed in Costa Rica Country Assessment Report
additional 29% has maturities between 1 and 5 years. These exposures could result in
significant increases in the budget’s debt servicing load.
As for BCCR debt, although almost 80% o f it i s domestic, 63% o f total debt i s exposed to
currency risk largely because more than half o f i t s domestic debt i s issued in time
deposits in U S dollars (CERTD$). Duration i s relatively short ( O S years). Financial
losses materializing from BCCR debt (i.e., the quasi fiscal deficit) would eventually be
covered by the central govemment, so ultimately the latter bears the risk o f the public
debt portfolio,
These financial risks could be better managed with sound public debt management
practices and successful development o f the domestic debt market. The Costa Rican
authorities are well aware o f the vulnerabilities associated with their country’s public
debt, and have indicated their desire to move to a more technical and efficient
management o f these risks. As a result, they requested that their country be included n
the joint World Bank - IMF Program o f Country Assessment and Reform Plan in Public
Debt Management and Domestic Debt Market Development.
T h i s program was
developed as a follow-up to the best practice guidelines on public debt management and
domestic debt market development2.
The Program’s main objective i s to design a set o f reforms and capacity building
initiatives, based on a diagnostic, to improve a country’s capacity in sovereign debt
management and in the development and maintenance o f the domestic debt market. A
second objective is the provision o f m important demonstration project that can show
how principles for sound public debt management and the function o f debt markets can
be translated into practical reform programs.
T h i s brief annex summarizes a more detailed joint Bank-IMF Country Debt management
and Debt Market Development Assessment rq30rt.~ Developing capacity in debt
management and in developing local debt markets i s a lengthy process. Hence, the
remaining sections summarize the main fmdings o f this work with the important proviso
that this will be a continuing process.
II.
Key issues
Public debt management
In recent years the Costa Rican authorities have made important progress in modernizing
public debt management, including: the merging within the Ministerio de Hacienda (MH)
o f Credit0 Publico into the Tesoreria to create one consolidated debt management office
with a front, middle and back office structure; the creation o f an Asset and Liability
~
“Guidelines for Public Lkbt Management”, IMF and The World Bank, 2001.
Following the request by the Government to participate in the Program, a joint World Bank-IMF mission visited San
Jose in July 2003, and left in the fiekl an Aide Memoire summarizing the main findings. Subsequently, a more detailed
Country Assessment report was produced and provided to the authorities for their review. A Memorandum of
Understandingis being discussed to confirm the authorities’ interest in pursuing the second phase, i.e. design o f the
reform plan.
2
Management Department in the central bank, also with a front, middle and back office
structure; progress in developing the domestic debt market, particularly at the short end
o f the yield curve and promotion o f the creation o f a standardized regional debt market;
and work on analysis o f the debt’s costs and risks, and with this, preliminary proposals
for a debt management strategy, both by MH and BCCR.
However, public debt management i s compartmentalized in different institutions: MH
issues debt to meet central government funding requirements, while BCCR issues debt
for open market operations (OMOs) and for funding. its own quasi-fiscal deficit4. As a
result, the debt issuance objectives o f the two entities are to a degree uncoordinated and
at times even conflicting, resulting in the lack o f an integrated strategy for managing the
aggregate public sector debt portfolio and its risk implications for the government’s
balance sheet, and for developing the domestic debt markets.
Also missing i s a more formal set o f responsibilities for the authorities involved in debt
management, as for example, explicit strategic objectives related to managing the costrisk trade-off inherent in debt portfolios, a formal decision making apparatus that
coordinates the two entities, periodic reports to top policy-makers with strategic
recommendations for managing the debt and developing the domestic debt market, and in
tum, reports to Congress on strategy choice and implementation.
This may be related to the institutional fragmentation o f debt management
responsibilities; there are many advantages to having these responsibilities consolidated
in one entity, which in many countries tends to be the Ministry o f Finance. In the case o f
Costa Rica, such a proposal would require a M e r strengthening o f the institutional
capacity o f the Tesoreria in MH, in order that it take on the debt management
responsibilities currently being carried out by BCCR. Such a project would include
strengthening the areas o f staffing, training and information technology.
Until this transference i s completed, hwever, greater coordination is required between
Tesoreria and BCCR in order to develop an integrated strategy for managing the cost and
risk o f debt and for developing the domestic debt market. A top political commitment and
leadership are required, as there i s a tendency for each institution to focus on their own
more narrowly defined objectives.
An important area o f work would be the development o f cash-flow model for
quantifjmg debt-servicing risk for all BCCR and MH debt, which would feed into the
development o f an integrated debt management strategy, with reference to risk and cost
trade-offs and development o f the domestic debt market.
Eventually debt management should be removed from BCCR’s functions by recapitaliming the latter, or through
transfer of annual quasi-fiscal deficit onto government’s budget.
3
Monetary policy and debt management I domestic debt market interface
There i s also progress and remaining issues for the interface between monetary policy
and debt management. On the one hand, progress has been made with the introduction o f
competitive joint auctions for central government and central bank securities and with the
standardization o f new issues to improve their liquidity and marketability, There are
however, remaining issues:
.
growing fiscal deficits together with heavy quasi-fiscal losses and a negative capital
position o f the BCCR are obstructing the conduct o f monetary policy;
the need to strengthen BCCR balance sheet by restoring positive capital and
eliminating operating losses; concomitantly, the absence o f assets with which to
undertake repurchase agreements and remove liquidity has induced the BCCR to use
auctions o f primary securities as the principal instrument o f OMOs;
the increased dollarization trend, high level o f ksintermediation (off-balance sheet
operations) and interest rates volatility on assets denominated in domestic cunency
reduce the scope o f monetary policy, thus aggravating the complexity o f monetary
programming and the short term implementation o f liquidity management;
the introduction o f an explicit Lombard facility -at a preannounce interest rate- would
not only serve as a proper signal for monetary policy, but would also provide necessary
liquidity. The latter, together with a concomitant deposit facility to absorb liquidity,
would help develop a corridor to smooth interest rate fluctuations;
sound monetary policy should be complemented with an appropriate cash
management policy to improve the overall liquidity management and to develop the
money market. Nevertheless, there seems to be an inadequate information base and
capacity for assessing, projecting and updating short-term liquidity, thereby making cash
flows uncertain and volatile.
.
.
.
.
Many o f these issues highlight the need to re-capitalize the BCCR, as also recommended
in the Financial Sector Assessment.’ The authorities are committed to such a process and
are well aware of the problems that are arising for debt management, debt market
development, and implementation o f monetary policy.
Domestic debt market development
Overall Costa Rica’s debt market development i s limited by structural features o f the
market that include the prominence o f public sector as a key demander o f such securities,
a limited true private investor base, and limitations in the basic infrastructure for custody
clearing and settlement o f government securities. In addition, development i s also
hindered by important institutional limitations, the most prominent o f which i s the lack o f
an explicit written debt issuance strategy agreed upon by MH and BCCR.
Debt Issuance Strategy: As mentioned, Costa Rica’s domestic debt market development
i s hindered by the lack o f an explicit, written debt issuance strategy between MH and
BCCR. While improvements in coordination have been made for sub-one year issuance,
Costa Rica FSAP
4
the tendency to be reactive and sometimes arbitrary in terms o f the auction calendar,
security choice and characteristics, and issuance quantities, has damaged the credibility
o f the authorities. A reduction in this uncertainty would likely lead to a lowering o f the
government’s fmancing costs. In addition, improving the systems for forecasting and
accounting in the case o f M H ’ s cash needs and BCCR’s liquidity needs would help set
the stage for a better auction process.
The concentration in the distribution channels, and the unique role o f the Puestos in the
auctioning process for public debt has negative implications for transparency and
competition in the market. Competition issues are fiuther clouded as the Puestos often
form part o f larger financial conglomerates, and have an intrinsic relationship to the
public institutions.
Other methods o f government security distribution should be
investigated, with the caveat that the structure o f the financial system at large in terms o f
fmancial conglomerates may limit the options.
M a r k e t Structure Considerations: The current high paced growth o f assets managed by
mutual funds along with specific features o f C R s securities markets can place the
fmancial system at risk should the market suffer any type o f price shock. The high
concentration in the portfolio composition (in government securities), flawed capital and
liquidity requirements, along with a valuation methodology which relies on marking to
model in an illiquid market exacerbates systemic risk. Mutual funds with longer term and
relatively illiquid assets are susceptible to a vicious cycle where sudden redemptions
cause fund managers to sell assets quickly, which in an illiquid market causes large drops
in asset prices and correspondingly large drops in portfolio valuation. T h i s in turn fuels
M e r redemptions. Furthermore, since the largest o f mutual funds are also part o f stateowned financial conglomerates, the fmancial system at large can be pulled into such a
crisis. In order to avoid such an occurrence, the supervisory bodies should study
alternatives to the current capital requirements and monitor liquidity mismatches more
closely. T h i s should include the development o f a reporting framework that will enable
such monitoring.6
The Superintendencia de Valores should consider implementing M e r incentives,
including a redefinition o f the “liquidity coefficient”, for the Fondos de I n v e r s i h to
properly insure against such risks. The coefficient, used to calculate the amount o f
liquidity the funds must maintain, does a poor, one-dimensional job at measuring
potential risk, as it does not analyze the underlying nature o f the fund portfolios, and i s
backward looking. The amount o f liquidity the fund must maintain should be inversely
proportional to the liquidity o f the assets it holds, and should consider the riskiness o f the
assets as well, at a minimum. The liquidity requirements should consider the cwerall
possibility o f illiquidity o f the market as a whole, in addition to the difficulty in asset
valuation.
The significant negative duration gap in obligatory pension funds makes them a natural
buyer o f long term colon denominated issues, and a natural participant in the
Several other Latin American countries are more carefdly addressing this problem (e.g. Mexico, Colombia, and
Brazil.
5
government’s intention to establish a longer dated yield curve in colones. Currently, the
pension fimd’s appetite to match duration i s hindered by the existing mark to market
requirement for their long dated government securities. Since the longer dated securities
tend to be more illiquid, their mark-to-market value tends to suffer more volatility. A
more carefid study o f the liability structure would help the government understand the
types o f instruments these pension funds would most naturally require to ameliorate their
risk structure.
As is typical in many developing markets, the secondary market in CR i s illiquid,
dominated by government securities and with trading concentrated in the short end o f the
curve. There have been too many issuers o f public debt with different characteristics.,
although in recent years the fragmentation has been somewhat reduced, via actions to
undertake more effective fiscal planning and via more coordination in issuance processes,
However, there are s t i l l problems in the area o f the different types o f outstanding
securities, particularly for the TUDES and Tasa Basica. The outstanding issues o f Tasa
Basica number over 20,000, with maturities ranging from 2003 to 2015, with 26 different
interest rate margins (determining coupons). With this amount o f non-standardized
issues outstanding, it i s nearly impossible to expect liquidity. Along with new regular
issuance, the authorities should examine how to use exchange offers or debt buybacks to
try and reduce the fragmentation in instruments in the medium to longer end o f the curve.
Valuation o f portfolios o f government securities remains complex in Costa Rica except in
the very short end o f the curve, due to illiquidity and the various structural problems
mentioned elsewhere. Current methods o f marking to model and interpolation cannot
substitute for the fiu-ther development o f a local colones curve with sufficiently liquid
benchmarks. In part, this i s explained by lack o f sufficient standardization o f long dated
colon denominated debt. However, fixther review o f the methods now deployed by the
Bolsa for determining the vector o f prices, in light o f both intemational experience and o f
the trading system design, i s in order.
Market Infrastructure: The infrastructure for clearing, custody and settlement o f
securities in the secondary market in Costa Rica has fragmented liquidity until recently.
In large part the specific requirements associated with the “locking in o f collateral”
within three different trading regimes (the Bolsa, the MIB, and the Mercado de Liquidez
for Puestos only) have resulted in a situation o f segmented local markets in which
liquidity i s dispersed. In effect it is impossible to free collateral locked into one platform
to trade in another because there i s not one true centralized depository, nor fungibility o f
the securities. Similar problems o f a lack o f interoperability and lack o f consistency o f
the current custody arrangements with international standards also hurt liquidity. M e n
combined with the non-standardization o f securities and the relative disincentives to trade
long dated securities (more than 180 days) due to current valuation guidelines, these
factors help to explain the lack o f liquidity in the secondary market.
The BCCR in conjunction with other agencies i s now developing the new Sistema de
Anotacion en Cuenta (SAC) that will effectively create one centralized depository for all
government debt. At first this entity will be operated by the BCCR but will likely be
6
divested (this i s allowed for in the new LRMV) to be managed by a special entity with
wide ownership (investors, banks, brokers, the exchange etc.) and professional
management. The new depository will allow for the effective linkage between the public
debt markets traded on the Bolsa o f OTC with the inter-bank and repurchase agreement
markets. This new system w i l l allow for much greater flexibility in the types of
transactions that can be undertaken by all market participants across these markets (e.g.
electronic negotiation o f securities based on bilateral or multilateral netting, exchange
traded or OTC etc.). I t w i l l also allow for fungibility o f securities on deposit and is
essential to support any effort to promote regional trading o f dollar denominated money
market instruments or ~ecurities.~
In going forward the authorities w i l l need to pay special attention to the risks inherent in
implementing this more complex system especially in the area o f securities clearing and
in light o f the growing offshore trading and cross-border trading o f money market and
debt instruments among different Central American countries that will be facilitated over
time.
The attached matrix, extracted from the Country Assessement Report, provides a
s m a r y o f issues and recommendations, with a preliminary indication o f their priority
and period o f implementation.
IJI.
Costa Rica Second Stage ProjectedOutput: Reform Program
The scope and timing o f the second stage o f the Program will depend upon the Costa
Rican authorities’ commitment and on the. level and nature o f resources needed to
implement the reform plan and specific follow-up technical assistance projects. The
output o f the second stage would be the design o f a detailed program o f reforms and
institution and capacity building in the areas mentioned, to be developed in close cooperation with officials. The focus o f the program w i l l be practical solutions to the
problems identified and a sequencing o f interventions.
Based on the experience o f other countries, a program o f this type can take some time,
and should be viewed as a major project, with a project manager, the involvement o f key
technical staff from both institutions, and a high level steering committee to provide
guidance.
Note that the new system will allow for new issues o f securities to be dematerialized and registeredby the number of
the operation o f the title and will allow for fhgibility. Custody accounts will now be independent o f the specific front
end trading mechanismto trade the contracts e.g., the MIB or Bolsa. There i s also the beginningo f a market in dollar
denominated repos trading cross border among Central American countries and this will be fostered if there i s a more
modern and flexible framework for custody and settlement (liquidation) o f all forms o f securities contracts.
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$1
CAS Annex E
Synthesis of Costa Rica
Financial Sector Assessment
Background
The Financial Sector Assessment (FSA) i s based on the work o f the joint WBlIMF
mission that visited Costa Rica as part o f the Financial Sector Assessment Program
(FSAP) during October 22-29 and December 5-13,2001. The FSA results were
discussed in September 2002 with relevant authorities o f the new administration during a
World Bank visit to San Jost. They were also discussed extensively with the authorities
in November 2002 and January 2003 in the context o f the IMF Article I V Consultation.
This summary mostly reflects the state o f the Costa Rican financial system and the
supervisory oversight based on information available as o f end-2001. During 2002 the
Costa Rican authorities have taken relevant measures to address some o f the key issues
identified in the FSA, particularly as regards the strengtheningo f the bank supervision
framework.
A. Overall Assessment
The financial sector i s deep relative to other countries in the region and increasingly
diversified. It i s organized around financial groups that often include, in addition to an
onshore bank, an offshore bank ,a stock broker, an investment fund, an insurance
commercialization firm, a pension fund, and a mortgage company. Gross assets o f
financial institutions reached 72 percent o f GDP in June 2001, which is high by Latin
American standards. While banks account for 77 percent o f the financial system assets
and investment funds (mutual funds and pension funds) have grown rapidly in recent
years to 10.4 percent o f financial sector, the capital market remains narrow and mainly
centered on public securities.
The public sector has an important presence in Costa Rica’s highly concentrated
financial system, limiting competition. The onshore banking system continues to be
dominated by public banks, which include three state-owned commercial banks (Banco
Nacional, Banco de Costa Rica, and Banco Nacional de Cartago), and a special-charter
bank (Banco Popular) in principle owned by all Costa Rican workers. They account for
about 75 percent o f total banking deposits. Consequently, banking concentration, albeit
declining, continues to be high, even by Latin American standards. The public sector has
a monopoly o f the insurance sector, through the INS, and dominates the pension and
mutual fund industry
The banking system has become more diversified in recent years, with private banks
continuing to gain market share. Onshore private banks include 17 banks, 10 o f which
have at least a 50 percent share o f foreign capital (from the U.S. and Central American
countries). They have expanded their share in onshore banking, following the
authorization, in 1996, to open sight deposits. Notwithstanding their higher cost o f
funding, due to their more limited presence in the retail market and lack o f deposit
guarantee, in contrast with the state guarantee enjoyed by all public bank deposits, the
private banks’ share o f onshore bank lendingrose from 33 percent in early 1998 to
42 percent in August 2001, as they countered their local funding handicaps with more
aggressive lending in dollars, a rapid increase in funding through external lines o f credit,
better service, and quicker product innovation. As a result, the contrast between the asset
structure o f public and private banks, while s t i l l sharp has tended to become less
pronounced. Public banks concentrate in c o b lending to small borrowers and col6ndenominated public securities while private banks focus on dollar operations with the
larger and more sophisticated customers
Offshore banking is unusually large in Costa Rica. Offshore banks account for about
24 percent total banking system assets. They are licensed in foreign (mainly Caribbean)
jurisdictions but conduct most o f their deposit-taking and lending activities with Costa
Rican residents and are, therefore, fully woven into the country’s domestic financial and
economic activity. The assets o f private offshore banks are equivalent to 40 percent o f the
assets o f private onshore banks and to 100 percent o f the assets o f their corresponding
onshore banks, as against 11 percent for public banks. Offshore banks grew rapidly in the
initial stages o f private banking, in response to high unremunerated reserve requirements
(over 28 percent in 1995) and reflecting private banks’ search for a competitive edge
against public banks. Offshore banks’ growth i s tapering o f f following a substantial
reduction in reserve requirements (to 9 percent at end-2001), concerns about the negative
connotations o f offshore banking, and aggressive competition in the dollar funding
market by mutual funds and public banks.
The already high degree o f financial dollarization is on an increasing trend. At
present, 45 percent o f deposits and 50 percent o f loans o f the onshore banking system i s
dollar-denominated. The share o f dollar loans in the onshore loan portfolio o f private
banks is, at 60 percent, higher than in public banks (40 percent). The authorities estimate
that about half o f onshore dollar loans are to debtors whose incomes are not in dollars,
which understates the problem. Financial dollarization may be generally fostered by
ongoing international financial integration, but it i s accentuated by the exchange rate
regime. The rapid increase in dollar funding has enabled dollar loans to grow faster than
dollar deposits, while deposit dollarization has grown despite a shift in interest rate
differentials in favor o f colon deposits caused in part by the relative abundance o f local
dollars. The increase in the funding cost o f colon loans, together with high intermediation
spreads in local currency has raised the cost o f colon loans, inducing dollar loans to
expand across the board, including to consumer loans and mortgages.
The capital market i s narrow and centered on public securities and rep0 operations.
The dominant security in the market i s domestic public debt paper issued by the Treasury
and Central Bank, o f short duration (less than one year). Partly due to the small size o f
the country and concentrated ownership patterns, the market for private securities i s
undeveloped. There i s only a handful o f private debt securities, mainly issued by the
financial sector, with limited trading. The equity market is nearly non-existent. The
capital market has performed basically two functions: orthodox finance o f the public
sector and money market activity.
2
The intermediation spreads are high. High spreads between col6n deposit and lending
interest rates (at about 12 percentage points, on average) in the onshore banking system
partly reflect uneven regulatory and tax treatment, and market segmentation. They also
reflect a crowding out o f col6n credit by the predominantly col6n-denominated domestic
public debt. Finally, they reflect the use o f currency denomination as a vehicle for price
discrimination, as col6n customers are generally less sophisticated than dollar customers
and have less access to alternative financial outlays, The notable differences between the
average size o f col6n deposits and loans clearly illustrate such market segmentation.
Banks are exposed to interest rate risk and to exchange rate risk. Banks are not
directly exposed to interest rate risk, due to the widespread use o f floating lending rates.
However, this shifts risk to borrowers and increases banks’ indirect exposure to interest
rate risk by accentuating their exposure to credit risk. Similarly, banks’ direct exposure to
the risk o f currency depreciation i s not significant, as the scope for holding short open
dollar positions i s limited by regulation. However, banks are indirectly exposed through
their borrowers. Banks are aware o f the risks associated with lending in foreign currency
to borrowers who do not receive dollar incomes and have taken some steps to mitigate
such risks..
Liquidity in the onshore banking system has been declining and i s unevenly
distributed. Liquidity has declined in recent years as the monetary authorities reduced
reserve requirements and banks expanded their lending operations. Also, liquidity i s
unevenly distributed across banks. While public banks are generally quite liquid,
reflecting their large holdings o f Costa Rican government securities, the liquidity o f some
private banks lies much below the average for the system. The short average maturity o f
.bank deposits (75 percent o f deposits have a less than three-month maturity), some
shortcomings o f the inter-bank money market, and the lack of deposit insurance for
private banks increase the risk that some banks may encounter in a situation o f
turbulence.
Competition between private and public commercial banks has increased, but
significant regulatory and tax asymmetries remain. The privileges o f public banks
include the state guarantee on all their liabilities while no explicit deposit insurance exists
for private banks. The tax exemption o f their dollar deposits, and the requirement on
private banks to deposit at least 17 percent o f their short-term deposits in state banks in
order to be entitled to take demand deposits. On the other hand, the capacity o f state
banks to compete i s hindered by their legal status as public entities, which makes them
akin to a government ministry. As a result, they have difficulties in adopting profit
maximization as the objective and they face cumbersome public sector procurement
guidelines and inflexible personnel and salary policies. These asymmetries are mostly
grounded in the law and create an uneven playing field that complicates prudential
oversight.
3
B.
Main Recommendations o f the FSA
.
The FSA recommended the authorities to devise a comprehensive and coordinated
medium-term strategy that addresses the problems and promotes financial deepening. The
main elements o f the strategy included:
Reforms of the prudential regulatory framework aimed at leveling the playing field
between public and private banks and on-shore and offshore banks, strengthening the
legal mandate o f supervisory agencies, allowing the creation o f buffers against systemic
risks, allowing Costa Rican prudential norms to apply uniformly across all banks.
Reforms o f the supervisory framework, including o f on-shore banks and offshore
banks through the introduction o f fully consolidated supervision o f financial
conglomerates, a strengthening o f the capabilities o f SUGEF and steps to foster
improvements in banks’ own risk management system and greater market discipline.
Reforms of the safety net, including the introduction o f prudential buffers, the
introduction of a comprehensive deposit insurance scheme in conjunction with an
effective bank failure resolution framework.
Improvements in crisis management, including strengthening operational managements
o f the lender o f last resort facility, improvements in procedures for interveningtroubled
banks, and changes in legislation to prevent excessive protection o f debtors and
disincentives for creditor participation.
Improvements in liquidity management, including steeps to promote a deepening o f
the interbank money market, a recapitalization o f the Central Bank, the development o f a
active open market intervention capacity, and improvements in the payments system.
Additionally, reforms to ensure viability o f the pension system, while not pressing in the
short-run, need to be introduced to keep public debt under control, Reforms to improve
the functioning o f securities, pensions, and insurance markets carry relatively less
urgency, but are essential for development. Over the medium-term, reforms should aim
not only at financial stability and depth, but also at broadening access to financial
services. This requires continuous strengthening o f the enabling environment through
improvements in the legal, accounting, informational, and contract-enforcement
infrastructure, and in tax treatment.
C.
Measures Adopted
In response to the recommendations o f the FSA the authorities have undertaken relevant
reforms, which include the following:
On Bank Supervision
Joint Supervision of Offshore Banks. During 2002 SUGEF made considerable progress
in signing Memoranda o f Understanding (MOU) with the supervisory authorities o f
4
countries where Costa Rican offshore banks are incorporated. To date, MOUs have been
signed with Panama, Colombia, El Salvador, Honduras, and Dominican Republic. (For a
description o f offshore banking in the case o f Costa Rica, see text paragraph 7.) Costa
Rican offshore banks are required eventually to move to jurisdictions with which an
M O U has been signed. Per the MOUs, SUGEF can conduct on-site inspections o f Costa
Rican offshore banks, jointly with the local supervisors. SUGEF can do the same with
respect to Costa Rica offshore banks incorporated in the US., even though a formal
M O U has not yet been signed with the U.S. A joint on-site inspection o f a Costa Rican
offshore bank incorporated in Panama was conducted in 2002.
Capital Requirements.In mid-2002, CONASSIF approved a Capital Adequacy Norm
that details the manner in which financial groups, included public bank based groups, are
to calculate capital adequacy on a solo and a consolidated basis. SUGEF does not have
legal power directly to regulate and supervise offshore banks and certain onshore nonbank financial intermediaries (e.g., leasing, factoring, and credit card companies).
However, the Capital Adequacy Norm addresses part o f this limitation indirectly. It
requires the holding company o f a financial group to hold capital equivalent to at least 20
percent o f the assets in the mentioned onshore non-bank intermediaries. Such capital
requirement can be reduced to 10 percent, at the discretion o f SUGEF, if the
intermediaries voluntarily accept to be subject to SUGEF’s onsite inspection.
Risk Management. The Federal Reserve o f Atlanta and the Office o f the Comptroller o f
the Currency provided technical assistance to SUGEF to strengthen i t s capacity to assess
risk management and other internal systems in financial institutions (including strategic
planning and management information systems). In addition, a new regulation on credit
risk deriving from dollar lending to non-dollar earners has been prepared and i s expected
to be approved soon by CONASSIF.
Information Requirements and Accounting Standards. On January lSt,
2003, a new
chart o f accounts, that generally follows International Accounting Standards, came into
effect.
Anti-Money Laundering. On December 2001, the SUGEF issued new guidelines for
“Know Your Customer” rules establishing the minimum standards that are to be
complied with by Costa Rican institutions.
On Securities Markets
Money market development. Procedures for the transfer o f securities used in repos were
simplified and improvements were introduced to facilitate information availability. The
Stock Exchange i s in the process o f changing the technological platform to facilitate the
integration o f the Mercado de Liquidez and the MIB.
Regulation. The supervisory roles o f SUGEVAL and the Stock Exchange were clarified.
Disclosure requirements for broker-dealers were enhanced and mark-to-market valuation
of investment funds introduced.
5
CAS Annex F
Costa Rica Consultations with Civil Society
ConsultationWorkshop
On 27 January 2004, a consultation workshop, attended by about 50 representatives o f a
broad spectrum o f Costa Rican civil society organizations, was carried out to discuss the
proposed World Bank’s Country Assistance Strategy (CAS) for Costa Rica. The Bank
team was led by Ms. Jane Arrnitage, Country Director, Central America and included
staff and managers representing each o f the key sectors. A small Government team, led
by the Vice-Minister o f Finance, also attended the workshop. Workshop participants
discussed the analysis that the Bank o f Costa Rica’s socio-economic development
context as well as the objectives and priorities considered in the draft o f the CAS. The
Costa Rican Academic Program o f the Latin American Faculty o f Social Sciences
(FLACSO), and the Central American Institute o f Business Administration (INCAE)
facilitated the workshop and played a key role in identifying Costa Rican participants.
Taking into account the main emphases o f the CAS, the participant list included
representatives from a range o f institutions such as trade unions, business chambers,
NGOs, research centers, academic institutions, churches, community organizations,
environmental organizati ons, as well as indigenous and afro-descendant organizations.
Representatives from the municipal governments o f San Jose and Puerto Limon were
also invited to participate. Prior to attending the workshop, participants were provided
a document outlining the main analytical conclusions and proposed program o f
activities contained in the draft CAS. Other analytical documents prepared by the Bank
on the current economic and social situation o f the Central American Region were also
distributed, together with background information on the World Bank, its institutional
priorities and its various support instruments. This was a set o f highly relevant
information to bring the participant’s perception on the World Bank up to date, in view
o f the Bank’s low profile in Costa Rica over the past decade or so.
The consultation workshop was divided into five sessions: a) an opening session with
welcoming remarks from representatives o f the Government o f Costa Rica, the
facilitating institutions, and the World Bank; b) a plenary session, where World Bank
representatives presented the main transformations in its institutional mission (poverty
reduction and achievement o f the MDGs), along with analytical considerations and the
main objectives and strategy envisioned in the CAS for Costa Rica; c) a thematic breakout session during which the Bank’s sector leaders for FPSI, PREM, HD and ESSD
presented and discussed the specific issues and proposed assistance activities for each
sector with civil society representatives; d) a plenary session where rapporteurs
presented and discussed comments and recommendations o f the thematic workgroups;
and e) a closing session, where World Bank representatives addressed the comments
and recommendations resulting f i o m the workshop, and where the Vice-Minister o f
Finance, on behalf o f the Government o f Costa Rica, thanked participants for their
feedback and inputs. Also, during the closing session Jane Armitage, the World Bank’s
Country Director, reiterated the institution’s commitment to study with special interest
the recommendations made at the consultation, share with participants the report o f the
workshop, which will be annexed to the CAS document prior to submission to the
Bank’s Board o f Executive Directors, and to publish the final CAS document approved
by the Board on the Bank’s external web-site for full public disclosure.
The three thematic workgroups were organized according to the three main focus areas
envisioned in the draft document o f the CAS, which respond to the needs and interest
for support expressed b y the Government o f Costa Rica. These were as follows: 1.
Business Climate and Macroeconomic Framework; 2. Human Development: Health,
Education, and Social Protection; and 3. the Environment and Agriculture’.
Main Comments and General Recommendationsof the Consultation
Rapporteurs o f the three groups raised a number o f general concerns with respect to
institutional, fiscal, socioeconomic and environmental as well as territorial issues for
consideration by the Government and the Bank‘s CAS team:
Institutional aspects: These involve issues relating to the administrative environment
and immediate context o f the proposed actions. Within this area, participants stressed
the importance o f increasing the Bank’s support for institutional building to enhance
cross-sectoral coordination within government and beyond and to strengthen the
capacity o f key public institutions to assume strong leadership roles. Within this sphere
o f inter-institutional relations, participants proposed that the Bank consider supporting
the Government’s capacity to convene and build consensus across different stakeholders
directly or indirectly involved in designing and implementing the country’s
development strategy. In addition, participants highlighted the importance o f building
solid societal consensus on reform directions to foster the adoption of public policies
which would continue to be implemented despite changes in government. Participants
also emphasized, in different ways, their view that the Bank could play a stronger role
in facilitating donor coordination, in order to contribute to more coherent and effective
action within the public sector.
Fiscal aspects. Overall, participants were very mindful o f the gap between available
public revenues and legitimate demands for spending to address critical socioeconomic needs. In this context, participants stressed the importance o f identifying
areas in which scarce economic resources particularly hinder the government’s capacity
to deliver and manage public services and goods. The participants also emphasized the
need to achieve a workable balance between prudent and efficient use o f public
resources, and the allocation o f appropriate levels o f fknding to address core social
needs, especially in areas such as education, health and social security. They highlighted
the need for creation o f incentives and supportive regulatory and institutional
frameworks for more innovative use o f available resources -for instance those deriving
from pension funds- t o finance poverty reducing activities. For example, establishment
o f credit lines for small producers andlor small-scale environmental conservation efforts
were pointed out as possible innovative solutions to increasing funding demands,
without increasing the pressure on the country’s fiscal deficit.
Socioeconomic and environmental aspects. The various groups highlighted the
importance o f human capital formation and the creation o f institutional capabilities as
key elements in the future development o f Costa Rica. The issue o f how to support
micro, small and medium size enterprises in the light o f the impacts of free-trade
agreements, and how to take advantage o f the opportunities for deepening vertical
’ See Box with the main specific recommendationsmade by the three groups.
linkages was o f interest to all participants, who approached the issue from their
individual vantage points.
Participants also considered it important for the Bank to support new environmental
sustainability initiatives, as a complement to the now well-established pioneering
conservation practices which have earned Costa Rica wide international recognition and
had a galvanizing effect on tourism to the country. These include paying special
attention to the problems deriving from the secalled gray agenda, associated with the
problem o f environmental contamination and its attendant economic and social issues.
In this regard, the participants strongly stressed the need for financial sustainability o f
environmental efforts.
Participants agreed that equity - both socio-economic and geographic - should be a
key hctor in the assessment o f investment priorities. Multiple calls were made to
acknowledge the existence o f major differences in welfare and livelihoods in Costa
Rica, requiring differentiated and selective actions to address diverse needs. Overall,
participants agreed that while Costa Rica's human development and poverty indicators
are more equitable than those o f most countries, households at the bottom o f the
distribution have significantly diminished access to social services and worse human
development indicators. In this context, several participants made references to the
"average CR" and to the "other CR", indicating that it should be a priority for the CAS
to highlightthe gaps and the diversity observed in the indicators. Further, they felt that
the CAS should emphasize the situation o f excluded groups, give priority to the need to
collect more and better information to reflect C R realities, and systematically monitor
the relevant indicators. The strong view, therefore, was that, within Costa Rica's
successful emphasis on universal program coverage, which accounts for many o f the
social achievements o f the country, targeted efforts are needed, tailored to the needs o f
the excluded groups.
In line with the above concerns, participants strongly emphasized the need to introduce
territorial selectivity mechanisms to facilitate closing the development gaps between
different regions. They indicated that this requires recognizing the different dynamics
at local, sub-regional, regional, and national level in order to appropriately design
interventions and institutional building initiatives. Furthermore, in view o f the central
role o f such issues as international labor migration, participants stressed the need to
connect national local processes with trans-national dynamics that may have significant
influence on the success or failure o f investment projects and public policies.
Lastly, participants in the various groups raised the central role that should be
granted to participatory practices. In their view, this will facilitate maintaining an
adequate link between actors and development processes, and will also activate
permanent and transparent mechanisms for monitoring and ensuring the accountability
o f projects and public policies.
3
SPECIFIC THEMAnc ~E~~~~~
Business Climate and Macro-Economic Environment
Explain at greater length the scope and achievements of the National Development Plan, and its
relation to the Country Assistance Strategy.
4 Provide more examples to substantiate how trade reduces poverty and generates employment.
Provide participants with information on the initiatives the World Bank is already involved in with
other multi-national institutions (IDB, CAF, CABEI).
The water and sanitation project envisioned to be developed in San Jose’s Great Metropolitan
Area has more bearing on the social sphere than merely on the field of infrastructure.
Human Development
General Recommendations
Expressly consider the situation of afro-descendant, indigenous, and disabled populations in the
strategy and operations supported by the World Bank. This implies keeping statisti= and creating
specific indicators with sufficient levels of desegregation, as well as sensitizing officials tasked with
working with these populations.
Include a component of communications for cultural change in the human development project.
Discuss, not only the efficiency but also the volume of resources allocated to social investment,
and even consider the possibility of programmatic lending to create an enabling environment for
lonpterm investment programs in the social sector.
Education
Examine in greater depth the reasons conditioning student drop-out and low educational
performance problems, thereby questioning the premise about the homogeneity of the Costa Rican
educational model.
Efforts to close the educational gaps should be emphatic in overcoming the backwardness of
secondary education with respect to developed countries, while also considering the deficit in
quality dragged on from previous year-levels.
Health
Assign high priority to regulation of the health sector given the growing presence of the private
sector on these matters, and the existing separation of functions between the Costa Rican Social
Security System (Caja Costamcense del Seguro Social) and the Ministry of Health. Regulation
should be linked to social participation on health -an aspect not clearly reflected in the documents
presented by the World Bank during this consultation.
Give a major boost to information systems and to improve accountability toward users and toward
civil society in general.
Establish policy guidelines to attend to higbrisk groups, in orderto optimize use of scant
resources.
Consider the possibility of providing World Bank support to review the overall model of allocation
of human and financial resources for the social sector. Ultimately management problems are
considered to be affecting the performance of services and the optimum use of resources.
Social Protection
In terms of social assistance, emphasis should be placed on supporting the poor with
comprehensive intervention models -rather than through “poor programs for the poor people.”
Encourage a discussion on the possible creation of a Ministry of Social Development in the face of
current inter-institutionalcoordination problems. At any rate, the Bank will necessarily have to
support a dialogue aimed at rethinking the “Social Authority.”
The Environment
Pay greater attention to providing specific support for the management of marinelcoastal
resources.
Loans aimed at the environmental sector should benefit not only the private sector, but also
protected public areas.
Support the creation of sustainable act es that create alternative employment (ecotourism)
Enhance coordination and information about programs and projects supported by the Bank
through the Ministry of the Environment (MINAE).
Favor the realization of more consultations on the Bank‘s support on environmental matters, with
participation of a broader group of key players that did not take part in the CAS consultation.
Coordinate with other multilateral and bilateral cooperation agencies, the support for implementing
the National Environmental Strategy.
,