Recurrent Cost Problems in Less Developed Countries

May 1982

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Executive Summary I. Introduction II. Definitional Questions III. Causes of Recurrent Cost Problems IV. Recurrent Costs Analysis V. Solutions to Recurrent Cost Problems VI. Conclusions and Recommendations Appendices 59     [Download original document] VI. Conclusions and Recommendations We have seen that recurrent cost problems are the result of inappropriate policies on the part of donors or LDC governments. The existence of a recurrent cost problem is prima facie evidence of a misallocation of resources. The recommendations for policy that are suggested by the paper can be divided into five categories: analysis, project design, policy reform, reallocation of assistance, and recurrent cost funding. A. Analysis In order to argue that a given country is suffering from a recurrent cost problem, Missions must provide evidence (not necessarily quantitative) that indicates that the stream of returns to recurrent financing is greater than that to new investments. In determining whether or not there will be recurrent cost problems in the future, it is necessary to carefully project key ex ante budget categories. These include: taxes by various types non-tax revenues foreign assistance expenditure by type transfers and subsidies interest and debt repayment capital expenditures recurrent expenditures implicit in the development plan Analysis should also include some discussion of the causes of the recurrent cost problem. It is necessary therefore to discuss: the efficiency of the tax administration system the degree of subsidization of various programs the allocation of government expenditures by various categories the costs and technologies adopted in producing of government services the degree to which public sector activities are a drain on, rather than a support of, the economy the impact of government macro policy on recurrent cost problems All Project papers should analyze the recurrent cost implications of the project. B. Project design If design is the cause of the problem, USAID and LDC governments should work to design projects so as to assure that their recurrent cost components are consistent with economic feasibility. In countries suffering from a recurrent cost problem, the economic analysis of projects should use prices for government expenditures and revenues that reflect the scarcity value of government resources; Projects should be designed, to the extent possible, to maximize the revenues from service charges (or contributions of labor or in kind) consistent with the capacity of the beneficiaries to pay; and Where possible, government activi ties should be turned over to the market economy. This is generally desirable in all agricultural and industrial productive activates as well as marketing, distribution, trade and many services. C. Policy Reform If LDC policies are the cause of the problem, the Missions should: attempt to persuade governments to make necessary reforms; enlist the support of the donor community for policy reform; and provide technical assistance in the form of expertise an training to support reforms, including such areas as fiscal policies and tax administration. D. Recurrent Cost Support If recurrent costs constitute a serious problem and LDC government policies are appropriate and projects designed correctly, or requisite steps are taken to move toward appropriate policies and designs, then Missions should consider fund-ing a portion of the recurrent costs of host coun-try projects through a variety of mechanisms at the project, sectoral or macro levels for a period up to ten years, providing the country agrees to shoulder an increasing share of total costs over this period. Policy performance should be monitored closely and frequently to determine whether such assistance should be continued. It is important to note, that direct funding of recurrent costs, either at the project or budget level, is only justifiable under fairly narrow con-ditions. These conditions, which have been spelled out in this paper include: (a) An acceptable policy framework or clear movement toward such a policy framework; (b) An assurance that recurrent cost support has higher development impact than new in-vestments; (c) An inability of the host country to undertake recurrent cost financing; d) A carefully phased plan exists for shifting the entire burden to the host government. E. Reallocation of Assistance If the host government refuses to take sufficient action on project design and/or policy reform, then USAID should seriously consider reducing the level of assistance to the affected sector or country.

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