Document o f The World Bank

FOR OFFICIAL USE ONLY

Report No: 47797 - AF

EMERGENCY PROJECT PAPER

ON A

PROPOSED GRANT

IN THE AMOUNT OF SDR 5.5 MILLION (US$S.O MILLION EQUIVALENT)

TO THE

ISLAMIC REPUBLIC OF AFGHANISTAN

FOR A

FINANCIAL SECTOR STRENGTHENING PROJECT

APRIL 2,2009

Finance and Private Sector Development Unit South Asia Region

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 otherwise be disclosed without World Bank authorization.

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CURRENCY EQUIVALENTS

ABA AIBF

AMLEFT

ANDs

ARDS

ATM CBS CR DA DAB EEC F IU FSD FSS GDP GOA HR I A S I C A IDA

IFC

Currency Unit = Afghani (A0 US$1= Af 52.39 (As of February 28,2009)

SDRl = US$1.47609 (As of February 28,2009)

FISCAL YEAR March 21- March 20

ABBREVIATIONS Afghanistan Bankers Association Afghanistan Institute o f Banking and Finance Anti-money 1aunderinglCombating the Financing o f Terrorism Afghanistan National Development Strategy Afghanistan Reconstruction Development Service Automatic Teller Machine Core Banking Solution Collateral Registry Designated Account Da Afghanistan Bank Enabling Environment Conference Financial Intelligence Unit Financial Supervision Department Financial Sector Strengthening Gross Domestic Product Government o f Afghanistan Human Resources International Accounting Standards Investment Climate Assessment International Development Association International Finance Corporation

LND ACRONYMS IFR Interim Financial Reporting IFRS

IMF I S N MFI MIS MISFA

MoF PCB PCR PEP-MENA

PFM PIC PPU PSC RFP SCB SDU SOE SME USAID

International Financial Reporting System International Monetary Fund Interim Strategy Note Micro Finance Institutions Management Information System Microfinance Investment Support Facility for Afghanistan Ministry o f Finance Private Commercial Bank Public Credit Registry Private Enterprise Partnership - Middle East and North Africa Public Finance Management Project Implementation Cell Procurement Policy Unit Project Steering Committee Request for Proposal State-owned Commercial Bank Special Disbursement Unit Statement o f Expenditures Small and Medium Enterprise United States Agency for International Development

Vice President: Isabel M. Guerrero

Sector Director: Ernest0 May Sector Manager: Simon C. Bel l

Co-Task Team Leader Kyoo-Won Oh

Country Director: Nicholas J. Krafft

Task Team Leader: Md. R e a d Islam

FOR OFFICIAL USE ONLY

A . B .

C . D . E . F . G .

AFGHANISTAN Financial Sector Strengthening Project

CONTENTS

Page

INTRODUCTION .............................................................................................................. 1

EMERGENCY CHALLENGE: COUNTRY CONTEXT, RECOVERY STRATEGY AND RATIONALE FOR PROPOSED BANK EMERGENCY PROJECT ...................... 1

BANK RESPONSE: THE PROJECT ................................................................................ 3 APPRAISAL OF PROJECT ACTIVITIES ........................................................................ 5 IMPLEMENTATION ARRANGEMENTS AND FINANCING PLAN ........................... 6 PROJECT RISKS AND MITIGATING MEASURES ...................................................... 9 TERMS AND CONDITIONS FOR PROJECT FINANCING ........................................ 11

Annex 1: Country. Sector. and Project Background ............................................................... 12

Annex 2: Detailed Description o f Project Components ........................................................... 23

Annex 3: Results Framework and Monitoring ........................................................................ 35

Annex 4: Summary of Estimated Project Costs ....................................................................... 38

Annex 5: Financial Management and Disbursement Arrangements ..................................... 39

Annex 6: Procurement Arrangements ...................................................................................... 49

Annex 7: Implementation and Monitoring Arrangements ..................................................... 59

Annex 8: Project Preparation and Appraisal Team Members ............................................... 64

Annex 9: Project Benefits ........................................................................................................... 65

Annex 10: Documents in Project Files ...................................................................................... 68

Annex 11: Statement o f Loans and Credits .............................................................................. 69

Annex 12: Country at a Glance ................................................................................................. 70

Map: IBRD 33358

This document has a restricted distribution and may be used by recipients only in the performance o f their off icial duties . I t s contents may not be otherwise disclosed without Wor ld Bank authorization .

ISLAMIC REPUBLIC OF AFGHANISTAN FINANCIAL SECTOR STRENGTHENING PROJECT

DATA SHEET SOUTH ASIA REGION

SASPF

Expected effectiveness date: July 1, 2009

Date: April 2, 2009 Country Director: Nicholas Krafft Sector Manager: Simon C. Bel l Lending instrument: Emergency operation Project ID: P110644

Expected closing date: June 30,2014

Task Team Leader: Md. Reazul Islam Co-Task Team Leader: Kyoo-Won Oh Sectors: Banking (80%); General Financial Sector

Themes: Other Financial and Private Sector (P) Environmental category: C

(20%)

Source IDA IFC/PEP-MENA Counter-funding: DAB, ABA and MISFA Total

Recipient: Islamic Republic o f Afghanistan Responsible Agency: Ministry o f Finance, Government o f Afghanistan Implementing Agency: Da Afghanistan Bank Type of Operation: New Operation [ X ] Additional Financing [ ] Existing Financing (restructuring) [ ] Financing type: Loan [ 3 Credit [ ] IDA Grant [ XI Other [ ] Total Amount: US$ 8,000,000 I Expected implementation period: 60 months

Local Foreign Total 0.00 8.00 8.00 0.00 0.59 0.59 0.77 0.00 0.77 0.77 8.59 9.36

2010 201 1 2012 2013 2014 Tota2

i IDA IFC/PEP-MENA Counter funding: DAB, ABA and MISFA

Does the emergency operation require any exceptions Have these been approved by Bank management? Are there any critical risks rated “substantial” or “high”? What safeguard policies are triggered, if any? Significant, non-standard conditions, if any?

IDA 1 SO 1 SO IFC/PEP-MENA 0.29 0.30 Counter funding: DAB, ABA and MISFA Total 2.56 1.80

0.77 L from

2.00 2.00 1.00 8.00 - 0.59 - 0.77

2.00 2.00 1.00 9.36 E 1 SO 0.30

1.80 Bank I

Yes [ ] N o [XI

Yes [XI No [ ] None

- 00 59 77 36 -

L

I None

A. INTRODUCTION

1. This Project Paper seeks the approval o f the Executive Directors to provide a grant in an amount o f SDR 5.5 million (US$ 8.0 million equivalent) to the Islamic Republic o f Afghanistan for the Financial Sector Strengthening Project (the FSS Project).

2. The proposed grant would help finance the costs associated with provision o f support for strengthening the capacity o f D a Afghanistan Bank (DAB), as well as developing necessary infrastructure in the financial sector such as Public Credit Registry (PCR), Collateral Registry (CR), and Afghanistan Institute o f Banking and Finance (AIBF). Over the last few years, considerable improvement o f the formal financial sector has been achieved in terms o f entry o f a large number o f private commercial banks and increase in the amount o f loans and deposits. However, there has been a disproportionately weak banking supervision capacity in DAB, and underdeveloped financial infrastructure, which possibly exposes the banking sector to potential systemic risks. The proposed support will therefore help respond to this situation by strengthening the capacity o f DAB and providing the necessary infrastructure in Afghanistan in order to increase access to credit, which has been shown to be a large hindrance to private sector development in Afghanistan. By strengthening DAB’S ability to carry out i t s core function o f banking supervision, as the financial services sector develops, DAB will be able to respond with appropriate supervisory and regulatory measures to ensure that the financial system remains on a sound footing. The investment in the financial infrastructure, i.e. PCR, CR and AIBF to be supported by the proposed grant will also help increase the availability o f the financial services in Afghanistan based on an appropriate legal and regulatory framework.

3. The FSS project supports DAB in a joint collaboration between International Development Association (IDA) and the International Finance Corporation (IFC), in order to facilitate development o f a Public Credit Registry and Collateral Registry. Through this collaboration, the IFC will provide the technical advice required to establish a Public Credit Registry and Collateral Registry including an assessment o f the current legal and regulatory framework, support on preparation o f new laws and regulations which may be required for PCR and CR, technical support during the vendor selection process, and assistance for raising awareness among relevant stakeholders. Once the legal framework and the functional specifications have been finalized, IDA will fund the physical development o f necessary IT systems for PCR and CR. In order to ensure successful implementation, a phased approach to developing these components has been agreed among DAB, IDA and the IFC. (see Annex 2 and 7 for further details.)

B. AND RATIONALE FOR PROPOSED BANK EMERGENCY PROJECT

EMERGENCY CHALLENGE: COUNTRY CONTEXT, RECOVERY STRATEGY

4. Afghanistan has experienced war and internal strife for almost thirty years. During this time, much o f the country’s infrastructure and human capital had been destroyed. The country also experienced political extremes, Le. from the Communist Government supported by the Soviets which implemented a centralized economy, to the Taliban Government with almost total neglect o f the economy. The formal economy and the financial system in Afghanistan were almost non-existent in 2001 after the fal l o f the Taliban regime. Despite progress made in the development o f the country since 2001, Afghanistan still faces threats from an armed insurgency, a high rate o f joblessness, high incidence o f poverty particularly in the rural areas, lack o f governance, and corruption. Additionally, the financial sector faces the risk o f being used as a conduit for the channeling and laundering o f illegal funds from the opium economy, and for financing o f terrorist and insurgent activities.

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5 . Afghanistan experienced significant economic growth over the last few years. Key growth drivers were post-conflict recovery in traditional agriculture, reconstruction and public sector investments financed through large external donor assistance. Real GDP grew by 7.4 percent in 2006/07 with double-digit growth rate between 2002 and 2006 and per capita income increased from US$125 to US$300 during the same period. However, the economic growth i s declining. The IMF has recently projected a growth o f 3.4% for 2008/09 as a result o f drought conditions in the country and the sharp decline in agricultural output.

6. There has also been considerable effort to rebuild the financial sector in terms o f i t s institutional and legal framework, including enactment o f the Law o f D a Afghanistan Bank (2004) and the L a w o f Banking in Afghanistan (2004). These laws laid a foundation for the re-establishment o f DAB as the central bank with autonomous regulatory authority to implement monetary pol icy and banking regulation and supervision. In addition, there has been considerable growth in the formal financial sector, particularly in the private commercial banks. Total assets o f the banking system have increased from AFG 19,300 mi l l ion (US$386 million) in 2005 to AFG 116,750 mi l l ion (US$ 2,335 mill ion) in 2008 and the market share o f the private commercial banks has expanded from 21% to 63% with an increase in the amount o f their assets from AFG 4,053 mi l l ion (U$81 mill ion) to AFG 73,552 mi l l ion (U$1,47 1 million).

7. Despite this overall growth, a weak financial sector s t i l l remains one o f the major constraints to private sector development in Afghanistan. Currently, the sector does not meet the financial needs o f businesses and individuals. Due to highly collateralized lending practices along with a lack o f financial intermediation capacity in the financial sector, access to credit remains a serious constraint to private sector development. The share o f total credit to GDP i s 6.7% (2007) in Afghanistan, which i s far less than the average share o f credit to GDP within South Asia at 43%. In the most recent Doing Business (2009) rankings for “Getting Credit”, a measure o f credit information sharing and legal rights o f borrowers and lenders, Afghanistan ranked 178* out o f 18 I countries.

8. A t the same time, there has been a disproportionately weak regulatory framework and banking supervision capacity in place in DAB, which i s required to undertake rigorous banking supervision. In a situation where the private commercial banks are experiencing rapid growth, the bad performance or failure of one o f these banks would create a huge impact on the financial sector and also shatter public confidence in the private commercial banks.

9. Cognizant o f the lack o f finance as one o f the main challenges to economic development, the GOA i s committed to financial sector reforms. In the Afghanistan Compact (2006), the GOA committed i tse l f to undertake a series o f financial sector reforms including the improvement o f the banking supervision function o f DAB and the re-structuring o f state-owned banks. In addition, under the Enabling Environment Conference (EEC) Road Map (2007), the GOA, together with development partners and the private sector, agreed to take strategic actions with a view to “strengthening the financial sector to increase access to credit and financial services”.

10. These strategic actions in the EEC Road Map have been further reflected in the Afghanistan National Development Strategy 2008-1 3 (ANDs) under the pi l lar o f “Economic Governance and Private Sector Development”. The ANDs sees a modern and competitive financial sector as one o f i t s main development objectives, and articulates a strategy to expand the availability and range o f financial products and services. Financial sector reforms under the ANDs include, among others: (i) build

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capacity in the financial sector by establishing an independent banking and business training institute; (ii) establish a credit information sharing system to facilitate commercial and consumer lending; and (iii) significantly expand the outreach and range o f financial products and services.

11, In responding to the challenges in the financial sector and GOA’S commitment to financial sector reforms, the FSS Project supports for: (i) strengthening the capacity o f Da Afghanistan Bank in the areas o f banking supervision, accounting, internal audit and human resource management; and (ii) developing necessary financial infrastructure such as Public Credit Registry, Collateral Registry, and Afghanistan Institute o f Banking and Finance.

12. The FSS Project will build on the work already undertaken by the World Bank’, as well as other international donors in the financial sector, including USAID and IMF. Particularly, USAID, through Bearingpoint, has made a significant contribution over the last five years in bringing Afghanistan and DAB from Ground Zero to a level o f reasonable competency in addressing financial sector development issues. During the course o f project preparation, the Bank held numerous discussions with other donors in determining the scope and components o f the FSS Project, and donors are supportive o f the Bank’s assistance to Afghanistan in the financial sector.

13. The FSS Project i s an important entry point for a sustainable engagement for broader financial sector reforms, which would include: reconciling the roles o f two remaining State-owned Commercial Banks, providing financial services across the nation, and ensuring financial stability in Afghanistan particularly in the presence o f potential systemic risks relating to the money laundering and terrorism financing.

C. BANK RESPONSE: THE PROJECT

14. Bank’s assistance strategy for Afghanistan: The Bank’s Interim Strategy Note for Afghanistan (ISN) o f April 2006 and the new I S N scheduled for delivery in June 2009 have three strategic pillars: (i) building the capacity o f the state and its accountability to its citizens to ensure the provision o f services that are affordable, accessible and o f adequate quality; (ii) promoting growth o f the rural economy and improving rural livelihoods; and (iii) supporting growth o f a formal, modern and competitive private sector. The proposed project i s closely aligned with the Bank’s assistance strategy for Afghanistan.

15. Project Development Objectives: In line with this strategy, the main objective o f the project i s “to help DAB improve its core function of banking supervision and regulation; and to help improve access to formal banking services by establishing key initial building blocks for further financial sector reform. ”

16. through the following project components. (see Annex 2 for further details.)

Summary of Project Components: The Project Development Objectives shall be achieved

’ World Bank Group involvement in the Afghanistan financial sector includes: the Financial Sector Study (2004); Afghanistan Investment Guarantee Facility (2005); Investment Climate Assessment (2006); Microfinance project (2006/07); Housing finance study (2007); Enabling Environment Conference (2007); AML/CTF workshops (Ongoing); and Afghanistan Rural Enterprise Development Program (under preparation).

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Commnent I - Strengthening the capacity of Da Afghanistan Bank (US$5.7 million)

17. This component will support strengthening DAB capacity through provision o f consultancy services and financing for IT system development in three critical areas: (i) developing the off-site supervision systems and supervision competencies in DAB; (ii) creating an effective accounting and internal auditing system functioning to generally acceptable international standards, which i s operationally critical and establishes DAB’S credibility; and (iii) establishing an effective human resource management system so it can move from relying on expatriate advisors to well-trained and empowered Afghan national staff.

Commnent 2 - Development o f basic infrastructure in the financial sector (US% 2.3 million)

18. In close collaboration with IFC, this component will assist in establishing the fol lowing basic financial sector infrastructure in Afghanistan: (i) a Public Credit Registry that will provide lenders information for efficient risk assessment on borrowers; (ii) a Collateral Registry for movable property that will provide lenders the ability to effectively use borrowers’ property as collateral; and (iii) Afghanistan Institute o f Banking and Finance to support development o f professional resources.

19. In supporting the establishment o f PCR and CRY IFC wil l provide technical advices for a legal framework, vendor selection and pubic awareness program; and IDA will fund the physical development o f necessary IT systems. The project also assists in establishing AIBF through funding support for training equipments, hiring staff and developing a training collaboration with a regional banker’s training institute.

20. Eligibility for Processing under OPBP 8.0: All projects in Afghanistan continue to be prepared under O P B P 8.00. Eligibility o f the FSS Project i s particularly based on the following: (a) there has been a rapid growth o f the commercial banking sector without sufficient supervision capacity in DAB; (b) the systemic risk i s particularly heightened in Afghanistan, where resources are scarce, basic financial infrastructure i s underdeveloped, and human capacity to effectively respond to potential sector crises i s lacking; and (c) the proposed interventions are complementary to the emergency support provided by other development partners.

21, Consistency with Interim Strategic Note for Afghanistan: The proposed activities are fully consistent with the third pil lar o f the Afghanistan I S N which i s ‘Supporting the Growth of a formal, modern and competitive private sector ’. The strategy proposed under the FSS Project i s also consistent with the two objectives set out in the ISN; (i) developing the capacity o f the state; and (ii) providing tangible benefit to the population. Component I o f the project will help increase the capacity o f the state through DAB by strengthening i t s abil ity to carry out i t s core functions o f banking regulation and supervision. Under Component 2 o f the project, tangible benefits will be provided to the population through the creation o f the necessary financial infrastructure to increase access to formal banking services in Afghanistan. When combined, the two components are mutually reinforcing in the sense that improved DAB capacity to carry out i t s core functions will ensure that the financial sector remains stable as the volume o f the financial transactions increases. The increased financial transactions and improved access to finance will also help lead to improved private sector growth.

22. Expected Outcomes: Key outcomes o f the project will include: (i) enhanced capacity of DAB in carrying out its core function offinancial sector stability, which will be achieved through a set o f intermediate outcomes measured by indicators such as decrease in the number o f days required to process supervisory data collected from the commercial banks, a clean audit report by the external

4

auditors, and increase in the number o f training courses in DAB; (ii) improved access to formal banking services through establishment of necessary j nanc ia l inzastructure, which will be achieved through a set o f intermediate outcomes measured by indicators such as increase in the number o f credit reports sent to the commercial banks, increased number o f assets that can serve as acceptable loan collaterals, and increased quality and number o f qualified bankers trained in AIBF.

D. APPRAISAL OF PROJECT ACTIVITIES

23. Project Benefits: The Project’s support on strengthening the capacity o f Da Afghanistan Bank i s expected to enhance efficiency and effectiveness o f the administrative activities in DAB, and streamline the delivery o f its services thus reducing the cost to the financial institutions dealing with DAB. I t will also provide timely, comprehensive, accurate and relevant information to the top management o f DAB. The investments in the financial infrastructure, which include the Public Credit Registry, Collateral Registry and Afghanistan Institute for Banking and Finance, will increase the availability o f the financial services and qualified bankers in Afghanistan based on an appropriate legal and regulatory framework for both borrowers and lenders to enforce their rights. Continued support will be provided for the operation o f PCR, CR and AIBF through the capacity building program, development o f operational guidelines and manuals, public awareness programs, and others.

24. Technical Evaluation: The majority o f funding under the FSS Project will go towards setting up necessary IT systems under both Components 1 and 2 for four functions: (i) automation o f off-site supervision in DAB; (ii) automation o f human resources management in DAB; (iii) IT system for Public Credit Registry; andliv) IT system for Collateral Registry. DAB has never directly implemented a donor financed project, nor does it have any experience in purchasing large and complex IT systems. Ensuring that these IT systems are properly procured and effectively installed i s therefore key to the overall success o f the project. The project has been structured in such a manner to provide DAB with adequate support to implement the project, taking into account the local emergency environment and the limitations at DAB.

25. For successful implementation o f the IT systems, an IT consultancy firm will be hired to conduct an initial assessment o f a l l IT systems in DAB and to prepare an IT development strategic plan for five years. The IT consultancy firm will receive specific functional specifications from two other consultants, one for the supervision department and the other for the human resources department. Terms o f References (TORS) o f the consultants have been already prepared, and will be finalized prior to implementation o f the project. Also, the IFC, working directly with the Public Credit Registry and Collateral Registry units at DAB, will provide the IT consultancy firm with the functional specifications for those systems.

26. These requirements will be analyzed by the IT consultancy firm against their assessment o f DAB’S overall IT system, in order to determine the most appropriate method o f purchasing the four required IT systems. Experiences from similar projects in other countries, such as Sr i Lanka and Bangladesh, suggest that the procurement method should be flexible and responsive to the local environment, rather than prescribe a rigid model from the start.

27. Once this analysis i s completed and in consultation with the procurement department at DAB, the IT consultancy firm shall assist DAB in drafting necessary technical specifications and bidding documents for the four required IT systems. The IT consultancy firm will also assist DAB in

5

establishing vendor selection procedures and in monitoring and supervising the installation o f the IT systems.

28. Institutional Evaluation: In order to carry out the project effectively, strong local ownership and effective coordination will be critical. DAB has already shown strong ownership o f the project and their efforts to date to lay the groundwork for an effective project have been impressive. DAB’S coordination with the Afghan National Assembly has already resulted in the draft Secured Transaction law being passed by the National Assembly in March 2009. Since the Lower House has passed the law, it i s highly likely that the law will be enacted by the Upper House and then signed by the President before the beginning o f project implementation.

29. The Project Director has already been hired by DAB and will continue to remain a DAB staff member throughout the lifetime o f the project. The Project Implementation Cell (PIC), with i t s terms o f reference, was formally established in January 2009, and held several internal meetings to discuss the project with i t s own internal reporting mechanisms established. In addition to this, the PIC will be able to draw on the ski l ls and experiences o f the international consultants to be hired under the FSS Project, to address any skills gaps in implementing the project. It will be critical that the international consultants become integrated fully into the day to day workings o f DAB to ensure that sk i l l s are transferred from them to the Afghan national staff effectively.

30. Environment and Social Safeguards: The project i s not funding any activity which will have any potential direct impact on the local environmental and social aspect. Also the project i s categorized C from the Safeguards point o f view. There i s therefore no requirement for an Environmental and Social Management Framework Review.

E. IMPLEMENTATION ARRANGEMENTS AND FINANCING PLAN

31. Implementation Arrangements: The project will be implemented by DAB through a two tier system o f project management, i.e. Project Implementation Cell (PIC) and Project Steering Committee (PSC).

32. The Project Implementation Cell (PIC) i s responsible for managing day-to-day project implementation. The PIC, led by a Project Director, i s composed o f staff o f the related departments o f DAB as well as the director o f the Afghanistan Institute o f Banking and Finance (AIBF). I t s main responsibilities include, inter alia, coordination o f project implementation among the various DAB departments and the PSC, preparation o f annual work plans and budgets, procurement, financial management, and preparation o f progress reports. Each concerned department for the project will nominate a PIC member with relevant experience. The PIC member will: work closely with the hired consultants; provide them with necessary information; attend project implementation meetings and; brief the head o f i t s department on the progress o f project implementation. Capacity within the related departments will be created in the areas o f procurement, financial management, human resource management, IT and others as required for project implementation. The PIC will be fully integrated into the day to day management, organization and operations o f DAB in order to avoid disruption and to enhance the effectiveness o f project implementation.

33. The Project Steering Committee (PSC), chaired by the Governor or the First Deputy Governor, and composed o f al l heads o f related departments, will oversee the PIC and provide strategic guidance and managerial direction for the project implementation. (See Annex 7 for further details.)

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34. Project Costs: The total cost o f the project i s estimated to be US$9.36 million. The IDA grant provides US$8.0 million, and the remaining balance will be provided by the IFC (in non-monetary terms but through technical assistance), DAB, the Afghan Banker's Association (ABA) and Microfinance Investment Support Facility for Afghanistan (MISFA). Details o f the project costs by component are set out in Annex 4.

35. Procurement: Procurement for the proposed project would be carried out in accordance with World Bank's "Guidelines: Procurement Under IBRD Loans and IDA Credits I' dated May 2004, revised in October 2006 and "Guidelines: Selection and Employment o f Consultants by World Bank Borrowers" dated May 2004, revised in October 2006, and the provisions stipulated in the Financing Agreement. Project procurement mainly comprises the purchase o f IT systems and related technical assistance. DAB has no experience in implementing Bank financed projects. Director General (ServicesKonstruction) o f DAB i s responsible for a l l procurement actions in DAB. IDA has agreed to allow the DAB to carry-out small value procurement. All large value procurement o f goods (NCB/ICB) and hiring the services o f consultants will be carried out with the assistance and guidance o f the Procurement Facilitation Unit o f the Afghanistan Reconstruction Development Service (ARDS-PU) under the Ministry o f Economy. IDA will conduct capacity building programs for DAB procurement staff to mitigate procurement-related risks. In addition, several capacity building programs for DAB staff have been agreed at international and regional level. (see Annex 6 for further details.)

36. Financial Management, Disbursement and Audit Arrangements: Project accounting, payments, financial statements and responsibility for submission o f audited financial statements are centralized within the Ministry o f Finance (MOF). Since IDA'S re-engagement with Afghanistan in 2002, IDA has been providing continued support to help the MOF develop and implement appropriate public financial management (PFM) systems through a series o f four IDA grant operations. The government-wide PFM systems, which are used for a l l IDA and Afghanistan Reconstruction Trust Fund (ARTF) projects, were assessed with the Public Expenditure and Financial Accountability (PEFA) Public Financial Management performance measurement framework in 2005 and at the end o f 2007, and found to be better than the average o f low-income countries, particularly on the Accounting, Recording and Reporting dimensions.

37. The annual external audits for IDA and ARTF funded operations in Afghanistan are carried out by the Auditor General (Control and Audit Office) with the support o f a firm o f public accountants selected through international competitive bidding for a period o f 3 years at a time. Since 2002, this arrangement has produced acceptable audits and contributed to strengthening o f the Control and Audit Office. Whenever issues have been identified in the previous audit reports, appropriate follow up with the government has taken place, including resolution o f issues or ineligible identifies in the audit and implementation o f corrective actions.

38. At the project level, the Accounting Department o f DAB will undertake responsibility o f the financial management functions with support from the Project Implementation Cell (PIC). Quarterly Financial Monitoring Reports will be prepared by DAB with support from the PIC. Consolidated project reports will be prepared, reviewed, and approved by the MoF.

39. A Designated Account (DA) will be opened at DAB in the name o f the project on terms and conditions satisfactory to IDA. The DA will be maintained by the MoF. Expenditure reporting in the form o f Statements o f Expenses (SOEs) will be submitted monthly. Financial management arrangements for the project are stated in details in Annex 5.

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40. Fund Flows: Fund management for the Project will follow existing procedures. As with al l public expenditure, al l payments under the project will be routed through MOF. In keeping with current practices for other projects in Afghanistan, the DA will be operated by the Special Disbursement Unit (SDU) in the Treasury Department MOF. Requests for payments from DA funds will be made to the SDU by DAB. In addition to payments from DA funds, DAB can also request the SDU to request direct payments to financial institutions, suppliers, consultants or consulting firms, and request issuance o f special commitments for contracts covered by letters o f credit. Such requests will follow World Bank procedures. All withdrawal applications to IDA, including advances, reimbursement, and direct payment applications, will be prepared and submitted by MOF.

41. Accounting and Reporting; The Accounting Department o f DAB and the FM Consultant o f the PIC will maintain essential project transaction records using computerized accounting system/ Excel spreadsheets and generate required monthly, quarterly, and annual reports.

42. The FM Manual, to be prepared by the DAB and to be approved by the Bank, will include: (i) roles and responsibilities for al l FM staff, (ii) documentation and approval procedures for payments, (iii) project reporting requirements, and (iv) quality assurance measures to help ensure that adequate internal controls and procedures are in place and are being followed.

43. The FM Manual will also establish project financial management in accordance with standard Afghan government policies and procedures including use o f the government Chart o f Accounts to record project expenditures. The use o f these procedures will enable adequate recording and reporting o f project expenditures. Overall project accounts will be maintained centrally in SDU, which will be ultimately responsible for recording o f a l l project expenditures and receipts in the Government’s accounting system. Reconciliation o f project expenditure records with MoF records will be carried out monthly by the FM consultant o f the PIC together with DAB.

44. Disbursement Method; Disbursements from the IDA grant will be made through advances, replenishment, reimbursement, direct payment, and payments under Special Commitments including full documentation or against statements o f expenditures, as appropriate.

45. Retroactivefinancing: A provision has been made to reimburse the Government for payments it makes, up to a maximum o f SDR 1,630,000 (US$ 2.4 million equivalent), for eligible project expenditures made in accordance with the Bank’s procurement guidelines, paid by Government after 01 January, 2009 and up to the signing o f the Financing Agreement.

46. Audit of Project Funds; The Auditor General, supported by the Audit Agent, i s responsible for auditing the accounts o f al l IDA and ARTF-financed projects. Annual audited project financial statements together with the entity - D a Afghanistan Bank’s audited financial statements will be submitted within six months o f the close o f GoA’s fiscal year.

47. Monitoring and Evaluation: The progress towards the attainment o f the outcome indicators and overall project development objectives will be monitored by the PIC. The information will be based on: (i) surveys o f the commercial banks conducted by the Afghanistan Bankers Association (ABA), which are evaluated by the Supreme Council o f DAB; (ii) ranking o f ‘Getting Credit’ indicator in the World Bank’s Doing Business report on a yearly basis; (iii) semi-annual progress reports sent to the PIC by the departments within DAB involved in the project; (iv) reports from the commercial banks; and (v) reports produced by external auditors.

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48. Supervision: The IDA and the IFC have staff members including fiduciary staff based in Kabul, who will provide continuous implementation support to DAB and will undertake on-going project supervision in a timely and effective manner. In addition, IDA and IFC will coordinate to carry out a jo in t supervision and project implementation support mission every six months.

F. PROJECT R I S K S AND MITIGATING MEASURES

49. The project risks at the country/sector/project level and their mitigation measures were extensively discussed with DAB throughout the project preparation. Major potential r isks at the sector and project level, which wil l influence the sustainability o f the project and their mitigation measures are flagged below (see a separate Risk Identification Worksheet for further details):

Potential risks Money Laundering and Terrorist Financing: These risks are high for a number o f interrelated factors including: the opium economy with high degree o f smuggling and trafficking, increasing amount o f government corruption, the integration o f the informal financial “Hawaladar” network into the formal financial networks o f neighboring countries, the weak anti-money laundering regime in place in DAB and the commercial banks, and the lack o f investigatory techniques and measures. These all contribute to an environment where money laundering and terrorist financing may occur with relative ease.

Legal framework for a Public Credit Registry: If a new Law i s required for operation o f a Public Credit Registry in Afghanistan, this will significantly slow down project implementation, ?specially given the extremely slow pace at which Laws are developed and passed by the National Assembly.

M it iga t ing measures The risks from money laundering and terrorist financing in Afghanistan are unlikely to be brought down without a significant drive from the central government in a strong collaboration with international donors.

However, there are measures that DAB and the commercial banks can continue to take to mitigate against these r isks to some extent. DAB already has a Financial Intelligence Unit in operation to monitor and record any suspicious transactions and can continue to make efforts to regulate the hawaladars. The creation o f the public credit registry and the collateral registry, will also allow the commercial banks and DAB to build up a verifiable data set o f individuals and their transactions. This data set has the potential to be used as part o f the wider AML/CFT efforts.

The IFC, which i s providing the technical support for this project, conducted a preliminary assessment as to whether a new Law in this area i s necessary. This assessment suggests that a new Law will not be required and that DAB regulations and/or customer consent will be sufficient for operation o f a Public Credit Registry in Afghanistan. IFC also hired a local lawyer to conduct a further thorough review o f the legal system in order to guide this process.

DAB agreed to include adoption o f appropriate ru les or regulations enabling the creation o f a public credit registry in the Financing Agreement as a disbursement condition for the PCR sub-component.

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-- - -- Potentia1 risks

Legal framework for a Collateral Registry: If the Secured Transaction law i s not approved by the National Assembly, the operation o f the Collateral Registry wil l not commence. Although the law was approved by the Lower House in March 2009, it s t i l l requires the approval o f the Upper House. DAB i s making all efforts so that the law i s enacted by both Houses o f the National Assembly, signed by the President with gazette notification completed.

Weak implementation capacity in DAB: DAB has never implemented a donor funded project itself. Previous support through USAID was provided by Bearing Point which established i t s own project management unit within DAB.

Lack of coordination between IFC and IDA: The IFC i s providing the technical assistance part o f developing the public credit registry and collateral registry by: reviewing, revising and drafting relevant enabling laws and regulations; conducting workshops to raise public awareness; providing necessary training program; and helping with the software and hardware specifications. IDA will finance the necessary IT system for the public credit registry and collateral registry. A lack o f coordination wil l therefore slow down the project implementation.

There i s almost no precedent where the Upper House - _ turns down the approval process for a law approved by the Lower House. Once the law i s approved by both Houses, the subsequent process o f the President signing the law and then i t s gazetting i s an automatic process.

However, DAB agreed to include adoption of appropriate legislation enabling the creation of a collateral registry in the Financing Agreement as a disbursement condition for the collateral registry sub- component . This disbursement condition i s also expected to enable DAB to further push for timely enactment o f the law.

A Project Implementation Cell (PIC) has already been established within DAB. The PIC i s headed by a project director and contains the heads o f all the departments in DAB relevant to this project. The PIC has already developed i t s terms o f reference and has held regular meetings to discuss the project. All members have been fully briefed about their roles and responsibilities. Capacity o f the PIC members wil l be further strengthened through the assistance provided by the international consultants hired under the project.

The PIC i s overseen by a Project Steering Committee (PSC), chaired by the Governor or the First deputy governor o f DAB. The PSC wil l regularly review the progress o f the project and provide policy advice and guidance to the PIC to ensure the project i s implemented smoothly.

The teams from IFC and IDA have already recognized the potential o f these r isks and have discussed extensively throughout the preparation o f the project. Roles and responsibilities for the development o f the infrastructure have been clearly outlined and incorporated in the Annex 7. The F C and IDA also plan to carry out a joint supervision mission every six month to ensure that the project i s being implemented in good collaboration.

Additionally, DAB has established two units within DAB, one for the collateral registry and one for the credit information bureau, to coordinate all the assistance they will require both internally and from the IFC and IDA.

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G. TERMS AND CONDITIONS FOR PROJECT FINANCING

50. the Project, including taxes. The grant i s on standard IDA grant terms.

The Project i s supported by an IDA Grant and will finance 100% o f expenditures incurred under

52.

e

e

51. To ensure that appropriate legal framework i s in place prior to procurement o f the IT systems for the Public Credit Registry and Collateral Registry, it was agreed that no withdrawal would be made:

for payments for the PCR, unless the Recipient has adopted appropriate rules or regulations enabling the creation o f a Public Credit Registry; and for payments for the CR, unless the Recipient has adopted appropriate legislation enabling the creation o f a Collateral Registry.

Dated legal covenants under the Project are: DAB shall no later than June 30, 2009 establish and thereafter maintain throughout the period o f Project implementation, a Project Steering Committee. DAB shall no later than October 31, 2009 appoint a financial management consultant within PIC and thereafter maintain for the duration o f the Project a suitably qualified financial management specialist. DAB shall no later than October 31, 2009 adopt a Financial Management Manual for the Project acceptable to the Association.

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Annex 1: Country, Sector, and Project Background AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

Country and Sector Issues

1. Despite a deteriorating security environment and increasing constraints to private sector development, Afghanistan experienced robust economic growth over the last few years. Key growth drivers were post-conflict recovery in traditional agriculture, reconstruction and public sector investments financed through large external donor assistance. Real GDP grew by 7.4 percent in 2006/07 with double-digit growth rate between 2002 and 2006. Per capita income increased from US$125 to US$300 during the same period. However, the economic growth i s declining. The M F has recently projected a growth o f 3.4% for 2008109 as a result o f drought conditions in the country and the sharp decline in agricultural output. Alongside o f this economic growth in Afghanistan, there also has been considerable effort to rebuild the financial sector in terms o f i t s institutional and legal framework, which has led to an increased number o f private commercial banks operating in Afghanistan.

2. Despite this overall growth, a weak financial sector s t i l l remains one o f the major binding constraints to private sector development in Afghanistan. Currently, the sector does not meet the financial needs o f businesses and individuals. Due to highly collateralized lending practices along with a lack o f financial intermediation capacity in the financial sector, access to credit remains a serious constraint to private sector development. The share o f total credit to GDP i s 6.7% (2007) in Afghanistan, which i s far less than the average share o f credit to GDP within South Asia at 43%. According to the Investment Climate Survey (2005), only 30 percent o f the surveyed f i r m s in Afghanistan had bank accounts and access to formal financial services. Most businesses rely on the informal fund transfer system, “hawala’y, to make payments and transfer funds, and nearly 21% o f f i r m s responding in the survey reported having a loan from “hawaladars” with an average term o f 3.8 months. In the most recent Doing Business (2009) rankings for “Getting Credit”, a measure o f credit information sharing and legal rights o f borrowers and lenders, Afghanistan ranked 178th out o f 18 1 countries.

3. Cognizant o f the lack o f finance as one o f the main challenges to economic development, the Government o f Afghanistan (GOA) i s committed to financial sector reforms. In the Afghanistan Compact (2006), the GOA committed i tse l f to undertake a series o f financial sector reforms including the improvement o f the banking supervision function o f D a Afghanistan Bank (DAB) and the re-structuring o f state-owned banks. In addition, under the Enabling Environment Conference (EEC) Road Map (2007), the GOA, together with development partners and the private sector, agreed to take strategic actions with a view to “strengthening the financial sector to increase access to credit and financial services”2.

4. These strategic actions in the EEC Road Map have been further reflected in the Afghanistan National Development Strategy 2008-13 (ANDs) under the pillar o f “Economic Governance and Private Sector Development”. The ANDs sees a modem and competitive financial sector as one o f i t s main development objectives, and articulates a strategy to expand the availability and range o f financial products and services, especially targeting small and medium enterprises. Among others, the ANDs i s specifically committed to: “(i) build capacity in the financial sector by establishing an independent banking and business training institute as a joint commercial bank; (ii) establish a credit information bureau to facilitate commercial and consumer lending; and (iii) significantly expand the outreach and range o f financial products and services.” These are all integral parts o f the Financial Sector Strengthening Project.

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* Main financial sector reform agreed under the Road Map include: (i) Enacting an appropriate legal framework for the financial sector; (ii) Establishing a Credit Information Bureau; and (iii) Setting up an independent banking training institute.

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5. The Bank’s Interim Strategy Note (ISN) for Afghanistan o f April 2006 and the new ISN scheduled for delivery in June 2009 clearly mirrors the GOA’S strategy of financial sector development with “supporting growth of a formal, modern and competitive private sector” as one o f three strategic pillars. The other two pillars include: (i) building the capacity of the state and i t s accountability to its citizens to ensure the provision of services that are affordable, accessible and o f adequate quality; and (ii) promoting growth o f the rural economy and improving rural livelihoods.

Financial Sector

6. In 2002 after the fall of the Taliban regime, the formal financial sector in Afghanistan was almost inoperative and the legal framework was virtually non-existent. Since then, Afghanistan’s financial sector has gone through two phases o f development. During the first phase: ‘re-building basic legal and institutional framework’ (2002-2004), substantial components of the necessary legal and institutional framework for a modern financial sector were introduced, including the Law of Da Afghanistan Bank (2004) and the Law o f Banking in Afghanistan (2004). These laws laid a foundation for the re-establishment of DAB as the central bank with autonomous regulatory authority to implement monetary policy and banking regulation and supervision. In the second phase: ‘emergence o f the formal financial services’ (2005 to present), there has been growth o f private commercial banks. In addition, DAB has also endeavored to improve the financial sector legal framework in order to expand the lending program o f commercial banks and to modernize the financial sector.

7. Immediate Challenges in the Jinancial sector: Although significant improvement o f the formal financial sector has been achieved in terms of entry o f a large number o f private commercial banks and increase in the amount o f loans and deposits. However, over the last few years, there has been disproportionately weak banking supervision capacity in place in DAB, which i s required to undertake rigorous banking supervision. Given the developing state of the financial sector in Afghanistan and i t s fundamental importance to development, the objective o f the GOA i s to build the capacity o f the financial sector so that it can serve the demand for credit from the private sector. In doing so, there are two critical challenges it must address: (i) ensuring that the financial regulator, i.e. DAB has the proper institutional capacity to adequately carry out its core functions, especially supervision o f a rapidly growing banking sector and thereby properly manage systemic risk issues; and (ii) finding ways o f establishing effective property rights and information that the financial sector can rely on for the purposes o f extending credit.

8. There are also other development challenges in the financial sector, which the Government of Afghanistan will have to address. These include: (i) increasing access to financial services generally to the underserved; (ii) expanding financing for small and medium enterprises and in particular to the agricultural and construction sector; (iii) reconciling and determining the role o f the two remaining State-owned Commercial Banks; and (iv) continuing to ensure the stability o f the financial sector through the prioritization and sustainable development o f new services.

Legal and Regulatory Framework

9. The Law ofDa Afghanistan Bank (2003) i s the legal foundation for DAB to operate as the Central Bank o f Afghanistan with the overarching objective to achieve and maintain domestic price ~tabil ity.~ In

Other tasks of DAB which are defined in the DAB law include: (i) to formulate, adopt and execute the monetary policy and the foreign exchange policy o f Afghanistan; (iii) to hold and manage the official foreign exchange reserves; (iv) to print and issue Afghani banknotes and coins; (v) to act as banker, adviser and f iscal agent to the State; (vi) to license or register and to regulate and supervise banks, foreign exchange dealers, money service providers, payment systems operators, securities service providers, securities transfer system operators, and such others as are permitted; and (vii) to establish, maintain and promote sound and efficient systems for payments, for transfers o f securities issued by the State or DAB.

3

order to achieve i t s objectives and tasks, DAB was granted the autonomous power to issue regulations both under the Law o f Da Afghanistan Bank and, in specific areas, the Law o f Banking in Afghanistan. To date DAB has issued numerous regulations including: (i) licensing o f banks; (ii) capital adequacy o f banks; (iii) prohibited and authorized activities o f banks; and (iv) enforcement powers o f DAB in relation to banks failing to meet legal and regulatory requirements.

10. The Law of Banking (2004) forms a legal foundation for banking regulations which subject all commercial banks in Afghanistan to certain requirements, restriction and guidelines. In 2006, DAB also passed a regulation setting out the requirements as to the licensing, corporate governance, permitted and prohibited activities, minimum prudential standards, and reporting o f Microfinance institutions, in order to protect depositors. The regulation i s based on modem, international best practices and, since it was passed all microfinance institutions are required to comply with i t s requirements.

1 1. The Law of Anti-Money Laundering and Proceeds of Crime was enacted in 2004. The law applies to all financial institutions, and tasks DAB with establishing a Financial Intelligence Unit (FIU), as an independent decision making authority, in order to monitor reports from Financial Institutions and analyze them for suspicious transactions. Accordingly, the FIU was established in March 2006. One o f the responsibilities o f the FIU i s to propose and develop new laws and regulations in order to achieve i t s objectives under the Anti-Money Laundering law.

12. A set of additional Laws have been recently drafted by DAB in an effort to expand the provision o f financial services in Afghanistan. These include the Law for Secured transactions on immovable property (Mortgage Law), Law for Secured transactions on movable property, Leasing Law and Negotiable Instruments Law. These are all at various points in the legislative process. The Insurance Law o f 1989 was amended by Presidential Decree in 2005. However, a new Insurance law and corresponding regulations have been drafted by the Afghanistan Insurance Commission (AIC), which also has the mandate to issue the licenses for and regulate the insurance sector in Afghanistan. The law i s currently with the Afghan National Assembly for the final enactment.

Commercial Banks

13. There are 17 commercial banks currently operating in Afghanistan, which include: (i) 2 State- owned Commercial Banks (SCB); (ii) 10 Private Commercial Banks (PCB); and (iii) 5 Branches o f Foreign Commercial Banks (BFCB),. Three SCBs, Mi l l ie Bank, Pashtani Bank and the Export Promotion Bank, were originally licensed at the time when the provisional banking licenses were issued in 2003. However, the Export Promotion Bank was merged with Pashtani Bank in September 2007, and the two SCBs were re- licensed on a condition that granting a permanent license would be considered if they could show good performance. These banks need to improve their management, governance and operations to play a competitive role in the financial sector. Since the first domestic PCB, i.e. Kabul Bank, was established in 2002, there has been significant growth o f PCBs in terms o f the volume o f their assets, lending, and deposits. Currently PCBs, particularly the two largest private commercial banks - Kabul Bank and Azizi Bank, dominate the financial market.

~

Seventeen commercial banks include: 2 SCBs - (i) Millie Bank and (ii) Pashtani Bank; 10 PCBs -: (i) Kabul Bank, (ii) Azizi Bank, (iii) Afghanistan International Bank, (iv) First Microfinance Bank, (v) Arian Bank, (vi) BRAC Bank, (vii) Development Bank o f Afghanistan, (viii) Afghan United Bank, (ix) Maiwand Bank, and (x) Ghazanfar Bank; 5 BFCBs -. (i) Standard Chartered Bank, (ii) Punjab National Bank, (iii) National Bank o f Pakistan, (iv) Habib Bank Limited, and (v) Bank Alfalah Limited.

4

14

14. The size of total assets in the commercial banks stands at about AFG 116,705 mil l ion (US$2,334 million) as o f December 2008, which i s 39.4% growth from March 2008. As indicated in Table 1, PCBs hold 63 % o f the total assets o f the market, while the two largest PCBs own about 45%. The assets o f 5 BFCBs exceed those o f 2 SCBs which have 40 branches in total.

15. I n terms of the size of loans, the PCBs significantly dominate other banks, holding almost 80% o f the total loans in the banking sector. The two largest PCBs hold about 62% o f total loans, which i s largely provided in USD currency. Unlike other types o f bank, SCBs provide about two thirds o f their loans in Afghani, which i s about 3 1% o f total Afghani loans. Before SCBs started limited lending in 2006, they had not been lending for about two years. Currently, M i l l i e Bank i s making SME loans and also preparing for housing loans. It appears that SCBs s t i l l have the Afghan public’s confidence. With some management improvement, SCBs are likely to increase the offering o f financial services, especially in rural areas, where the presence o f PCBs i s limited.

16. Most deposits, especially in USD currency, are also held in the PCBs, accounting for about 67% o f total deposits. A major share o f the deposits with SCBs i s in Afghanis. Foreign banks’ deposits in terms o f Afghanis are minimal, while their share o f USD deposit i s significant at about 29%. These deposits are mostly from donors and international NGOs. However, mobilization o f the USD deposit does not go to the domestic investment market, but goes to the short term international money market. Only 15% o f BFCB’s deposits in USD are invested in the local market.

Table 1: Banking Sector in Afghanistan (as o f 30 December 2008)

Tota l Assets

Tota l Loans (gross) Share of the total assets (%)

Afghani USD Other currencies Share ojthe total loans (%)

Afghani USD Other currencies Share ojthe total deposits (%)

Tota l Deposits

Source: Da Afghanistan Bank Foreign exchange rate: US$] = AFG 50

19,531 17%

6,953 4,407 2,546

14% 7,692 3,573 3,960

158 8%

51,341 44%

3 1,642 7,169

24,45 1 22

62 % 45,432 I4,93 1 28,820

1,68 1 49%

22,412 19%

9,788 2,574 7,185

29 19%

17,124 4,812

1 1.298 1,015 18%

(in I

- 23,422

20% 2,630

1 2,629

0 5%

23,011 2,965

18,068 1,979 25%

ghan Millions)

116,705 100%

51,014 14,152 36,811

51 100%

93,260 26,282 62,146 4,832 100%

17. As shown in Table 2, the banking sector in Afghanistan has been growing significantly over the last four years. Three salient trends are: (i) a tremendous growth o f the overall banking sector; (ii) significant expansion o f the PCBs in terms o f deposits and loans; and (iii) a notable decrease o f SCBs in the market share. Whi le the market share in total assets o f the SCBs has decreased from 54% to 17% during last four years, that o f the PCBs has increased from 21% to 64% during the same period.

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Table 2: Growth of Afghanistan Banking Sector

Total Assets 19,300 30,700 54,150 83,700 116,705 State owned Banks (% o f total assets) Private Commercial Banks (% o f total assets) Foreign Banks (% o f total assets)

State owned Banks (YO o f total loans) Private Commercial Banks (% o f total loans) Foreign Banks (YO o f total loans)

State owned Banks (% o f total deposits) Private Commercial Banks (% o f total deposits) Foreign Banks (% o f total deposits)

Total Loans

Total Deposits

Source: Da Afghanistan Bank

(54%) (21 %) (25%) 2,850 (3 7%) (54%) (9%J

9,100 (26%J (28%J (46%)

(39%J (3 7%) (24%) 8,100 (24%) (72 %) (4%)

19,700 (1 6%) (49%) (35%)

(21 %) (58%) (21 %J

21,950 (I O%J (87%) (3 %)

40,600 (9%) (64%) (27%)

(I9%J (61 %) (20%)

40,250 (14%) (82%) (4 %)

63,900 (9%)

(67%) (24%)

(1 7%) (63 %) (20%)

51,014 (I4%) (81 %) (5%)

93,260 (8%) (67%) (25%)

18. In a situation where the growth o f private sector banking represents mainly the growth o f the two largest banks, the bad performance or failure o f one o f these banks would create a huge impact on the financial sector and also shatter public confidence in the private commercial banks.

Microfinance Institutions

19. Since it would take some time for commercial banks to be in a position to serve the majority o f people, the government established the Microfinance Investment Support Facility for Afghanistan (MISFA) in 2003. MISFA i s a private non-shareholding company, owned by the Ministry o f Finance that provides funding and capacity support to Micro Finance Institutions (MFIs), as a vehicle through which Government and donors could channel funds to build up the lower end o f the financial sector. MISFA i s intended to (i) coordinate donor funding so that conflicting priorities endemic in post conflict situations did not end up duplicating efforts and distorting markets, (ii) help start-up microfinance institutions scale up rapidly and become sustainable, and (iii) build systems for transparent reporting and instill a culture o f accountability.

20. Significant progress in the sector had been made by the end o f September 2008. There were 15 MFIs active in 24 out o f 34 provinces, servicing 447,633 active clients (63 percent women) with US$518.69 mil l ion loan disbursements (cumulative) to clients, since the start o f the program. The average loan size per borrower i s US$3 1 1 with a repayment rate o f 95.5 percent. Some loans provided are up to US$5,000. Loans are taken for trade and services, agriculture, livestock, small manufacturing and handicrafts production. The operational self-sufficiency for the entire sector i s 84.4 percent with three MFIs being operationally self- sustainable. In the year from March 2007 to March 2008 the sector added around 8,400 active clients per month and loan disbursements averaged US$2.7 mil l ion per month.

Financial Market Infrastructure

2 1. Credit Information sharing: Although total lending from commercial banks has grown substantially since 2001, the percentage o f individuals and firms who are able to access these services i s extremely limited with a population ratio to credit o f only 0.18%. Unsecured credit i s not popular among the banks. On the contrary, collateral i s a precondition and always present, without exception, in the credit transactions, not only in the case o f large corporate borrowers, but with individuals as well, in the sporadic cases they are considered eligible for a loan. However, as a result o f the absence o f strong creditor’s rights and in presence o f a seriously weak legal framework, lenders face serious problems to enforce collateral. This makes credit

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more risky and more expensive. Afghanistan shows one o f the lowest credit penetrations worldwide and there i s strict correlation between the restriction on credit access and the lack of credit information.

22. Payment and clearance systems are underdeveloped. As a result o f the concentration o f banking institutions in Kabul, many SMEs and other businesses have no bank accounts and rely on informal funds transfer systems of the hawala money dealers. These informal financial services are as efficient as commercial bank services. However, many o f the new fast growing banks, like Azizi Bank and Kabul Bank offer modern online banking services, ATMs and Mobile Banking. In addition, a mobile operator in Afghanistan launched a mobile payment services in February 2008. This allows MFIs and their clients to disburse and repay the loans through mobile phones.

Other Financial Services

23. Insurance Industry: In addition to the limited access to external finance, Afghan firms are faced with the near absence of insurance services, which in turn constitutes a serious hindrance to new investment and the development o f enterprises and financial institutions. The insurance sector i s regulated by the Afghanistan Insurance Commission (AIC), which was established in the Ministry of Finance in 2007. Until 2008, there was only one state-owned insurance company in Afghanistan. In February 2008, however, the AIC licensed the first private insurance company to commence operations in Afghanistan - the Insurance Corporation of Afghanistan. There are also two insurance brokers currently operating.

24. Leasing Services: The development o f other financial services institutions and products in Afghanistan remains relatively low. One company offers leasing services mainly in agricultural products. The leasing operation i s Sharia compliant and should attract the interest o f investors. However, the leasing operations failed to expand in Afghanistan because of (i) absence o f legal framework under which the leasing operations could expand, while protecting the interest of the leasing company (a Secured Transaction Law i s currently in the National Assembly to provide such protection to Leasing Companies); and (ii) absence of a Leasing law, which failed to promote competition as new Leasing Companies entered into the market to provide choice to the customers and also bring about competition to extend competitive services. IFC assisted DAB to draft a Leasing Law, which i s now with the Ministry o f Justice for legal review, before the law i s sent to the cabinet for approval and to the National Assembly for enactment. The Leasing Law will provide provisions for new entrants to the market and create protection for the Leasing companies against any default.

25. Deposit insurance: As a result o f the world financial crisis, DAB has become increasingly interested in potentially developing a system o f deposit insurance for commercial banks. DAB, in the DAB Strategic Plan 2008-20 13, has proposed to establish the Afghan Deposit Insurance Corporation (ADIC). DAB has been working to establish the appropriate regulatory framework for ADIC. However, there are concerns among stakeholders about developing a system o f deposit insurance within Afghanistan at this early stage in the development o f the financial sector. The primary concern i s that the supervision framework in Afghanistan i s not strong enough at present to mitigate against a collapse o f a commercial bank. Additionally, without a strong supervision system in place in Afghanistan, the development o f a deposit insurance system may encourage risky behavior by banks who know that the deposits are backed by a deposit insurance scheme. Generally, stakeholders have been concerned about the lack o f analysis setting out the parameters for a system o f deposit insurance in Afghanistan to date and questions have been raised as to whether this i s really a priority given the limited resources in Afghanistan.

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Anti-Money Laundering and Terrorist Financing in Afghanistan

26. Afghanistan faces a high risk of money laundering and terrorist financing due to many factors. In terms o f proceeds generating crimes, Afghanistan i s a world’s top drug production country and it i s well documented that the substantial part o f Afghan economy i s built on the drug industry. Corruption has become one o f the major concerns in the country. Smuggling o f high value items and other goods as well as arms trafficking are considered to be prevalent. Kidnapping for ransom poses a threat and organized crime groups tend to have a web o f networks operating in a country where the general crime level i s high. In terms o f terrorism financing, Afghanistan i s a receiving end o f such an operation.

27. Afghan traffickers are estimated to have earned US$ 1.4 billion gross from opium exports in 2008. In addition, they are estimated to have earned US$ 2.1 billion gross from heroin and morphine exports. The total gross income from exporting opiates to neighboring countries was estimated at U S $ 3.44 billion in 2008. Deducting the estimated cost o f the opium purchased from farmers (US$ 0.73 billion) results in estimated gross profits for Afghan traffickers of US$2.7 billion in 2008.

28. The existence o f large informal sector and the cash-based economy make it easier for money laundering or terrorist financing operations. Often in these environment, there i s a lack of paper trail and thus makes it difficult to “follow the money” in investigations. Porous borders surrounding Afghanistan and weak border control make it easy to smuggle cash. Institutional weakness whether in the law enforcement or in the regulatory and supervisory regime does not help mitigate the money laundering and terrorist financing risks faced in Afghanistan.

29. On the financial sector side, the weak regulatory and supervisory regime naturally leads to weak preventive measures and control systems in banks and other financial institutions that may be abused for laundering purposes. The AMLEFT supervision of banks and Hawaladars i s currently very weak. DAB suffers from the lack o f supervisors who have appropriate knowledge, expertise and skills. The level o f AML/CFT measures in place in banks i s very basic at best and it i s difficult to assess whether these basic requirements are being implemented although there appear some variations among the foreign banks and local banks. Efforts have been made to regulate Hawaladars but much more needs to be done to ensure they comply with AML/CFT requirements. Al l these circumstances make Afghanistan very vulnerable to money laundering and terrorist financing.

Donors’ activities in the financial sector

30. The Bank held numerous discussions with other donors and conducted a review of their work in determining the scope and components of the FSS project in order to not to repeat or overlap work which has been, or i s being, carried out by other donors. Donors are supportive o f the Bank’s assistance to Afghanistan in the financial sector.

USAID through Bearing Point

31. To date, USAID has been the main donor involved in financial sector development. Bearing Point was initially tasked by USAID to provide support to DAB on 1 November 2002. Under the USAID-Funded “Afghanistan Economic Governance and Private Sector Strengthening (EG&PSS) Project”. The core project ended on September 30 2008 but some consultants will continue until February 2009 on a “no cost extension” basis. Bearing Point has undertaken work in a range o f areas within DAB including; administration and management, laws and regulations, licensing, on-site examination, off-site reporting and early warning systems, special administration, external audit regime, training and infrastructure. Bearing Point initially created the ability within DAB to license institutions, branches and products which has led to the licensing o f 17 commercial banks with more than 200 branches (including DAB’S branches). Work has

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been ongoing to develop licensing review procedures and operation manuals. Additionally they guided the Off-Site review personnel in their work, in order to educate them as to the forms and procedures and to present new ideas in off-site review meetings.

32. Bearing Point also undertook extensive work on revising the laws and regulations o f DAB. They revised two regulations relating to Large Exposures and Permissible Activities of banks to set guidelines for concentrations of credit and excessive lending to problem borrowers. They also revised the Permissible Activities Regulation to set an application requirement and format for non-banking activities which institutions may want to perform, thus giving DAB control over the activities o f i t s banks. In terms o f providing training to DAB staff, Bearing Point established relationships with two institutes that provide on- line training programs for supervisors, provided numerous trainings on a variety of subjects relevant to Supervision and began work on the se l f Accreditation Evaluation Assessment of the Da Afghanistan Bank Supervision Department. Bearing Point have also been active in beginning to draft the Accounting and Auditing Manuals, however, they have been unable to finish this task. More information on this i s provided in Annex 4.

US Treasury

33. US Treasury’s work with the Afghan financial sector has concentrated on strengthening controls against money laundering and other forms of illicit finance. Since 2006, resident advisors from US Treasury have assisted DAB in establishing the Financial Intelligence Unit (FIU) at DAB. The US Treasury has also arranged on-site and off-site training programs for staff o f the FIU, DAB Bank Supervision, and Afghan law enforcement agencies on various aspects o f anti-money laundering supervision and enforcement.

The International Monetary Fund

34. The IMF has provided a broad range o f support to Afghanistan through i t s Poverty Reduction and Growth Facility (PRGF) and associated benchmarks. In the financial sector directly, IMF’s focus has been on: introducing anti-money laundering and combating terrorist financing legislation; resolving the status o f state owned banks and developing a privatization strategy for them and; improving monetary and inflation data. Recent work under the PRGF benchmarks directly affecting DAB has included: reconciling DAB’S accounting records and the monthly reports on DAB’S operations for 2007/08 prepared by DAB’S Monetary Policy Department, which was implemented in May 2008; ensuring that the accounting system at DAB’S six regional hubs i s automatically monitorable from DAB’S headquarters (implemented in 2008) and; creating an electronic registry for capital notes at DAB.

Financial Market Integrity Unit, World Bank

35. The Financial Market Integrity Unit (FPDFI) o f the World Bank has been providing in-country technical assistance to Afghanistan on anti-money laundering/Combating the Financing o f Terrorism (AMLEFT) since 2006. Previously FPDFI has engaged the Afghan authorities in the AMLEFT dialogue which was organized as part o f global dialogue series. The FIU in DAB has been the FPDFI’s counter part in organizing and delivering the technical assistance programs. Initially FPDFI provided awareness raising seminars to officials in the FIU and the supervision department o f the DAB, as well as banks, microfinance institutions and “Hawaladars”. This was the first o f such event in the country where relevant stakeholders from DAB and the private sector were brought to understand what AMLKFT regime i s and the roles they should play.

36. Subsequent to the awareness raising seminars, FPDFI moved to provide technical assistance which i s geared towards technical training. The three-phased financial analysis training o f trainers program was launched in 2007 and continues in 2008. Going beyond the preventive measures, this program brought, for

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the f i rst time, relevant GOA agencies from not only DAB but also from Attorney General’s Office, Customs and other law enforcement agencies to discuss AMLEFT and be trained on financial analysis and financial investigation. FPDFI has also been advising the FIU in the area o f the Money Service Businesses (MSB) which regulates and supervises the activities o f the “Hawaladars”, however, some provisions in the current regulation remains debatable as to i t s effectiveness.

Project Background

37. A significant amount o f analysis has gone into indentifying and designing the relevant components under the FSS Project. Background work, such as the Investment Climate Assessment for Afghanistan (2005) and the annual Doing Business reports have demonstrated that lack o f access to finance i s a significant constraint to the development o f the private sector in Afghanistan. Additional analysis which has guided the project includes an analysis o f the Afghanistan Financial Sector Study (2004) and Credit Bureau Development in South Asia (2004) carried out by the World Bank; an assessment o f Credit Information Bureau in Afghanistan (2005) by USAID; the Enabling Environment Conference Road Map (2007) and; five consultants’ reports for each component o f the Project prepared after the design mission in February 2008. A detailed l i s t o f analytical work i s included in annex 1 1.

38. The ‘DAB strategic Plan for 2008-2013’ (the Plan) was prepared by internal DAB staff and management team in 2008. The Plan lays out DAB’s strategic framework which would lead to it achieving i t s mission and vision. In the Plan, DAB reiterates i t s commitment to building a robust financial system for private sector development and economic growth. The Plan also contains a set o f detailed activities with a timeline and responsible department. The components o f the FSS project are also identified as a priority in the Plan: (i) strengthening i t s supervisory function; (ii) building an accurate credit information system; (iii) Human resources reform; and (iv) enhancing capacity in the financial sector. The Plan not only clearly shows DAB’s strong ownership o f the FSS Project, but also provides a very important conceptual framework for the FSS project.

39. The Afghanistan National Development Strategy (ANDs) for 2008-2013, which was finalized in April o f 2008 and sets out the country’s development strategy, also placed increasing access to credit as an important development benchmark for the country. In order to achieve this end, the ANDs stated the following four priority actions: “(i) Passage and enactment o f four key financial laws: Secured Transactions, Mortgage, Leasing and Negotiable Instruments Laws; (ii) Establish an independent banking and business training institute as a joint commercial bank - DAB initiative; (iii) A credit information bureau will be established to facilitate commercial and consumer lending; and (iv) The financial tribunal w i l l be established to provide swift legal resolution o f financial disputes”.

40. Against the background above, at the request o f the DAB Governor, an IDA mission in February 2007 on private sector development, worked with DAB to identify seven possible areas, where DAB could work with the World Bank Group to improve access to credit. These were: (i) financial sector strategy; (ii) strengthening the supervisory capacity o f the central bank; (iii) enhancing the anti-money laundering and combating financing o f terrorism framework; (iv) financial sector training facilities; (v) establishing a Public Credit Registry; (vi) financial tribunal; and (vii) collateral registry. However, following detailed discussions, the Ministry o f Finance (MoF), DAB, and the Bank have agreed that there i s a strong need to: (i) enable DAB to effectively carry out i t s core functions o f ensuring price stability and financial sector stability; (ii) develop the necessary financial sector infrastructure to help the growth process; and (iii) enhance capacity o f

The strategic framework i s composed o f 5 pillars: (i) improve the.effectiveness o f monetary policy; (ii) deepen financial intermediation; (iii) accelerate capacity building; (iv) effective information management; and (v) promote good corporate governance.

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the commercial banks to help efficient and transparent banking services to support developing a competitive and efficient financial sector.

41. The FSS Project i s an important entry point for a sustainable engagement for broader financial sector reforms, which include the restructuring o f the State-owned Commercial Banks (SCBs) and the provision o f financial services across the nation. USAID, through Bearingpoint, has made a significant contribution over the last f ive years in bringing Afghanistan and DAB f rom Ground Zero to a level o f reasonable competency in financial sector development issues; however, there s t i l l remains much to be done in the long term agenda o f financial sector strengthening. The FSS Project will also allow the Bank to continue having a dialogue about the broader financial sector development issues in Afghanistan.

42. In order to assist the Afghan Government in taking stock o f the overall developments in the financial sector in the last four years and to determine relevant priorities for future development, the Wor ld Bank i s planning to update the Financial Sector analysis (2004) in 2009. The proposed update will look at both the supply o f financial services - in terms o f the development o f commercial banks, microfinance institutions, other financial institutions and the legal and regulatory framework - and will also assess the current and future demand for specific financial services, for example, demand from the underserved, small and medium enterprises, the agricultural sector and long term trade financing arrangements.

Proposed project development objective(s)

43. The main objective o f the project i s to help DAB improve i t s core function o f banking supervision and regulation; and to help improve access to formal banking services by establishing key init ial building blocks for further financial sector reform.

44. K e y outcomes o f the project will include: (i) enhanced capacity o f DAB in carrying out i t s core function o f financial sector stability, which will be achieved through a set o f intermediate outcomes measured by indicators such as decrease in the number o f days required to process supervisory data collected f rom the commercial banks, a clean audit report by the external auditors, and increase in the number o f training courses in DAB; (ii) improved access to formal banking services through establishment o f necessary financial infrastructure, which will be achieved through a set o f intermediate outcomes measured by indicators such as increase in the number o f credit reports sent to the commercial banks, increased number o f assets that can serve as acceptable loan collaterals, and increased quality and number o f qualified bankers trained in AIBF.

IDA and IFC Cooperation

45. The FSS project supports DAB in a jo in t collaboration between IDA and the IFCFEP-MENA, in order to facilitate the establishment o f a Public Credit Registry and Collateral Registry in Afghanistan. Through this collaboration, the IFCFEP-MENA will provide the technical advice required to establish a Public Credit Registry and Collateral Registry system. N o actual funds will be passed on from I F C to Afghanistan. IFC’s technical advice will include This wil l include:

An assessment o f the current legal and regulatory framework in Afghanistan affecting the establishment o f an effective Collateral Registry and Public Credit Registry; Assisting DAB with any amendments or news laws and regulations which may be required for their successful creation;

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0 Providing technical assistance to the relevant units in DAB in drafting functional specifications, qualification requirements or any other inputs necessary for the hardware and software required to operate a Public Credit Registry and Collateral Registry, in compliance with IDA procurement guidelines; and Raising awareness among relevant stakeholders about the Public Credit Registry and Collateral registry.

46. Once the functional specifications have been finalized for both the Public Credit Registry and Collateral Registry, IDA will fund the physical computer hardware and software. In order to ensure successful implementation, a phased approach to developing these components has been agreed between DAB, IDA and the IFC. Additionally, supervision missions will be jointly organized to ensure members from both IFC and IDA are in attendance at the same time (see Annexes 2 and 7 for further details.)

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Annex 2: Detailed Description o f Project Components

AFGHANISTAN: FINANCIAL SECTOR STRENGTHENING PROJECT

CumDonent I - Strengthening the capacity o f Da Afghanistan Bank

1. Strengthening the capacity o f DAB has been a focus o f the GOA since the fall of the Taliban regime. DAB has, for some time, been working in close collaboration with various development partners including the World Bank6, USAID and IMF on strengthening i t s internal administration and bank supervisory capacity. While there has been some very good progress, DAB now recognizes it needs to upgrade its capabilities. The FSS Project will support strengthening DAB capacity in three critical areas in three critical areas:

0 Developing the off-site supervision systems and supervision competencies in DAB Creating an effective accounting and internal auditing system functioning to generally acceptable international standards, which i s critical operationally and goes to the heart o f DAB’s credibility as a Central Bank; and Establishing an effective human resource management system so it can move from relying on expatriate advisors to well-trained and empowered Afghan national staff;

(a) Banking Supervision

2. Infiastructural Weaknesses: The absence o f standard supervisory infrastructure within DAB and the usual means of mitigating the consequent weaknesses expose the commercial banks to significant risks. As experience i s short in the supervision department, these risks are difficult to measure, and thus difficult to manage. I t also means that DAB i s handicapped in delivering an effective system o f supervision. Many o f the wider infrastructural weaknesses in the legal system are, however, being resolved through the drafting o f new laws, e.g. the Mortgage Law and the Secured Transaction Law.

3. Systemic Risks: Systemic risks relating to the rapid development o f the private banking sector are also increasing. Although these have been somewhat improved by supervisory measures, these are only temporary solutions. Systemic risks include:

Access to credit: accessing credit i s relatively new for borrowers, while the banks in Afghanistan generally have unseasoned loan books. The weak infrastructure, combined with the lack o f management depth in the banks poses a significant risk; Loan structure: credit culture i s informal and loans are not structured in a Western sense. Lending i s still done through personal knowledge of the customer and the problem of measuring credit risk remains acute despite DAB’S strides in requiring banks to introduce a more formal approach; Risk on liabilities side o f the balance sheet: the deposit base o f banks may well be volatile in Afghanistan due to unusual inducements such as lotteries; and Excess capital: while public banks are now highly liquid and have excess capital; this will evaporate quite quickly if their loan books continue to expand rapidly.

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4. Current On-Site Supervisory Procedures: As regards on-site examination, considerable efforts have been put into training and coaching since 1 November, 02002, largely by the Bearing Point advisers as set out in Annex 1. Although the Bearing Point consultants will leave DAB in February 2009 following the “no cost extension” of their contract, it i s likely that USAID will continue to support the examiner capacity

World Bank Group involvement in the Afghanistan financial sector has significant value added, and includes: the Financial Sector Study (2004); Afghanistan Investment Guarantee Facility (2005); Investment Climate Assessment (2006); Microfinance project (2006107); Housing finance study (2007); Enabling Environment Conference (2007); AML1CTF workshop (Ongoing); and Afghanistan Rural Enterprise Development Program (under preparation).

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development through a new contract. In addition the IMF, largely through METAC, i t s regional technical assistance centre, will continue to provide training for banking supervision. There is, however, a need to further build up the capacity for DAB staff to audit IT systems in commercial banks.

5 . Off-Site Supervisory Procedures: The off-site supervisory function needs to be strengthened. Currently this aspect o f supervision i s undertaken by those who collect and check data derived from regular reporting by banks. Then specified examiners, when not occupied with examinations, are also responsible for acting as contact persons for individual banks. Each examiner prepares assessments for the bank to which he has been assigned and the output for these i s considered when assessing priorities for the examination program and other supervisory action. There i s also a special supervision section which handles banks under supervisory action of varying types. One of the deputy directors i s responsible for aggregating bank reported data and preparing assessments o f the whole sector. The results of both exercises are then circulated to the Governor and senior officials. The current off-site analysis process i s a poor cousin to the on-site examination procedures, and analytical time devoted to it necessarily comes second to the time spent on examinations. Many of the current deficiencies could be addressed through automating the off-site supervisory processes.

6. Although there i s presently a case manager for each bank, the job i s secondary to the examiner’s responsibility to fulfill his or her obligations to the examination program. The expansion o f the Financial Supervision Department (FSD) will allow for the enhancement o f the role of case manager who will become the individual responsible for managing the supervision o f the bank allocated. The case manager would become the recipient o f off-site reporting and other intelligence received by the FSD. H e or she would be responsible for periodic analysis based on received data, proposing the supervisory strategy for the bank, including the priority for inclusion in the examination schedule, targeted examinations etc. briefing o f examiners, participating in examinations if appropriate, ensuring that points raised in the examination report are followed up, the supervisory strategy amended, and so on. The case manager would also be the principal point o f contact for correspondence with the bank on risk management and other policies that require or should require to be approved by DAB. Much of this work can be done between examinations although on- site examination provides the best method o f verification that it has been done correctly. The case manager should also be the instigator o f discussions with external auditors and should process approvals of new managers, directors, shareholders etc. Finally, the case manager should also be responsible for managing corrective action with the help of the specialist team in the ‘special supervision’ function.

7. Career Development for Supervisory StafJI Case Managers and IT Staj? A further important need in DAB i s the skill and career development of supervisory staff. The career development i s extremely important in ensuring that supervisory staff have an incentive to develop professionally and are fully effective. Suffice it to say that application of modern human resource management will not be effective in the FSD until a Director General i s appointed and retains the post long enough to exercise effective management.

8. The FSS Project will support the automation of the off-site supervisory capabilities o f DAB by replacing the Excel spreadsheets which are currently used with a more modern system in order to reduce time in producing reports and then validating and removing errors. Additionally, the project will finance the training o f the staff who will be involved in the off-site supervision work, developing a career development plan and enhancing the role of the case manager.

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(b) Accounting and Internal Audit

Accounting

9. The accounting system in DAB was set up initially in 1965. In 2003, DAB, with the help of their advisers, developed an in-house system called ‘Database’ using MS Access program. It was developed from a currency conversion program with functionality extended to banking operations, payments, inter bank transfers, accounting, market operations etc. While DAB was able to capture al l its transactions with this system, the Database results were not very reliable or acceptable as it had certain inherent deficiencies. In 2006, a Core Banking Solution (CBS) system was acquired by DAB, funded by USAID, to address the increase in the volume o f transactions, and changes in DAB’S role with the licensing of new commercial banks. Though the software was designed for a commercial bank, the scope o f the software had the ability to be extended to central bank operations. DAB, with the assistance from Bearing Point consultants, also developed an exhaustive Chart of Accounts for this system in compliance with the International Financial Reporting System (IFRS). Currently, the main module of the software has been implemented in all the departments o f the Head Office, and the six regional offices. I t i s now being extended to two of the 20 priority branches. The specific modules like Payroll, Fixed Assets, Market Operations, Budgets, etc. have not yet been implemented. It would take about five years for this system to be fully operational in al l the functions and activities o f DAB at the Head Office, regional offices and the branches. CBS is, however, unlikely to fully meet DAB’S accounting and Management Information System (MIS) needs. I t i s advisable that DAB should continue to use this system for a few years, but in the medium to long run it should move on to a customized comprehensive central banking IT system for its accounting and MIS system. Without having a proper accounting and internal audit system in itself, it would be difficult for DAB to impose the placement o f such a system on the commercial banks, and to undertake rigorous banking supervision.

10. Current weaknesses in the Accounting Department: Despite the introduction o f the CBS system, there are still numerous weaknesses in the internal control systems in DAB. For example there i s more reliance on the inbuilt system controls without adequate manual controls, checks and balances to ensure the integrity o f the input data and the information provided by the system. The procedures and policies in respect o f transactions in core activities were developed when required but they were not well documented or collated. Additionally, in the absence o f a well documented procedure, there i s a lack o f consistency in the account coding, and further, the account code allocated i s not cross checked or verified by anyone, other than the Supervisor o f the Accounting Methodology section in the Accounting Department. Moreover, although the vouchers received from other divisions are numbered they do not appear to be sequential. Hence it cannot be confirmed whether al l vouchers have been received and recorded. Reconciling the manual books to the database balances i s posing a difficulty since the documents developed during the Taliban era were not maintained properly or was not readily available. The reconciliation for the subsequent period seems to be progressing smoothly in respect o f correspondent banks subject to certain differences due to reconciling items. However, branch reconciliation i s delayed due to a communication gap and DAB has been able to reconcile to date only about 26 branches out o f 7 1, while the others are in progress.

1 1. Accounting Manual: DAB has been formulating the Accounting Policies and Operational Procedures as and when required but has not collated and documented it into a formal Accounting Manual. An Accounting Manual would generally elucidate policies and procedures in respect of transactions of, each core activity o f the bank, and the documentation required for these processes. The internal review and verification procedure would also be performed while complying with such laid down procedures. Although, Bearing Point’s Accounting Advisor was working to develop an Accounting Manual, only 2530% work has been completed to date. Moreover, the Accounting Manual has to be well understood by the staff in order to properly follow the outlined procedures.

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12. In light o f these internal controls and other weaknesses, the financial reports produced by DAB cannot be relied upon. The financial statements o f DAB for the period ending March 20, 2006 (SY1384) were qualified due to a number o f factors including: (i) the opening balances o f assets and liabilities were estimated rather than fully authentic and reliable; (ii) DAB’s General Ledger was not complete in a l l respects; and (iii) the need to reconcile the assets and liabilities swapped between the Ministry o f Finance and DAB. It also received a disclaimer o f opinion for the period ending March 20, 2007 (SY1385) due to several reasons, among others: (i) no proper accounting procedure i s built in the system; (ii) there i s no Accounting Manual; and (iii) DAB does not follow a system o f periodic internal review, verification, and reconciliation o f balance. The External Auditors in their “Report o f Factual Findings” dated 8th January 2008 have also observed control weaknesses in the area of foreign reserve operation over accounting and reporting of the Reserve Assets of DAB. The Auditor’s Report also noted that there i s a need to strengthen the internal control system that i s commensurate with the size and nature of the business o f DAB to ensure adequate integrity of balances in the financial statements.

13. Staff Capacity and Training: The existing staffs in the Accounting Department only have a basic understanding o f book keeping, and traditionally maintain details o f DAB’s transactions in manual registers. With the exception o f a few staff, many staff members do not have a technical knowledge or training in preparing financial statements. Only a few staff has exposure to International Accounting Standards ( IAS) or IFRS requirements. Most staffs are trained in the basic module of the CBS software, while some are trained in other modules such as Fixed Assets, Payroll, Market Operations, Budget, etc.

14. The FSS Project will support DAB to hire an expert to complete the Accounting Manual and also prepare the Accounting Policy and Operation Procedures for effective implementation of the Accounting Manual. An international consultant will be hired on a full time basis to undertake the entirety of the completion o f the Accounting Manual, policies and procedures, and also assist in capacity building in order for successful implementation o f the Accounting Manual. The project will also assist the development of staff capacity in the Accounting Department in terms of financing short courses (internally and externally), including external long term courses for professional development and career enhancement. This will be assessed and implemented by the Human Resources Department in conjunction with the Accounting Department.

Internal Auditing

15. The Department was established in 2004 with an Acting Internal Auditor. In accordance with the Law of Da Afghanistan Bank, this department should be led by a Comptroller General appointed for a period o f five years. I t i s currently headed by an “Acting Comptroller General”, although the search for a recruit for the position full time i s on-going. The department generally performs compliance audits in respect o f al l departments and branches, it does not, however, undertake risk based audits. Generally, an audit i s conducted by a team of three staff members who report in Dari language, through the Comptroller General, to the Governor, First Deputy Governor, the Chief o f the Audit Committee and i t s two members. All members o f the Audit Committee are also members o f the Supreme Council of DAB - this structure i s defined in the Law o f Da Afghanistan Bank 2003. Since the Audit Department’s establishment, no audit of the accounting department has been done as the staffs were engaged in the preparation of financial statements for the past years and the external audit. The Auditor’s Report stated that there i s need to strengthen the internal control system to ensure adequate integrity of balances in the financial statements. The capacity o f the Audit Department needs to be strengthened further so that it can discharge i t s function more effectively. Although staffs have al l been given training in and access to the current CBS system, the competence to perform audits i s considerably lacking.

16. Audit Manual: The Audit Department does not have a proper Audit Manual nor Policies or Operational Procedures. I t also does not have the policies and operational procedures of the other

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departments in order to monitor them. Bearing Point i s helping to develop an Internal Audit Manual, but since the “no cost extension” will end in February 2009, the work will not be completed within this time. The Audit Department assessed that about 3 0-3 5% work on the Audit Manual and Operational Procedures may be completed by February 2009. Moreover, the departmental staff will require to be trained in the usage of the manual for them to follow in the future.

17. Staf Capacity and Training: The internal audits are performed by the staff more out o f experience in banking operations than by proper education or training and they are not well exposed to modern international banking and international accounting requirements or trained in them. Therefore, appropriate training needs to be assessed and accordingly a training program developed.

18. The FSS Project will support DAB to hire a consultant to complete the Audit Manual and also prepare the Audit Policy and Operation Procedures for effective implementation o f the Audit Manual. An expatriate consultant will be hired to undertake the entirety o f this task and also in capacity building in order for successful implementation o f the Auditing Manual. I t will also assist the development o f staff capacity in the Audit Department in terms o f financing short courses (internally and externally), including external long term courses for professional development and career enhancement. The training needs will be assessed and implemented by the Human Resources Department in conjunction with the Audit Department.

(c) Human Resources

19. The Human Resources Department (HRD) needs to be reformed and organized to properly reflect its core functions. The middle level capacity needs to be assessed and strengthened and new, modernized business processes need to be developed. General HR reform will have to be complemented by a strengthening of the staff skills to operate the new systems and processes. Furthermore, the management of these skilled staff will require good practices to attract, motivate and retain qualified staff.

20. HRD policies need to be developed covering (i) recruitment policy that matches the short and long term skills requirement of DAB; (ii) placement and mobility policy to ensure that there i s adequate specialization and least disruption to key department functioning; (iii) training and career development policy that i s in line with skills requirement, which i s both sustainable and effective as well as safeguarding DAB from excessive turnover o f staff; (iv) performance evaluation that i s structured, participative and constructive; (v) rewards management and compensation policy that encourages productivity; (vi) exit mechanisms to ensure that non performers have a way out o f the system; and (vii) termination benefits policy that provides the right incentives and warnings to performers and non performers. Furthermore, there i s a need for developing comprehensive procedures on grievance handling, code o f conduct and the HR manual in line with the strategy and aspiration of DAB.

21. Additionally there i s a strong need for the HRD to carry out an analysis of staff competencies in order to identify gaps in current training practices and provide recommendations for new training components to al l departments. Job descriptions o f al l DAB staff will be prepared in terms of their importance and contribution to the organization. Based on the job description and current competencies o f the staff, it would be possible to assess the training needs of the key staff to design a comprehensive training program for DAB staff. Both local and international training in the core areas o f central banking would be needed to upgrade the professional skills that the new organization would demand and expect from al l staff. The training assessment will also analyze both behavioral and technical training priorities. Specially tailored management development programs could be arranged through local and international training institutes for the middle management at DAB. As new HR policies are rolled out, there will need to be a large communication and training effort to assist with the comprehension and application of various new policies as well as the strategic plan.

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22. The FSS Project will therefore finance an HR adviser to advise and develop a set of new HR policies as set out above and assist in their implementation for HR reform in DAB which would include ‘Gender Mainstreaming’.. The HR Adviser will work closely with the HR Director and HRD to ensure that the new HR policies are in line with DAB’S Strategic Plan and that an adequate training program i s developed to build necessary capacity in DAB. Additionally, it will finance the training of HR staff to develop the capacity o f the HRD and to be able to effectively implement the policies developed under the project, with a view to designing and implementing, in cooperation with al l departments, an overall training program for DAB. This will be supported through the development o f an understanding for the rationale o f change and how it will affect individuals personally. A good, comprehensive and varied communications program will help new HR policies to succeed. Finally, the project will fund the automation of HR management for HRD to store and maintain a database o f information about each employee for efficient HR data management, based on the results o f the above two tasks.

(d) IT Development o f DAB

IT System Strategic Plan for DAB

23. DAB envisages that further automation will also be required in the next few years in order for it to achieve i t s mission o f fostering price stability and building a robust financial system while implementing the five strategic pillars under the ‘DAB Strategic Plan for 2008-2014’. DAB requires up to date and accurate information on a variety o f aspects related to the monetary, financial and associated sectors of the economy in performing i t s functions as the central bank.

24. The current IT system cannot provide this. The management at DAB i s aware of the existing deficiencies and would like to initiate an organization wide program to upgrade the IT environment at DAB. To ensure that the planned investment envisaged in this area yields measurable productivity, operational and strategic gains, DAB management desires that:

The up-gradation in the technology and skills capacity be defined and driven by the information requirements o f the fundamental business process that DAB has to perform to carry out i t s mission, achieve its objectives, and plan & organize i t s work programs; The prioritization of initiatives be carried out by identifying key areas which present the maximum opportunities for improvement; and The urgent need for a broader spread o f modern office technology systems and processes to be addressed as early as possible.

25. The IT consultants financed by the FSS project will therefore assist DAB update their Information Systems Strategy Plan (ISSP). The ISSP i s expected to provide a plan for 5 years o f development. The ISSP would derive the hardware and software requirements from an analysis of the fundamental business processes carried out by DAB, the information requirements and information flows associated with these business processes and identify specific information systems that would need to be implemented to satisfy these requirements. The ISSP would identify priority applications on the basis o f need and opportunity as determined by DAB management. It would estimate the cost and time required for implementation o f the system and the specific items of hardware and software that would need to be acquired. I t would include an implementation plan and suggest a phasing of activities in accordance with management priorities and the absorptive capacity o f the organization. In particular it would identify areas of maximum opportunity and tasks, which should be carried out to address immediate needs and those o f the longer-term requirements. It would identify the human resource requirements in areas o f skill set required for implementing the plan and derive a training plan for existing staff and the skill set to be added by additional recruitment.

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IT System Development

26. The FSS project will also assist DAB in carrying out a cross-cutting IT system development for automation o f off-site supervision, automation o f HR management; and for the Public Credit Registry and Collateral Registry.

27. In order to determine the specifications for the IT systems required for off-site supervision and the HR management, a consulting firm will be hired to conduct an IT assessment to determine the exact specifications required for the hardware and software. The IT assessment will also assist in determining basic requirements for operation o f the Public Credit Registry and Collateral Registry by analyzing: the current level and performance o f DAB’s IT systems, i t s suitability and capacity of hosting the Public Credit Registry and Collateral Registry, as well as reliability and performance o f the telecommunications network. I t would also include:

Determine the changes and upgrades required in terms of hardware and software configuration and telecommunications that DAB’S IT main system will require to satisfy the fundamental technical requirements and needs o f the Collateral Registry and Public Credit Registry; Determine the level o f internal capacity o f DAB’s IT staff to support the development o f the systems, manage and operate them; Broadly define the training needs, for DAB’s personnel to reach se l f sufficiency in hosting, handling and maintaining sophisticated systems such as the Public Credit Registry and Collateral Registry; and Broadly define IT staffing needs in terms o f position, responsibilities, and profiles required by DAB to smoothly run the internal main system and manage the ancillary systems including Public Credit Registry and Collateral Registry.

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28. The exact functional specifications for the Public Credit Registry and Collateral Registry will be determined by a vendor based on the RFP requirements drafted by DAB with the assistance of the IFC. The IFC will also determine the final training requirements o f DAB IT staff based on the final software and hardware specifications developed and implemented by the vendor.

Component 2 - Development of necessary infrastructure in the financial sector

29. Improving access to finance i s a long and arduous process but i s essential to support the development o f the private sector. Resolving the core constraints to lending to the private sector involves a number of important steps, among others: (i) establishing secure property rights on movable and immovable property; (ii) devising means to establish and enforce the realization of collateral; (iii) enhancing credit information flow and identifying “good” and “bad” customers; (iv) developing new financing mechanisms such as leasing and Islamic financing; (v) training bankers in the assessment o f private sector credit risks; (vi) building appraisal capacity to establish values; and (vii) developing insurance markets to insure collateral against hazardous events. The World Bank in consultation with DAB and the private sector prioritized the following components to be supported by the FSS Project:

Setting up a public credit registry that will provide lenders information for efficient risk assessment on borrowers; Establishing a collateral registry for movable property that will provide lenders the ability to effectively use their property as collateral; and Developing a banker’s training institute that can improve professional banking and financing skills in the financial sector.

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30. Under this component costs are being shared between IDA and IFC for the establishment of the Collateral Registry and the Public Credit Registry. IFC will provide technical assistance and fund the “sofYY parts o f the component - the necessary legal reviews, support for any amendment to relevant laws and/or drafting of new laws/regulations. Additionally, IFC will also provide advice to DAB on developing the Request for Proposal for the hardware and software components. Basic information about the suitability o f DAB’S IT operations and training requirements will be provided by the IT review funded by IDA under Component 1, however, the exact specifications o f the systems, and training for DAB IT staff, for the Collateral Registry and the Public Credit Registry will be determined by the vendor, based on the RFP developed by DAB with technical assistance from the IFC. Once the enabling environment for both the Collateral Registry and the Public Credit Registry has been established, IFC will also finance awareness raising campaigns among key stakeholders. IDA will finance the procurement o f the necessary computer hardware and software for the physical infrastructure.

(a) Public Credit Registry

3 1. Financial markets in Afghanistan are largely dominated by a few commercial banks in terms of loan volume while an active microfinance sector represents almost 90% of loans by number. Commercial banks primarily focus on larger and public organizations which have left a large gap in the availability o f finance for smaller, private firms in Afghanistan. In the process o f loan assessment by the financial institutions, for a l l intents and purposes, no credit information i s currently available to lenders in Afghanistan. Only very limited data i s exchanged between DAB and the commercial banks, which i s basic statistical information on outstanding portfolios and deposits. However, this information i s aggregated in consolidated amounts of all exposures, transmitted on paper, and o f no added value in terms of risk assessment. Furthermore, information can be only utilized by DAB for statistical purposes, very limited supervision activities, and to comply with international standard requirements. Dissemination o f information to lenders i s not contemplated, and there i s no information returned from DAB to the banks for credit underwriting purposes. There i s no other alternative source o f credit information, neither public nor private used by the lenders to underwrite credit. The absence o f reliable credit information i s a significant impediment to the expansion and development o f a healthy financial sector in Afghanistan.

32. Developing a new credit information sharing system would include new risk management tools and procedures to collect and make available exhaustive, complete and predictive ful l - f i le credit profiles and information. Given the current state o f the credit markets in Afghanistan, as well as technical and legislative complexity involved to set up a credit information sharing system, it i s premature to consider a private credit bureau at this moment, and the project intends to assist DAB in initially establishing a Public Credit Registry. Once the market conditions are supportive, establishment of private, for-profit credit bureaus should be encouraged and enabled to enter the market with DAB’S role related to sharing o f credit information migrating to that o f the new private bureaus. The introduction o f effective private credit bureaus should be planned once consumer literacy and utilization o f credit are customary and broader, when risk management skills of lenders are more developed, and when reputable, international operators are motivated to make a direct investment in Afghanistan.

33. Current Legal pamework for credit information sharing: The existing legal and regulatory framework, mainly the Law o f Da Afghanistan Bank, and Law on Banking in Afghanistan, seems to give DAB sufficient, autonomous powers to collect information for supervisory and statistical purposes. However, it does not appear tailored to allow the establishment o f a full-file credit-reporting infrastructure, Le., positive and negative information on al l loans. DAB has the authority to issue regulations, which should suffice for the market development in the short to medium term. An alternative to cope with this matter would be to rely on the consents by borrowers which, in some jurisdictions, e.g., Saudi Arabia, i s sufficient to establish credit information sharing platforms. This alternative needs to be coupled by a Code o f Conduct issued by DAB and applied by a l l lenders. This option should be explored in Afghanistan as it i s the simplest

30

way to establish a legal base for credit information sharing. However despite the draw backs, this option could be a good starting point to launch the development o f the credit reporting system. DAB should, however, work in parallel to this process to ensure that a transparent legal framework for credit reporting i s in place in Afghanistan.

34. phases.

The FSS project will therefore assist DAB to develop a Public Credit Registry (PCR) in two

PHASE I : Laving an appropriate Legal Foundation- for Credit Information Sharing Svstem

35. A review of existing legislation was conducted by the IFC to determine the options available of creating an effective enabling environment for credit information sharing. The options explored included: (i) a new, specialized law and related regulations; (ii) DAB-issued regulations; and/or (iii) using borrower consent as legal authority. IFC will undertake this review before the project i s approved by the World Bank Board.

36. Following the above assessment, if DAB decides to seek adoption o f a new Law or Regulations on Credit Reporting, the Law or Regulations need to be prepared to allow for collection and sharing of comprehensive, ful l - f i le information among financial institutions: Le., supervisory purposes for DAB; and loan assessment and risk management purposes for financial institutions. In addition, the Law or Regulations should ensure that the lender’s need for credit information and the consumer’s right to privacy will be effectively balanced. The Law or Regulation should provide a legitimate legal basis for immediate inclusion o f all the available lendershredit data from both regulated and-non regulated entities, including MFIs; and contain mandatory requirements on borrowers to consent to share data and on lenders to collect data, immediately and al l inclusively.

37. The Project will assist DAB in setting up the necessary legal foundation for credit information sharing in Afghanistan by: drafting the Law or Regulations if necessary; supporting discussions among DAB and others during the enactment process; conducting a workshop(s) for DAB, lenders and other stakeholders to explain the benefits o f credit reporting systems and details of the necessary legislative reforms.

PHASE 11: Phvsical develoument

38. The FSS Project will support physical development o f a PCR by providing necessary resources for software and hardware development. Once effective enabling legislation i s in place, an RFP for a technical service provider would be drafted, advertised and awarded to establish the PCR. The Project will also support DAB during the process and assist in the monitoring of the vendor’s progress and adherence to contractual obligations. The PCR will be built as a f i rst class system by an external reputable technical service provider, and have the same functionality as a modern private credit bureau. It i s inevitable that DAB initially runs the PCR; however it i s advisable the PCR will be hived off to the private sector in the mediudlong term.

39. During the vendor selection process, the IFC will assist DAB in drafting and floating a RFP. DAB will also form a selection committee with selection criteria to be prepared by DAB in discussion with IFC and IDA. During the course of physical development, IDA procurement guideline will be applied. Implementation arrangement shall be designed in a way to ensure DAB’S full participation and ownership by forming project steering committee and/or technical working group.

31

40. Technical Assistance: The FSS Project will also provide necessary technical assistance such as organization o f a study tour; workshops for lenders and policymakers; provision o f support t o outreach event such as a conference to raise awareness and educate interested parties.

41. The PCR will represent the first full-f i le information sharing experiment in the country, and an effective response to the need to supply DAB with an efficient tool to conduct rigorous supervision o f the credit system. It i s also essential to enable the financial institutions to access complete credit information without any limitations, under the form o f complete credit reports, thus improving credit underwriting and introducing other risk management systems.

42. Withdrawal Condition under the IDA Financing Agreement: As a condition in the Financing Agreement, DAB will not be able to withdraw funds f rom the IDA grant to put towards phase I1 o f this component, until the appropriate legal framework has been established under phase I.

(b) Collateral Registry

43. Lending in Afghanistan i s heavily reliant o n collateral and f i r m s cannot uti l ize most o f their movable assets such as equipment, inventory, accounts receivable as collateral due to the absence o f the movable assets registries and effective functioning legal framework which would support property rights o f lenders. Since there i s no centralized collateral registration for movable properties in Afghanistan, it i s diff icult for creditors to check whether proposed collateral has already been offered to other creditors. This makes debt enforcement by creditors difficult, increases the cost o f credit and ultimately reduces willingness o f lenders to deal with movable collateral, thus limiting financing opportunities in general.

44. Reforms to increase the efficiency o f collateral laws and registries can have a positive impact on increasing access to credit. Economic analysis also indicates that countries that have better collateral laws and registries have greater access to credit, better ratings o f financial system stability, lower rates o f non performing loans, and a lower cost o f credit.

45. There i s currently n o legal and regulatory framework to allow having a movable collateral registry in Afghanistan, and relying on the existing legal framework, i.e., C i v i l and Commercial Codes o f Afghanistan, would not be a prudent option. The provisions o f this legislation do not meet the requirements o f the modern secured financing systems and would not support effective operation o f the collateral registry. The process o f amending these legislative acts would be cumbersome and time consuming.

Current Legal fiamework for secured lending:

46. Approach for establishing the Collateral Registry: Modem best practice principles are based on notice registration, which means providing notice o f a transaction that includes only the information necessary to alert third parties to the potential existence o f a charge covering identified assets. Such registries are simple and fast to use, both for registration and for retrieval o f information f rom them. They require disclosure o f minimal information and require n o formalities because registration i s not a pre- requisite to effectiveness between the parties. Registration serves only two purposes: (i) to give notice to third parties; and (ii) to establish priority o f the registrant according to the time o f registration.

47. Most modern best practices registries provide for registrants to register electronically v ia the internet. Such registries do not require discretionary decisions by the small registry staff, so they reduce or eliminate opportunity for error and corruption. Electronic registration i s instantaneous, since acceptance decisions are made by the registry software. Best practice registries are very inexpensive to operate compared to traditional registries. Such a registry can be placed in any entity which has sufficient technical capacity. DAB for example, having relevant infrastructure could host the Registry in this case.

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48. Though several stakeholders in Afghanistan understood such registration principles, for many it represents a novelty. A full acceptance o f the approach would depend on the extensive public awareness raising which will target primarily governmental and financial institutions, and will aim to illustrate benefits associated with such registration process.

49. The FSS Project will assist DAB in establishing a Collateral Registry in two phases:

PHASE I: Adoption of an auuropriate legal framework for Secured Lending

50. The Draft Law o f Secured Transactions, which has been approved by the National Assembly o f Afghanistan, includes the features of a modem secured transactions law. So far as the draft law goes, it generally conforms to modern secured lending principles; and though there are some minor gaps, those should not hinder the effectiveness o f this proposed framework. IFC provided recommendations to the DAB on how to improve and strengthen the proposed draft law. The Draft Law with the majority o f the proposed IFC recommendations incorporated was approved by the Lower House of the National Assembly on March 28, 2009 as informed by DAB. As per a formality in the Afghan legal system, the Law will go to the Upper House for approval before being signed by the President. Once enacted and gazetted, the Law shall be shared with the IFC and IDA. IDA will defer to the IFC on the adequacy of the contents; however IDA will ensure that the Law and all other legal framework are appropriately adopted to meet an IDA disbursement condition for the CR. The IFC will then provide the Government o f Afghanistan with technical assistance in order to draft and issue detailed Regulations that will address the issue o f registration.

5 1. Buy-in from public institutions, lenders and various stakeholders i s critical to ensure the successful establishment of a collateral registry. In order to raise awareness amongst the different stakeholders and improve the overall environment for secured lending in Afghanistan, during this phase, a workshop will be conducted for regulators, lenders, legislators on the benefits o f the Registry.

PHASE 11: Ph-ysical Establishment of the Collateral Reaistw

52. Physical development: Upon completion of, or in parallel with the first phase o f the program, the Collateral Registry (CR) will be designed and established on the base of the modern notice filing system and according to the legal framework adopted. The data shall be recorded and maintained in a computerized system using an IT solution and a web-site designed for the online application. Hardware and system software will be as required to operate the application software, to include appropriate facilities.

53. Detailed specifications for hardware and system software to fit the local needs, i.e. the law and the limitations on the form and location o f the registry will be developed by the Registry expert funded by the IFC. These specifications would be the basis for the RFP which the IFC will assist DAB in drafting. The RFP shall be floated and awarded for procuring the application software, including necessary adjustments to meet local needs, and the supporting hardware and system software. The IDA and IFC would support DAB during the process and assist in the monitoring o f the vendor’s progress and adherence to contractual obligations.

54. activities could be undertaken with support from the Project:

Technical Assistance: Once the policies are developed and the Registry i s set up, the following

Building Internal Capacity o f the Collateral Registry: Training would be necessary for the DAB staff on how to effectively run the CR; Internal circulars to support operation of the CR: To ensure that there i s a full set o f rules under which. the Registry will function, necessary regulations and instructions will be developed. These shall describe in detail the policies and procedures governing the Registry;

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0 Raising awareness among stakeholders about the Registry: In order to increase awareness among various stakeholder groups in Afghanistan, an awareness campaign will be undertaken, which will focus on educating the public, including the finance and entrepreneurial community, government entities, regular citizens, about the existence o f the Registry, i t s objectives and associated benefits; and Registry Guide and the Manual development: Further support can be provided through development of: (i) “Registry Guide for Lenders” on the use o f the Registry, which will aim at providing information to clients on how to register transactions and do searches; it will help lenders understand the importance o f the filing system and the processes for application; and (ii) “Registry Manual” which will provide a comprehensive overview o f the registration process, optimally provided on the web-site as an integral part o f the software.

0

55. Withdrawal Condition under the IDA Financing Agreement: As a condition in the Financing Agreement, DAB will not be able to withdraw funds from the IDA grant to put towards phase I1 o f this component, until the appropriate legal framework has been established under phase I.

(c) Afghanistan Institute o f Banking and Finance

56. The weak human resource capacity in the financial sector remains an obstacle to financial sector development. As such there i s immediate demand for an institute to help improve the skills available in the financial sector. Given the rapid growth o f the financial sector, the capacity building of the commercial banks and DAB i s important in order to provide efficient and transparent banking services to clients. Wh i le some individual banks are developing their own training programs, these are not adequate to meet the national need. The AIBF will aim at improving human resources o f financial institutions by: (i) upgrading the skills and knowledge o f credit officers, managers and administrators; and (ii) conducting research and promoting discussions on financial sector policy issues to help national development.

57. The AIBF has been registered as a corporation under the Corporations and Limited Liability Companies Law (2007) (‘The Companies Law’). It has three shareholders - DAB with 49% of the shares, ABA with 49% o f the shares and MISFA with 2% o f the shares. As per the requirements o f the Companies Law, the Articles o f Association for the AIBF set out the general purpose of the AIBF, relevant powers o f Board Appointment, shareholder voting rights and so on.

58. In order to ensure the successful operation o f the AIBF, the FSS Project will assist the AIBF in developing a 3-5 year collaboration with a regional banker’s training institute in the’ South Asia Region. Under this collaboration, staff from both the AIBF and from the regional banker’s training institute will visit each other’s respective institutions. The staff from the AIBF will be able to see how a modern and effective banker’s training institute i s run and take part in lessons and learning programs while visiting. The staff from the regional institute will visit Kabul and stay in order to provide best practice assistance to the AIBF and assist in developing a modem curriculum in the AIBF. I t i s also expected that they will conduct some limited teaching. Over the years, the level of assistance the AIBF will require from the regional banker’s training institute will decrease, however, it i s expected that long term ties are forged and the institutes continue to work together through joint seminars, teaching programs and so on.

59. The FSS project will support the creation o f the AIBF and also i t s physical development by establishing it, at first, within rented premises, purchasing necessary equipment and hiring key staff, in addition to the 3-5 year collaboration set out above. The initial focus of the AIBF will be on providing training to the existing banks in Afghanistan. As the AIBF develops, the curriculum and facilities will be expanded to accommodate demand from the financial services industry in Afghanistan. The World Bank’s contribution o f US$0.25 million will be matched by DAB, while the Afghan Banker’s Association will also provide a further $0.5 million, and MISFA US$0.02 million in order to provide an initial funds pool.

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Annex 3: Results Framework and Monitoring

AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

Results Framework

PDO

The main objective o f the project i s to help DAB improve its core function o f banking supervision and regulation; and to help improve access to formal banking services by establishing key initial building blocks for mher financial sector reform.

Intermediate 0

Component 1: Strengthening the capacity o f DAB Improvement of: (i) banking supervisory capacity; (ii) accounting and internal audit; and (iii) human resources management in DAB.

Component 2: Development of necessary infrastructure in the financial sector Establishment of: (i) Public Credit Registry (PCR); (ii) Collateral Registry (CR); and (iii) Afghanistan Institute of Banking and Finance (AIBF).

Project Outcome Indicators

Evidence o f an overall increase in DAB’s ability to carry our i ts internal functions more effectively and o f an increase in access to credit wi l l be measured by:

Overall improvement of DAB’s core hnctions o f banking supervision and regulation as perceived by the commercial banks through bi-annual surveys and evaluated by the Supreme Council. An improvement of Afghanistan’s position on the ‘Getting Credit” ranking on the World Bank’s Doing Business indicators.

Intermediate Outcome Indicators

Evidence o f timely and satisfactory progress toward the delivery o f Component 1 intermediate outcomes, as planned, including the following specific measures:

Decrease in the number of days required to process supervisory data collected from the commercial banks. DAB’s Financial Statements prepared according to International Financial Reporting Standards (IFRS) with an ‘UNQUALIFIED’ opinion of external auditor; and Increase in the number o f training courses implemented on the basis of training need assessment results.

Evidence o f timely and satisfactory progress toward the delivery o f Component 2 intermediate outcomes, as planned, including the following specific measures:

Increase in the number o f credit reports sent by the Public Credit Registry to the commercial banks; Increase in the number o f items of collateral registered in the collateral registry; and Increase in the number o f commercial banks’ staff trained in the AIBF.

Use of Project Outcome Information

To verify achievement o f the PDO(s).

Use o f Intermediate Outcome Monitoring

To verify the timely and satisfactory completion of Component 1 intermediate outcomes.

To verify the timely and satisfactory completion of Zomponent 2 intermediate iutcomes.

35

9 2 Y

5 U *

5 U *

u a

0 2

0 2

0 z

0 h

B

2 3

Y =:

3 3 3” - 3

3

0 0 m

0 0 d

0 0 W

0 0 N

0 2

0

d 0 M E

W c e, a

.e

4

Annex 4: Summary o f Estimated Project Costs

AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

Local Foreign Total us $000 us $000 us $000 Project Cost By Component and/or Activity

1. Strengthening the capacity of DAB Automation o f off-site Supervision 1,700 I , 700

0 Automation o f HR system 1,700 I, 700 Technical Assistance on Supervision, Accounting and 1,920 1,920

Training 380 380 Sub total 5,700 5,700

Audit, HR, IT, and Procurement

2. Development of necessary financial infrastructure (i) Public Credit Registry

Software and Hardware Technical Assistance

Software and Hardware Technical Assistance

Software and Hardware Regional Collaboration

(ii) Collateral Registry

(iii) Afghanistan Institute for Banking and Finance

1,600 I, 600 340 340

450 450 250 250

50 50 200 200

Funds pool for initial establishment 770 770 Sub total 770 2,890 3,660

Total Project Costs 770 8,590 9,360 Other financing sources

IFCFEP-MENA (') 590 590 Counter fund from DAB 250 250

Counter fund from ABA and MISFA (2) 520 520 Total of other financing Source 770 590 1,360

Total Financing Required from IDA 8,000 8,000 1. IFCPEP-MENA funding will finance TA for Public Credit Registry and Collateral Registry 2. ABA and MISFA finding will solely finance the establishment o f Afghanistan Institute o f Banking and Finance

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Annex 5: Financial Management and Disbursement Arrangements

AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

Country Issues

1. The Bank has gained substantial experience and understanding of the financial management environment in Afghanistan through the large number o f projects under implementation over the past four years. The Public Administration Capacity Building Project (PACBP) and the Public Financial Management Reform Project (PFMR) are the primary instruments to continue and enhance the fiduciary measures put in place during the past years to help ensure transparency and accountability for the funding provided by the Bank and other donors.

2. A PFM performance rating system using 28 high-level indicators that was developed by the Public Expenditure and Financial Accountability (PEFA) multi-agency partnership program was applied in Afghanistan in June 2005. PEFA i s comprised o f the World Bank, IMF, EC, and several other agencies. The system i s structured around six core dimensions of PFM performance: i) budget credibility, ii) comprehensiveness and transparency, iii) policy-based budgeting, iv) predictability and control in budget execution, v) accounting, recording, and reporting, and vi) external scrutiny and audit. Afghanistan’s ratings against the PFM performance indicators generally portray a public sector where financial resources are, by and large, being used for their intended purposes. This has been accomplished with very high levels of support from international firms; this assistance will continue to be needed over the medium term if these ratings are to be maintained. There i s also much room for improvement.

3. In spite of undeniable gains made in reconstruction since the end o f 2001, the challenges facing Afghanistan remain immense; not least because o f the tenuous security situation in the region and continued prevalence o f a large illegal and illicit economy. The policy framework benchmarks have not yet been fully costed so various priorities are funded through the annual budgeting process. The rising costs o f the security sector constitute the major constraint on attainment of fiscal sustainability. With regard to executive oversight, the national assembly will play an increasingly active role. All in all, the new national strategy has created high expectations o f the executive which could prove to be quite difficult to meet.

4. The public sector, in spite of considerable efforts to reform its core functions, remains extremely weak outside o f Kabul. The lack o f qualified staff in the civil service and the absence o f qualified counterparts in the government after 30 years o f war and conflicts i s a binding constraint. Delays in reforming the pay structure and grading of civil servants have severely crippled the public administration o f the country. Domestic revenues lag behind expenditures by a factor o f ten to one. Large-scale corruption could emerge to undermine the government’s efforts to enhance aid flows through national accounts. Capacities to track expenditures and monitor expenditure outcomes have improved, but they need rapid and substantial strengthening if progress toward the attainment o f national development targets i s to be monitored. Currently, 75% of external revenues bypass government appropriation systems.

5. The World Bank i s financing a Financial Management Advisor to assist the Ministry o f Finance, an Audit Advisor to assist the Control and Audit Office, and a Procurement Advisor to assist in Procurement- related activities. Also an Internal Audit function i s being developed within the Ministry o f Finance with World Bank financing. USAID, and earlier the Indian Aid Assistance Program, i s financing a team of consultants and advisors to assist the Da Afghanistan Bank in local as well as foreign currency operations. The activities carried out under the existing Public Administration projects have helped the Government to ensure that appropriate fiduciary standards are maintained for public expenditures, including those supported by the Bank and the donor community.

39

6. Progress has been slower than expected in shifting from operations support provided by the three Advisors to capacity development and knowledge transfer to the civil servants. Given that, i s expected that the Advisors wil l continue to be required for the medium term. Challenges still remain in attaining the agreed upon fiduciary standards and also to further enhance them. And to make matters more complex, the regulatory environment in Afghanistan has advanced significantly in the past three years. Unfortunately, even mastery of basic ski l ls in the early environment does not fully qualify the civil servants to work effectively in the new emerging environment.

Country Inherent Risk

Risk Assessment and Mitigation

M

7. The table below identifies the key risks that the project may face and indicates how these risks are to be addressed. The overall FM risk rating i s high but the residual risk rating after application of the mitigating measures i s substantial.

Project Financial

~ Rating

H

Perceived Corruption H

Overall Inherent Risk H

Entity 1 CONTROL RISK 1. Weak Implementing S

S

2. Funds Flow

Source - PFM study Minimize use o f Designated Account, maximize direct payments to contractors, consultants, etc.; major procurements through support o f Procurement Advisor Government commitment, internal controls and strengthening o f internal audit department o f DAB will help to reduce the high level o f perceived corruption

S

Setting up o f a Project Implementation Cell (PIC), which will be created to provide technical support as well as supervision o f the overall project implementation; and a Project Steering Committee (PSC), which will be the senior management body to oversee the implementation as well as provide key management decision to implement the project.

Appointment o f a Project Director to head the PIC, and qualified and experienced international consultants for relevant fields, including financial management. Payments will be made to contractors,

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Residual Risk

M S

M

M

Condition of negotiations,

Board or Effectiveness

(Y/N)

N N

N

N

N

3. Budgeting

4. Accounting Policies and Procedures

5 , Internal Audit

5. External Audit

7. Reporting and Monitoring

S

S

H

H

H

consultants, Suppliers, etc. from the Designated Account (DA) by SDU- MoF. In addition to payments out of D A funds, the implementing entities can also request the SDU to make i) direct payments from the Credit Account to contractors, consultants or consulting f i rms, and ii) special commitments for contracts covered by letters o f credit. These payments would only be made by SDU after due processes and proper authorization from the implementing entitv. A budget committee wil l be appointed to coordinate the preparation o f annual work plan and the derivation o f annual budget there from. I t wil l include representatives from relevant departments o f DAB, the PIC and PSC, and shall report to the DAB management. Will follow international standards. Project accounting procedures and details o f the F M arrangements wil l be documented in an F M Manual to be prepared by DAB and approved by the Bank Internal Audit Department o f DAB will be responsible for the review o f project internal control systems. This iepartment wil l be strengthened during :he project implementation. Will be audited by CAO with support from Audit Advisor Strengthening the SDU i s a priority inder the F M Advisor contract, to xovide information that wi l l comply Nith agreed format o f financial reports. rhis wil l be facilitated by the :omputerized accounting system that i s 3resently being utilized by DAB to naintain records and generate required 'eDorts.

M

M

S

S

S

N

N

N

N

N

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S DETECTION RISK

procedures. Accounting/Recording!oversight by SDU - MOF o f all advanceshl- 16 supported by Financial Management Advisor.

Risk rating: H=high risk: S=substantial risk; M=modest risk; L-low risk

Adequate accounting, recording, and M N oversight wil l be provided in project

Strengths and Weaknesses

Strengths

8. The Government provides assurance to the Bank and other donors that the measures in place to ensure appropriate utilization of funds will not be circumvented. The Government support for PACBP and PFMRP i s strength in itself to enhance financial management in Treasury operations, public procurement, internal audit in the public sector, and external audit by the Auditor General.

Weaknesses and Action Plan

9. The main weakness in this project, as in many others in Afghanistan, i s the ability to attract suitably qualified and experienced counterpart staff especially for Financial Management. The establishment o f the Project Implementation Cell and the staffing o f the PIC with consultants to be funded by the project are expected to strengthen the fiduciary arrangements.

Action Plan

Implementing Entity

10. The project will be implemented by Da Afghanistan Bank (DAB). There will be two levels o f implementation, supervision and monitoring arrangements: (i) Project Implementation Cell (PIC), which will be created to provide technical support as well as supervision of the overall project implementation; and (ii) Project Steering Committee (PSC), which will be the senior management body to oversee the implementation as well as provide key management decision to implement the project.

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1 1. The PIC will be led by a Project Director, who will directly report to either the Governor or the First Deputy Governor. The Project Director will be a full-time DAB staff, with adequate qualification and experience to implement project, he or she will be helped by a project team made up o f consultants, with expertise in relevant field.

12. The PIC’S specific responsibilities will be as follows: (i) hire or select local staff with educational qualification and experience in relevant fields in coordination with the respective department for implementation o f the project components; (ii) hire expatriate consultants, in coordination with the respective department, mainly in the field of procurement, IT, HR and on financial management and accounting to implement the project and also to build local capacity through on the job training; (iii) prepare bid documents for various software, IT package, equipments, etc.; (iv) monitor the work o f the expatriate consultants and vendors in accordance with deliverables listed in TOR to ascertain delivery quality and project implementation progress; (v) prepare disbursement application for payments to consultants, vendors and other purchases; and (vi) manage the financial records for al l PIC activities and prepare accounts for standard financial reporting and management; and (vii) prepare and submit quarterly implementation progress report for al l project components to the World Bank; and (viii) prepare bi-monthly implementation report for the PSC and organize coordination meeting with various department heads under the chair of the Governor or the First Deputy Governor to assess the progress project implementation and also address issues those are impeding project implementation.

13. The Project Steering Committee (PSC) will be the supreme body to supervise, monitor and make decisions for effective implementation o f the project. I t will undertake the oversight function for this project The Governor or the First Deputy Governor o f DAB will chair the coordination meeting. PSC will consist o f a l l the department head who are implementing the project. The Governor may include any other department in PSC if the Governor finds it necessary and important for project implementation. The PSC will participate in the Coordination meeting at least on a biannual basis. However, if the Chair o f the Coordination team considers more meetings on emergency purposes, such meeting will be organized by the Project Director o f the Project Implementation Cell.

14. The PSC will have the following responsibilities: (i) ensure that the Coordination meetings are held regularly; (ii) review the bimonthly implementation progress report prepared by PIC; (iii) examine the progress o f implementation of all project components and give guidance and also decisions as required to PIC for smooth project implementation; (iv) ensure that PIC i s following the World Bank procurement guidelines and approve al l the procurement decisions which should include (a) selection and hiring of the local staff and the expatriate consultants, (b) equipment needed for the departments, which are financed by the project, (c) approval of bid evaluation reports, selection o f supplier or vendors and the Contract document for the procurement of IT equipment; (v) approval of award o f al l contracts, including the Contract Agreement; (vi) review of the quarterly disbursement and financial management reports prepared by PIC; and (vi) ensure that all relevant project implementation formalities including the agreed project conditions are met as agreed with the World Bank and that the quarterly project implementation report, financial management report are submitted in time.

15. The FM Consultant of the PIC, who will have relevant experience and qualifications in financial management, will work closely with the DAB Accounting department to carry out day-to-day financial management operations o f the project - preparation o f M- 16 forms (payment orders), project coding sheet, B27 allotment form, overall contract and project management and maintenance of financial management records.

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Budgeting

IDA Contractors,

16. A budget committee will be appointed to coordinate the preparation of annual work plan and the derivation o f annual budget. This committee will be made up of representatives from relevant departments of DAB, the PIC and PSC, and shall report to the DAB management. The Budget Committee shall also coordinate quarterly budget reviews to ensure adequate budget discipline and control. The committee will be responsible for ensuring that project expenditures for each fiscal year are captured in the Governmental Development budget o f that fiscal year. The DAB must get approvals from the presidential office and the parliament and attach them to B27 and PCS forms at the time of requesting yearly allotments for contracts under the project to avoid delays in payment processing.

Suppliers, etc. after approval o f

Funds Flow

Designated Account in application initiated DAB denominated in USD " by the project and

submitted through

17. The standard funds flow mechanism in Afghanistan will be followed in this project. Project funds will be deposited in the Designated Account (DA) to be opened and maintained at the Da Afghanistan Bank (DAB). The DA, in keeping with current practices for other projects in Afghanistan, will be operated by the Special Disbursement Unit (SDU) in the Treasury Department o f MoF. Requests for payments from the DA will be made to the SDU by the implementing entity when needed.

\ 1

18. In addition to payments out of DA funds, the implementing entity can also request the SDU to have the Bank make i) direct payments from the Grant Account to suppliers, consultants or consulting firms, and ii) issue special commitments for contracts covered by letters of credit. These payments will follow World Bank procedures. Al l project payments will be made to either international firms or local firms that have bank accounts in DAB, a local commercial bank, or an overseas bank. All payments will be made either through bank transfers into the account o f such firms or by check.

SDU

FUNDS FLOW CHART

1 Project transactions processed through SDU

and paid in USD or Afghanis

c I Payment Payment

Requests Requests -1

44

Legal requirements for authorized signature

19. The Minister of Finance i s authorized to request disbursements o f Grant funds from the Grant Account held by IDA and to withdraw funds from the designated account. The Minister of Finance has submitted to IDA specimen signatures o f authorized signatories to the Designated Account and for purposes of withdrawal application. Any changes to this authorization will be communicated to IDA.

Accounting

20. The SDU will maintain a proper accounting system o f all expenditures incurred along with supporting documents to enable IDA to verify these expenditures. The Financial Management consultant of the PIC and the FM staff o f DAB will: i) supervise preparation o f supporting documents for expenditures, ii) prepare payment orders (Form M16), iii) obtain approval for M-16s by the Governor depending on the payment amount, and iv) submit them to the Treasury Department in MoF for verification and payment. Whilst original copies of required supporting documents are attached to the Form M16, the project i s required to make and keep photocopies o f these documents for records retention purposes. The FM Advisor in the MoF/SDU will use the government’s computerized accounting system, AFMIS, for reporting, generating relevant financial statements, and exercising controls.

21. The Financial Management consultant o f the PIC and the DAB FM staff will maintain essential project transaction records using computerized accounting system/Excel spreadsheets and generate required monthly, quarterly, and annual reports.

22. The FM Manual, to be prepared by the DAB, and to be approved by the Bank, will include: i) roles and responsibilities for a l l FM staff, ii) documentation and approval procedures for payments, iii) project reporting requirements, and iv) quality assurance measures to help ensure that adequate internal controls and procedures are in place and are being followed.

23. The FM Manual will also establish project financial management in accordance with standard Afghan government policies and procedures including use o f the government Chart o f Accounts to record project expenditures. The use o f these procedures will enable adequate recording and reporting of project expenditures. Overall project accounts will be maintained centrally in SDU, which will be ultimately responsible for recording o f a l l project expenditures and receipts in the Government’s accounting system. Reconciliation of project expenditure records with MoF records will be carried out monthly by the FM consultant o f the PIC together with DAB.

Internal Control & Internal Auditing

24. Project-specific internal control procedures for requests and approval o f funds will be described in the FM Manual including segregation o f duties, documentation reviews, physical asset control, and cash handling and management.

25. DAB will be responsible for coordinating FM activities of the project with the SDU.

The Financial Management consultant o f the PIC and the Head o f the Accounting Department o f

26. Annual project financial statements will be prepared by SDU/MoF detailing activities pertaining to the project as separate line items with adequate details to reflect the details of expenditures within each component,

45

27. The project financial management systems will be subject to review by the Internal Audit department o f DAB using a risk-based approach. The Internal Audit department o f DAB will be strengthened during this project implementation.

External Audit

28. The project accounts will be audited by the Auditor General, with the support of the Audit Advisor, with terms o f reference satisfactory to the Association. The audit of the project accounts will include an assessment of the: (a) adequacy o f the accounting and internal control systems; (b) ability to maintain adequate documentation for transactions; and (c) eligibility o f incurred expenditures for Association financing. The audited annual project financial statements will be submitted within six months of the close o f fiscal year. All agencies involved in implementation and maintaining records o f expenditures would need to retain these as per the IDA records retention policy.

29. (ARCS):

The following audit reports will be monitored each year in the Audit Reports Compliance System

30. submitted to IDA within 6 months o f the end of each fiscal year.

The entity - Da Afghanistan Bank audited financial statements along with the audit opinion will be

Financial Reporting

3 1. Financial Statements and Project Reports will be used for project monitoring and supervision. Based upon the FM arrangements of this project Financial Statements and Project Reports will be prepared monthly, quarterly, and annually by the Financial Management consultant o f the PIC and the Accounting department o f DAB. These reports will be produced based on records kept on the project’s computerized accounting system or Excel spreadsheets after due reconciliation to expenditure statements from SDU (as recorded in AFMIS) and bank statements from DAB.

32. The quarterly Project Reports will show: (i) sources and uses o f funds by project component, and (ii) expenditures consolidated and compared to governmental budget heads o f accounts, the project will forward the relevant details to SDUDBER with a copy to IDA within 45 days o f the end o f each quarter. The government and IDA have agreed on a pro forma report format for a l l Bank projects; a final customized format for FSSP will be agreed prior to project negotiations.

33. The annual project accounts to be prepared by SDU from AFMIS after due reconciliation to records maintained at the project, will form part o f the consolidated Afghanistan Government Accounts for all development projects. This i s done centrally in the Ministry of Finance Treasury Department, supported by the Financial Management Advisor.

Disbursement Arrangements

34. 30, 2014 with a final disbursement deadline six months after the closing date.

Table 1 shows the allocation of IDA proceeds. The expected closing date of the project will be June

46

35. During this additional 6-month grace period, project-related expenditures incurred prior to the closing date are eligible for disbursement. Disbursements procedures will follow the World Bank procedures described in the World Bank Disbursement Guidelines and the Disbursement Handbook for World Bank Clients (May 2006).

Table 1: IDA Financing by Category of Expenditure (US$ million)

(1) Goods, consultants’ services and training for 3.87 5.70 100%

(2) Goods, consultants’ services and training for 1.09 1.60 100%

(3) Goods, consultants’ services and training for 0.3 1 0.45 100%

(4) Goods, consultants’ services and training for 0.17 0.25 100%

component 1

component 2: Public Credit Registry

component 2: Collateral Registry

component 3 : Afghanistan Institute of Banking and Finance (5’1 Unallocated 0.06

Total 5.50 8.00 -

36. Summary Reports. Summary reports for monthly expenditure reporting in the form of Statements o f Expenditure will be used for expenditures on consultancy services (firms) contracts below US$ 50,000 and all consultant contracts (individuals) and goods contracts below US$20,000 and for all training programs regardless o f whether Bank procurement prior review i s required or not. All other expenditures will require records (full supporting documentation).

37. Designated Account. A single segregated designated account will be opened at DAB in US dollars for a maximum amount o f US$ 400,000. The SDU in MOF will manage payments from the account and request for new advances to this account. Cash advances may be taken from the Designated Account, and held and managed by DAB. This agency’s controls, holding, accounting, and preparation of Statement s o f Expenses (SOEs) have been satisfactorily assessed. New cash advances will only be made when al l other prior cash advances have been justified through submission of SOEs to the SDU. Expenditure reporting for expenditures made from the designated account will be monthly.

38. Direct Payments. Third-party payments (direct) and Special Commitments will be permitted for amounts exceeding USD 80,000. All such payments require supporting documentation in the form of records (copies o f invoices, bills, purchase orders, etc.).

39. Preparation of Withdrawal Applications. Da Afghanistan Bank will prepare Summary Reports and forward those reports to the SDU for further processing as a reimbursement application. The SDU will review withdrawal applications for quality and conformity to Treasury procedures, and then obtain signature. Selected DAB and SDU finance staff will be registered as users of the World Bank Web-based Client Connection system, and take an active hand in managing the flow o f disbursements.

47

40. Withdrawal conditions. N o withdrawal shall be made: for payments under Category 2 o f the Table 1, unless the Recipient has adopted appropriate rules or regulations enabling the creation o f a public credit registry; and for payments under Category 3 o f the Table 1, unless the Recipient has adopted appropriate legislation enabling the creation o f a collateral registry.

0

0

41. Retroactive financing. A provision has been made to reimburse the Government for payments it makes, up to a maximum o f o f SDR 1,630,000 (US$ 2.4 million equivalent), for eligible project expenditures incurred after January 1, 2009, in accordance with the Bank’s Procurement Guidelines, up to the signing o f the Financing Agreement.

Financial Management Covenants

0 MoF shall submit audited financial statements for the project within six months of the end of each fiscal year. The Project’s audit report will cover the financial statements, the Designated Account, and SOEs, in accordance with terms of reference agreed with the Association. Da Afghanistan Bank shall submit audited financial statements for i t s operations (entity) within six months o f the end of each fiscal year. Un-audited project interim financial reports will be submitted by Da Afghanistan Bank on a quarterly basis to the World Bank and a copy to SDU-MoF within 45 days after the end o f each quarter. Da Afghanistan Bank will ensure that the Project Implementation Cell, established for the purpose o f implementing this project i s retained throughout the duration o f the project in order to ensure smooth project implementation, and the FM consultant o f the PIC must be in place continuously.

0

0

0

Supervision Plan

42. arrangements. The team will:

During project implementation, the Bank will supervise the project’s financial management

0

0

Review the project’s quarterly un-audited interim financial reports as well as the project’s annual audited financial statements and auditor’s management letter. Review the project’s financial management and disbursement arrangements (including a review o f a sample o f SOEs and movements on the Designated Account and bank reconciliations) to ensure compliance with the Bank’s minimum requirements. Review agency performance in managing project funds to ensure that it i s timely, accurate, and accountable. Particular supervision emphasis will be placed on asset management and supplies. Review o f internal controls generally, but with specific emphasis on internal controls relating to the computerized accounting system in DAB. Review o f financial management risk rating and compliance with a l l covenants.

0

Conclusion

43. support this project - subject to implementation of the items listed in the action plan.

The FM arrangements, including the systems, processes, procedures, and staffing are adequate to

48

Annex 6: Procurement Arrangements

AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

A. Country Context

1. The Bank has gained substantial experience and understanding o f the procurement environment in Afghanistan. This has been through i t s involvement in the interim procurement arrangements put in place under the Emergency Public Administration Project. In addition experience gained working with the institutions with current responsibility for procurement functions including Afghanistan Reconstruction and Development Services. As part of the broader review o f Afghanistan’s Public Finance Management (PFM) system, the Bank carried out two assessments o f the procurement environment in the country based on the baseline and performance indicators developed by a group o f institutions led by the World Bank and OECDDAC in June 2005 and September 2007.

2. The first key issue identified through the procurement assessment i s lack of ownership and a procurement champion in the Government. This i s a serious impediment to reform and to inter-Ministerial dialogue. A second, related issue i s the lack o f capacity in the line Ministries, as evidenced by their inability to define and communicate effectively their desired functional specifications in their procurements. The lack of capacity i s also evident in the local private sector: while the number o f bids i s reasonably high, there i s a lack o f understanding on application o f public procurement rules.

3. A new Procurement Law (PL) has been adopted in November 2005 which radically transforms the legal and regulatory framework. As per the Law a Procurement Policy Unit (PPU) was established to provide oversight for implementation o f the Law. PPU has issued several circulars regarding implementation o f the Procurement Law including issuance o f “Rules o f Procedures for Public Procurement” (Circular: PPU/COO5/13 86 o f April 12, 2007) and Procurement Appeal and Review Mechanism (Circular: PPU/NOO1/1385 of March 18, 2007). PPU has currently developed several SBDs/SRFPs/RFQs for national and international procurement o f goods/works and consulting services following national procedures as per the PL.

4. In the absence o f adequate capacity to manage procurement activities effectively, a central procurement facilitation unit (ARDS-PU) has been established under Ministry of Economy to support line ministries and project implementing agencies. The Bank and the Government has agreed on a program for country wide procurement reform and capacity building, leading to the transition from centralized to decentralized procurement services. The above i s implemented by an international consultant under the supervision of PPU/MOF and financed under Public Administration Capacity Building project (PACBP)/ Public Finance Management Reforni Project (PFMRP). There has been several training programs conducted by the consultant at Basic and Intermediate level. The implementation o f the procurement reform component of the PACBP should be considered with due priority to ensure that fiduciary standards are further enhanced and that capacity i s developed in the Government to maintain these standards.

5. The Procurement Law has been revised in July 2008 and amended in January 2009 and issued as a new Law by the Ministry o f Justice and was published in the Official Gazette Number 957, 29.10.1387 (18 January 2009). The “Rules of Procedures for Public Procurement” have been revised by the PPU/MOJ and issued in March 2009.

General

6. Procurement for the proposed project would be carried out in accordance with the World Bank’s “Guidelines: Procurement Under IBRD Loans and IDA Credits” dated May 2004; revised in October 2006

49

and “Guidelines: Selection and Employment of Consultants by World Bank Borrowers” dated May 2004, revised in October 2006, and the provisions stipulated in the Financing Agreement. The general description o f various items under different expenditure categories are described below. For each contract to be financed by the grant, the different procurement methods or consultant selection methods, the need for prequalification, estimated costs, prior review requirements, and time frames are agreed between the Borrower and the Bank project team in the Procurement Plan. The Procurement Plan will be updated at least annually or as required to reflect the actual project implementation needs and improvements in institutional capacity.

7. I t has been agreed by both parties that in the event o f a conflict between IDA Procurement/Consultant Guidelines, as per Article 4 (2) o f the Procurement Law July 2008 (Amendments in January 2009 incorporated) of the GOA, the IDA Procurement/Consultant Guidelines shall prevail.

8. required to operate the Public Credit Registry and Collateral Registry.

The IFC will be providing technical assistance to DAB for the development o f the IT systems

Procurement of Works

9. The project shall not finance any kind of civil works.

Procurement of Goods

10. Goods procured under this project would include IT Equipment such as computers (desktop/laptop), computer software (off the shelf packages as well customized software), computer hardware for large installations, Office furniture, office equipment, internet access. The procurement will be done using Bank’s SBD for Goods and IT systems for al l contracts following International Competitive Bidding (ICB) procedures. National SBDs agreed with IDA or satisfactory to IDA will be used for procurement of Goods following National Competitive Bidding (NCB) procedures. Shopping shall be in accordance with paragraph 3.5 o f Bank’s Guidelines. All contracts estimated to cost more than U S $ 200,000 per contract shall be procured following ICB procedures. Contracts estimated to cost more than US$ 50,000 equivalent per contract and less than US$200,000 per contract shall be procured following NCB procedures. All contracts estimated to cost less than US$ 50,000 equivalent per contract shall be procured following Shopping procedures. Contract for procurement o f standard computer software, books, journals, training material or contracts meeting the conditions in accordance with paragraph 3.6 of Bank’s Guidelines may be procured following Direct Contracting procedures with prior agreement with IDA in the procurement plan or separately.

11. Procurement of non-consulting services: Provision o f services such as internet access shall be followed using documents prepared based on the Bank’s SBDs for Procurement o f Non Consulting Services.

12. Selection of Consultants: The proposed Grant would finance several high value assignments such as Comprehensive IT Assessment o f DAB and preparation of Accounting!Audit/ HR manuals and conducting of training by qualified individuals. Short l is ts of consultants for services estimated to cost less than US$lOO,OOO equivalent per contract may be composed entirely of national consultants in accordance with the provisions o f paragraph 2.7 o f the Consultant Guidelines. The selection methods applicable for consultants are QCBS, QBS, CQS, LCS, FBS and SSS for firms and Section V o f the Bank’s Guidelines for Individuals.

13. Institute. DAB following QBS/SSS/CQS procedures.

DAB will have a medium to long term collaboration agreement with a Regional Banker’s Training The training institute shall be selected based on qualifications in meeting the training needs o f

50

14. Operational Costs: IDA shall not finance any operational costs.

15. Staff Development: DAB shall prepare a comprehensive staff development plan based on the needs and implement the same upon agreement with IDA. Accordingly the staff will be offered scholarships both covering shodlong term attendance to academic courses/training programs either within the country or overseas depending on the nature and relevance.

B. Assessment o f the agency’s capacity to implement procurement

16. Procurement activities will be carried out by D a Afghanistan Bank.

17. Fernando, senior procurement specialist, on April 9,2008.

An assessment of the Implementing Agency to implement procurement was carried out by Deepal

18. The assessment reviewed the organizational structure for implementing the project and interactions. A full time project director will be responsible to Governor o f DAB for implementing the project. The procurement support will be provided by Director General (Services/Construction).

19. Currently Director General (Services/Construction) (DG(S&C)) i s responsible for al l procurement actions for the DAB. Under DG(S&C) there are two departments; (i) construction, (ii) services (to which the Archive Department has recently been added). The services department i s responsible for procurement, logistics and transport. DAB follows Afghanistan Procurement Law. A procurement manual i s under preparation addressing the specific needs o f DAB based on the Procurement Law. There are six staff responsible for procurement actions. The construction department i s staffed with 2 engineers and one architect. All retail procurements which are up to US$lO,OOO.OO can be done directly from local market getting three quotations and procurement which i s cost more than US$lO,OOO.OO must be announced via media. After getting the offers and evaluation o f the bids by a selected evaluation committee the contracts are signed. Currently the DAB Governor and the Deputies has financial authority to approve procurement decisions up to: (i) US$ 400,000.00 for services and goods: and (ii) U S $ 2,000,000.00 for civil works. The DAB Governor has the discretion whether or not to send the procurement offers to the Supreme Council but there i s no obligation under the Law o f Da Afghanistan Bank for him to do so. Since DAB i s following PL o f the Government if the value of the procurement goes beyond the above mentioned limits, DAB has to seek approval from the Special Procurement Committee (SPC) o f the Ministry o f Finance.”

20. DAB has never implemented a donor financed project by itself though they have been supported by several individuals under donor support. Therefore they have not been exposed to Bank’s Procedures for Procurement and Selection o f Consultants. As stated above the procurement staff do not have adequate experience in procurement. Hence the procurement risk i s “High”.

21, The following mitigation measures are proposed: (a) Bank staff to carryout an intensive training program for DAB staff both in English/Dari to carryout small value procurement and selection o f individual consultants both local and international; (b) the staff of the DG(S&C) to attend training programs conducted by PPUMOF at Basic and intermediate level to begin with; (c) ARDS-PU to support DAB for large value procurement following NCB/ICB procedures and selection of firms regardless o f value. With such arrangements in place the procurement risk could be rated as “medium”

22. DAB will ensure that al l bid invitations, EOIs are given wide publicity using their own website, ARDS website, UNDB/DG market and other website such as “acbar.org” “devnetjobs.org” especially for individuals. With regard to complaints, DAB will be guided by Article 71-72 of Procurement Law -2008. DAB will prepare a Procurement Monitoring/Activity Schedule for Procurement o f goods and Selection

51

Monitoring Activity Schedule for consultants and update the schedules on a monthly basis. The above schedules will facilitate to monitor the time taken for procurementhelection activities and take remedial actions for delays. It has been agreed that al l bid/proposal evaluations will be completed within: (i) 5-7 working days following shopping procedure; (ii) 15 - 20 working days following NCB/ICB procedures; (iii) 10 working days for individual consultants; and (iv) 20 working days for firms.

C. Procurement Plan

2 1. The Client, at appraisal, developed a Procurement Plan for project implementation which provides the basis for the procurement methods. This plan has been agreed between the Client and the Project Team on March 26, 2009 and i s available at Da Afghanistan Bank (DAB) [Ibn-e-Sina Watt, Kabul, Islamic Republic o f Afghanistan]. I t will also be available in the Project’s database and in the Bank’s external website. The Procurement Plan will be updated in agreement with the Project Team annually or as required to reflect the actual project implementation needs and improvements in institutional capacity.

D. Frequency of Procurement Supervision

22. assessment o f the Implementing Agency has recommended two supervision missions.

In addition to the prior review supervision to be carried out from Bank offices, the capacity

Procurement Audit

23. audit.

In addition to prior review, Bank staff or Bank appointed consultant shall carryout post procurement

E. Retroactive Financing

24. It has been agreed that contracts procured in accordance with IDA Procurement Guidelines and Guidelines for selection o f consultants will be eligible for retroactive financing as detailed in the Financing Agreement.

52

Attachment I

1. Details o f Procurement arrangements involving International Competition

(a) Goods and Non Consulting Services

(i) List o f contract packages which will be procured following ICB and Direct Contracting procedures:

Ref. No.

I I I I I Domestic I Review 1 Expected I Comm

ents Contact ' Estimated Procurement Prequalification Preference by Bank Bid-

Method Yes/No (Yes/No) PriorPost Date Opening cost (US%) (Description)

G-1

-

G-2

-

G-3

-

G-4

-

Supply and Installation o f Enterprise Resource Platform for automation o f supervision department o f DAB Supply and Installation o f Enterprise Resource Platform for automation o f Human Resource Management database at DAB Supply and Installation o f I T system for Public Credit Registry Supply and Installation o f I T system for Collateral Registry o f DAB.

1.7 million

1.7 mi 11 ion

1.6 million

450,000

ICB

ICB

ICB

ICB

No

No

No

No

No

No

No

No

Prior

Prior

Prior

Prior

February 10,2010

June 1, 2010

March 1, 2010

March 15,2010

ICB contracts for goods estimated to cost above US$200,000 equivalent per contract and all Direct Contracting regardless o f value shall be subject to prior review by IDA.

53

(b) List o f consulting Assignments with shortlist o f international f i r m s or individuals

5

Review by Bank (Prior /

Post)

Prior

1

Ref. No.

6 7

Expected Comments Proposals

Submission Date

July 15, 2009 c-1

c-2

c-3

c-4

c-5

C-6

Prior

Description o f Assignment

July 15, 2009

Assessment o f IT requirements, design, implementation and supervision o f IT installations at DAB Prepare an Accounting Manual including operational policies and procedures o f DAB and conduct training in using the manual. Prepare an Audit Manual including policies and procedures of DAB and conduct training in using the manual. Prepare a modern HR policies for DAB and assist the HR department in implementing policy and including a training plan Prepare technical specifications for automation o f off-site supervision department of DAB and assist in training staff both at DAB and commercial banks Provide technical assistance to Procurement Department in DAB

Prior

3

Estimated

cost ($)

July 15, 2009

800,000

250,000

250,000

350,000

170,000

100,000

Prior

4

Selection Method

July 15, 2009

QCBS

Individual

Individual

Individual

Individual

Individual

July 15, 2009 Prior

I I I

1. Project information: Project Name Country : Afghanistan Credit Number : P-110644

: Afghanistan Financial Sector Strengthening Project

I I

August 15, 1 2009 1 Prior

2. 3. 4.

Bank’s approval Date of the procurement Plan March 26,2009 Date of General Procurement Notice: November 25,2008 Period covered by this procurement plan: Initial period o f 18 months

54

11. Goods and Works and non-consulting services.

1. 2. 3 4.

1. Procurement Method and Threshold

Procurement Method Threshold for Methods Comments ICB (Goods) 200,000 Equivalent or more NCB (Goods) 200,000 Equivalent or less Shopping (Goods) 50,000 Equivalent or less ICB (Non-Consultant Services) 200,000 Equivalent or more

1. 2. 3

2. Prior Review Threshold: Procurement Decisions subject to Prior Review by the Bank as stated in Appendix 1 to the Guidelines for Procurement: [Thresholds for applicable procurement methods (not limited to the l i s t below) will be determined by the Procurement Specialist Procurement Accredited Staff based on the assessment o f the implementing agency’s capacity.]

Procurement Method Prior Review Threshold Comments ICB (Goods) Al l Contracts Equivalent or more NCB (Goods) 200,000 Equivalent or more ICB (Non-Consultant Services) 200,000 Equivalent or more

1 2 3 4 5 6 I 8

Domestic Review Expected

Ref. Contact Estimated Procurement Prequalification Preference by Bank Bid- No. .

Method Yes/No (YeshVo) PriorRost Date Opening cost (US%) (Description)

3. provisions of paragraphs 2.9 and 2.10 o f the Guidelines

Prequalification. Bidders for Packages 7 & 8 shall be prequalified in accordance with the

9

Comments

G-1

G-2

G-3

Supply and Installation o f Enterprise Resource Platform for automation of supervision department of DAB Supply and Installation o f Enterprise Resource Platform for automation of Human Resource Management database at DAB Supply and Installation of IT system for Public Credit Registrv

G-4

55

Supply and Installation o f IT system for Collateral Registry of DAB,

I Desktop computers,

G-6

laptop, printer, internet access, I G-5 1 photocopier for

1 35,000 1 Shopping 1 Shopping No No Office fiirniture and 15,000

equipment for ABF

1 No No

1.

2.

Selection Method Threshold Comments CQS for Firms

QCBS,QBS, FBS, LCS

US$200,000 equivalent or less depending on the nature o f assignment

111. Selection o f Consultants

1. 2.

3

1. Selection Methods and Thresholds

Selection Method Prior Review Threshold Comments Competitive Methods (Firms) Competitive methods $50,000 or more (individuals) Single Source (Firms)/Individuals Al l irrespective o f value

$100,000 or more

July31, 1 2009 1

1 2

Ref. No. Description of Assignment

Assessment of IT requirements, design,

C-1 implementation and

installations at DAB supervision of IT

3 4 5 6 7

Estimated Selection Review Expected Comments Method by Bank Proposals

(Prior / Submission cost ($)

Post) Date

July 15, 2009 Prior QCBS 800,000

3. Short list comprising entirely o f national consultants: Short l i s t o f consultants for services, estimated to cost less than US$lOO,OOO equivalent per contract, may comprise entirely o f national consultants in accordance with the provisions o f paragraph 2.7 o f the Consultant Guidelines.

4. Any Other Special Selection Arrangements: Expenditure incurred from January 1, 2009 up to the amount o f SDR 1,630,000 (US 2.4 million equivalent) following agreed Procurement Procedures as per the Financing Agreement shall be eligible for retroactive financing.

5. Consultancy Assignments with Selection Methods and Time Schedule

56

Prepare an Accounting Manual including operational policies and procedures o f DAB and conduct training in using the manual. Prepare an Audit Manual including policies and procedures o f DAB and conduct training in using the manual. Prepare modem HR policies for DAB and assist the H R department in implementing policy and including a

I training Dlan

July 15, 2009

250,000

250,000

350y000

c-2

I Prepare technical specifications for automation o f off-site supervision department o f DAB and assist in training staff both at DAB and commercial banks Provide technical assistance to Procurement Department within D A B

Individual

170,000

100,000

Prior

Description

July 15, 2009

I Duration I

c-3

c-4

procurement o f goods following shopping procedureslselection o f consultants Familiarity o f staff with Procurement under Bank Financed Projects Familiarity o f staff in Procurement o f I T systems

Individual

Individual

2009 office wi l l conduct in English/Dari

us$lo,ooo 14 days TBD Attendance o f staff o f the D G (S&C) Regional Program

us$lo,ooo Two weeks TBD Attendance o f Senior Staff - Procurement o f I T systems at ILO Turin

Prior

Prior July 15, 2009 1 I

July 15, 2009 Individual Prior c-5

August 15, 2009 1 C-6 Individual Prior

1 Internal and external training for staff in HR, Accounting, Auditing Supervision, and Procurement Departments in l ine with new training p l a ~ Internal and external trainindstudy tours, for staff in Public Credit Registry and Collateral Registry Unit Collaboration with regional Banker’s Training Institute for 3-5 years

April 15, 2010

QB SIS S SIC QS

3 10,000 c-7 Prior

April 15, 2010

QBSISSSIC QS

50,000 C-8 Prior

I 200,000 c-9 CQSISSS Prior

Ju1y2009 I Capacity Building

The fol lowing programs are proposed to enhance the knowledge o f the staff o f DAB.

Expected outcome/Activity I Estimated Cost I Estimated 1 Start date I Comments

57

Agreed Procedures for National Competitive Bidding.

(i) Standard bidding documents approved by the Association shall be used.

(ii) Invitations to bid shall be advertised in at least one (1) widely circulated national daily newspaper and bidding documents shall be made available to prospective bidders, at least twenty eight (28) days prior to the deadline for the submission o f bids.

(iii) Bids shall not be invited on the basis o f percentage premium or discount over the estimated cost.

(iv) Bidding documents shall be made available, by mail or in person, to all who are willing to pay the required fee.

(v) Foreign bidders shall not be precluded from bidding.

(vi) Qualification criteria (in case pre-qualifications were not carried out) shall be stated on the bidding documents, and if a registration process i s required, a foreign firm determined to be the lowest evaluated bidder shall be given reasonable opportunity o f registering, without any hindrance.

(vii) Bidders may deliver bids, at their option, either in person or by courier service or by mail.

(viii) All bidders shall provide bid security or a bid security declaration form as indicated in the bidding documents. A bidder’s bid security or the declaration form shall apply only to a specific bid.

(ix) Bids shall be opened in public in one place preferably immediately, but no later than one hour, after the deadline for submission o f bids.

(x) Evaluation o f bids shall be made in strict adherence to the criteria disclosed in the bidding documents, in a format, and within the specified period, agreed with the Association.

(xi) Bids shall not be rejected merely on the basis o f a comparison with an official estimate without the prior concurrence o f the Association.

(xii) Split award or lottery in award o f contracts shall not be carried out. When two (2) or more bidders quote the same price, an investigation shall be made to determine any evidence o f collusion, following which: (A) if collusion i s determined, the parties involved shall be disqualified and the award shall then be made to the next lowest evaluated and qualified bidder; and (B) if no evidence o f collusion can be confirmed, then fresh bids shall be invited after receiving the concurrence of the Association;

(xiii) Contracts shall be awarded to the lowest evaluated bidders within the initial period o f bid validity so that extensions are not necessary. Extension o f bid validity may be sought only under exceptional circumstances.

(xiv) Extension o f bid validity shall not be allowed without the prior concurrence o f the Association (A) for the first request for extension if it i s longer than four (4) weeks, and (B) for al l subsequent requests for extensions irrespective o f the period.

(xv) Negotiations shall not be allowed with the lowest evaluated or any other bidders.

(xvi) Re-bidding shall not be carried out without the Association’s prior concurrence; and

(xvii) All contractors or suppliers shall provide performance security as indicated in the contract documents. A contractor’s or a supplier’s performance security shall apply to a specific contract under which it was furnished.

58

Annex 7: Implementation and Monitoring Arrangements

AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

1. DAB has no experience implementing a donor funded project. Although, the US funded Bearing Point Consultants have been assisting DAB since 2003 to build their capacity in bank supervision, monetary policy, accounting systems and human resource development, the project implementation responsibility was entirely vested in the Bearing Point Team, led by their Team Leader. Such an implementation arrangement did not create project implementation capacity within DAB. DAB’S ownership o f the project was less effective, since the project was managed directly within the various departments without much coordination. Therefore, there has been lack of coordination and overall knowledge on the project from DAB’S side and it did not help integrating the implementation and assessing the overall project impact.

2. In carrying out the FSS Project, unlike the Bearing Point model, the approach to capacity building relies on client execution that will be the key to provide support for the transition from dependence on expatriate advisors to self-reliance on qualified local staff in Afghanistan. There will be two levels o f implementation, supervision and monitoring arrangements: (i) Project Implementation Cell (PIC), which will be created to provide technical support as well as supervision of the overall project implementation; and (ii) Project Steering Committee (PSC), which will consist o f the senior management to oversee the implementation as well as provide key management decisions to implement the project.

3. The PIC will be led by a Project Director, who will directly report to either the Governor or the First Deputy Governor, provide technical support as well as conduct fortnightly or monthly project implementation review meetings. The Project Director will be a full-time DAB staff member, with adequate qualifications and experience to implement the project. The Project Director will be helped by a project team with expertise in relevant fields. The project team members will be located in their parent departments. Each department, which i s included in the project, will nominate a focal point staff with relevant experience to PIC. PIC will have access as well as authority to demand the focal point staff to provide assistance and attend project implementation meetings as and when necessary. The department’s focal point staff will brief their department head on the progress o f implementation. Capacity within the relevant department will be created in procurement, financial management, IT and other areas as required for project implementation. To build such capacity, the expatriate consultants positions created in the project will be hired and placed in the respective department. The focal point staff o f the department will be attached to the expatriate consultants for capacity building so that over time the local project staff can take charge o f the project implementation. The expatriate consultants, although placed in the relevant department, will work in full coordination with PIC. PIC will have the same access to them as it will have to the local focal point staff

4. PIC’S specific responsibilities will be as follows: (i) hire or select local staff with educational qualification and experience in relevant fields in coordination with the respective department for implementation o f the project components; (ii) hire expatriate consultants, in coordination with the respective department, mainly in the field of procurement, IT, HR and on accounting and auditing to implement the project and also to build local capacity through on the job training; (iii) prepare bid documents for various software, IT package, equipments, etc.; (iv) monitor the work o f the expatriate consultants and vendors in accordance with deliverables listed in TOR to ascertain delivery quality and project implementation progress; (v) prepare disbursement application for payments to consultants, vendors and other purchases; (vi) manage the financial records for a l l PIC activities and prepare accounts for standard financial reporting and management; (vii) prepare and submit quarterly implementation progress report for al l project components to the World Bank; and (viii) prepare bi-monthly implementation reports for the Project Steering Committee and organize coordination meetings with various department heads under the chair of the Governor or the First Deputy Governor to assess the progress project implementation and also address issues those are impeding project implementation.

59

5. The Project Director for the PIC has been hired by DAB and has started familiarizing himself with a l l the relevant documents and issues under the project. In addition, the structure o f the PIC has also been agreed upon (see diagram below). PIC members wil l be used as focal points in their relevant departments for the Project Director. The expatriate consultants wil l assist the focal points in supervising and monitoring the project components specific to their departments, and prepare progress reports for the PIC. Overall the focal points wil l provide their progress report to the Project Director. The international consultants wil l have two tasks: one working with the all staff o f the departments and their other task wi l l be working with the focal points. The PIC members including the consultants wil l meet every other week to discuss their progress and problems. The consultants wil l be based in their respective department and wi l l monitor and assist the department in i t s daily activities.

Proiect Implementation Cell (PIC)

Project Director

Internal Strengthening of DAB Financial Sector Infrastructure

Department Department Resources Department

Department Department

I I

Director: Director: Public Credit Collateral

Director: AlBF

I

6. The PSC wil l be the supreme body to supervise, monitor and make decisions for effective implementation of the project. The Governor or the First Deputy Governor, in DAB wil l chair the coordination meeting. The PSC wil l consist o f a l l the department heads who are implementing the project. The Governor may include any other department in PSC if the Governor finds it necessary and important for project implementation. The PSC wil l participate in the Coordination meeting at least on a biannual basis. However, if the Chair o f the Coordination team considers it necessary to have meetings on an emergency basis, such meetings wil l be organized by the Project Director o f the PIC.

7. The PSC wil l have the following responsibilities: (i) ensure that the Coordination meetings are held regularly; (ii) review the bimonthly implementation progress report prepared by PIC; (iii) examine the progress of implementation o f all project components and give guidance and also decisions as required to PIC for smooth project implementation; (iv) ensure that PIC i s following the World Bank procurement guidelines and approve all the procurement decisions which should include (a) selection and hiring o f the local staff and the expatriate consultants, (b) equipment needed for the departments, which are financed by the project, (c) approval o f bid evaluation reports, selection of supplier or vendors and the Contract

60

document for the procurement o f IT equipment; (v) approval o f award o f al l contracts, including the Contract Agreement; (vi) review o f the quarterly disbursement and financial management reports prepared by PIC; and (vi) ensure that all relevant project implementation formalities including the agreed project conditions are met as agreed with the World Bank and that the quarterly project implementation report, financial management report are submitted in time.

Director General, Supervision

Proiect Steerinn Committee (PSCL

Governor and Deputy Governor

Comptroller Chief Financial Head of Human Head of IT General General Auditing Officer: Resources Counsel

Accounting

Project Director

I 1 I

8. PIC and PSC will provide full cooperation to the World Bank Country Office, the International Finance Corporation (IFC) and their project supervision missions as and when the project i s supervised. DAB and i t s relevant departments, including the Afghanistan Institute o f Banking and Finance, will provide necessary information to asses the progress o f the project implementation. Moreover, the PIC and PSC will furnish the progress reports, the relevant information required to assess progress in meeting the Project Development Objectives (PDOs) and the Intermediate Outcome Indicators.

9. The World Bank supervision missions o f the project will be arranged in such a manner to ensure it consists o f members o f the IFC in undertaking bi-annual supervision. A joint supervision o f the project i s essential since the IFC and the Bank are combining efforts to establish the Public Credit Registry and the Collateral Registry. Coordination in supervision will be critical in order to move from Phase I (IFC) - the implementation o f the “soft)’ components to Phase I1 (WB), implementation o f the computer hardware and software component. The hardware component i s only possible where there i s the physical establishment of the Public Credit Registry and Collateral Registry and there i s full implementation cooperation between the Bank and IFC to design RFPs, which meet the purpose and objectives o f setting up the Public Credit Registry and Collateral Registry.

10. Financial Management - (i) Monitoring and evaluation o f progress - The PIC will meet every other week to discuss the progress o f the project against the benchmarks agreed in Annex 3. The meetings will also provide an opportunity to identify problems in implementation and make necessary changes to the project implementation. Progress reports will be prepared on a monthly basis and provided to the World Bank. (ii) Reporting - guidance on producing audit reports, Interim Financial Reporting (IFR) and other reports required for effective project monitoring, evaluation, and disclosure, will be provided by international consultants supporting the relevant departments o f DAB within the PIC. The timing o f a l l required reports will be agreed with the World Bank staff and will be finalized in the Legal Agreement. Generally, the PIC will ensure, with initial help from international consultants that a l l staff involved in the

61

management o f funds conforms in every respect with the relevant Wor ld Bank procedures by monitoring and assisting the department in i t s daily procedures. Where necessary, the Wor ld Bank wil l provide further training to remedy any deficiencies identified. All the departments, through their focal points, will provide their reports to the Project Director.

law

for secured transaction law Drafting o f supporting regulations

1 1. Procurement - The PIC shall be responsible for preparing a detailed annual work plan and budget, including a Procurement Plan and Training Plan, which wi l l be reviewed at the end o f each year o f the project. Procurement wi l l be carried out based on this annual Procurement Plan. The Procurement Plan will be updated in agreement with the Project Team annually or as required to reflect the actual project implementation needs and improvements in institutional capacity. Any amendments made to the procurement Plan during the year wi l l be agreed with IDA pr ior to undertaking any procurement actions.

4 4 - to provide technical assistance to DAB to draft

12. Responsibilities for development of the Public Credit Registry and Collateral Registry: The table below contains the agreed roles that DAB, IFC, and IDA will assume during the implementation stage o f

Development o f technical

TORhechnical specifications for

specifications for the system

these two components.

regulations 4 4 4 - Technical

4

specifications will be cleared by IDA.

4 - to provide technical 4 - Review and clearance

Review o f legal framework Drafting o f new regulations/laws

Development o f technical specifications for the system

TORhechnical specifications for hardware and software

Procurement for hardware and software

Monitoring o f vendors work

Awareness Raising - study tour, workshop and, conference

4 4 - to provide technical assistance to DAB in drafting new regulations/laws

4 4 4 - Technical

4 4 - to provide technical 4 - Review and

specifications w i l l be cleared by IDA.

assistance to DAB in clearance. drafting TOR/Technical Specifications

assistance during selection Procedures wi l l be in process accordance with IDA

Procurement Guidelines

4 4 - to provide technical 4 - Procurement

4 4 - jo int supervision

4 4 - in coordination with IDA 4 missions with IDA

62

Activities

hardware and software

Procurement for hardware and software

Monitoring o f vendors work

Operational guidelines developed for DAB and Financial Institutions Training program for DAB Workshop and awareness raising programs

DAB I FC

assistance to DAB in drafting TOWTechnicaI Specifications

assistance during selection process

4 d - to provide technical

4 4 - jo in t supervision missions with IDA

4 d - in coordination with IDA

i - Procurement Procedures w i l l be in accordance with IDA

4 I

63

Annex 8: Project Preparation and Appraisal Team Members

AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

1. Project schedules:

2. World B a n W C staff and consultants who worked on the project:

Md. Reazul Islam Kyoo-Won Oh Nagavalli Annamalai Kiatchai Sophastienphong Shanthi Divakaran Nazir Ahmad Richard Nash Shah Nur Quayyum Md. Faijul Islam Sheila Braka Musiime David C. Freese Mohammad Arif Rasuli Asta Olesen Deepal Fernando Kenneth 0. Okpara Panvana Wawreena Aza A. Rashid Marjorie Espiritu Thomas James Jacobs Oscar Maddedu Mohammad Amin Shohaieb Murat Sultanov

SASFP SASFP LEGPS SASFP SASFP SASFP SASFP SASFP ISGOS LEGES LOAFC SASDN SASES SAWS SARFM SASFP SASFP SASFP

IFC IFC IFC IFC

Task Team Leader Co-Task Team Leader Lead Counsel Senior Financial Sector Specialist Program Officer Research Analyst Research Analyst Operation Analyst Information Analyst Senior Counsel Senior Finance Officer Senior Environmental Specialist Senior Social Development Scientist Senior Procurement Specialist Senior Finance Management Specialist Program Assistant Program Assistant Program Assistant Country Officer Lebanon Principal Financial Specialist Program Officer - Credit Bureau Program Operations Officer

PCN Peer Reviewers: Samuel Munzele Maimbo, Senior Financial Sector Specialist, AFTFP Laurent Gonnet, Senior Financial Sector Specialist, MNSED Sevi Simavi, Investment Policy Officer, IFC

QER Panels: Michael J. Fuchs, Lead Financial Economist, AFTFP Aquiles Almansi, Lead Financial Sector Specialist, LCSPF Gabriella Ferencz, Lead Financial Sector Specialist, FPDFS.

64

Annex 9: Project Benefits

AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

encfrts for compliance, external clienfs regulatory and control

fra ntework -I._._--- -..

1. The majority o f the funding for the FSS Project will finance Component 1: Strengthening the capacity o f DAB through the supply, installation, commissioning and maintenance o f the information systems for the off-site Supervision and Human Resources management, coupled with a set o f necessary technical assistance and training programs at DAB. Additionally, consultants will be hired to finalize the audit and accounting manuals and associated policies and procedures. This i s expected to enhance efficiency and effectiveness o f the administrative activities in DAB, and streamline the delivery o f i t s services thus reducing the cost to the financial institutions dealing with DAB. It wil l also provide timely, comprehensive, accurate and relevant information to the top management o f DAB.

Work process and inanpower efficiency

2. The investments in the financial infrastructure, which include the Public Credit Registry (PCR), Collateral Registry (CR) and Afghanistan Institute for Banking and Finance (AIBF), will increase the availability o f the financial services in Afghanistan based o n an appropriate legal and regulatory framework for both consumers and lenders to enforce their rights. Continued support will be provided for the smooth operation o f PCR, C R and AIBF through the capacity building program, development o f operational guidelines and manuals, public awareness programs, and so on.

3. By the nature o f the project, it i s diff icult to quantify the economic and financial benefits o f the project and it i s therefore complicated to carry out a proper 'Cost-Benefit Analysis'. As shown below, the team has instead carried out a "business benefits" review with DAB management o f the investments in 4 areas including: (i) Internal Process Efficiency; (ii) Benefits to internal and external clients; (iii) Benefits for compliance, regulatory and control framework; and (iv) Work process and manpower efficiency.

Internal Process Efficiency

Component 1. Strengthen Overall

Transforming DAB into a modern central bank with management and business practices that are based on best practice.

Improved financial sector stability and reduced transaction costs.

Improved regulatory framework supported by automated information systems;

Improved and timely statutory reporting and analysis for better decision making by the policy makers and the D A B management; and

Proper management o f fiduciary risks.

Positive impacts on DAB work processes and manpower rationalization through automated information systems.

65

Internal Process Efficiency

SuDervision

Reduce cycle time for banking supervision through readily available data and analysis;

Increased ability to ensure completeness o f commercial banks’ submission o f supervisory data and timely update;

Ability to accurately analyze data using latest information for supervision;

Increased data accuracy by minimizing errors caused by manual re- typing o f supervisory data; and

Automate classification o f loans and improve targeting for inspection;

Accounting

DAB able to produce timely and accurate financial statements according to internal Accounting Manual; and

DAB able to produce timely and unqualified internal audits in compliance with the IFSR

HR Management

Timely processing o f HR actions;

Better HR information for decision making;

Accurate and timely payroll payments, and reduced administrative costs; and

Benefits to internal and external clients

Reduced reporting burden for the commercial banks;

Reduce cycle time to respond to credit requests and exceed service standards; and

Improved monitoring and adherence to prudential banking supervision norms.

Increase in transparency o f financial position o f DAB.

DAB staff wi l l benefit gith timely processing o f 3R actions and accurate Jayroll payments; and

rargeted training as part If individual learning ilan.

Benefits for compliance, regulatory and control

framework

Accurate information to management for actionable items;

Improve controls to prevent frauds and forgery;

Follow up on complaints against banks; and

Better decision making with a strong statistical system;

Internal transparency and supervision increased in l ine with existing regulatory requirements.

DAB management wi l l *eceive accurate H R data For decision Waking;

3etter strategic staff ?lanning;

4bility to use HR data to mprove workflow process

Work process and manpower efficiency

Additional workload can be managed with existing staff;

Increased computer skil ls among Central Bank staff.

Reduced time and cost in preparing and delivering accurate accounts and audits.

Manpower rationalization in HR.

66

I Internal Process Benefits to internal and Benefits for compliance, Work process and

I fra meworh Efficiency elfernal clients regulatory and control manpower efficiency

Availability o f historical training data and their analysis

and approvals; and

Integrated HR data with budget plan.

I I Comoonent 2 -Develooment of Infrastructure in the financial sector

Creating the legal, regulatory and physical infrastructure which w i l l open up the credit market and make it easier for borrowers and lenders to enforce their rights; and

Establishing a solid foundation for the training o f future employees in the financial sector.

Better and easy access to individual credit data for lending;

Increased quality o f loans for commercial banks and NBFIs;

Improved access to finance for Afghan citizens and businesses;

Expanded loan portfolios o f the commercial banks and NBFIs;

Availability o f cadre o f well qualified bankers trained; and

Provision o f better training opportunities for staff in the banking sector.

Improved legal and regulatory framework for consumer and business lending;

Improved regulatory framework for loan collection and enforcement; and

Increased knowledge o f local and international financial regulations among commercial bank employees which would hopefully leads to greater transparency and continued stability o f the banking system.

Reduced time for both lenders and borrowers in accessing credit;

Reduced time for lenders and borrowers in enforcing their respective rights; and

Enhanced efficiency across al l areas o f financial services by better trained banking staff.

67

Annex 10: Documents in Project Files

AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

World Bank/IFC Project Team Assessments

1. 2. 3. 4. 5. 6. 7.

8.

9.

10. 11.

World Bank: Project Concept Note World Bank: Aide Memoire Design Mission; February 20 - March 5,2008 World Bank: Aide Memoire Pre-Appraisal Mission; August 30 - September 10,2008 World Bank: Aide Memoire Appraisal Mission; March 2 - 10, 2009 IFC: An assessment o f the Credit Market and o f the Information Sharing System; May 2008 IFC: Diagnostic Assessment o f a Collateral Registry System for Afghanistan Registry; May 2008 World Bank: Afghanistan Financial Sector Strengthening Project Banking Supervision Component; May 2008 World Bank: Afghanistan Financial Sector Strengthening Project Lnternal Auditing and Accounting in Da Afghanistan Bank Component; May 2008 World Bank: Proposal on the Establishment o f the Afghanistan lnstitute for Banking and Finance; May 2008 World Bank: Human Resource Management in Da Afghanistan Bank; June 2008 World Bank: Assessment o f IT Systems in DAB; September 2008

World Bank Report

1. 2. 3. 4. 5.

World Bank: “Doing Business” 2009 World Bank: Afghanistan Investment Climate Assessment (ICA), December 2005 World Bank: “The Financial Sector in Afghanistan” 2004 World Bank: “Credit Bureau Development in South Asia”, 2004 World Bank: Country Study: Afghanistan - State Building, Sustaining Growth, and Reducing Poverty, dated September 2004

Others

1. 2. 3. 4.

Da Afghanistan Bank Strategic Plan 1387-1392 DFID: “Growth Diagnostic Scoping Study Final Report” September 2008 USAID: “An Assessment o f the Prospects for A Credit Information Bureau in Afghanistan” (2005) Afghanistan National Development Strategy 2008-20 13

68

Annex 11: Statement o f Loans and Credits

AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

Original Amount in US$ Millions

Difference between expected and actual

disbursements

Project ID FY Purpose IBRD IDA SF GEF Cancel. Undisb. Orig. Frm. Rev’d

P101502 2008 P102573 2008 P103343 2008 P104301 2008 P106259 2008 P100935 2007 PO99980 2007 PO90928 2007 PO97030 2007 PO98256 2006 PO98118 2006 PO87860 2006 PO83919 2005 PO83964 2005 PO84736 2005 PO88719 2005 PO89040 2005 PO83908 2004 PO83906 2004 PO83720 2004

PO78936 2004 PO78324 2003

Afghanistan HIV/AIDS Prevention Project Afghanistan Skills Development Project National Emergency Rural Access Project AF Microfinance Project Education Quality Improvement Program I1 Avian Flu AF: Public Financial Management Reform AF PSD Support Project Civil Service Reform Project AF: Hort. & Livestock Project Afghanistan: Natural Resources Devt Urban Water Sector Kabul Urban Reconstruction Project Education Quality Improvement Program Public Admin Capacity Building Project Investment Guarantee Facility Strengthening Higher Education Program Emergency Power Rehabilitation Project Emergency Customs and Trade Facilitation AF: Emergency Communications Development AF: Emer Irrig Rehab Afghanistan Health Sector Emergency Reha

0.00 10.00 0.00 0.00 20.00 0.00 0.00 112.00 0.00 0.00 30.00 0.00 0.00 30.00 0.00 0.00 8.00 0.00 0.00 33.40 0.00 0.00 25.00 0.00 0.00 20.40 0.00 0.00 20.00 0.00 0.00 30.00 0.00 0.00 40.00 0.00 0.00 25.00 0.00 0.00 35.00 0.00 0.00 27.00 0.00 0.00 5.00 0.00 0.00 40.00 0.00 0.00 105.00 0.00 0.00 31.00 0.00 0.00 22.00 0.00

0.00 40.00 0.00 0.00 59.60 0.00

0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

0.00 0.00 0.00 0.00

10.06 17.78

117.89 21.20 24.59 6.89

34.72 24.10 21.33 14.45 25.19 42.28 19.91 1.97 1.93 4.03

25.02 56.40 0.02 1.61

44.86

2.47 0.00 0.12 0.00 0.00 0.00

-8.33 0.00 -4.65 0.00 2.21 0.00 1.53 0.00 3.11 0.00 3.07 0.00 1.79 0.00 9.14 0.00

24.15 0.00 18.66 0.00 -3.63 0.00

0.87 0.00 3 .51 0.00 0.56 0.00

47.37 8.69 -1.15 0.00 0.50 0.00

-10.51 -10.51 13.35 -43.35 -14.71 - .

Total: 0.00 768.40 0.00 0.00 0.00 529.58 47.44 - 16.53

AFGHANISTAN STATEMENT OF IFC’s

Held and Disbursed Portfolio In Mi l l ions o f US Dollars

Committed Disbursed

IFC IFC FY Approval Company Loan Equity Quasi Partic. Loan Equity Quasi Partic.

2006 Areeba Afg. LTD 40.00 5.00 0.00 0.00 0.00 0.00 0.00 0.00 2003 FMBA 0.00 0.85 0.00 0.00 0.00 0.85 0.00 0.00 2006 FMBA 3.50 0.00 0.00 0.00 0.00 0.00 0.00 0.00 2004 TPS (A) 0.00 0.00 7.00 0.00 0.00 0.00 7.00 0.00

Total portfolio: 43.50 5.85 7.00 0.00 0.00 0.85 7.00 0.00

69

Annex 12: Country at a Glance

AFGHANISTAN: FIANCIAL SECTOR STRENGTHENING PROJECT

POVERTY and SOCIAL Afghanis tan

2007 Population, mid-year (millions) 27.1 GNi per capita (Atlas method, US$) 370

0.1

Average annual growth, 2001-07

Laborforce (Yd M o s t recent est lmate ( l a tes t year aval lable, 2001-07) Po vert y (%of popuiatlo n below national po verly line) Urban population (%of totalpopulation) 24 Life expectancy at birth (pars) 43 Infant mortality (per 1000 live births) 6 5 Child malnutrition (%ofchiidfen under5) 33 A C C ~ S S to an improved watersource (%ofpopuiatlon) 22 Literacy(%ofpopulationage b+j Gross primary enrollment (%of schooi-age population) 01

M ale Q6 Female 75

GNI (Atlas method, US$ billions)

Population (%J 3.9

KEY ECONOMIC RATIOS and LONG-TERM TRENDS

1987 1997

GDP (US$ biiiions) Gross capital formation/GDP Exports o f goods and serviceslGDP Gross domestic savings/GDP Gross national savingslGDP

Current account balance/GDP Interest payments/GDP Total debtlGDP Total debt sarvice/exports Present value ofdebtlGDP Present value of debtlexports

1987-97 1997.07 2006 (average annualgroMh) GDP , .. 115 6.1

Emorts of goods and services GDP percapita .. 7.1 2.0

South LOW- As ia Income

1520 880

1339

16 2.1

29 64 82 41 67 58 0 8 111

0 4

2006

9,4

0.1 8.9

W.1

1296 576 749

2 2 2.7

32 57 85 29 88 61 94 0 0 89

2007

ne

2007 2007-11

13.5 9.2

Development dlamond. I ~ i f e expectancy

-

GNi Gross per primary capita enrollment

Access to improvedwatersource

-Afghanistan Low-incomegroup

I I

Economlc rat loe '

Trade

Capital formation + Domestic

savings

Indebtedness

-Afghanistan Low-incomegroup

STRUCTURE o f the ECONOMY

(%of GDP) Agriculture Industry

Services

Household final consumption expenditure General gov't final consumption expenditure Imports of goods andservices

Manufacturing

(average annualgroowthj Agriculture Industry

Services

Household final consumption expenditure General gov't final consumption expenditure Gross capital formation lmports of goods and services

Manufacturing

1987 I997

1987-97 1997-07

2006 2007

2006 2007

Growth o f cap i ta l and GDP (Oh)

-GCF -0OP

[G rowth o f expor ts and Impor t s (%) I j 50

-20 -40

Note: 2007 data are preliminaryestimates. This table was produced from the Development Economics LOB database. 'Thediamonds showfour keyindicators in thecountry(in b0id)comparedwith its Income-group average.lfdata aremissing, thediamondwill

be incomplete

70

A fizhanistan

PRICES and G O V E R N M E N T F I N A N C E

D o m e s t i c P r i ces (%change) Consumer prices Implicit GDP deflator

G o v e r n m e n t f i nance (%of GDP, includes current grants) Current revenue Current budget balance Overall surplus/deficit

T R A D E

(US$ mil/ions) Totalexports (fob)

n.a. n.a. Manufactures

Total imports (cif) Food Fuel and energy Capital goods

Export price index (2OOO=WO) Import price index(2000=W0) Terms of trade (2000-WOJ

B A L A N C E o f P A Y M E N T S

(US$ mfLonsJ Exports of goods and services Imports of goods and sewices Resource balance

Net income Net current transfers

Current account balance

Financing items (net) Changes in net reserves

M e m o : Reserves including gold (US$ miLons) Conversion rate (DEC, locaf/US$)

1987

1987

1sa7

574 1061 -487

8

-11

747 50 6

E X T E R N A L D E B T and RESOURCE FLOWS

(US$ millionsJ Total debt outstanding and disbursed

1987

IBRD IDA

Total debt seNiCe IBRD IDA

Composition of net resource flows Official grants Official creditors Private creditors Foreign direct investment (net inflows) Portfolio equity (net inflows)

WorldBank program Commitments Disbursements Principal repayments Net flows Interest payments Net transfers

1997

1997

159

462 1 1

6

1997

1997

2006

3 0

2006

2006

37 5

2006

1771 0

358

9 0 5

0 143

0

0

0 39 3

37 3

34

2007

9 4

2007

2007

37 6

2007

0 4 11

0 7

0 56 3

54 5

49

IExpor t and I m p o r t l eve l s (US$ mlll.) I /4.000

/5.000 12 000 /looo I O 1 O i 02 03 04 05 06 07

I Exports 161NQolls

Cur ren t a c c o u n t ba lance t o G D P (Oh)

' C o m p o s i t i o n o f 2006 debt (US$ mill.)

I 0' 11

E- Bilateral B - ~ D A D-Othermultilateral F-Private

/C. IMF G-Short-tern

Note This tablewas producedfrom the Development Economics LOB database 9/z4/oa

71

MAP SECTION

Tirich MirTirich Mir(7690 m)(7690 m)

D a s h t - I M a r g oD a s h t - I M a r g o

Khyber PassKhyber Pass

P a r o p a m i s u s R a n g e

H i nd

u

Ku

sh

B A D G H I SB A D G H I S¯¯

H E R ATH E R AT¯ G H O RG H O R

FA R A HFA R A H¯

¯ ¯N I M R U ZN I M R U Z K A N D A H A RK A N D A H A R¯

O R U Z G A NO R U Z G A N¯

PA K T I K APA K T I K A¯ ¯

G H A Z N IG H A Z N I

NANGARHARNANGARHAR¯

KABULKABUL¯LAGHMANLAGHMAN

B A G H L A NB A G H L A N¯

KAPISAKAPISA¯ ¯ ¯

SAMANGANSAMANGAN¯

TAKHARTAKHAR BADAKHSHANBADAKHSHAN¯

KONDOZKONDOZ¯¯JOWZJANJOWZJAN

FA R YA BFA R YA B¯ ¯

H E L M A N DH E L M A N D

Z A B O LZ A B O L¯

B A L K HB A L K H

SAR-E POLSAR-E POL NURESTANNURESTAN¯ ¯

Meydan ShahrMeydan Shahr¯

BamıanBamıan¯ ¯¯ ¯ ¯CharıkarCharıkar

GardızGardızGhaznıGhaznı

¯ ¯TaloqanTaloqan¯KondozKondoz

¯BaghlanBaghlan¯SamanganSamangan

¯¯

Mazar-eMazar-eSharıfSharıf

¯SheberghanSheberghan

¯ChaghcharanChaghcharan¯HeratHerat

¯FarahFarah

ZaranjZaranj

¯Lashkar GahLashkar Gah¯KandaharKandahar

¯QalatQalat

¯Tarın KowtTarın Kowt

Pol-e ‘AlamPol-e ‘Alam

¯ ¯ ¯JalalabadJalalabad

¯MehtarlamMehtarlam

¯ ¯NurestanNurestan¯ ¯AsadabadAsadabad

SharanSharan

MeymanehMeymaneh

Qal‘eh-ye NowQal‘eh-ye Now

¯ ¯¯Mahmud-e RaqıMahmud-e Raqı¸

FaisabadFaisabad

KABULKABUL¯

WA R D A KWA R D A K

PARWANPARWAN¯KUNARKUNAR

LOGARLOGAR

KOWSTKOWSTKowstKowst

PAKTIKAPAKTIKA

B A D G H I S¯¯

H E R AT¯ G H O R

FA R A H¯

¯ ¯N I M R O Z K A N D A H A R¯

U R U Z G A N¯

PA K T I K A¯ ¯

PAKTIKA

G H A Z N I

NANGARHAR¯

KABUL¯LAGHMAN

B A G H L A N¯

KAPISA¯ ¯ ¯PARWAN¯

SAMANGAN¯

TAKHAR BADAKHSHAN¯

KUNDUZ¯¯JAWZJAN

FA R YA B¯ ¯

H I L M A N D

KOWST

Z A B U L¯

LOGARWA R D A K

KUNAR

B A L K H

SARIPUL

BAMYAN¯ ¯

NURISTAN¯ ¯

Meydan Shahr¯

Bamyan¯ ¯¯ ¯ ¯Charıkar

GardızGhaznı

¯ ¯Taloqan¯Kunduz

¯Baghlan¯Samangan

¯¯

Mazar-eSharıf

¯Sheberghan

¯Chaghcharan¯Herat

¯Farah

Zaranj

¯Lashkar Gah¯Kandahar

¯Qalat

¯Tarın Kowt

Pol-e ‘Alam

¯ ¯ ¯Jalalabad

¯Mehtarlam

¯ ¯Nuristan¯ ¯Asadabad

Sharan

Kowst

Meymaneh

Saripul

Qal‘eh-ye Now

¯ ¯¯Mahmud-e Raqı¸

Faisabad

KABUL¯

TURKMENISTAN

UZBEKISTANTAJIKISTAN

TAJIKISTAN

PAKISTAN

PAKISTAN IND

IA

ISLAMICREPUBLICOF IRAN

Gowd-eZereh

Helmand

Helmand

Hamun-eSaberı˛

¯ ¯¯ ¯

Harırud¯ ¯

Morghab¯¯

¯

Pamir

Pyandzh

Indu

s

MurghobAmu Darya

Khas

h¯

Farah¯

Harut

¯ ¯

Darya-y

e Qonduz

Tarnak¯

Arghandab

D a s h t - I M a r g o

Khyber Pass

P a r o p a m i s u s R a n g e

H i nd

u

Ku

sh

Tirich Mir(7690 m)

ToMashad

ToMary

ToChardzhev

ToDushanbe

ToKulob˘

ToDushanbe

To Shazud

ToChitral

ToMardan

To Peshawar

ToKohat

ToZhob

ToQuetta

ToQurghonteppa˘

30°N

30°N

35°N

60°E

35°N

75°E

60°E

65°E 70°E

65°E 70°E

AFGHANISTAN

0 50 100

0 50 100 Miles

150 Kilometers

IBRD 33358

NO

VEM

BER 2004

AFGHANISTANPROVINCE CAPITALS

NATIONAL CAPITAL

RIVERS

MAIN ROADS

RAILROADS

PROVINCE BOUNDARIES

INTERNATIONAL BOUNDARIES

This map was produced by the Map Design Unit of The World Bank. The boundaries, colors, denominations and any other informationshown on this map do not imply, on the part of The World BankGroup, any judgment on the legal status of any territory, or anyendorsement or acceptance of such boundaries.