The World Bank Financial Sector Support Project (P150938) REPORT NO.: RES38028 RESTRUCTURING PAPER ON A PROPOSED PROJECT RESTRUCTURING OF FINANCIAL SECTOR SUPPORT PROJECT APPROVED ON JUNE 5, 2015 TO THE GOVERNMENT OF BANGLADESH JULY 30, 2019 FINANCE, COMPETITIVENESS AND INNOVATION SOUTH ASIA Regional Vice President: Hartwig Schafer Country Director: Mercy Miyang Tembon Regional Director: Zoubida Kherous Allaoua Practice Manager/Manager: Esperanza Lasagabaster Task Team Leader: Ali Zafar, Ilias Skamnelos The World Bank Financial Sector Support Project (P150938) ABBREVIATIONS AND ACRONYMS BB Bangladesh Bank BCP Basel Core Principles GoB Government of Bangladesh ISR Implementation Status Report IT Information Technology JCAP Joint Capital markets Assessment Program MS Marginally Satisfactory PDO Project Development Objective PFI Participating Financial Institution RTGS Real Time Gross Settlement WB World Bank The World Bank Financial Sector Support Project (P150938) Note to Task Teams: The following sections are system generated and can only be edited online in the Portal. BASIC DATA Product Information Project ID Financing Instrument P150938 Investment Project Financing Original EA Category Current EA Category Financial Intermediary Assessment (F) Financial Intermediary Assessment (F) Approval Date Current Closing Date 05-Jun-2015 30-Sep-2020 Organizations Borrower Responsible Agency The People's Republic of Bangladesh Bangladesh Bank Project Development Objective (PDO) Original PDO The project development objective is to improve financial market infrastructure, regulatory and oversight capacity of Bangladesh Bank and access to long term financing for private firms in Bangladesh. OPS_TABLE_PDO_CURRENTPDO Summary Status of Financing Net Ln/Cr/Tf Approval Signing Effectiveness Closing Commitment Disbursed Undisbursed IDA-56640 05-Jun-2015 30-Jun-2015 20-Sep-2015 30-Sep-2020 300.00 263.27 33.60 Policy Waiver(s) Does this restructuring trigger the need for any policy waiver(s)? No The World Bank Financial Sector Support Project (P150938) Note to Task Teams: End of system generated content, document is editable from here. I. PROJECT STATUS AND RATIONALE FOR RESTRUCTURING A. Project status 1. Project performance and overall status. The Project’s performance has been rated Moderately Satisfactory (MS) for both ‘Implementation Progress’ and ‘Progress towards the Project Development Objective’ (PDO) since the Mid-Term Review in March 2018. The latest Implementation Support Review (ISR) review in May 2019 has maintained these ratings. The PDO is to improve financial market infrastructure, regulatory and oversight capacity of Bangladesh Bank (BB) and access to long term financing for private firms in Bangladesh. The PDO remains a key priority in the Government of Bangladesh’s (GoB) economic policy agenda and has become increasingly important (given capital investment demand dynamics in the manufacturing sector and financial sector stability concerns). The project was approved on June 5, 2015 and became effective on September 20, 2015. As of June 30, 2019, the project has disbursed US$263.27 million, which is 89 percent of the total loan amount of US$300 million. It has been mainly driven by Component 3’s long-term finance sub-loans (a total IDA disbursement of US$242.67 million for sub-loans to 45 projects). While there was no IDA disbursement in FY19, actual disbursement from BB (i.e. the designated account) to participating financial institutions (PFIs) stood at US$175.19 million, an increase of US$34.55 million since June 2018. Recent notable project breakthroughs across all three components include the unlocking of Category A sub-loans following the training of PFI’s in environmental and social safeguards, the progress in implementation of Information Technology (IT) packages, and the commencement of work of the international firm advising BB on risk-based supervision. The closing date of the project is September 30, 2020. 2. Progress on PDO indicators. The project has five PDO outcome indicators and two of them (electronic processing of government payments and PFI’s outstanding foreign exchange long-term loans) already exceeded their end targets (14 months before the closing of the project). A third indicator is in line with targets (payments system’ operational reliability). A fourth indicator is being proposed (total core systems’ uptime) to replace the original indicator (Certification of the BB against ISO270001 and COBIT) that was considered hard to interpret and not reflective of the ultimate development objective. A fifth indicator is significantly behind target (compliance with Basel Core Principles -BCP- for banking supervision), which is to be revised downward as part of the proposed restructuring to reflect delays in implementation and its adjustment to a more realistic goal. Overall, the restructuring aims to align PDO and intermediate outcome indicators to show a clear results logic and tell a clear story of how outcomes were achieved through project support, as well as to balance indicators across outcomes and put more weight on the project’s major investment areas. 3. Overall, the project has been successful in providing long-term foreign exchange finance to private manufacturing companies. The project has filled in an important gap in the market, which is practically non- existent for such tenors in foreign exchange (or local currency). A recent market study conducted by the World Bank (WB) showed that less than three percent of foreign currency denominated loans to exporters was greater than three years in tenor, and none of the banks and financial institutions surveyed extended any loans of five years or more. All project sub-loans have been ‘long-term’ (exceeding three years), with over 50 percent having maturity above five years and over a quarter above seven years. This has allowed participating firms to undertake The World Bank Financial Sector Support Project (P150938) capital investment and expand their production in a highly competitive global manufacturing market. Notably, a survey of the 42 sub-borrower firms in March 2019 revealed that all the firms believe that their business benefitted from using FSSP finance, and all firms and PFIs have raised their awareness of Environmental and Social issues (a key achievement in the context of Bangladesh). Overall, the demand for long-term finance towards capital machinery has been driven by exporters and manufacturers aiming to expand capacity and upgrade technology to remain competitive under increased global competition in the manufacturing markets. 4. In addition, the project has been successful in supporting financial market infrastructure development. First, the project has focused on multiple aspects of the payment systems – the critical financial market infrastructure of the country’s economy. The systems ultimately promote economic and financial development not only by contributing to stability (through reliability and robustness) but also by enabling financial access (by enabling the uptake of electronic payments, including government transactions with persons and businesses that is a catalyst for inclusion). In addition, despite delays due to the BB IT cyber heist in 2016, the project has helped BB finance core IT infrastructure, particularly with regard to data centers and associated software packages that house and deploy mission-critical applications (payments systems, banks’ information reporting and BB’s supervisory analytics, disaster recovery etc.). It should be noted, however, that some consultancy packages related to other financial sector infrastructure - the Bangladesh Financial Integrity Unit (BFIU) and the Credit Information Bureau (CIB) - are/ will be financed by BB directly (i.e. BB’s and not the project’s budget), as reflected in the restructuring. 5. However, progress in compliance with BCP for banking supervision has been below expectations, although implementation is picking up and advancements are expected in the coming months. When the project was designed, the end target for the BCP assessment (in terms of the number of principles rated as largely compliant) was envisaged to be 12 out of 29 indicators. However, the assessment of the recent Financial Sector Assessment Program (FSAP) found that BB was largely compliant with only five principles. The end target is being proposed to be revised from 12 to eight to reflect a more realistic target until the end of the project. This partially reflects that certain reforms require major legislative changes that will be difficult to achieve in the remaining year of implementation. Overall, political economy considerations have made it difficult to make strong inroads in banking sector reform, and implementation of the relevant procurement packages has been slow. Nevertheless, the recent recruitment of a reputed international firm (supported by the project) is expected to allow BB to receive appropriate training in risk-based banking supervision and work towards increasing compliance to eight principles by project closing. The focus on risk-based supervision (a comprehensive structured system that assesses and gives priority to the resolution of risks) is critical as Bangladesh is facing significant challenges in the financial sector (capital shortfalls, high non-performing loans, weak governance, limited loanable funds supply etc.) and shortfalls in corrective and remedial actions. B. Rationale for Restructuring 6. The proposed changes will adjust resource allocation and indicators to ensure continued impact on and relevance to the PDO, as well as appropriate results attribution to project outputs. This reallocation is necessary to resolve the issue of overestimation of some of the IT related costs at the time of the project’s design, BB’s decision to finance some of the IT work with its own resources over a longer period, and its decision to not complete some packages that are no longer relevant. An adjustment of some of the results indicators will ensure continued relevance to the project objective and interventions, as well as appropriate attribution to project outputs. The changes also consider the project’s progress and feasible activities within the remaining timeframe. The World Bank Financial Sector Support Project (P150938) 7. Importantly, the restructuring will align indicators under a clear results logic and balance them to reflect the weight of the project’s major investment areas. Bank projects at the time of the project’s development did not present a clear results logic. The restructuring will allow indicators to tell a clear story of how outcomes were achieved through project support. The PDO reflects three key areas of development under different weights in funding deployment (including the restructuring’s resource re-allocation and indicator adjustments): (i) improve financial market infrastructure (14 percent of resources) – captured by two PDO indicators measuring the payment systems’ stability (core systems uptime) and progress in catalyzing financial access (government e-payments); (ii) regulatory and oversight capacity of BB (1 percent of resources) – captured by BCP compliance; and, (iii) access to long term financing for private firms (85 percent of resources) – captured by the outstanding PFI FX long-term loans. While data limitations preclude the use of a broader yet regular impact indicator for the third area, an effort will be made for the ICR to collect relevant information (e.g. FX long-term loans supported by the project over the total FX long-term loans in PFIs). Nevertheless, current intermediate indicators provide insights into the positive impact e.g. market satisfaction (as indicated by the direct project beneficiaries that feel the project financing reflected their needs); and improvements in environmental, social and procurement practices (as indicated by the training indicators). II. DESCRIPTION OF PROPOSED CHANGES C. Summary of the proposed changes 8. This restructuring responds to a GoB request to reallocate project funds amongst categories and to revise the results framework, reflecting discussions with the WB team. The changes also consider the project’s progress and feasible activities within the remaining project timeframe. The official letter was received by the Bank on September 9, 2019. Adjustments reflect discussions with the WB team, documented in the last ISR and Aide Memoire. With these adjustments, the team believes that the appropriate structure and incentives will be in place to achieve the PDO. The restructuring involves: (i) reallocation of US$11.5 million to Component 3 (sub- loans) due to the overestimation of some IT related costs at the time of the project’s design, as well as the decision of BB to implement some activities from its own budget (mostly IT due to inter-related delays originating with the BB IT cyber heist in 2016) or some activities being undertaken outside the project with third party funding (mostly related to studies); (ii) replacement/ revision of several indicators/ targets to strengthen causality between project interventions and outcomes, improve the measurement of the achievement of the PDO, and achieve realism for the remaining time of implementation; (iii) dropping of some indicators that are no longer considered relevant to the project or have been achieved outside the remit of this project. 9. The PDO remains unchanged. D. Detailed description of the Proposed Changes PDO Outcome Indicators and Targets 10. IT-related indicators. The “Certification of the BB against ISO270001 and COBIT” was considered hard to interpret and not reflective of the ultimate objective. These framework and standards contribute to IT management and security, aiming to align IT to core business. The previous intermediate indicator of “Uptime of the core systems of the BB: core banking, payment systems, credit reporting system, and MI module” is considered a better PDO indicator, as it is easier to interpret and offers a more ‘direct line-of-sight’ to the PDO’s objective to improve financial market infrastructure and the oversight capacity of BB. It refers to the time during which critical IT services are operational and available without fail. In addition, to balance indicators across outcomes and put The World Bank Financial Sector Support Project (P150938) more weight on the project’s major investment areas, the “High level of operational reliability as measured by improved compliance of BB with the Principle 17 of the CPSS – IOSCO Principles for Financial Markets Infrastructure” will be moved under the intermediate results indicators. 11. BCP assessment target. The target for the PDO indicator “Performance on BCP assessment: Number of principles on which Bangladesh Bank is judged as largely compliant and compliant” is to be revised from 12 to eight to reflect delays in implementation and an adjustment to a more realistic goal. The 2019 FSAP assessment found compliance with only five principles. The recent project recruitment of a reputed international firm is expected to allow BB to focus on risk-based banking supervision and increasing BCP compliance. Achieving progress is critical as Bangladesh is facing significant financial sector challenges. Setting realistic goals and incentivizing action will contribute to the ongoing WB efforts towards post-FSAP support to the GOB in the sector. Intermediate Outcome Indicators and Targets 12. The following indicators will be dropped as they are no longer considered relevant to the project or have been achieved outside the remit of this project: (i) Observance the General Principles of Credit Reporting Systems. This will be dropped as the project had no direct actions to support it. While the project supports the overall IT infrastructure that impacts credit reporting, the broader objective of observance of the general principles was not incorporated in the project implementation design. (ii) Publication and dissemination of study on warehouse receipt financing in Bangladesh. This will be dropped as it is being delivered by BB’s own budget. It will no longer be financed by the project. (iii) Financial inclusion strategy drafted and approved. This will be dropped as it is being delivered with support from DFID. It will be no longer financed by the project. (iv) Publication and dissemination of two analytical and policy research papers on the development of long-term capital markets and on the pensions market. These will be dropped as they are being delivered by the World Bank Group’s Joint Capital markets Assessment Program (JCAP). 13. The following targets will be revised to strengthen causality between project interventions and outcomes, improve the measurement of the achievement of the PDO, and achieve realism for the remaining time of implementation: (i) Cumulative number of BB banking supervision officers trained on risk-based supervision. The target is to be revised downwards from 500 to 300 as it was over-estimated, not reflecting the smaller number of actual supervision officers that would benefit from risk-based supervision training. (ii) Direct project beneficiaries (firms). The target is to be revised downwards from 250 to 55 as it was over-estimated, not reflecting the nature of demand or constraints from WB safeguards. The project did not set targets in terms of firm or sub-loan size. Loans were extended on a first-come first-serve basis, with demand concentrating on larger sub-loans for capital investment. This was driven by increased global competition in the manufacturing markets, with market dynamics playing a key role in shaping the nature and number of project beneficiaries. In addition, WB safeguard requirements impacted the nature of firms that could achieve compliance with environment and social standards, with smaller sub-loans not justifying the inherent cost of training and compliance. 14. The following indicator and its target will be revised to improve the measurement of its results: (i) Cumulative number of Training Of Trainers (TOT), awareness campaigns and workshops delivered to industry associations on safeguards and health and safety. The target is to be revised to exclude awareness campaigns, which is too broad and hard to quantify, and focus instead on the cumulative The World Bank Financial Sector Support Project (P150938) number of participants at the training. The proposed formulation is “The cumulative number of participants and trainees at Training of Trainers (TOT) and other workshops delivered to industry on safeguards and health and safety”, with the target revised downwards from 64 to 50. E. Reallocation of Funds under Proposed Restructuring 15. The GoB is requesting that US$11.5 million of project funds be reallocated to Component 3 (sub-loans) to reflect lower utilization in other components. The lower utilization is due to the overestimation of some IT related costs at the time of the project’s design, as well as some activities being delivered from BB’s own budget or being undertaken outside the project with third party funding. The allocation under category-1 will be sufficient to complete all on-going and upcoming contracts. Prior to restructuring, BB completed the procurement of four IT Goods Packages as per the original procurement plan. Notably, the demand for long-term foreign exchange finance continues high, as the market does not offer alternatives. The Table below shows the proposed reallocation from Component 1 to 3 of US$11.5 million (SDR 8.4 million, or BDT 973.472 million). 16. The gap created in WB financing from BB’s decision to finance these activities from its own budget is fully captured by the re-allocation of funds to the line of credit. The revised allocation and intra-component transfer have been agreed with Bangladesh Bank. Table 1: Fund Reallocation Allocation Disbursement Ln/Cr/TF Currency Current Category of Expenditure (SDR) (percent) Current Proposed Current Proposed (1) Works, non-consulting services IDA- SDR and consultants’ services, Training 33,500,000 25,100,000 80 80 5664 and Operating Cost (2) Sub-loans 179,900,000 188,300,000 86.9 86.9 Total: 213,400,000 213,400,000 Note to Task Teams: The following sections are system generated and can only be edited online in the Portal. II. SUMMARY OF CHANGES Changed Not Changed Results Framework ✔ Components and Cost ✔ Reallocation between Disbursement Categories ✔ Implementing Agency ✔ DDO Status ✔ The World Bank Financial Sector Support Project (P150938) Project's Development Objectives ✔ Loan Closing Date(s) ✔ Cancellations Proposed ✔ Disbursements Arrangements ✔ Disbursement Estimates ✔ Overall Risk Rating ✔ Safeguard Policies Triggered ✔ EA category ✔ Legal Covenants ✔ Institutional Arrangements ✔ Financial Management ✔ Procurement ✔ Implementation Schedule ✔ Other Change(s) ✔ Economic and Financial Analysis ✔ Technical Analysis ✔ Social Analysis ✔ Environmental Analysis ✔ IV. DETAILED CHANGE(S) OPS_DETAILEDCHANGES_COMPONENTS_TABLE COMPONENTS Current Proposed Current Proposed Cost Action Cost Component Name Component Name (US$M) (US$M) Strengthening Financial Market Strengthening Financial Market 50.00 Revised 38.50 Infrastructure Infrastructure Strengthening Regulatory Strengthening Regulatory 5.00 No Change 5.00 Capacity Capacity Supporting Long Term Finance 292.50 Revised Supporting Long Term Finance 304.00 Project Implementation and Project Implementation and 2.50 No Change 2.50 Monitoring Monitoring The World Bank Financial Sector Support Project (P150938) TOTAL 350.00 350.00 OPS_DETAILEDCHANGES_REALLOCATION _TABLE REALLOCATION BETWEEN DISBURSEMENT CATEGORIES Financing % Current Allocation Actuals + Committed Proposed Allocation (Type Total) Current Proposed IDA-56640-001 | Currency: XDR iLap Category Sequence No: 1 Current Expenditure Category: Gds, Wks, NCS, CS, OC & Trg 33,500,000.00 7,710,228.34 25,100,000.00 80.00 80.00 iLap Category Sequence No: 2 Current Expenditure Category: Sub Loans 179,900,000.00 105,998,458.53 188,300,000.00 86.90 86.90 Total 213,400,000.00 113,708,686.87 213,400,000.00 . The World Bank Financial Sector Support Project (P150938) . Results framework COUNTRY: Bangladesh Financial Sector Support Project Project Development Objectives(s) The project development objective is to improve financial market infrastructure, regulatory and oversight capacity of Bangladesh Bank and access to long term financing for private firms in Bangladesh. Project Development Objective Indicators by Objectives/ Outcomes RESULT_FRAME_TBL_PDO Indicator Name DLI Baseline Intermediate Targets End Target 1 2 3 4 Improve financial sector efficiency Percentage of Government Payments by value processed 10.00 10.00 15.00 25.00 30.00 40.00 through electronic means (annually) (Percentage) Stocktaking of current Action plan to address Certification of the BB against Implementation of NO situation and capacity Self-assessment gaps and Final Certification ISO270001 and COBIT (Text) action plan building implementation Rationale: Action: This indicator has been This indicator has been replaced. Marked for Deletion Uptime of the total core systems of the BB - core banking, payment systems, 95.00 95.00 95.00 96.00 97.00 98.00 credit reporting system, and MI module (%) (Percentage) (Percentage) The World Bank Financial Sector Support Project (P150938) RESULT_FRAME_TBL_PDO Indicator Name DLI Baseline Intermediate Targets End Target 1 2 3 4 Action: This indicator is New High level of operational reliability as measured by improved compliance of BB with the Principle 17 of the Not observed Not observed Partially observed Partially observed Broadly Observed Observed Committee of Payment and Settlement Systems (CPSS) – International Organization of Securiti (Text) Rationale: Action: This indicator has been Moved to Intermediate Results Indicators. Marked for Deletion Performance on BCP assessment: Number of principles on which Bangladesh 4.00 4.00 6.00 8.00 10.00 8.00 Bank is judged as largely compliant and compliant. (Number) Action: This indicator has been Revised Outstanding FX Long term loans of Participating Financial 300.00 75.00 150.00 240.00 400.00 550.00 Institutions (Amount(USD)) PDO Table SPACE The World Bank Financial Sector Support Project (P150938) Intermediate Results Indicators by Components RESULT_FRAME_TBL_IO Indicator Name DLI Baseline Intermediate Targets End Target 1 2 3 4 Strengthening Financial Market Stability, Inclusion, and Long Term Finance High level of operational reliability as measured by improved compliance of BB with the Principle 17 of the N/A Observed. CPSS – IOSCO Principles for Financial Markets Infrastructure (Text) Rationale: Action: This indicator is New Moved from PDO Indicators Observance the General To be assessed – Principles of Credit Reporting Expected t Partial Observance Partial Broadly Observed Broadly Observed Broadly Observed Systems. (Text) o be Partial Observance Action: This indicator has been Marked for Deletion Uptime of the core systems of the BB: core banking, payment systems, credit reporting 95.00 95.00 95.00 96.00 97.00 98.00 system, and MI module (Percentage) Rationale: Action: This indicator has been This intermediate indicator has become a PDO indicator. Marked for Deletion Cumulative number of 0.00 0.00 50.00 100.00 200.00 300.00 Bangladesh Bank banking The World Bank Financial Sector Support Project (P150938) RESULT_FRAME_TBL_IO Indicator Name DLI Baseline Intermediate Targets End Target 1 2 3 4 supervision officers trained on risk-based supervision (Number) Action: This indicator has been Revised Circular on prompt corrective No Analysis conducted Draft prepared Issued NA Circular issued action issued by BB (Text) Study on warehouse Publication and dissemination Study Published and receipt financing of study on Warehouse receipt No Study initiated Analysis conducted Study Completed Disseminated produced and financing in Bangladesh (Text) disseminated Action: This indicator has been Marked for Deletion Direct project beneficiaries 0.00 10.00 25.00 45.00 50.00 55.00 (firms) (Number) Action: This indicator has been Revised Financial inclusion strategy Analysis conducted and Strategy Published and Strategy published and No Study initiated Strategy approved drafted and approved (Text) strategy drafted Disseminated disseminated Action: This indicator has been Marked for Deletion NPLs in project-funded in foreign-denominated long- 0.00 10.00 9.00 8.00 8.00 7.00 term finance portfolio (Percentage) Number of PFIs (Number) 0.00 3.00 4.00 6.00 8.00 10.00 The World Bank Financial Sector Support Project (P150938) RESULT_FRAME_TBL_IO Indicator Name DLI Baseline Intermediate Targets End Target 1 2 3 4 Publication and dissemination of two analytical and policy research papers on the Studies Published and Papers produced and No Studies Initiated Analyses conducted Studies Completed development of long-term Disseminated disseminated capital markets and on the pensions market (Text) Action: This indicator has been Marked for Deletion Cumulative number of FI officers receiving training or attending workshops on risk 0.00 9.00 18.00 30.00 36.00 45.00 management, safeguards, and commercial practicesin procurement (Number) Cumulative number of participants and trainees at Training Of Trainers (TOT) and 0.00 5.00 15.00 25.00 35.00 50.00 other workshops delivered to industry on safeguards and health and safety (Number) Action: This indicator has been Revised Direct project beneficiaries (firms and PFIs) that feel 0.00 75.00 75.00 75.00 project financing reflected their needs (Percentage) IO TabE The World Bank Financial Sector Support Project (P150938)