Cablegate: Millennium Challenge Assessment of Timor-Leste

DE RUEHDT #0159/01 1560858
P 040858Z JUN 08




E.O. 12958: N/A

1. Summary: A senior team from the Millennium Challenge
Corporation (MCC) visited Timor-Leste from 18 to 22 May 2008.
The team met with a wide range of stakeholders during its visit,
outlining the steps necessary for Timor-Leste to obtain compact
assistance. Because Timor-Leste is currently under-performing on
the compact eligibility indicators, the government needs to take
concrete actions before the next MCC Board meeting at the end of
2008 to improve its indicator performance, particularly with
respect to Control of Corruption. This will enhance
Timor-Leste's chances of remaining eligible for compact
assistance. Other measures the government can take to improve
its chances of remaining eligible include conducting a broad
consultation process to identify priorities for compact
assistance and submitting a solid concept paper focused on a
single project or sector, both before the next MCC Board meeting
at the end of 2008. Given Timor-Leste's limited capacity,
several stakeholders are looking toward a compact to provide a
good model for outsourcing the management of key aspects of
country's development in the short-term and enforce a high
standard of accountability. End summary.

2. A senior team from the MCC visited Timor-Leste from 18 to 22
May 2008. John Hewko, Vice President for Compact Development,
led the team, which also included Darius Nassiry, Country
Director for Timor-Leste, and Richard Day, Managing Director for
Technical Assessment. The visit was essentially a re-engagement
mission; since the last MCC visit in March 2007, national
elections were held, and a new government came into power. The
visit provided the MCC an opportunity to meet the new government
and other elements of Timorese society and outline the steps
necessary to obtain compact assistance. The team also discussed
the various risks confronting Timor-Leste as it pursues a
compact with MCC and provided guidance on how Timor-Leste might
minimize such risks.

3. The team met with a wide range of stakeholders during its
short visit, including the President, Prime Minister, Deputy
Prime Minister, various government Ministers, Parliamentarians,
the leadership of the opposition FRETILIN party, the independent
Ombudsman (Provedor), international and local NGOs, the local
private sector, the international donor community, including the
Special Representative of the UN Secretary General and his
deputy, and several USAID implementing partners. Key
interlocutors included Minister of Finance Emilia Pires and MCC
Point of Contact Joao Saldanha. The team also took a one-day
field trip to Maubisse to experience road conditions first-hand,
visited two USAID-supported agribusiness projects to witness and
discuss some of the challenges to conducting business in
Timor-Leste, and met with local leaders along the way.


4. The MCC team reviewed for its Timorese audiences the
challenges that Timor-Leste faces in qualifying for MCC
assistance. Although it remains eligible for compact assistance,
Timor-Leste would not be eligible if indicator performance were
the sole basis for eligibility. In particular, Timor-Leste
currently does not pass the Control of Corruption indicator and
the Investing in People category of indicators. Scoring at the
54th percentile on the Business Start-Up indicator, one of three
indicators it passes in the Economic Freedom category,
Timor-Leste is also dangerously close to passing fewer than half
of the six Economic Freedom indicators. The lag in indicator
data means performance largely reflects efforts undertaken two
years ago. As such, it is highly unlikely that Timor-Leste will
pass enough indicators in FY 2009 to objectively qualify.

5. The MCC team stressed that the government of Timor-Leste
therefore needs to take a number of concrete actions before the
next MCC Board meeting at the end of 2008 that are likely to
improve indicator performance in the future, particularly with
respect to the Control of Corruption indicator. In this regard,
the various initiatives that are part of the Prime Minister's
"Year of Administrative Reform" - creating an independent civil
service commission, transforming the Office of the Inspector
General into an Auditor General reporting to the Parliament, and
creating an anti-corruption commission - are an encouraging

6. In discussions with the IMF, the MCC team learned Timor-Leste
may soon end up exceeding the Gross National Income per capita
threshold for low-income countries. Growth in 2007 and to date
in 2008 has been remarkable due to the effects of record oil
prices and continuing strong levels of natural energy
production. Should Timor-Leste exceed the low-income threshold,
it would need to compete with the significantly more advanced
pool of lower-middle income countries for a much smaller pool of
resources available for compacts. However, Timor-Leste exhibits
profound levels of poverty that are more consistent with
low-income countries than lower-middle income countries. Indeed,

DILI 00000159 002 OF 002

it is the lowest ranked country in Asia on the UNDP's Human
Development Index, and if Gross Domestic Product per capita was
used as the benchmark rather than Gross National Income per
capita, Timor-Leste would remain comfortably within the
low-income category at less than $400 per annum.

Compact Preparation

7. The previous government's compact proposal suffered from two
major faults: first, it was not informed by a broad, substantive
public consultation process, and, second, it proposed projects
in three major sectors and two minor sectors and was therefore
too large and complex given the government's limited management
and implementation capacity. The MCC team advised the new
government that it will need to conduct and document a good
consultation process to identify priorities for compact
assistance and strongly suggested that it consider submitting a
concept paper focused on a single, major project or sector.
Completing both before the next MCC Board meeting at the end of
2008 should improve Timor-Leste's chances of remaining eligible
for compact assistance in FY 2009.

8. Meetings with local officials and other stakeholders
suggested that roads, power, and water and sanitation may be
high-priority sectors for compact assistance. While donors have
funded some modest work in these sectors already, meetings
revealed that feasibility studies and other pre-design work are
largely non-existent. The Asian Development Bank, however, is in
the process of helping the government of Timor-Leste develop a
national road improvement strategy and investment plan, and the
previous government's proposal included some work that could
likely be built upon. The MCC team explained that there is a
trade-off between moving quickly toward a compact and developing
completely new projects, and speed is of the essence for
Timor-Leste given the uncertainty of the MCC's budget and the
fact that Timor-Leste will be competing with five other
countries for compact assistance in FY 2009. Building on work
that has already been started or identifying a project for which
some of the feasibility studies and pre-design work have already
been completed would be advantageous for Timor-Leste.

The Role for MCC

9. With nearly $2.2 billion in the Petroleum Fund at the end of
2007 and the Fund's value rising by over $100 million per month,
many questioned why Timor-Leste needs compact assistance at all.
There is widespread agreement that money is not a problem in
Timor-Leste; rather, the country's development is seriously
constrained by the government's very low capacity to execute
capital projects, such as infrastructure. Indeed, capacity is so
thin that some have suggested the government should outsource
the country's development in the short-term. Regrettably,
outsourcing - conceptualized locally as international borrowing
for project finance - has proven politically sensitive.

10. Key members of the government, as well as the opposition,
believe Timor-Leste has little choice but to outsource and also
see borrowing from multilateral or bilateral concessional
lenders as a potentially valuable means of financing the
country's development. These leaders view a compact with the MCC
as a means of breaking the domestic ideological opposition to
outsourcing project management and borrowing internationally to
finance development projects. A compact would provide a good
model for outsourcing accounting and procurement services, as
well as project implementation, and enforce a high standard of
accountability. If successful, the MCC model could encourage the
Timorese themselves to finance project implementation using the
MCC model and mechanisms.

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