GAO

United States General Accounting Office

Report to Congressional Requesters

September 2000 FOREIGN 

ASSISTANCE

U.S. Funds to Two 

Micronesian Nations 

Had Little Impact on 

Economic 

Development

GAO/NSIAD-00-216

Page 1 GAO/NSIAD-00-216 Compact of Free Association

Contents

Letter 5

Executive Summary 6

Chapter 1

Introduction

14

Compact Ended U.S. Administration of the Federated States of 

Micronesia and the Republic of the Marshall Islands 14

Self-government, National Security, and Economic 

Self-sufficiency Are Compact Objectives 18

Objectives, Scope, and Methodology 22

Chapter 2

The Federated States 

of Micronesia and the 

Republic of the 

Marshall Islands Used 

Nearly $1.6 Billion in 

Compact Direct 

Funding

26

The Federated States of Micronesia and the Republic of the 

Marshall Islands Targeted Expenditures in Different Areas 26

Capital Funds Spent on Business Ventures and Infrastructure 28

Both Countries Issued Compact Revenue-Backed Bonds 30

Chapter 3

The Two Compact 

Nations Have Made 

Some Improvements in 

Economic 

Self-sufficiency

34

Government Reliance on U.S. Assistance Has Fallen to 54 

Percent in the Federated States of Micronesia 34

U.S. Assistance Comprises 68 Percent of the Republic of the 

Marshall Islands’ Revenue 36

U.S. Program Assistance Contributes to Government Revenues 

in Both Compact Nations 37

Other Donors Also Provide Assistance and Loans 39
Contents

Page 2 GAO/NSIAD-00-216 Compact of Free Association

Chapter 4

Compact Funds Have 

Led to Little 

Improvement in 

Economic 

Development

40

Compact Funding Supported General Government Operations that 

Discouraged Private Sector Growth 40

Targeted Compact Funds Spent on Physical and Social 

Infrastructure Have Not Contributed to Significant Economic 

Growth 42

Business Ventures That Received Compact Funding Have 

Generally Failed 50

Compact-Funded Projects Experienced Problems With Planning, 

Management, Construction, Maintenance, and Misuse 56

Chapter 5

The Two Compact 

Nations and the United 

States Have Provided 

Limited Accountability 

Over Compact 

Expenditures

76

Compact Required Accountability for Use of Funds From the 

Federated States of Micronesia, the Republic of the Marshall 

Islands, and the United States 76

Planning and Reporting Documents of the Federated States of 

Micronesia and the Republic of the Marshall Islands Were 

Generally Incomplete and Insufficient 77

The U.S. Government Did Not Meet Many Accountability 

Requirements 79

U.S. Oversight Limited by Interagency Disagreements and 

Interior’s Belief That Compact Provisions Restricted U.S. Actions 81

Chapter 6

Conclusions and 

Recommendations

85

Conclusions 85

Recommendations 87

Agency Comments and Our Evaluation 89

Appendixes Appendix I: Compact of Free Association Capital 

Expenditures, Fiscal Years 1987-98 92

Appendix II: Record of Accountability for the Federated 

States of Micronesia, the Republic of the Marshall 

Islands, and the United States 95

Appendix III: Comments From the Department of the Interior 96

Appendix IV: Comments From the Department of State 104

Appendix V: Comments From the Republic of the Marshall 

Islands 108
Contents

Page 3 GAO/NSIAD-00-216 Compact of Free Association

Appendix VI: Comments From the Federated States of 

Micronesia 118

Appendix VII: GAO Contact and Staff Acknowledgments 151

Tables Table 1: Compact Section 211(a) Annual and Total Funding 

Levels for the Federated States of Micronesia and the 

Republic of the Marshall Islands, Fiscal Years 1987-2001 19

Table 2: Compact Revenue-backed Bonds Issued by the 

Federated States of Micronesia and the Republic of the 

Marshall Islands, Fiscal Years 1987-98 31

Table 3: Five-Year Economic Development Plans 95

Table 4: Annual Reports and Meetings 95

Figures Figure 1: Location and Map of the Federated States of 

Micronesia and the Republic of the Marshall Islands 15

Figure 2: FSM and RMI Compact Expenditures by Fund Type as a 

Percentage of Total Compact Expenditures, Fiscal 

Years 1987-98 27

Figure 3: FSM and RMI Compact Capital Account Expenditures, 

Fiscal Years 1987-98 29

Figure 4: RMI Debt Service as a Percentage of Annual Compact 

Expenditures, Fiscal Years 1987-98 33

Figure 5: FSM Dependence on U.S. Assistance, Fiscal Years 1987-98 35

Figure 6: RMI Dependence on U.S. Assistance, Fiscal Years 1987-98 37

Figure 7: Compact Investment in Communications 43

Figure 8: Compact Investment in Energy 44

Figure 9: Electric Power and Tuna Processing Plant, Majuro, RMI 45

Figure 10: Investment in Interisland Cargo Transportation, FSM 46

Figure 11: Investment in Air Transportation, RMI 47

Figure 12: FSM Investment in College Facilities 48

Figure 13: FSM Fish Processing and Cold Storage Facilities 53

Figure 14: Pohnpei Pepper Industry Development, FSM 54

Figure 15: RMI Investment in Garment Factory 55

Figure 16: Causeway From Ebeye to Gugeegue, Kwajalein Atoll, 

RMI 58

Figure 17: Ponape Coconut Products, Inc., FSM 59

Figure 18: Kosrae Road Pavement, FSM 61

Figure 19: RMI National Capitol Building, Majuro 63

Figure 20: Ohmine Elementary School, Pohnpei, FSM 64

Figure 21: Pohnpei State Hospital, FSM 66
Contents

Page 4 GAO/NSIAD-00-216 Compact of Free Association

Figure 22: Old and New Ebeye Hospitals Suffer From Corrosion, 

RMI 68

Figure 23: Udot Dock Project and Junior High School, Chuuk, FSM 70

Figure 24: Fanapanges Ice Plant: Planned and Actual Locations, 

Chuuk, FSM 72

Figure 25: “Boats for Votes,” Chuuk, FSM 73

Abbreviations

FSM Federated States of Micronesia

GDP gross domestic product

RMI Republic of the Marshall Islands
United States General Accounting Office

Washington, D.C. 20548

Page 5 GAO/NSIAD-00-216 Compact of Free Association

National Security and

International Affairs Division

B-285711 Letr

September 22, 2000

The Honorable Frank H. Murkowski

Chairman, Committee on Energy and Natural Resources

United States Senate

The Honorable Doug Bereuter

Chairman, Subcommittee on Asia and the Pacific

Committee on International Relations

House of Representatives

This report responds to your request that we report on (1) the use of Compact of Free Association 

funding by the Federated States of Micronesia and the Republic of the Marshall Islands between fiscal 

years 1987 and 1998, (2) the progress both nations have made in advancing economic self-sufficiency, 

(3) the role of Compact funds in supporting economic progress, and (4) the extent of accountability 

by the two nations and the United States over Compact expenditures. This report includes 

recommendations to the Secretaries of State and the Interior.

We are sending this report to the Honorable Bruce Babbitt, Secretary of the Interior; the Honorable 

Madeleine K. Albright, Secretary of State; the Honorable William S. Cohen, Secretary of Defense; His 

Excellency Leo A. Falcam, President of the Federated States of Micronesia; His Excellency Kessai 

Note, President of the Republic of the Marshall Islands; other appropriate congressional committees; 

and other interested parties. Copies will also be made available to others on request. 

Please contact me at (202) 512-4128 if you or your staff have any questions concerning the report. An 

additional GAO contact and staff acknowledgments are listed in appendix VII.

Susan S. Westin, Associate Director

International Relations and Trade Issues
Page 6 GAO/NSIAD-00-216 Compact of Free Association

Executive Summary

Purpose In 1986, the U.S. government entered into an international agreement, the 

Compact of Free Association, with the Federated States of Micronesia and 

the Republic of the Marshall Islands. U.S. direct financial assistance under 

the Compact, which began in 1987, is intended to help the governments of 

the two countries in their efforts to advance their economic development 

and self-sufficiency. The Compact represents a continuation of U.S. 

financial assistance that had been provided by the United States for almost 

40 years after World War II under the United Nations Trust Territory of the 

Pacific Islands. The Department of the Interior’s Office of Insular Affairs 

has the responsibility for disbursing and monitoring this assistance. In the 

fall of 1999, negotiations between the Department of State and the two 

nations began concerning provisions of the Compact regarding economic 

assistance and certain national security provisions in the Compact that will 

expire in 2001.1

To assist Congress in its consideration of any future economic assistance to 

the two nations, the Chairman of the Committee on Energy and Natural 

Resources, United States Senate, and the Chairman of the Subcommittee 

on Asia and the Pacific, Committee on International Relations, House of 

Representatives, asked GAO to report on (1) the use of Compact funding by 

the Federated States of Micronesia and the Republic of the Marshall Islands 

between fiscal years 1987 and 1998, (2) the progress both nations have 

made in advancing economic self-sufficiency, (3) the role of Compact funds 

in supporting economic progress, and (4) the extent of accountability by 

the two nations and the United States over Compact expenditures. GAO’s 

review focused on the uses of payments the United States made to both 

countries to support economic advancement. Successful economic 

development would include increased private sector activity and lead to 

rising incomes. GAO’s review did not include payments to the Republic of 

the Marshall Islands for nuclear testing by the United States. In an earlier 

report, GAO found that the nations together, in addition to their Compact 

direct funding, have received other assistance from 19 U.S. agencies 

totaling close to $600 million during fiscal years 1987 through 1999.2

 GAO 

did not include this assistance in this review, except during the discussion 

on economic self-sufficiency.

1

The negotiating delegation for the U.S. government is led by the Special Negotiator for the 

Compact of Free Association, a Department of State official.

2

See Foreign Relations: Better Accountability Needed Over U.S. Assistance to Micronesia 

and the Marshall Islands (GAO/RCED-00-67, May 31, 2000).
Executive Summary

Page 7 GAO/NSIAD-00-216 Compact of Free Association

Results in Brief The Federated States of Micronesia and the Republic of the Marshall 

Islands spent nearly $1.6 billion in Compact of Free Association funds for 

fiscal years 1987 through 1998. The Federated States of Micronesia spent 

$1.08 billion, while the Republic of the Marshall Islands spent about 

$510 million. Compact funds were used for general government operations, 

capital projects such as building roads or investing in businesses, making 

debt payments, and improving targeted sectors such as energy and 

communications. While the Federated States of Micronesia concentrated 

much of its spending on supporting government activities, the Republic of 

the Marshall Islands emphasized capital spending. Although expenditures 

were reported in areas specified by the Compact, annual financial 

statements do not always report on the final use of Compact funds. Both 

countries issued Compact revenue-backed bonds in order to obtain more 

funding during the earlier years of the Compact.

Since 1987, the two countries, particularly the Federated States of 

Micronesia, have made some progress in achieving economic 

self-sufficiency, as measured by their governments’ lower reliance on U.S. 

funding. However, both countries remain highly dependent on U.S. 

assistance, which still provides more than half of total government 

revenues in each country. Scheduled decreases in Compact funding as well 

as increases in locally generated funds have reduced reliance on U.S. 

funding. Although the amount of Compact funding has decreased since 

1987 as required by the terms of the Compact, both countries have received 

other U.S. funding through their use of U.S. federal services and programs.

Compact expenditures to date have led to little improvement in economic 

development in the Federated States of Micronesia and the Republic of the 

Marshall Islands. Per capita incomes, when adjusted for inflation, have 

stagnated in the Federated States of Micronesia and fallen in the Republic 

of the Marshall Islands since the beginning of the Compact. Compact funds 

spent to support general government operations have maintained high 

government wages and a large level of public sector employment that have 

discouraged private sector growth. Compact spending to create and 

improve infrastructure has not contributed to significant economic growth. 

In addition, Compact-funded business ventures have generally failed. For 

example, the Federated States of Micronesia spent $60 million in 

unsuccessful fisheries ventures. During its work and site visits to 

80 Compact-funded projects, GAO found that many of these projects had 

experienced problems because of poor planning and management, 

inadequate construction and maintenance, or misuse of funds.
Executive Summary

Page 8 GAO/NSIAD-00-216 Compact of Free Association

While the Compact set out specific obligations for reporting and consulting 

regarding the use of Compact funds, the governments of the Federated 

States of Micronesia, the Republic of the Marshall Islands, and the United 

States have provided limited accountability over Compact expenditures 

and have not ensured that funds were spent effectively or efficiently. For 

example, the governments of the Federated States of Micronesia and the 

Republic of the Marshall Islands provided the U.S. government with 

inadequate economic development plans and Compact spending reports. 

Further, the U.S. government, specifically the Departments of the Interior 

and State, did not meet the Compact requirement to consult annually with 

both countries during the first 7 years of Compact assistance. In addition, 

the Department of the Interior has devoted few resources to monitoring 

Compact assistance. Moreover, disagreements between the Departments of 

State and the Interior limited monitoring, as did a Compact provision that 

guarantees funding to the two nations.

Background In 1986, the United States entered into a Compact of Free Association with 

the Federated States of Micronesia (a nation comprised of the four states of 

Pohnpei, Chuuk, Kosrae, and Yap) and the Republic of the Marshall Islands. 

Through this Compact, the Federated States of Micronesia and the 

Republic of the Marshall Islands became Freely Associated States, no 

longer subject to U.S. administration under the United Nations Trust 

Territory of the Pacific Islands. The Compact, which consists of separate 

international agreements with each country, was intended to achieve three 

principal U.S. goals. These goals were to (1) secure self-government for 

each country; (2) assure certain national security rights for the Federated 

States of Micronesia, the Republic of the Marshall Islands, and the United 

States; and (3) assist the Federated States of Micronesia and the Republic 

of the Marshall Islands in their efforts to advance economic development 

and self-sufficiency.

The first two objectives have been met. The Federated States of Micronesia 

and the Republic of the Marshall Islands are independent nations and are 

members of international organizations such as the United Nations. 

However, both countries maintain a special relationship with the United 

States through the Compact, and citizens of both nations are able to live 

and work in the United States as non-immigrants. Additionally, national 

security objectives were achieved. Under the Compact, the United States 

agreed to defend the Federated States of Micronesia and the Republic of 

the Marshall Islands, gained access to their territory for military use, and 

secured the right to deny military access to other countries. These security 
Executive Summary

Page 9 GAO/NSIAD-00-216 Compact of Free Association

provisions will continue indefinitely unless mutually terminated. Through a 

Compact-related agreement with the Republic of the Marshall Islands, the 

United States has secured continued access to military facilities (a missile 

testing and space operations site) on Kwajalein Atoll until 2016.

The third objective of the Compact, promoting economic development and 

self-sufficiency (a term that is not defined in the Compact), was to be 

accomplished primarily through direct financial payments to the Federated 

States of Micronesia and the Republic of the Marshall Islands. The largest 

Compact funding provision provides specific levels of direct funding for the 

Federated States of Micronesia and the Republic of the Marshall Islands 

over a 15-year period (1987-2001), with amounts decreasing every 5 years. 

These funds were provided to cover general government and capital 

expenditures. Additional Compact provisions target funding for use in 

specific sectors, such as energy, communications, maritime surveillance, 

health, and education. Most of this assistance is partially adjusted annually 

for inflation.

Principal Findings

The Federated States of 

Micronesia and the Republic 

of the Marshall Islands 

Spent Nearly $1.6 Billion in 

Compact Funds From 1987 

Through 1998

The Federated States of Micronesia and the Republic of the Marshall 

Islands spent about $1.6 billion in Compact funds on general government 

operations, capital projects such as building roads and investing in 

businesses, and targeted sectors such as energy and communications, from 

fiscal years 1987 through 1998. The two countries have used the funding 

differently. The Federated States of Micronesia used about 47 percent 

($510 million) of its $1.08 billion in Compact funds to support general 

government operations such as salaries and travel. The Republic of the 

Marshall Islands spent 46 percent ($233 million) of its $510 million in 

Compact funds on capital projects such as developing physical 

infrastructure, establishing businesses, and servicing debt. GAO 

determined overall spending in these broad categories from the countries’ 

audited financial statements. However, these statements do not provide 

information on the final usage of Compact funds due to the commingling of 

Compact funds with locally generated revenues and because of fund 

transfers that occur that are not tracked to their final use.

Both countries together issued $389 million in Compact revenue-backed 

bonds from the late 1980s to the mid-1990s in order to obtain more funding 
Executive Summary

Page 10 GAO/NSIAD-00-216 Compact of Free Association

during the earlier years of the Compact. The Federated States of 

Micronesia issued about $114 million in Compact revenue-backed bonds, 

while the Republic of the Marshall Islands issued about $275 million. As a 

result of issuing these bonds, the Republic of the Marshall Islands has spent 

42 percent ($217 million) of its Compact funds for debt service, which 

reduced the funds available in the later years of Compact assistance for 

government operations and investment.

The Federated States of 

Micronesia and the Republic 

of the Marshall Islands Have 

Made Some Progress 

Toward Self-sufficiency, but 

Remain Highly Dependent 

on U.S. Assistance

The Federated States of Micronesia and the Republic of the Marshall 

Islands have made some progress in achieving economic self-sufficiency 

since 1987, although both countries remain highly dependent on U.S. 

assistance. This assistance has maintained standards of living that are 

artificially higher than could be achieved in the absence of compact 

funding. GAO used dependence on U.S. assistance, or total U.S. funds3

 as a 

percentage of total government revenues in each country, as an indicator to 

gauge economic self-sufficiency. The reliance on U.S. funding as a 

percentage of total government revenue in the Federated States of 

Micronesia fell from 83 percent in fiscal year 1987 to 54 percent in 1998. 

The Republic of the Marshall Islands also reduced its reliance on U.S. 

funding somewhat, from 78 percent in 1987 to 68 percent in 1998. 

Reductions in Compact direct payments that have occurred every 5 years 

have contributed to a lower reliance on U.S. funding. Both countries also 

receive technical and project assistance from other nations, although these 

contributions are not fully reported in government financial statements.

Compact Funds Led to Little 

Improvement in Economic 

Development

The use of Compact funds to date has led to little improvement in 

economic development in the Federated States of Micronesia and the 

Republic of the Marshall Islands. Substantial expenditures of Compact 

funds to maintain high levels of public sector employment at high wages 

have acted as a disincentive to private sector growth. High public sector 

wages have raised the threshold for private sector wages, making the 

private sector less competitive in international markets. Both countries 

have also spent Compact funds on infrastructure projects, such as 

electrical power and telecommunications systems, that they viewed as 

critical to creating an environment attractive to private businesses. 

However, these projects have not generated significant private sector 

3

For GAO’s assessment of economic self-sufficiency, GAO used total U.S. funds, which 

consist of all direct payments under the Compact as well as U.S. program assistance.
Executive Summary

Page 11 GAO/NSIAD-00-216 Compact of Free Association

activity and have not been sufficient to overcome other obstacles to growth 

such as a remote location, a lack of natural resources, and limited 

managerial expertise. Finally, investment of Compact funds in business 

ventures such as fish processing facilities or manufacturing has been a 

failure. For example, the Federated States of Micronesia spent $60 million 

in fisheries ventures that failed due to inexperience and poor business 

judgment. The Republic of the Marshall Islands has made unsuccessful 

investments in a garment factory that has never operated and a resort hotel 

that requires annual subsidies. Thus, primary, export-oriented industries 

remain small contributors to both economies. During its work and site 

visits to 80 Compact-funded projects, GAO found that many projects had 

experienced problems because of poor planning and management, 

inadequate construction and maintenance, or misuse of funds. For 

example, poor planning and management resulted in the incomplete 

construction of a costly and high-priority road in the Republic of the 

Marshall Islands. In numerous cases GAO found leaking roofs as the result 

of poor construction and maintenance. Finally, GAO identified several 

projects that appeared to be a misuse of funds in that it is questionable 

whether these projects will promote widespread economic advancement. 

For example, in the state of Chuuk in the Federated States of Micronesia, 

an ice plant intended to support community fishing operations was never 

built, despite receiving Compact funding, and an ice machine intended for 

the plant was moved to a Mayor’s property.

Limited Accountability Over 

Compact Fund 

Expenditures Was Provided

The governments of the Federated States of Micronesia, the Republic of the 

Marshall Islands, and the United States have provided limited 

accountability over Compact expenditures. Although the Compact 

established accountability requirements for all three countries, none of the 

governments fully used these mechanisms to ensure that Compact funds 

were spent effectively or efficiently. For example, the Federated States of 

Micronesia and the Republic of the Marshall Islands generally prepared 

planning and reporting documents required under the Compact, but many 

of the documents were of limited usefulness and did not contain sufficient 

information to determine if Compact funds were being spent to promote 

economic development. For fiscal years 1987 through 1999, the Federated 

States of Micronesia submitted annual reports each year except for 1999, 

while the Republic of the Marshall Islands submitted 7 of the 13 

Compact-required annual reports. Neither nation provided adequate 

financial or programmatic control over Compact funds, as documented in 

audit reports prepared by independent and country auditors since 1987. In 

addition, the U.S. government did not meet many of its oversight 
Executive Summary

Page 12 GAO/NSIAD-00-216 Compact of Free Association

obligations. For example, the Departments of the Interior and State did not 

hold required annual consultations with the two countries to assess 

progress under the Compact until 1994. Further, the Department of the 

Interior, which had projected in 1987 that it would need 15 staff positions to 

implement the Compact, currently has 2 people that work exclusively with 

the Compact nations. Moreover, disagreements between the Departments 

of the Interior and State regarding Compact monitoring responsibilities, as 

well as Interior’s view that the “full faith and credit” provision in the 

Compact (which legally guarantees funding) impaired its ability to 

withhold funds for noncompliance, further limited oversight.

Recommendations GAO recommends that the Secretary of State work with Congress to 

outline negotiating objectives; determine the level, duration, and 

composition of future economic assistance; and identify the appropriate 

agency to provide and oversee future funding. GAO also recommends that 

the Secretary of State direct the State Department official responsible for 

negotiating future Compact economic assistance to include specific 

measures in any future economic assistance provisions for the Compact 

that will ensure improved effectiveness of, and accountability over, future 

spending. Further, GAO recommends that the Secretary of the Interior, as 

the official responsible for providing and monitoring Compact assistance, 

strengthen oversight over remaining Compact assistance.

Agency Comments We received comments from the Departments of State and the Interior and 

the governments of the Federated States of Micronesia and the Republic of 

the Marshall Islands. The Department of State agreed with three of GAO’s 

recommendations. It agreed that the Department should (1) consult with 

Congress to determine U.S. policy objectives for future Compact 

assistance, (2) negotiate Compact provisions to establish greater control 

and effectiveness of future U.S. assistance, and (3) negotiate Compact 

provisions to achieve greater oversight over expenditures. While the 

Department of State agreed with GAO that any future Compact provisions 

should allow for the withholding of funds, the Department reserved 

judgment on GAO’s recommendation that any future funding exclude a “full 

faith and credit” provision until the Department better understands the 

ramifications of this action on budget procedures. The Department of the 

Interior did not respond to GAO’s recommendations.
Executive Summary

Page 13 GAO/NSIAD-00-216 Compact of Free Association

The Departments of State and the Interior, as well as the government of the 

Federated States of Micronesia, stressed that it is important to 

acknowledge the challenges faced by Pacific Island nations, such as 

geographic isolation and a lack of natural resources, in achieving economic 

advancement. GAO further emphasized this point in the report. All four 

respondents also stated that GAO’s report downplays successes under the 

Compact. GAO added information summarizing State and Interior views 

regarding the importance of expenditures to support general government 

operations in both countries. The governments of the Federated States of 

Micronesia and the Republic of the Marshall Islands expressed concern 

over GAO’s view that Compact expenditures have led to little economic 

development in either country. GAO maintains that this conclusion is 

accurate. A discussion of these comments appears in chapter 6, and the 

comments appear in full, along with GAO’s specific responses, in 

appendixes III-VI.
Page 14 GAO/NSIAD-00-216 Compact of Free Association

Chapter 1

Introduction Chapte1r

The 1986 Compact of Free Association ended almost 40 years of U.S. 

administration of the Federated States of Micronesia (FSM), and the 

Republic of the Marshall Islands (RMI), two Pacific Island nations. The U.S. 

objectives for the Compact were to advance the island nations’ 

self-government and economic self-sufficiency and to secure certain 

national security rights. 

Compact Ended U.S. 

Administration of the 

Federated States of 

Micronesia and the 

Republic of the 

Marshall Islands

In 1986, the United States entered into a Compact of Free Association with 

the FSM and the RMI. Through the Compact, the FSM and the RMI became 

Freely Associated States, no longer subject to U.S. administration under 

the United Nations Trust Territory of the Pacific Islands that was created 

following World War II.

The two island nations are located just north of the equator in the Pacific 

Ocean (see fig. 1) with populations of 116,268 and 50,840, respectively, as of 

1999.1

1

The FSM 1999 population estimate is based on the figure provided to GAO in the FSM 

government’s comments on our draft report. The RMI figure is from the 1999 RMI 

population census. These figures differ from those used in Foreign Relations: Better 

Accountability Needed Over U.S. Assistance to Micronesia and the Marshall Islands

(GAO/RCED-00-67, May 31, 2000).
Chapter 1

Introduction

Page 15 GAO/NSIAD-00-216 Compact of Free Association

Figure 1: Location and Map of the Federated States of Micronesia and the Republic of the Marshall Islands

Pyongyang

Manila

Seoul Tokyo

Los Angeles

PAPUA

NEW GUINEA

PHILIPPINES

TAIWAN

CHINA

INDONESIA

AUSTRALIA

JAPAN

SOUTH KOREA

NORTH KOREA

FIJI

GUAM

REPUBLIC OF THE

MARSHALL ISLANDS

FEDERATED STATES

OF MICRONESIA

Hawaii

UNITED

STATES

PACIFIC

OCEAN

0

15 N

30 N

15 S

120 E 135 E 150 E 165 E 180 165 W 150 W 135 W 120 W

FEDERATED STATES OF MICRONESIA

REPUBLIC OF THE

MARSHALL ISLANDS

Colonia

State of Pohnpei

State of Chuuk State of Yap

State of Kosrae

Mela=nim

Wotje

Kaven

Enewetak

Atoll

Bikini

Atoll

Ujelang

Atoll

Rongelap

Atoll Utrik

Atoll

Palikir Majuro

0 1000 Miles

0 1000 Km
Chapter 1

Introduction

Page 16 GAO/NSIAD-00-216 Compact of Free Association

The FSM is a grouping of 607 small islands in the western Pacific totaling 

270 square miles, of which 65 are occupied. The islands stretch out over 

1,115 miles of the Pacific Ocean, creating an exclusive economic zone of 

1 million square miles. It is a nation comprised of four states (Kosrae, 

Pohnpei, Chuuk, and Yap) and nine ethnic groups. English is the official 

and common language, with each state having its own language as well.

The RMI is made up of more than 1,200 islands, islets, and atolls, with a 

total land area of about 70 square miles. The Marshall Islands are located in 

the central Pacific, about 2,100 miles southwest of Hawaii. The Marshall 

Islands occupy about 750,000 square miles of the Pacific Ocean. English is 

the official language of the RMI, with two major Marshallese dialects and 

Japanese in use as well.

Both the FSM and the RMI spent almost a century under the administration 

of foreign powers. Spain occupied the islands of the current FSM in 1875, 

and Germany established a protectorate over the Marshall Islands in 1885. 

In 1899, Germany purchased the FSM islands from Spain after Spain lost its 

other Pacific possessions following the Spanish-American War. At the 

beginning of World War I, Japan occupied the FSM islands and the Marshall 

Islands, receiving a League of Nations mandate to administer them in 1920. 

After leaving the League in 1935, Japan declared the islands to be an 

integral part of the Japanese Empire and established and reinforced 

military installations there. The United States occupied the islands of the 

FSM and the RMI in 1944 following heavy fighting.

In 1947, the United Nations created the Trust Territory of the Pacific 

Islands. The United States entered into a trusteeship with the United 

Nations Security Council and became the administering authority of the 

current four states of the FSM, as well as the Marshall Islands, Palau, and 

the Northern Mariana Islands. The Trust Territory of the Pacific Islands 

made the United States responsible financially and administratively for the 

region. The President of the United States appointed a High Commissioner 

of the Trust Territory of the Pacific Islands, which remained under the civil 

administration of the U.S. Navy until 1951, when authority was passed to 

the Department of the Interior. During the 1940s and 1950s the Marshall 

Islands were the site of 67 U.S. nuclear weapons tests. The economy of the
Chapter 1

Introduction

Page 17 GAO/NSIAD-00-216 Compact of Free Association

Trust Territory of the Pacific Islands was dominated by government 

employment and reliant on external assistance from the United States.2

In 1978, four of the “districts” of the Trust Territory of the Pacific Islands 

voted in a referendum to form the Federated States of Micronesia. In 1979, 

the Marshall Islands voted to form its own national government. In 1982, an 

international agreement between the United States and the Federated 

States of Micronesia—the Compact of Free Association—was completed; 

the following year, the Compact was signed between the United States and 

the Republic of the Marshall Islands.

The economic viability of both nations was uncertain at the time the 

Compact was negotiated. In 1983, we reported that both countries faced 

serious obstacles to becoming economically self-sufficient, such as 

inadequate planning for and maintenance of infrastructure and low savings 

levels. We also noted that both governments lacked sufficient managerial 

and technical expertise and management systems to overcome such 

obstacles.3

 The economic growth potential of these countries and their 

ability to generate revenue to replace U.S. assistance was limited by factors 

such as geographic isolation, limited natural resources, and the large and 

costly government structure left by the United States.4

In the case of the FSM, the Compact entered into force on November 3, 

1986, while the RMI Compact entered into force October 21, 1986. With the 

entry into force of the Compact, both nations became Freely Associated 

States, no longer subject to U.S. administration under the United Nations 

Trusteeship.

2

For a history of U.S. assistance, see David Hanlon, Remaking Micronesia: Discourses Over 

Development in a Pacific Territory, 1944-1982 (Honolulu, Hawaii: University of Hawaii Press, 

1998).

3

See The Challenge of Enhancing Micronesian Self-Sufficiency (GAO/ID-83-1, Jan. 25, 1983).

4

Francis X. Hezel, S. J., “A Brief Economic History of Micronesia,” in Past Achievements and 

Future Possibilities: A Conference on Economic Development in Micronesia (Conference 

held in Kolonia, Ponape, May 22-25, 1984; published by The Micronesian Seminar, Majuro, 

RMI, July 1984).
Chapter 1

Introduction

Page 18 GAO/NSIAD-00-216 Compact of Free Association

Self-government, 

National Security, and 

Economic 

Self-sufficiency Are 

Compact Objectives

The Compact, which consists of separate international agreements with 

each country, was intended to achieve three principal U.S. goals. These 

goals were to (1) secure self-government for each country; (2) assure 

certain national security rights for the FSM, the RMI, and the United States; 

and (3) assist the FSM and the RMI in their efforts to advance economic 

self-sufficiency.

The first two objectives have been met. The FSM and the RMI are 

independent nations and are members of international organizations such 

as the United Nations. Nevertheless, both countries maintain a special 

relationship with the United States through the Compact, and citizens of 

both nations are able to live and work in the United States as 

non-immigrants. Additionally, national security objectives were achieved. 

At the time of the Compact’s negotiation, the United States was concerned 

about an expanded Soviet Union military presence in the Pacific Ocean. 

Under the Compact, the United States agreed to defend the FSM and the 

RMI, gained access to their territory for military use, and secured the right 

to deny military access to the region to other countries (known as 

“strategic denial”). These security provisions will continue indefinitely 

unless mutually terminated. A security provision that gave the United 

States the ability to preclude any FSM or RMI government action that the 

United States believes is incompatible with its defense responsibilities (the 

“defense veto”) will expire in 2001 and is subject to renegotiation. In a 1986 

Compact-related agreement with the RMI, the United States secured 

continued access to military facilities (a missile testing and space 

operations site) on Kwajalein Atoll for a period of 15 years and the right to 

extend the access for an additional 15 years (a right the United States 

exercised in September 1999).

The third objective of the Compact, promoting economic self-sufficiency (a 

term that is not defined in the Compact), was to be accomplished primarily 

through direct financial payments to the FSM and the RMI. This Compact 

assistance represented a continuation of U.S. financial support that had 

been supplied to these areas for almost 40 years after World War II. The 

largest funding provision (sec. 211(a) of the Compact) provides specific 

levels of funding for the FSM and the RMI over a 15-year period 

(1987-2001), with amounts decreasing every 5 years (see table 1). The total 

funding for section 211(a) over this period for both countries, before 

adjusting for inflation, is almost $1.1 billion.
Chapter 1

Introduction

Page 19 GAO/NSIAD-00-216 Compact of Free Association

Table 1: Compact Section 211(a) Annual and Total Funding Levels for the Federated States of Micronesia and the Republic of the 

Marshall Islands, Fiscal Years 1987-2001

Note: Compact section 211(a) funding is partially adjusted for inflation. Inflationary adjustments are not 

included in this table.

Source: Compact of Free Association section 211(a).

The Compact provided section 211(a) funds to cover general government 

and capital expenditures. The Compact requires that over the 15-year 

period of Compact economic assistance, an average of no less than 

40 percent of section 211(a) funding be used in a “capital account.” 

According to an agreement related to the Compact, 17 types of projects or 

activities are eligible expenditures under the capital account, including 

construction or major repair of capital infrastructure, public and private 

sector projects, training activities, and debt service. The remainder of 

section 211(a) funding, or no more than 60 percent of the funds, is eligible 

for use in a “current account,” which covers the general operations of the 

government.

Additional Compact sections target funding for use in specific sectors, such 

as energy, communications, maritime surveillance, health, and education 

(total funding provided for both countries for targeted assistance is 

approximately $397 million over 15 years). Most of the Compact assistance, 

including section 211(a), is partially adjusted annually for inflation.

In addition to direct payments, the Compact provides certain federal 

services through 20015

 and gives the FSM and the RMI access to other 

Dollars in millions

FSM RMI FSM & RMI

Fiscal years

Annual

funding

Total funding over

5-year period

Annual

funding

Total funding over

5-year period

Total funding over

5-year period

1987-91 $60.0 $300.0 $26.1 $130.5 $430.5

1992-96 51.0 255.0 22.1 110.5 365.5

1997-2001 40.0 200.0 19.1 95.5 295.5

Total for 15 years $755.0 $336.5 $1,091.5

5

The Compact makes available the services and related programs of the U.S. Weather 

Service, the U.S. Federal Emergency Management Agency, the U.S. Federal Aviation 

Administration, the U.S. Civil Aeronautics Board or its successor agencies, and provided 

pursuant to the 1970 Postal Reorganization Act.
Chapter 1

Introduction

Page 20 GAO/NSIAD-00-216 Compact of Free Association

federal services and programs at the discretion of the United States.6

Program assistance can include grants, loans, goods, and services provided 

by numerous U.S. agencies, such as the Departments of Education and 

Health and Human Services.

In May 2000, in response to a request to identify how much money the 

United States has provided to the FSM and the RMI, we reported that the 

United States had supplied more than $2.6 billion in total U.S. assistance to 

both countries from fiscal years 1987 through 1999, based on figures that 

19 U.S. government agencies gave to us.7

 The report included three 

categories of U.S. assistance: Compact funds provided directly to the FSM 

and the RMI as economic assistance, funds provided to the RMI as 

compensation for nuclear testing, and U.S. program assistance. The report 

concluded that the Department of the Interior has not maintained reliable 

data on the amount of assistance provided to the FSM and the RMI. 

Further, the report determined that inconsistencies within Interior’s own 

records, as well as between Interior’s records and those of other U.S. 

federal agencies and the FSM and RMI independent auditors, call into 

question Interior’s ability to report accurately on assistance provided to the 

two nations. In response to the report’s recommendations, the Department 

of the Interior stated that (1) in the event that it retains monitoring and 

coordination oversight of other federal agency programs as a result of the 

current Compact negotiations, it will develop a system to obtain and 

maintain data on all financial and program assistance provided and (2) it 

will reconcile the amounts reimbursed to other agencies. The Department 

of State concurred fully with the report’s recommendation that during the 

ongoing Compact negotiations, provisions should be negotiated that 

require the maintenance of reliable data to ensure better accountability of 

the assistance provided. In addition, State said it is committed to ensuring 

that any revised Compact will include the necessary authority and an 

effective mechanism to ensure complementarity of purpose and 

accountability of future assistance.

6

Such services and programs include Head Start, Pell Grants, and immunization grants.

7

See Foreign Relations: Better Accountability Needed Over U.S. Assistance to Micronesia 

and the Marshall Islands.
Chapter 1

Introduction

Page 21 GAO/NSIAD-00-216 Compact of Free Association

Direct financial assistance under the Compact is provided by the 

Department of the Interior.8

 Additionally, Interior and 18 other U.S. 

government agencies administer programs in the FSM and the RMI. The 

Secretary of the Interior has responsibility for federal program 

coordination, as well as disbursement and monitoring of U.S. funds 

annually provided to the FSM and the RMI under the terms of the Compact. 

Monitoring is conducted, in part, through a Compact requirement for an 

annual financial and compliance audit within the meaning of the Single 

Audit Act of 1984.9

 The single audit process is an important vehicle in 

informing the Department of the Interior and other federal oversight 

officials about FSM and RMI stewardship of federal funds. The Department 

of State is actively involved in U.S. relations with the FSM and the RMI as 

the agency responsible for government-to-government relations. In the fall 

of 1999, negotiations between the Department of State and the two nations 

began on whether and how to renew economic assistance and to continue 

certain national security provisions in the Compact that will expire in 2001. 

To date, the United States has had two negotiating sessions with the FSM, 

while formal talks with the RMI government have been delayed due largely 

to a change in the RMI’s government in January 2000. If negotiations to 

establish future economic assistance are ongoing between the United 

States and the FSM or the RMI, or both island governments, at the end of 

fiscal year 2001, Compact assistance will be extended until 2003 to the

8

In the title of this report, we refer to Compact economic assistance as “foreign assistance” 

in recognition that the FSM and the RMI are foreign nations. Compact funds do not, 

however, come from the foreign operations appropriations act, which includes the budgets 

of the Department of State and the Agency for International Development. Instead, Compact 

funds are provided as a domestic spending program administered by the Department of the 

Interior. The RMI believes that designating Compact funds as “foreign assistance” is both 

confusing and misleading.

9

Single Audit Act of 1984, P.L. 98-502, and the Single Audit Act Amendments of 1996, 

P.L. 104-156. The single audit is meant to advise officials whether financial statements are 

fairly presented and to provide reasonable assurance that federal financial assistance 

programs are managed in accordance with applicable laws and regulations. The audit must 

be conducted by an independent auditor on an annual basis, except under specific 

circumstances. Single audit reports contain meaningful information on entities’ financial 

status and management of federal funds and can indicate where entities have additional 

problems that need further audit or investigation.
Chapter 1

Introduction

Page 22 GAO/NSIAD-00-216 Compact of Free Association

nation(s) still negotiating at a rate that is the average of the annual direct 

funding amounts granted under the Compact.10

Objectives, Scope, and 

Methodology

The Chairman of the House Subcommittee on Asia and the Pacific, 

Committee on International Relations, and the Chairman of the Senate 

Committee on Energy and Natural Resources asked us to report on the 

(1) the use of Compact of Free Association funding by the Federated States 

of Micronesia and the Republic of the Marshall Islands, (2) the progress 

both nations have made in advancing economic self-sufficiency, (3) the role 

of Compact funds in supporting economic progress, and (4) the extent of 

accountability by the two nations and the United States over Compact 

expenditures.

Use of Compact Funds For our first objective, we reviewed how the FSM and the RMI used direct 

Compact funding for fiscal years 1987-1998 provided as economic 

assistance through title II of the Compact to further the countries’ 

economic self-sufficiency. In reporting on the use of Compact funds, we did 

not assess payments made to the Republic of the Marshall Islands under 

the Compact for nuclear testing compensation (sec. 177) or the assistance 

provided to either country through federal services and programs (secs. 

221 and 224).

We relied on 72 sets of financial statements of the RMI and the FSM, 

including the four states of the FSM (Pohnpei, Chuuk, Kosrae, and Yap). We 

also relied on the audits of these financial statements that were prepared 

by Deloitte Touche Tohmatsu, the governments’ independent auditor for 

fiscal years 1987-98. We also read financial statements and audits for other 

government entities in the RMI. These financial records include data on 

government revenues, expenditures, and U.S. assistance levels. The 

revenue data identify Compact funds and other U.S. assistance as specific 

funding sources and show how these funds were allocated by fund type 

(general, special revenue, capital, expendable trust, and so on). The 

expenditure data identify how each government entity used its funds, 

10Funding for 2002-03 is at a higher level than what the countries currently receive, per the 

terms of the Compact. For example, the Department of the Interior estimates that for fiscal 

years 2002-03, the FSM would receive $50.3 million annually and the RMI would receive 

$22.4 million annually under section 211(a). This base section 211(a) funding, as well as 

other Compact assistance, would be further increased to account for inflation.
Chapter 1

Introduction

Page 23 GAO/NSIAD-00-216 Compact of Free Association

including payment of Compact funds to Kwajalein landowners. The 

expenditure sheets in the financial statements enabled us to identify, in 

many cases, how the governments used the Compact funds by fund type. 

However, Compact funds allocated to the general fund were commingled 

with local revenues. Further, transfers between fund types take place and, 

in some cases, information on the use of transferred funds is unavailable or 

the Compact funds are subsequently commingled with other government 

revenue. Thus, details regarding the final usage of some Compact funds are 

not identified in the financial statements (with a few notable exceptions 

such as the use of transfers for debt service). This situation is a limitation 

in our reporting.

To identify capital account spending, we used lists of specific capital 

projects financed with Compact funds contained in the Deloitte Touche 

Tohmatsu audits. We also obtained lists of capital projects for the FSM and 

summaries of capital projects by sector from the FSM Joint Committee on 

Compact Economic Negotiations. We applied the FSM sector categories, 

such as infrastructure and economic development, to the capital projects 

identified in the audits of the RMI in our presentation of capital project 

funding.

To determine the debt service ratios for the FSM and the RMI, we extracted 

data from the Deloitte Touche Tohmatsu audits of the FSM and the RMI on 

the amount of bonds issued, the payment schedules, and the annual bond 

debt payments. We calculated the percentage of debt service by dividing 

the annual debt payments by the Compact direct funding provided to the 

FSM and the RMI.

Progress Toward Economic 

Self-sufficiency

For our second objective, we reviewed data and economic studies 

regarding the progress these countries have made in achieving economic 

self-sufficiency. As an indicator of economic self-sufficiency, we calculated 

the ratio of U.S. assistance (direct Compact funding plus program 

assistance) to total FSM or RMI government revenue.11 The FSM recently 

adopted a similar approach to measure its self-sufficiency. We relied on 

data from available annual financial statements and single audits (referred 

11To the extent that assistance from other nations can be used as a substitute for U.S. 

assistance, dependence on all external donor assistance (which we did not measure) in the 

FSM and the RMI is unchanged. We were unable to address the size or importance of 

assistance from other nations as this information is not fully identified in the financial 

statements of either country.
Chapter 1

Introduction

Page 24 GAO/NSIAD-00-216 Compact of Free Association

to as annual audits in this report) for all governments for fiscal years 

1987-98 to make our calculations. The revenue data used understate the 

value of U.S. government contributions to the FSM and the RMI 

governments. U.S. government services provided in-kind, such as weather 

service, disaster relief, development loans, and national defense, do not 

appear as revenue in the FSM and RMI government financial accounts. We 

also reviewed Asian Development Bank documents for available data on 

other donors.

Impact of Compact Funds For our third objective, we examined budget and project documents for 

over 150 projects undertaken with Compact capital account funds and 

visited 80 Compact-funded projects in order to assess the role of Compact 

funds in supporting economic progress. We reviewed the budget and 

project documents to determine how Compact funds were used and what 

procedures the FSM and the RMI used to review the projects prior to 

implementation. We chose over 150 projects for an extensive file review 

and made selected site visits. Our selection criteria included the largest 

areas of investment by the governments as well as projects that 

represented a wide range of sectors. For example, we reviewed projects 

such as schools, hospitals, roads, electric power and telecommunications 

facilities, and business ventures. We chose projects that were funded at 

different points during the life of the Compact. In our file review, we looked 

for feasibility studies, evidence of competitive bidding, contracts, and 

inspections. We visited 80 projects that the Compact funded to determine if 

the projects met their objectives and the status of the projects. At the 

project sites we met with officials to discuss how Compact funds 

contributed to the project and to evaluate the success of the project.

Additionally, we relied on assessments prepared by the World Bank, the 

Asian Development Bank, and the International Monetary Fund regarding 

economic performance in each nation. We reviewed available development 

plans, annual reports, and internal audits prepared by each country. We 

also met with senior government and business officials from the FSM at the 

national and state level, and from the RMI to discuss how Compact funds 

were used and the status of various Compact-funded projects. 

Extent of Accountability For our fourth objective, we undertook an analysis of accountability 

requirements contained in the Compact. We interviewed senior 

government officials in the FSM, the RMI, and the United States regarding 

their compliance with Compact provisions. Additionally, we reviewed 
Chapter 1

Introduction

Page 25 GAO/NSIAD-00-216 Compact of Free Association

documentation from the three governments. We reviewed the content of 

the economic development plans and annual reports prepared by the FSM 

and the RMI. We read the reports prepared by the independent auditor of 

the FSM and the RMI contained in 72 sets of financial statements, including 

the four states of the FSM (Pohnpei, Chuuk, Kosrae, and Yap). We read 

audits of Compact-funded projects performed by the Office of the Public 

Auditor in the FSM to identify how well the FSM spent Compact funds and 

the extent to which it responded to findings involving the use of Compact 

funds. We also discussed the responses to findings with the FSM Public 

Auditor. In order to understand the oversight activity of the U.S. 

government, we relied on records of the Departments of the Interior and 

State and interviews with current and former senior officials.

We conducted our work from December 1999 through June 2000 in 

accordance with generally accepted government auditing standards.

We received comments on this report from the Departments of State and 

the Interior as well as from the governments of the FSM and the RMI.
Page 26 GAO/NSIAD-00-216 Compact of Free Association

Chapter 2

The Federated States of Micronesia and the 

Republic of the Marshall Islands Used Nearly 

$1.6 Billion in Compact Direct Funding Chapte2r

The Federated States of Micronesia and the Republic of the Marshall 

Islands spent about $1.6 billion in Compact funds on general government 

operations, capital projects, and targeted sectors, such as energy and 

communications, from fiscal years 1987 through 1998. Spending on capital 

projects, a priority area of the Compact, focused on infrastructure and 

business ventures, although we could not determine from financial records 

how some funds were used. Although expenditures were in the general 

areas designated by the Compact, the financial statements do not report on 

the final specific use of Compact funds. Both countries combined issued 

$389 million in Compact revenue-backed bonds from the late 1980s to the 

mid-1990s in order to obtain more funding during the earlier years of the 

Compact.

The Federated States 

of Micronesia and the 

Republic of the 

Marshall Islands 

Targeted Expenditures 

in Different Areas

For fiscal years 1987 through 1998, our analysis shows that the FSM spent 

about $1.08 billion and the RMI spent about $510 million in funding 

provided by the Compact (see fig. 2).1

 Each government has used the 

money differently to pursue its development objectives. The largest area of 

expenditures in the FSM was for general government operations, which 

accounted for over 47 percent ($510 million) of total Compact 

expenditures. In the RMI, the largest amount of total expenditures, 

46 percent, or $233 million, went to support capital fund activities such as 

building infrastructure, supporting economic activities, and servicing debt.

1

When Compact expenditures are converted to constant 1999 fiscal year dollars (using the 

U.S. gross domestic product [GDP] deflator), the FSM spent about $1.2 billion, while the 

RMI spent about $585 million. This report uses current dollars throughout.
Chapter 2

The Federated States of Micronesia and the 

Republic of the Marshall Islands Used Nearly 

$1.6 Billion in Compact Direct Funding

Page 27 GAO/NSIAD-00-216 Compact of Free Association

Figure 2: FSM and RMI Compact Expenditures by Fund Type as a Percentage of Total Compact Expenditures, Fiscal Years 1987-

98

Notes:

1: The general fund consists of Compact assistance to support general government expenses such as 

salaries, supplies, and contractual services.

2: The special revenue fund consists of Compact assistance earmarked for specific uses, such as 

medical referrals, scholarships, and marine surveillance.

3: The expendable trust fund consists of Compact assistance that the RMI government uses to pay 

about 80 RMI landowners as compensation for the land used by the U.S. military on Kwajalein Atoll.

4: Figures may not add to 100 percent due to rounding.

Source: GAO analysis of FSM and RMI financial statements and audits of those statements prepared 

by Deloitte Touche Tohmatsu for fiscal years 1987-98.

These figures report on the initial breakdown of Compact funds by 

government accounts. They may or may not indicate the final use of funds, 

as these figures for the FSM and the RMI include expenditures from, as 

well as transfers out of, the accounts. Details regarding the final use of 

transfers are unavailable in the FSM and RMI financial statements, with a 

few exceptions, such as the use of transfers for debt service.

Special Revenue Fund 20%

$220 Million

Capital Fund 32%

$348 Million

General Fund 47%

$510 Million

Expendable Trust Fund 18%

$94 Million

General Fund 21%

$107 Million

Special Revenue Fund 15%

$76 Million

Capital Fund 46%

$233 Million

FSM Expenditures -- $1.08 Billion RMI Expenditures -- $510 Million
Chapter 2

The Federated States of Micronesia and the 

Republic of the Marshall Islands Used Nearly 

$1.6 Billion in Compact Direct Funding

Page 28 GAO/NSIAD-00-216 Compact of Free Association

Based on our review of expenditure data for the FSM and the RMI between 

1987 and 1998, both countries met the Compact requirement that an 

average of no less than 40 percent of funding provided for 15 years under 

section 211(a) be used for capital expenditures. The FSM spent 

40.5 percent of its section 211(a) funds from its capital account, while the 

RMI spent 63.9 percent.2

 However, officials from the Departments of State 

and the Interior noted that the broad range of eligible uses of capital funds 

listed in an agreement related to the Compact makes it difficult to 

demonstrate that a questionable capital expenditure is not allowed. For 

example, in fiscal year 1998 the FSM state of Kosrae spent $58,080 in 

Compact capital funds for the travel expenses of state athletes to regional 

games in order to develop their skills and as a requirement for their 

participation in the 2000 Summer Olympics in Sydney, Australia.3

Capital Funds Spent on 

Business Ventures and 

Infrastructure

For the capital funds where we could identify specific types of 

expenditures, we found that the FSM and the RMI spent most of their 

capital funds to build infrastructure and support economic development 

ventures. The financial statements of the FSM and the RMI list projects that 

were paid for from the capital fund. Our assessment here of capital fund 

project expenditures includes these data only. Capital fund transfers and 

capital expenditures made from bond proceeds are not included. 

(Therefore, specific capital fund expenditures described here and in fig. 3 

are a subset of capital fund expenditures listed in fig. 2.) Of these projects, 

the FSM and the RMI spent a total of $484 million from 1987 to 1998 for 

purposes that included building infrastructure such as roads and schools, 

and supporting economic development. (See app. I for detailed information 

on capital project categories for the FSM and the RMI.)

The FSM spent a total of $344 million out of the capital fund, with 

$156 million (45 percent) of these capital project funds going for economic 

development and business ventures, such as for fishing boats or processing 

2

Figure 2 shows how all funds—general fund, special revenue fund, capital fund, and 

expendable trust fund—were used. The graphic does not address the 40-percent capital 

spending requirement, which is computed based on the allocation of section 211(a) funding 

between the capital and general funds.

3

The Attorney General of Kosrae provided a legal opinion to the Governor of Kosrae stating 

that sending athletes to the games served to promote tourism, a permitted use of Compact 

capital funds for an economic development project. The FSM Department of Justice 

concluded it was a qualified manpower training and development project.
Chapter 2

The Federated States of Micronesia and the 

Republic of the Marshall Islands Used Nearly 

$1.6 Billion in Compact Direct Funding

Page 29 GAO/NSIAD-00-216 Compact of Free Association

plants (see fig. 3). Expenditures on infrastructure followed closely at 

$133 million, or 39 percent.

Figure 3: FSM and RMI Compact Capital Account Expenditures, Fiscal Years 1987-98

Notes:

1: “Other” expenditures include land lease and acquisition, resource management, and unspecified 

uses of funds. In the RMI this category includes expenditures by the Marshall Islands Development 

Agency and the Kwajalein Atoll Development Authority that are not itemized in the RMI government 

financial statement.

2 “Social services” expenditures include spending on health, education, housing, training, and social 

services projects.

3: Amounts for the four areas of RMI spending do not add to the total RMI figure due to rounding.

Source: GAO analysis of FSM data, compiled by the Joint Committee on Compact Economic 

Negotiations, and of RMI financial statements and audits of those statements prepared by Deloitte 

Touche Tohmatsu for fiscal years 1987-98.

Social Services 9%

$30 Million

Other 7%

$25 Million

Economic Development 45%

$156 Million

Infrastructure 39%

$133 Million

Other 46%

$65 Million

Economic Development 23%

$33 Million

Infrastructure 25%

$35 Million

Social Services 6%

$8 Million

FSM Capital Expenditures -- $344 Million RMI Capital Expenditures -- $140 Million
Chapter 2

The Federated States of Micronesia and the 

Republic of the Marshall Islands Used Nearly 

$1.6 Billion in Compact Direct Funding

Page 30 GAO/NSIAD-00-216 Compact of Free Association

For the RMI, 46 percent ($65 million) of total capital fund expenditures of 

$140 million are classified as “other” expenditures. Most of this amount 

($54 million) was listed as unidentified capital expenditures in the RMI 

financial statements. The Marshall Islands Development Authority and the 

Kwajalein Atoll Development Authority reported $4.5 million and 

$49.5 million, respectively, of unidentified “other” expenditures in the RMI 

financial statements.4

 RMI expenditures for infrastructure and economic 

development accounted for 25 percent ($35 million) and 23 percent 

($33 million), respectively, of these capital funds.

Both Countries Issued 

Compact 

Revenue-Backed 

Bonds

The Compact did not preclude the FSM or the RMI from borrowing funds in 

anticipation of U.S. assistance. Using this flexibility, from the late 1980s to 

the mid-1990s, the FSM and the RMI issued nearly $389 million in Compact 

revenue-backed bonds in order to obtain greater funding in the earlier 

years of the Compact. This funding was used to retire existing debt, pay for 

capital projects, and make financial investments. As shown in table 2, the 

RMI issued about $275 million in Compact revenue-backed bonds, and the 

FSM issued approximately $114 million.

4

We were able to identify specific capital fund expenditures for 6 years (fiscal years 1987-91, 

1993) in Kwajalein Atoll Development Authority financial statements that totaled over 

$34 million. In those years, projects that received large amounts of Kwajalein Atoll 

Development Authority capital funds included the Kwajalein (Ebeye) power plant and 

generators (over $5 million), dock construction (over $9 million), and road paving (over 

$2 million).
Chapter 2

The Federated States of Micronesia and the 

Republic of the Marshall Islands Used Nearly 

$1.6 Billion in Compact Direct Funding

Page 31 GAO/NSIAD-00-216 Compact of Free Association

Table 2: Compact Revenue-backed Bonds Issued by the Federated States of 

Micronesia and the Republic of the Marshall Islands, Fiscal Years 1987-98

Source: GAO analysis of financial statements of the FSM and the RMI for fiscal years 1987-98.

By fiscal year 1998, the FSM had repaid $119 million in bond debt (principal 

and interest), with these repayments accounting for 11 percent of total 

Compact expenditures. However, the RMI has used a higher percentage of 

its Compact funding than the FSM to repay bond debt (42 percent, or 

$217 million) through 1998. The debt payments have limited the availability 

of Compact funds for other uses, particularly in recent years (see fig. 4). 

For example, in 1998, the RMI spent $39 million in Compact funds.5

 Of this 

total amount, $25 million went to service debt. The RMI was also required 

to spend an additional $8 million to compensate landowners for U.S.

Dollars in millions

Fiscal year FSM RMI

1987 0 $65.00

1988 0 0

1989 0 20.00

1990 $14.65 0

1991 84.96 60.00

1992 0 0

1993 14.30 99.96

1994 0 30.00

1995 0 0

1996 0 0

1997 0 0

1998 0 0

Total $113.91 $274.96

5

According to data provided by the Department of the Interior, in fiscal year 1998 the United 

States provided the RMI with $19.1 million in Compact section 211(a) payments, an inflation 

adjustment payment of $11.3 million, and other non-nuclear compensation payments of 

$8.9 million.
Chapter 2

The Federated States of Micronesia and the 

Republic of the Marshall Islands Used Nearly 

$1.6 Billion in Compact Direct Funding

Page 32 GAO/NSIAD-00-216 Compact of Free Association

military use of Kwajalein Atoll.6 This left only $6 million (15 percent) in 

Compact expenditures to support new capital investment, general 

government operations, or particular sectors identified in the Compact.7

According to the RMI financial statements, the RMI is not scheduled to pay 

off its bond debt until fiscal year 2002.

6

The legislation enacting the Compact recognizes that there is a lease agreement between 

the government of the RMI and Kwajalein landowners. The United States provides funding 

to the RMI, which is then used to compensate landowners, per the lease agreement, for the 

land used by the U.S. military on Kwajalein Atoll. These payments go to approximately 

80 RMI landowners. According to an official at the U.S. embassy in the RMI, use of these 

funds, which are distributed based on acreage owned by each landowner, is at the discretion 

of each landowner. The official reported that four landowners receive one-third of the 

annual payment based on acreage owned, with one landowner receiving half of this amount.

7

The Kwajalein Atoll Development Authority issued bonds on its own. In a 1989 discussion 

of gaining access early to Compact funds, the Authority’s Board of Directors was briefed by 

the Kwajalein Atoll Development Authority’s former Comptroller that for every $1 million 

borrowed via a bond issue, the Kwajalein Atoll Development Authority would be forfeiting 

$1 million in future projects. Ultimately, the Kwajalein Atoll Development Authority issued 

Compact revenue-backed bonds of $22 million in 1991.
Chapter 2

The Federated States of Micronesia and the 

Republic of the Marshall Islands Used Nearly 

$1.6 Billion in Compact Direct Funding

Page 33 GAO/NSIAD-00-216 Compact of Free Association

Figure 4: RMI Debt Service as a Percentage of Annual Compact Expenditures, Fiscal 

Years 1987-98

Source: GAO analysis of financial statements and audits of the RMI prepared by Deloitte Touche 

Tohmatsu for fiscal years 1987-98.

0

10

20

30

40

50

60

70

80

90

100

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

Fiscal Year

Debt Service

Share of Total Compact Expenditures
Page 34 GAO/NSIAD-00-216 Compact of Free Association

Chapter 3

The Two Compact Nations Have Made Some 

Improvements in Economic Self-sufficiency Chapte3r

The FSM and the RMI have made some progress toward achieving 

economic self-sufficiency, but both remain highly dependent on U.S. 

assistance. This assistance has maintained standards of living that are 

artificially higher than could be achieved in the absence of Compact 

funding.1

 The dependence of these two countries on total U.S. assistance, 

the indicator we have chosen to gauge economic self-sufficiency, is 

identified by calculating the percentage of total FSM and RMI government 

revenues accounted for by all U.S. funding—Compact direct funding and 

U.S. program assistance.

Total U.S. assistance (Compact and all other U.S. program assistance)2

 still 

accounts for at least half of total government revenue in both countries, 

although government dependence on U.S. funds has fallen from 1987 levels 

in both countries. Reliance on U.S. assistance as a percentage of total 

government revenue stood at 54 percent in the FSM and 68 percent in the 

RMI in 1998. U.S. program assistance has proven to be an important 

supplement to direct Compact funding in both nations.3

 The FSM and the 

RMI also receive loans from the Asian Development Bank as well as 

assistance from other donors.

Government Reliance 

on U.S. Assistance Has 

Fallen to 54 Percent in 

the Federated States of 

Micronesia

While the United States is the main contributor to the FSM government’s 

revenues, this dependence has fallen substantially since the Compact was 

enacted, from 83 percent in fiscal year 1987 to 54 percent in fiscal year 1998 

(see fig. 5). In 1987, total FSM government revenue (including all states) 

was $143.5 million and by 1998 had risen to $184.5 million. The reduction in 

dependence on U.S. assistance was due to scheduled decreases in direct 

Compact funds, increases in locally generated revenue, and a change in 

1

According to a Department of the Interior official, these higher standards of living were 

created by policies of the United States Trust Territory. The official went on to note that the 

idea of establishing stable, newly independent nations concurrently with a gross decline in 

“high standards of living” is politically inconceivable.

2

Total U.S. program assistance outside of the Compact for fiscal years 1987-98 for both 

countries was $368 million. This was about 19 percent of total U.S. funding provided to both 

nations, with the remaining 81 percent of U.S. funding provided as direct Compact 

payments.

3

These data understate the value of U.S. government contributions to the governments of 

the Compact nations. U.S. government services provided in-kind, such as weather service, 

disaster relief, development loans, and national defense, do not appear as revenue in the 

FSM and the RMI government financial accounts.
Chapter 3

The Two Compact Nations Have Made Some 

Improvements in Economic Self-sufficiency

Page 35 GAO/NSIAD-00-216 Compact of Free Association

how government revenues are reported. Although the FSM is increasingly 

less reliant on Compact funds, officials of the FSM Department of Foreign 

Affairs predicted that there would be chaos without Compact assistance. In 

1998, total U.S. assistance represented 47 percent of FSM gross domestic 

product, or about $895 per capita.4

Figure 5: FSM Dependence on U.S. Assistance, Fiscal Years 1987-98

Note: Total FSM government revenues are comprised of direct Compact funds, U.S. program 

assistance, and other revenue such as taxes, fees, and interest income.

Source: GAO analysis of FSM financial statements and audits of those standards prepared by Deloitte 

Touche Tohmatsu for fiscal years 1987-98.

4

U.S. assistance per capita was calculated using a FSM Statistical Yearbook population 

estimate for 1998 of 111,536. We used an International Monetary Fund estimate of FSM gross 

domestic product of $213 million for fiscal year 1998. The FSM reports that its gross 

domestic product in 1998 was $227 million.

0

10

20

30

40

50

60

70

80

90

100

198719881989199019911992199319941995199619971998

Share of Total Revenue

Fiscal Year

Compact Revenue as a Percentage of all Revenue

Compact Revenue Plus Other Federal Funding as a

Percentage of all Revenue
Chapter 3

The Two Compact Nations Have Made Some 

Improvements in Economic Self-sufficiency

Page 36 GAO/NSIAD-00-216 Compact of Free Association

U.S. Assistance 

Comprises 68 Percent 

of the Republic of the 

Marshall Islands’ 

Revenue

The RMI has also reduced its dependence on U.S. funding, though not as 

dramatically as the FSM, and its dependence remains higher than that of 

the FSM. In 1987, U.S. assistance represented 78 percent of total RMI 

government revenue of $75 million (see fig. 6). This figure fell to 68 percent 

by fiscal year 1998. In 1998, total government revenues were $81 million. 

However, the 1998 level of dependence represents an increase from 1995, 

when dependence on total U.S. funding reached a low of 51 percent. The 

increase since 1995 is due to decreased local fees, sales, and taxes, and to a 

change in how government revenues are reported.5

 The RMI Foreign 

Minister reported that continued U.S. funding remains necessary for the 

RMI to develop. In 1998, total U.S. assistance represented 58 percent of 

RMI gross domestic product, or about $1,085 per capita.

5

In both countries, changes in how Social Security revenues are incorporated into the 

government’s budget have affected reported government revenue. In the FSM, Social 

Security Administration revenues have been included in the FSM financial statements since 

1991. In that year, these revenues were almost $5 million. In the RMI, Social Security System 

revenues have been excluded from the RMI financial statements since 1996. RMI Social 

Security System revenues in 1995, the last year they were reported, were more than 

$13 million, or 13 percent of total revenue in that year.
Chapter 3

The Two Compact Nations Have Made Some 

Improvements in Economic Self-sufficiency

Page 37 GAO/NSIAD-00-216 Compact of Free Association

Figure 6: RMI Dependence on U.S. Assistance, Fiscal Years 1987-98

Note: Total RMI government revenues are comprised of direct Compact funds, U.S. program 

assistance, and other revenue such as taxes, fees, and interest income.

Source: GAO analysis of RMI financial statements and audits of those statements prepared by Deloitte 

Touche Tohmatsu for fiscal years 1987-98.

U.S. Program 

Assistance Contributes 

to Government 

Revenues in Both 

Compact Nations

While Compact direct funding continues to provide most U.S. assistance to 

both nations, U.S. program assistance remains an important source of 

government revenue. When program assistance is combined with Compact 

direct funds to identify total U.S. assistance, the FSM and the RMI are even 

more dependent on U.S. assistance. Total U.S. program assistance revenues 

for fiscal years 1987-98 for both countries were $368 million. The FSM and 

RMI composition of government revenues shown in figures 5 and 

6, respectively, demonstrates the importance of program assistance as a 

supplement to direct Compact payments in both countries, particularly in 

0

10

20

30

40

50

60

70

80

90

100

1987

1988

1989

1990

1991

199219931994

19951996

19971998

Share of Total Revenue

Fiscal Year

Compact Revenue as a Percentage of all Revenue

Compact Revenue Plus Other Federal Funding as a

Percentage of all Revenue
Chapter 3

The Two Compact Nations Have Made Some 

Improvements in Economic Self-sufficiency

Page 38 GAO/NSIAD-00-216 Compact of Free Association

the RMI. Since implementation of the Compact, the largest direct financial 

payment (sec. 211(a)) was reduced following the 5th and 10th year per the 

terms of the Compact. This reduction in funding did not, however, apply to 

U.S. program assistance.

The RMI has been able to offset, in some cases, the scheduled reduction in 

U.S. direct payments by increasing its use of U.S. program assistance 

immediately following the reductions. For example, aside from direct 

Compact funding, the RMI in fiscal year 1991 received $6.2 million in U.S. 

program assistance from various U.S. agencies. The “step-down” in 

Compact direct funding occurred at the end of fiscal year 1991. In 1992, the 

RMI’s U.S. program assistance revenues were $12.3 million. A similar 

experience followed the second step-down in Compact assistance at the 

end of fiscal year 1996. The RMI received U.S. program assistance of 

$15.9 million by 1998, compared to $7.5 million in 1996. Increasing reliance 

on program assistance is also evident for particular RMI agencies. For 

example, in the operating expenditures of the Ministry of Education in the 

RMI, U.S. program assistance increased from 10.1 percent of operating 

revenues in 1994 to 42.4 percent in 1998. In the FSM, a similar shift to 

program funds did not immediately occur following the scheduled stepdowns in Compact assistance. In fact, in 1992, following the 12 percent cut 

in Compact funds, FSM use of U.S. program assistance fell 40 percent.

Not all U.S. program assistance is given through grant assistance to the 

FSM and RMI governments. The U.S. Department of Agriculture has 

provided loans for both governments’ telecommunication and electric 

power companies. In the RMI, the loans totaled $22.8 million by fiscal year 

1998 for telecommunications, with an additional $12.5 million for electric 

power. In the FSM, the U.S. Department of Agriculture has provided 

$40 million in telecommunication loans. Additional U.S. assistance is 

provided directly to citizens in each nation. For example, students in the 

FSM and the RMI qualify for Pell Grants. These are federal, 

nonreimbursable grants awarded to undergraduate students who have not 

yet earned a degree. Total awards since the beginning of the Compact came 

to almost $32 million. According to the President of the College of 

Micronesia in the FSM, over 75 percent of the college’s students use Pell 

Grants to attend. The President also told us that without the availability of 

Pell Grants, the college would not be able to survive.

The U.S. Department of the Interior does not have complete data on the 

type or amount of U.S. program assistance that is provided to the FSM and 

the RMI each year by U.S. agencies, though the financial statements of the 
Chapter 3

The Two Compact Nations Have Made Some 

Improvements in Economic Self-sufficiency

Page 39 GAO/NSIAD-00-216 Compact of Free Association

FSM and the RMI contain aggregate data on program assistance. While the 

legislation enacting the Compact gave the Department of the Interior the 

responsibility for monitoring program assistance, the Secretary of the 

Interior determined in 1987 that the most effective method for U.S. federal 

agencies to provide continuing federal programs to the Freely Associated 

States was to create a direct grant relationship between the agencies and 

the island governments. As a result, program assistance is provided 

independently by each U.S. agency, and there is no central monitoring 

agency. The Department of the Interior has one individual working in the 

FSM who is the program coordinator for the FSM, the RMI, and Palau. 

When we met with him, he expressed frustration at the difficulties he has 

faced in trying to compile a comprehensive listing of all U.S. program 

assistance that is provided to the region. 

Other Donors Also 

Provide Assistance and 

Loans

In addition to U.S. aid, both the FSM and the RMI have received assistance 

from other donors. For example, Australia provides technical assistance to 

the FSM to aid in government budgeting and statistics and has provided 

experts in tax and customs issues to the RMI. According to data from the 

embassy of Japan in the FSM, the value of Japan’s contribution to the FSM 

from 1994 to 1998 was $109 million. Japan’s contributions have focused on 

infrastructure. Based on requests from the FSM government, Japan will 

undertake all aspects of a project, including performing a feasibility study, 

preparing a design, and then contracting with a Japanese company to 

implement the project. In the RMI, we were shown roads and school 

buildings similarly constructed by Japan. China provides technical 

assistance in the FSM and has supplied a loan for a business venture in the 

RMI. Recently, Taiwan has provided loans and built projects in the RMI. 

Both the FSM and the RMI have also received loans and technical 

assistance from the Asian Development Bank. At the end of fiscal year 

1998, the FSM had outstanding loans from the Asian Development Bank of 

$10 million, and the RMI had outstanding loans of $42 million. These loans 

are interest free but carry a 1-percent annual service charge. Loans are 

reported in the financial statements of both countries, but direct, noncash 

assistance from other countries, such as the construction of a building, 

does not appear.
Page 40 GAO/NSIAD-00-216 Compact of Free Association

Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development Chapte4r

Expenditures of $1.6 billion in Compact funds during 1987-98 in both 

countries have contributed little to improving economic development. 

Three areas in which Compact expenditures have not led to apparent 

improvements in economic development are government operations, 

physical and social infrastructure, and business ventures. Compact funds 

have supported high levels of public sector employment at high wages, 

creating a barrier to private sector growth. Investments in physical and 

social infrastructure have not generated significant private sector activity. 

Finally, investment of Compact funds in business ventures has been a 

failure, with many businesses closed, while others require subsidies. We 

examined a wide range of projects funded under the Compact and 

determined that these projects experienced problems for many reasons, 

including poor planning, management, construction, and misuse.

Compact Funding 

Supported General 

Government 

Operations that 

Discouraged Private 

Sector Growth

Substantial Compact funds ($616 million in both countries combined) were 

used to support general government operations that have, among other 

things, maintained high levels of public sector employment and wages and 

have acted as a disincentive to private sector growth. Public sector wages 

are higher than those in the private sector in both countries. According to a 

1996 Asian Development Bank report on the RMI economy, high RMI 

government salaries stifle private sector development by raising the 

threshold of wages in the private sector.1

 Further, in the FSM in 1996-97, 

public sector wages were 82 percent higher than private sector wages. 

Higher public sector wages attract workers from the private sector and 

drive up private sector wages.2

 These higher wages make the private sector 

less competitive in international markets.

However, an official from the Department of the Interior stated that 

without substantial financial support from the United States for the status 

quo operational expenditures of the FSM and RMI governments, the goals 

of the United States to create stable independent governments and secure 

its security interests would have failed. Further, a Department of State 

1

See Marshall Islands: 1996 Economic Report (Manila, Philippines: Asian Development 

Bank, June 1997).

2

According to an official at the U.S. embassy in the RMI, other factors are more important 

than public sector wages in restricting private sector growth. These include a remote 

location, a lack of land registration and liens, limited comparative advantages, and small 

economies of scale.
Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development

Page 41 GAO/NSIAD-00-216 Compact of Free Association

official noted the success of the Compact in supporting the development of 

public institutions needed to further economic development.

In response to scheduled reductions in Compact funding, the FSM and RMI 

governments have recently begun economic reform efforts to, among other 

things, decrease their large public sectors through actions such as 

government personnel reductions and wage freezes. These efforts have 

been supported by the Asian Development Bank with loans to give 

severance pay to workers leaving government employment in both 

countries. The prospects for further reductions in general government 

operations are uncertain. For example, the current position of the FSM is 

that reform in the economy is best achieved by private sector growth and 

not by further large-scale reductions in government. In fact, the FSM 

economic strategy does not call for further cuts in government spending 

but rather seeks to ensure that government expenditures do not “grow 

excessively.”3

 A recent 1999 internal evaluation of the Asian Development 

Bank reform programs concluded that in the FSM, the reform program 

“seems to have lost its way.” 4

 In the case of the RMI, the evaluation found 

that momentum for reform had been lost, partly due to the considerable 

confidence within the government that external aid could be increased. 

The sources for this aid would be Taiwan, which the RMI recognized in late 

1998, and successful renegotiations of Compact funding. According to the 

Bank’s evaluation, this position had been encouraged by the U.S. 

Department of Defense’s statement that the U.S. missile range in the 

Kwajalein Atoll is a “national asset.” However, an official at the U.S. 

embassy in the RMI pointed out that the new President of the RMI, who 

took office in January 2000, appears to be committed to keeping the RMI’s 

reform program on track. For example, in June, the RMI complied with the 

reform program’s government personnel reduction, according to the 

embassy official.

3

Federated States of Micronesia, The FSM Planning Framework, 1999-2001 (Pohnpei, FSM: 

March 17, 2000) (draft).

4

Bruce Knapman and Cedric Saldanha, Reforms in the Pacific: An Assessment of the Asian 

Development Bank’s Assistance for Reform Programs in the Pacific (Manila, Philippines: 

Asian Development Bank, 1999).
Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development

Page 42 GAO/NSIAD-00-216 Compact of Free Association

Targeted Compact 

Funds Spent on 

Physical and Social 

Infrastructure Have 

Not Contributed to 

Significant Economic 

Growth

The FSM and the RMI have spent at least $256 million in Compact funds for 

physical infrastructure improvements and operations. Both nations viewed 

this area as critical to improving quality of life and creating an environment 

attractive to private businesses. While these improvements have enhanced 

the quality of life, they have not contributed to significant economic growth 

in the two countries. Both countries have also spent more than $114 million 

from a health and education Compact funding provision and have realized 

some improvements in these areas, though both rank in the bottom half in 

terms of human development among Pacific island nations.5

Support for Energy and 

Communications

In the FSM and the RMI, Compact funds of at least $97.6 million and 

$24.6 million have been spent to operate and improve energy (including 

electrical power) and communications (including telecommunications) 

systems, respectively.6

 An additional $75 million in loans has been provided 

by the U.S. Department of Agriculture to the telecommunications providers 

in the FSM and the RMI (see fig. 7) and to an electric utility in the RMI. The 

companies view this assistance as critical to their improved performance.

5

The $114 million figure represents FSM and RMI expenditures of general health and 

education funding provided under section 221(b) of the Compact. Through additional 

Compact provisions, sections 216(a)(2) and 216(a)(3), the countries spent an additional 

$56.6 million for purposes such as medical referrals and scholarships.

6

The figures stated for Compact expenditures in energy and communications include funds 

used from the capital account and funds earmarked for use in these areas in the Compact. 

Additional expenditures were possibly made in these areas out of the FSM and RMI general 

funds, which include some Compact assistance. We cannot specifically identify the amount 

of Compact expenditures from this fund in any area because Compact funding is 

commingled with local revenues in the FSM and RMI general funds.
Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development

Page 43 GAO/NSIAD-00-216 Compact of Free Association

Figure 7: Compact Investment in Communications

Source: GAO.

Power systems have improved, with increased capacity and dependability 

and a higher number of residents served, and have bettered their financial 

performance. For example, according to a consultant for the FSM 

government, over 50 percent of FSM dwellings had power in 1999, 

compared to about 29 percent in 1980 (see fig. 8). The Marshalls Energy 

Company, which serves Majuro in the RMI, has been operating at a profit 

since 1994 (except for 1999) and no longer requires annual government 

assistance, according to the General Manager. In the FSM state of Kosrae, 

we visited the electric power company on a day when electric crews were 

disconnecting nonpaying customers. However, financial and service 

problems persist in the electrical power sector in some locations, 

particularly the FSM state of Chuuk and the RMI island of Ebeye in the 

Kwajalein Atoll. For example, in Chuuk the power company is trying to 

increase revenue through higher rates and better bill collection, including 

enforcing its disconnection policy for overdue accounts. Nevertheless, the 

Marshall Islands National Telecommunications Authority, Majuro, RMI
Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development

Page 44 GAO/NSIAD-00-216 Compact of Free Association

utility still depends on a $1 million subsidy from Compact energy funds and 

government funding of all capital expenditures.

Figure 8: Compact Investment in Energy

Source: GAO.

Diesel Power Generator on Tonoas, Chuuk, Chuuk Public Utility Corporation, FSM
Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development

Page 45 GAO/NSIAD-00-216 Compact of Free Association

Telecommunications services have also improved in both countries, with 

services provided to more residents and the introduction of enhanced 

capabilities such as cellular service and Internet access.

Improvements in telecommunications and energy have not been sufficient 

to promote significant private sector growth, though in one instance we did 

identify a tuna processing plant in the RMI that recently located to the 

country in part as a result of dependable electricity there (see fig. 9). 7

Figure 9: Electric Power and Tuna Processing Plant, Majuro, RMI

Source: GAO.

7

The tuna processing venture also was granted certain tax breaks for 10 years and the right 

to pay less than the RMI minimum wage. In addition, the RMI government deposited 

$2 million in a private bank as a guarantee for a bank loan for the company.

Diesel Power Generator, Marshalls Energy Company PM&O Processing, L.L.C., Majuro, RMI
Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development

Page 46 GAO/NSIAD-00-216 Compact of Free Association

Support for Water and Air 

Transport

Both countries have also spent Compact funds to provide subsidized 

transportation systems. These efforts have been targeted at improving 

transportation between the main population centers and the outer islands. 

In the FSM, ships used to haul cargo between islands have been maintained 

with Compact capital account funds of approximately $5.9 million (see

fig. 10).

Figure 10: Investment in Interisland Cargo Transportation, FSM

Source: GAO.

Micro Dawn Cargo Ship in Dry Dock, Kosrae, FSM
Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development

Page 47 GAO/NSIAD-00-216 Compact of Free Association

In the RMI, the national airline, Air Marshall Islands, has been in operation 

since 1980 in order to move people and cargo between atolls (see fig. 11). 

According to the independent auditor for the RMI, the airline has received 

close to $27 million in Compact funding for fiscal years 1989 through 1997. 

This funding has been used primarily for operating transfers as the airline 

operates at a loss. Further, we found that for fiscal year 1998, the airline 

received $500,000 in operating subsidies, as well as debt forgiveness of 

$1.8 million. The airline has received funding for other purposes as well. 

For example, in 1995, over $15 million in Compact funding was used to buy 

one aircraft. According to an airline official, this aircraft was sold in 1999 

for $5 million after a determination that the aircraft was too technologically 

advanced for the airline. According to Air Marshall Islands officials, the 

previous government had used political influence to override commercial 

decisions of the airline and to change management. 

Figure 11: Investment in Air Transportation, RMI

Source: House of Representatives Committee on International Relations, Subcommittee on Asia and 

the Pacific, Staff Photo.

Dornier 228, Air Marshall Islands
Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development

Page 48 GAO/NSIAD-00-216 Compact of Free Association

Investment in Social 

Institutions

The two governments have also invested in social institutions, including 

schools and hospitals. Both countries have spent over $114 million in a 

Compact health and education block grant since 1987. A portion of the 

FSM’s investment in education has been used to support its college system. 

The College of Micronesia has received $2.9 million in Compact funds over 

the last few years for designing and supplying facilities (see fig. 12). The 

College provides the FSM with a post-high school educational institution. It 

consists of facilities in each of the four states of the FSM, as well as a 

national campus located in the FSM capital of Palikir, Pohnpei.

Figure 12: FSM Investment in College Facilities

Source: GAO.

College of Micronesia, National Campus, Pohnpei, FSM
Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development

Page 49 GAO/NSIAD-00-216 Compact of Free Association

Social and Economic 

Conditions

Both nations show some improvements in social indicators over the life of 

the Compact, though both are low ranking in this area among their Pacific 

island neighbors. According to United Nations Development Program 

indicators, the FSM and the RMI ranked 9th and 10th, respectively, in terms 

of their human development level out of 14 Pacific island countries in 1998. 

Since the 1980s, both countries have shown increases in school enrollment, 

while in the RMI life expectancy at birth also increased from 60 to 65 years. 

RMI data on infant mortality show that mortality declined from 63 deaths 

per 1,000 live births in 1988 to 26 deaths per 1,000 live births in 1999. The 

FSM reports that as of 1997, infant mortality stood at 28 per 1,000 live 

births. Since the 1980s, life expectancy at birth in the FSM grew by 1 year, 

to 66 years.

Compact expenditures have not promoted sufficient economic growth to 

compensate for population growth and reductions in U.S. assistance; 

consequently, living standards, though artificially higher as a result of 

Compact funding, have stagnated. Both economies grew during the 

Compact period, but per capita income, adjusted for inflation, showed 

essentially no increase during the period in the FSM and fell in the RMI. In 

1987, FSM gross domestic product (GDP) was $130.3 million and by 

1997-98 had risen to $213 million. However, the population of the FSM grew 

as well, from about 93,000 in 1987 to an estimated population of 116,268 in 

1999. The FSM government estimates that per capita income in the FSM, 

when adjusted for inflation, grew about a total of 2.4 percent during the 

12-year period. In the RMI, the economy grew from a GDP of $70 million in 

1987-88 to a peak of $105 million in 1994-95. The RMI’s GDP then fell to 

$96 million by 1997-98. The RMI population also grew, from 43,380 in 1988 

to 50,840 in 1999.8

 Estimates from the RMI Office of Planning and Statistics 

show that inflation-adjusted per capita income fell 41 percent from 1990 

through 1998.9

8

The 1999 RMI statistic is from the 1999 Census of Population and Housing for the Republic 

of the Marshall Islands. This census reflects a considerable revision from the population 

estimates that were most recently available. For example, the Central Intelligence Agency’s 

World Factbook 1999 reported a 1999 RMI population of 65,507. According to the RMI 

Director of Planning and Statistics, the lower population found in the census reflects 

migration to the United States since 1996, when job opportunities in the RMI’s private and 

public sector declined.

9

This estimate is reported in Knapman and Saldanha, Reforms in the Pacific. If the revised 

population data for 1999 are used and the inflation adjusted per capita income is 

recomputed, we estimate that the decrease in per capita income has been 27-29 percent 

since 1990.
Chapter 4

Compact Funds Have Led to Little 

Improvement in Economic Development

Page 50 GAO/NSIAD-00-216 Compact of Free Association

As noted in chapter 1, the economic growth potential of these countries 

and their ability to generate revenue to replace U.S. assistance have been 

limited by factors such as geographic isolation and limited natural 

resources. Before implementation of the Compact, we reported that the 

FSM and the RMI faced serious obstacles to becoming economically

self-sufficient, such as inadequate planning for and maintenance of 

infrastructure and low savings levels. Both governments lacked sufficient 

managerial and technical expertise and management systems to overcome 

such obstacles.

Current living standards depend on U.S. assistance. The FSM and the RMI 

are among the largest recipients of U.S. assistance worldwide on a per 

capita basis and are highly dependent on U.S. assistance. In 1998, total U.S. 

assistance equated to about $895 per capita in the FSM, while per capita 

income was $1,910. The RMI is more dependent, with 1998 U.S. assistance 

of about $1,085 per capita compared to $1,890 in per capita income. The 

high level of U.S. funding has maintained artificially higher standards of 

living in both countries that could not be sustained in the absence of U.S. 

assistance. An Asian Development Bank report describes the two countries 

as “looking over the edge of a cliff” as they face the scheduled end of U.S. 

Compact assistance.10

Business Ventures That 

Received Compact 

Funding Have 

Generally Failed

We identified $188 million in Compact funds spent in the FSM and the RMI 

for business ventures. Compact funds have been invested in fisheries, 

agriculture, aquaculture, livestock, business advisory services, handicrafts, 

tourism, and manufacturing. Other Compact funds went to development 

banks in both nations for business loans. During our visit, FSM and RMI 

officials reported that few Compact-funded business ventures were 

operating at a profit, if at all. Government officials from both countries told 

us that investing in business ventures has been a bad strategy, and using 

Compact funds for this purpose had been a failure. Two FSM state 

governors noted that private sector initiatives, in every sector, had in every 

instance lost money. An official of the Marshall Islands Development Bank 

reported that all but one of the Bank’s business investments had failed.

10A Different Kind of Voyage: Development and Dependence in the Pacific Islands (Manila, 

Philippines: Asian Development Bank, Feb. 1998).
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A Few Compact-Funded 

Business Ventures Have 

Been Successful

The few successful business ventures that FSM and RMI officials identified 

were the result of Compact funds loaned to businesses by government 

development banks. FSM Development Bank officials identified several 

successful loans, such as loans to the Yap Community Action Program, a 

Kosrae resort, and a car rental agency. However, in general, the Bank’s 

lending record using Compact funds was weak. FSM Development Bank 

officials said they made bad debt provisions of $12 million in likely loan 

losses involving Compact funds in 1998, about two-thirds of the value of the 

Compact-backed loan portfolio.

In the RMI, a Marshall Islands Development Bank official identified only 

one successful business loan; loans using Compact funds generally failed, 

and all business lending has currently been suspended. According to the 

official, business lending had been directed by the RMI President or by the 

Cabinet and was not based on business considerations. A recent audit by 

the Department of the Interior Inspector General of bank lending listed 

questionable loans, including loans to Air Marshall Islands, for an office 

building, for an entertainment complex, and for several fishing ventures. 

Because of political direction and influence, loans of about $6 million went 

to businesses with family connections to the former RMI President, 

according to the Bank’s Chairman of the Board and the Managing 

Director.11 An RMI official also noted that the only successful business loan 

was to the Trust Company of the Marshall Islands. This company provides 

“off-shore” services for businesses and individuals, including a ship 

registry, “off-shore” incorporation, and financial trusts.12 According to an 

attorney for the RMI embassy in Washington, D.C., such an enterprise is 

one of the few competitive advantages that an island government has—to 

leverage off its sovereignty. In fiscal year 1998, the ship registry returned 

about $766,000 to the government.13

11This finding was reported in a U.S. Department of the Interior, Office of Inspector General, 

Audit Report: Marshall Islands Development Bank, Republic of the Marshall Islands (Report 

No. 99-I-952; Sept. 1999) and was confirmed during our interview with a bank official.

12On June 26, 2000, the RMI, along with 34 other offshore financial centers, was listed by the 

Organization for Economic Cooperation and Development (an organization with 29 member 

countries that conducts analyses of economic and social policy issues), as a “harmful” tax 

haven. RMI officials told us that they have initiated steps to meet the organization’s 

objections.

13The RMI has undertaken other efforts to leverage its sovereignty to raise revenue. For 

example, the RMI has had coin and stamp sales programs. Further, over a recent 5-year 

period, the government reported passport sales revenue of about $10 million.
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Numerous Government 

Business Ventures Have 

Failed

Examples of failed business ventures are numerous and involve various 

business sectors. For example, we identified failed fisheries and pepper 

ventures in the FSM, and a closed garment factory, a large resort hotel 

operating at a loss, and a dry dock facility in the RMI.

FSM: Fisheries Ventures, 

$60 Million in Compact Funding

We identified $60 million in Compact funds that the FSM spent on fisheries 

activities (see fig. 13).14 The FSM has undertaken unprofitable fisheries 

investments in each of the four states. A 1999 analysis of FSM fisheries 

ventures, prepared by a consultant for the FSM government, reported that 

the current valuation of the national and state fishing enterprises, on the 

basis of expected future cash flows, was zero.15 We visited one storage and 

processing facility in each of the four FSM states; none of the facilities was 

operating at the time of our visit. Officials from the states of Yap and Chuuk 

said that ventures in fisheries were failures due to inexperience and poor 

business judgment.

14While we were able to identify $60 million in FSM expenditures in fisheries from the FSM 

national and state financial statements, officials in that country told us on more than one 

occasion that losses were more than $100 million.

15Analysis of the National Fisheries Corporation and its Subsidiaries (W.H.G. Burslem, May 

1999) (draft). The study explains that the National Fisheries Corporation, an entity created 

to promote the development of the fisheries industry in the FSM, is a public corporation 

with five current subsidiaries incorporated under normal FSM company law: Yap Fresh 

Tuna, Chuuk Fresh Tuna, Kosrae Sea Ventures, the Micronesia Longline Fishing Company in 

Pohnpei, and the Yap Fishing Corporation (which is in receivership). The National Fisheries 

Corporation no longer has an interest in Pohnpei state’s Caroline Fisheries Corporation. All 

ventures are involved in longline tuna fishing for the fresh tuna markets.
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Figure 13: FSM Fish Processing and Cold Storage Facilities

Source: GAO.

Pohnpei Fisheries Corporation, FSM

Pacific Tuna Industries, Inc., Kosrae, FSM

Yap Fresh Tuna Incorporated, FSM
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FSM: Pohnpei Pepper Industry 

Development, $870,000 in 

Compact funding

In Pohnpei, the state government spent $870,000 to develop a pepper 

exporting industry (see fig. 14). As part of this effort, the government 

started a pepper processing plant to provide farmers with an alternative 

buyer to the one successful private sector pepper company already in 

operation that purchased pepper from farmers. The intent of the project 

was to provide an opportunity to pepper farmers to sell their pepper to the 

government enterprise at higher prices than those paid by the private 

company. The government enterprise would then process, market, and 

export the pepper. As a result of the government effort, the private sector 

company went bankrupt. Subsequently, the government enterprise closed. 

Pepper exports fell from $95,000 in 1995 to zero in 1997.

Figure 14: Pohnpei Pepper Industry Development, FSM

Source: GAO.

RMI: Garment Factory, 

$2.4 Million in Compact Funding

We identified almost $2.4 million in Compact capital funds that were spent 

to establish a garment enterprise that included a factory and a dormitory 

for workers (see fig. 15). This business was a 1993 Marshallese-Chinese 

joint venture to manufacture and export clothing using Chinese workers. 

The government of the People’s Republic of China loaned the RMI an 

additional $2 million for the joint venture. However, management 

disagreements ensued and the Chinese workers were returned to China. 

According to RMI government officials, the facility never operated and is 

now closed.

Processing Equipment Pohnpei Pepper and Labeling
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Figure 15: RMI Investment in Garment Factory

Source: GAO.

Workers’ Dormitory

Laura, Majuro Atoll, RMI

Sewing Room
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RMI: Resort Hotel, $11 Million in 

Compact Funding

The RMI also used more than $11 million in Compact capital account funds 

to build a major resort hotel, according to the independent auditor for the 

RMI. This hotel was built so that the RMI could host a meeting of the South 

Pacific Forum in 1996. The hotel now operates at a loss and receives 

government subsidies. For example, in fiscal year 1998 subsidies amounted 

to more than $1 million.

RMI: Dry Dock, $4.5 Million in 

Compact Funding

The RMI spent $4.5 million in Compact funding to establish a dry dock 

facility. According to the RMI Minister for Resources and Development, the 

dock is in bad condition due to a lack of maintenance, and the 

government’s current concern is that the investment will sink in the water.

Compact-Funded 

Projects Experienced 

Problems With 

Planning, Management, 

Construction, 

Maintenance, and 

Misuse

After a review of financial records, and project files, or both for over 

150 projects undertaken with Compact capital account funds, visits to 

80 project sites, and numerous interviews in the FSM and the RMI, we 

determined that many Compact-funded projects (infrastructure and 

business ventures) experienced problems as a result of poor planning, 

management, construction, maintenance, and misuse, or all of these 

problems. These problems have reduced the effectiveness of Compact 

expenditures. According to Department of the Interior officials, the 

ineffective use of Compact funds can be partially explained by the fact that 

neither the FSM nor the RMI governments had staff that possessed the 

skills necessary to plan and manage expenditures under the Compact.

The standard documents in the FSM used to track capital projects—the 

project control document—often contained minimal or very broad 

descriptions of project objectives, costs, and expected benefits and are no 

longer than two pages for projects that cost hundreds of thousands of 

dollars.16 In the RMI, we could find no evidence of any standardized form 

used to plan or track capital projects. In some cases, we found very limited 

files for sizable RMI ventures such as the airline or the resort hotel. Further, 

in both countries, we found that many project files that we reviewed lacked

16Concerns over project control documents were raised by the FSM Office of the Public 

Auditor in its Report on the Audit of Compact CIP [Capital Improvement Project] Funds, 

Fiscal Years 1992-1996. This report noted that project control documents were “ ... too brief 

to be relied upon to make informed decisions. In essence, the documents state that the 

project objective is to receive funds, while the expected benefit is to spend funds.”
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complete documentation such as economic feasibility studies, competitive 

bids, contracts, and inspection reports.17

Poor Planning and 

Management

Poor planning and management were evident for many failed projects we 

visited. Examples of poor planning and management that we identified 

included a causeway in the RMI and a coconut products company, fishing 

venture, and road in the FSM.

RMI: Ebeye Causeway, 

$9.2 Million in Compact Funding

The RMI government spent an estimated $9.2 million in Compact capital 

funds to build a road, or “causeway,” from Ebeye, an extremely crowded 

island in the Kwajalein Atoll, to a planned development on the nearby 

island of Gugeegue (see fig. 16). This causeway was meant to relieve 

population problems on Ebeye by allowing residents to move to additional 

islands connected by the road. However, the causeway remains unfinished 

due to an inability to budget additional funding for the project. Little 

development has occurred on Gugeegue, and few residents have moved 

from Ebeye to Gugeegue. Ebeye officials told us that the causeway is 

covered with water in places during high tide and is considered an 

inadequate and unreliable connection between Ebeye and the other 

islands. Construction has been suspended.

17We requested and examined files for the period from 1987 to the present. In some cases, 

files were incomplete or had not been retained. In the RMI, the General Manager for the 

Marshall Islands Development Authority said that some files had been lost between office 

moves. At the Kwajalein Atoll Development Authority, we were told that its policy was to 

retain files for a 3-year period. 
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Figure 16: Causeway From Ebeye to Gugeegue, Kwajalein Atoll, RMI

Source: GAO.

FSM: Ponape Coconut Products, 

Inc., $133,000 in Compact 

Funding

In the FSM state of Pohnpei, a company involved with the production and 

distribution of soap and other products made from island-grown coconuts 

made significant investments in production expansion based on a contract 

with one individual. Relying on a 1996 contract with a foreign national, the 

soap company requested and received $133,000 in Compact funding to 

purchase new equipment to meet contract production requirements. 

According to the company’s senior accountant, the foreign national 

disappeared shortly after the equipment was installed, and the company is 

losing money. According to the company’s 1999 financial statement, losses 

were $45,000. The senior accountant said that the factory stays in business 

through government loans and grants. When we visited, the new machinery 

was sitting idle and rusting, while limited production was underway using 

old equipment (see fig. 17).
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Figure 17: Ponape Coconut Products, Inc., FSM

Source: GAO.

FSM: Pohnpei Fishing Venture, 

$21 Million in Compact Funding 

Also in Pohnpei, the state government, in conjunction with the national 

government, spent about $21 million on fishing boats and processing 

facilities that were not compatible. Because of poor management and 

planning, the boats never returned a profit, and the processing plant is 

currently idle. According to the Pohnpei State Lieutenant Governor, the 

government knew nothing about the fishing industry when it made the 

investment and was duped into paying too much for three 25-year old boats 

that were too small for the Pacific environment.18 In addition, the 

processing plant, which cost almost $16 million, was intended to process 

high-grade tuna and not the lower-grade tuna caught by the three boats.

Idle New Equipment Production With Older Technology

18In the RMI, a similar investment mistake took place. According to officials of the Kwajalein 

Atoll Development Authority, they had undertaken an Asian Development Bank fisheries 

project and bought boats that were too small.
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FSM: Kosrae Road Construction 

and Paving, $9.3 Million in 

Compact Funding

Another example of poor planning that we observed was in the FSM state 

of Kosrae. The state used $9.3 million in Compact capital account funding 

within the last 12 years to construct and pave a road around the island. 

When we visited, the road was in obvious disrepair, and we were told that 

the road surface had been largely removed (see fig. 18). In reviewing the 

project file for road construction, we found that an inferior, though 

cheaper, paving technology had knowingly been employed. Kosrae officials 

had been informed, prior to construction, that a $800,000 grant from the 

U.S. Department of Commerce’s Economic Development Authority would 

not be provided if Kosrae chose this inferior method of building a road. 

Kosrae chose the cheaper method, never received the Economic 

Development Authority grant, and is now preparing to pave its roads again.
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Figure 18: Kosrae Road Pavement, FSM

Source: GAO.

Eroded Asphalt Shoulder

Potholes in Road Base
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Construction and 

Maintenance Problems

Inadequate construction was evident during our site visits and could be 

considered a result of poor planning. At times during our visit, it was 

difficult to distinguish poor construction from inadequate maintenance. 

The tropical climate consists of high temperatures, rain, and exposure to 

salt-laden air, which requires different material standards than does 

construction in more temperate climates. Water leaks were evident in many 

buildings, and corrosion was obvious both in Compact-funded buildings as 

well as on government vehicles.

RMI: National Capitol, 

$8.3 Million in Compact Funding

The capitol building in the RMI, built during the 1990s using $8.3 million in 

Compact funding, has visible signs of deterioration (see fig. 19). Stairs are 

rusting, elevators are inoperable, and roof leaks are evident throughout the 

building. In reviewing the construction file for the capitol project, we found 

a letter from the contractor building the capitol to the government’s 

engineering representative questioning the suitability of the supplied 

roofing material for the project. According to the contractor, a warranty on 

the roofing material would not be supplied in part because the supplied 

material’s original purpose was to be used as a “pond liner,” not as roofing 

material. We were unable to ascertain whether the pond liner material was 

subsequently used on the project, but we did observe leaks throughout the 

building. RMI embassy officials in Washington, D.C., told us that funds have 

been recently appropriated to make repairs.19

19We also observed problems with roof leaks in the FSM. We observed similar roof leaks in a 

Kosrae courthouse, completed in 1998, using $560,000 in Compact funding. In both 

courtrooms, leaks were apparent along the wall that contained a roofing connection.
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Figure 19: RMI National Capitol Building, Majuro

Source: GAO.

Roof Leaks Rusting Stairs
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FSM: Health and Education, 

$80 Million in Compact Funding

We found inadequate or nonexistent maintenance in numerous schools and 

hospitals we visited, despite the government’s spending $80 million in 

Compact funding designated for health and education in the FSM. For 

example, we visited schools in Pohnpei and Chuuk where sections of 

ceilings were missing, bathrooms were in disrepair, and electricity had 

been disconnected. In general, many schools appeared poorly maintained 

(see fig. 20). According to a 1999 Asian Development Bank assessment of 

the FSM education system, salaries consumed 97 percent of the 1999 

elementary education budget in Pohnpei and 100 percent in Chuuk, leaving 

almost no funds for educational materials or facility maintenance.

Figure 20: Ohmine Elementary School, Pohnpei, FSM

Source: GAO.
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At the Pohnpei hospital, the Director told us the hospital lacked adequate 

funding, drugs, and supplies (see fig. 21). He said the entire health care 

system would collapse without Compact funds, in part because collection 

fees covered less than 20 percent of health care costs. As a cost-cutting 

measure, the hospital no longer provides sheets to patients. The Director 

said patients who cannot afford sheets simply lie on hospital mattresses, 

where their infections can contaminate the mattresses and infect future 

patients. The U.S. embassy in the FSM reported in January 2000 that, 

because the hospital lacked funding for cleaning products, infectious 

viruses had been found in 37 locations, including 10 sites in the operating 

and emergency rooms.
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Figure 21: Pohnpei State Hospital, FSM

Source: GAO.

Hospital Ward

Mattress
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RMI: Health and Education, 

$34 million in Compact Funding

During our visit to the Ebeye hospital in the RMI, water leaks were evident 

in the surgery ward, and supporting roof beams were crumbling from rust 

(see fig. 22). The Ebeye City Manager told us that the Compact provided for 

capital investment but did not supply any funds for maintenance. For 

example, the municipal government takes funds away from other key areas 

such as schools in order to maintain capital projects but still cannot 

adequately maintain these projects. He advocated that capital 

improvements only be undertaken after the costs and funds for 

maintenance have been determined—it would be better to have fewer, 

well-maintained, investments than the current larger, but unsustainable, 

number of projects.

Problems in construction were not unique to Compact-funded projects. 

The new Ebeye hospital, which is more than a year away from opening, will 

need to have foundation support beams replaced before construction can 

continue. The support beams were not adequately protected from the 

corrosive environment and are already rusting away. According to an 

official from the Kwajalein Atoll Development Authority, this project 

received a non-Compact U.S. grant totaling $4.5 million.
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Figure 22: Old and New Ebeye Hospitals Suffer From Corrosion, RMI

Source: GAO.

Roof Beams in Existing Ebeye Hospital Foundation Piers in New Ebeye Hospital
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Misuse of Compact Funds Finally, we identified Compact expenditures that appeared to be a misuse 

of funds. The prospect that these projects will promote widespread 

economic advancement is questionable. For example, in the FSM state of 

Chuuk, the Udot road and dock project was intended to upgrade basic 

social and economic infrastructure in Udot. According to government 

officials, it will not meet this goal. The project cost $188,000 in Compact 

funding. When we visited the site, we noted that the dock was built directly 

in front of the Mayor’s house (see fig. 23). Chuuk state officials said that the 

crane used to build the dock would be left to rust after the dock was 

completed. The road led from the Mayor’s house through the jungle to a 

small village, with few other houses along the road. In contrast, at the end 

of the Mayor’s road was a junior high school that received $2,800 in 

Compact funding to repair the one-room schoolhouse. There were no desks 

or chairs for students. Further, we were told that students did not have 

their own textbooks and were read to by the teacher, who used the one set 

of available textbooks.
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Figure 23: Udot Dock Project and Junior High School, Chuuk, FSM

Source: GAO.
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Also in the FSM state of Chuuk, the Fanapanges ice plant was to be built to 

increase income, employment, and nutrition by providing ice to fishermen 

on the island of Fanapanges and other nearby islands so they could store 

their catch for later sale in Weno, the capital of Chuuk, about an hour’s boat 

ride away. We identified almost $100,000 in Compact funding that was used 

for this project. When we visited the site, we discovered that the plant had 

never been built. Chuuk State officials told us that, after site preparation 

had begun, the Mayor of Fanapanges had decided to move the ice machine 

to his home in Weno on a different island, about 11 miles away by boat. 

When we visited the Mayor’s house in the state capital, we found the ice 

machine sitting by the side of the house, not in use (see fig. 24).
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Figure 24: Fanapanges Ice Plant: Planned and Actual Locations, Chuuk, FSM

Source: GAO.

Planned Location for Ice Plant: Fanapanges Island

Actual Location of Ice Machine: Mayor’s Home in Weno
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As another example of what appeared to be a misuse of funds, the FSM 

used funds in what the U.S. embassy in the FSM described as “cars and 

boats for votes.” The FSM Public Auditor reported that $1.5 million was 

spent on cars and boats that were simply given away to individuals for their 

personal use.20 Although the procurement documents for purchasing boats 

stated that they were to be used for economic purposes, we learned in 

interviews with two different recipients that they received the boats from 

the Mayor without any restrictions placed on their use (see fig. 25). 

Furthermore, the embassy reported that another 187 cars had arrived in 

May 1999 and were used for “re-election assistance.”

Figure 25: “Boats for Votes,” Chuuk, FSM

Source: GAO.

20We were unable to determine the portion of this $1.5 million that was comprised of 

Compact funding.

Weno Harbor, Chuuk, FSM
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We also found examples of possible misuse of Compact funds in our 

examination of records relating to two RMI government entities that 

executed capital and business development projects. These were the 

Marshall Islands Development Authority and the Kwajalein Atoll 

Development Authority.

The Kwajalein Atoll Development Authority received certain Compact 

capital fund transfers for use in the Kwajalein Atoll. We found instances in 

which the independent auditor reported that the Authority had spent more 

than the amount authorized in the Compact for administrative expenses. 

The Compact states that 1.5 percent of capital account funds can be spent 

for administrative purposes. While the independent auditor determined 

that, based upon capital account funds available, the Authority was only 

authorized to spend about $60,000 for administrative expenses in 1992, it 

instead used $1.1 million for the Board of Directors and other costs of 

operation (28 percent of its capital funds for the year). In another instance 

in fiscal year 1992, the independent auditor identified more than $9,000 that 

the Authority had spent to host a party in Hawaii, as a questioned cost in its 

annual audit.

In addition, the Authority lent five personnel to the RMI President to assist 

in completing his residence in Majuro in 1997. The Authority also spent 

funds on overseas travel. For example, in 1991, about $108,000 was spent to 

send a delegation to the United Nations to witness the RMI’s official entry 

into that body. In another instance, the Authority sent five members as part 

of the RMI delegation to the United Nations’ “Rio Earth Summit” in 1992.

The Marshall Islands Development Authority served as the agent for 

implementing capital investment decisions made by the government’s 

Cabinet. Officials from this agency reported that they did not have a 

feasibility study for any project but implemented decisions of the Cabinet. 

We found several cases in which the RMI Cabinet would reprogram 

development funds for nondevelopment purposes such as to pay for 

medical referrals, to finance foreign travel of an Ambassador, and to pay 

salaries for the council of Traditional Leaders.

In commenting on the RMI record of Compact expenditures, the Minister of 

Finance characterized the RMI’s past expenditures for various projects as 

lacking due diligence on the part of the government. He recommended that 

any future Compact contain better accountability. The RMI Foreign 
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Minister reported that financial management of RMI funds responded to 

politicians’ goals and had not been for the benefit of the RMI.
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Chapter 5

The Two Compact Nations and the United 

States Have Provided Limited Accountability 

Over Compact Expenditures Chapte5r

The FSM, the RMI, and the United States have provided limited 

accountability over the use of Compact funds. Although the Compact 

established accountability requirements for all three countries, they have 

not fully complied with the requirements. The FSM and the RMI have 

usually submitted the required development plans and reports, but these 

documents fell short of meeting their intended purposes. In addition, the 

FSM and the RMI have not demonstrated adequate control over the use of 

Compact funds. Finally, limited Interior staff devoted to oversight, 

interagency disagreements in the United States on the level of and 

responsibility for oversight, and a Compact provision guaranteeing 

payment of Compact funds, have limited the U.S. government’s ability to 

oversee the use of Compact funds and ensure that they are used effectively.

Compact Required 

Accountability for Use 

of Funds From the 

Federated States of 

Micronesia, the 

Republic of the 

Marshall Islands, and 

the United States

The Compact required the FSM, the RMI, and United States to account for 

the use of Compact funds by filing development plans, annual reports, and 

financial audits and by conducting bilateral consultations. The FSM and the 

RMI were responsible for preparing overall economic development plans at 

least every 5 years. Among other things, the plans were required to serve as 

a program for annual development by identifying specific economic goals 

and also by determining specific projects and linking them to development 

goals. The FSM and the RMI were also responsible for preparing annual 

reports on the implementation of the development plans and the use of 

Compact funds and for having annual financial and compliance audits 

conducted. The Compact required the United States to review the 

development plans for compliance and consistency with the Compact and 

to assist in identifying appropriate development goals. The United States 

was also required to meet annually with the FSM and the RMI to review the 

annual reports and discuss the use of Compact funds. The Department of 

the Interior is designated to provide and monitor Compact funds. In 

addition, a 1986 executive order established an interagency group, chaired 

by the Department of State, to provide policy guidance on the Compact.
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Planning and Reporting 

Documents of the 

Federated States of 

Micronesia and the 

Republic of the 

Marshall Islands Were 

Generally Incomplete 

and Insufficient

While the FSM and the RMI generally met the Compact requirements to 

submit national economic development plans and annual reports to the 

United States, our analysis of these documents, confirmed by officials from 

the Departments of State and the Interior, concluded that both types of 

documents have been insufficient to meet the Compact requirements.

The FSM and the RMI submitted economic development plans for the first 

and second 5-year periods, covering the period from 1987 to 1997. Our 

analysis of the economic development plans, confirmed by a Department of 

the Interior official and an FSM government document, found that the 

plans gave inadequate attention to broad development goals and plan 

implementation, as required by the Compact. The Interior official said the 

plans focused on spending funds in specific sectors without tying projects 

to development needs. The Department of State Special Negotiator for the 

Compact of Free Association told us that the FSM’s most recent planning 

document, the FSM Planning Framework for 1999-2001, has been accepted 

as that country’s third economic development plan.

For fiscal years 1987 through 1999, the FSM submitted annual reports each 

year except for 1999, while the RMI has submitted 7 of the 13 annual 

reports. Department of the Interior officials told us that the annual reports, 

which are required by the Compact as a means of assessing economic 

progress, were also inadequate at describing how Compact funds were 

used to achieve development goals. Additionally, the reports were 

submitted too late to be relevant for timely U.S. oversight, according to U.S. 

officials.1

 Although State and Interior were generally critical of the quality 

of the reports, a State Department official noted that the quality of FSM 

annual reports has improved over time, while the quality of RMI reports has 

deteriorated.

In addition to requiring the submission of reports on the overall use of 

Compact funds, a Compact-related agreement requires that each nation 

submit annual plans regarding the use of targeted annual assistance of 

$10 million for health and education. Based on our review of documents 

held by the Department of the Interior, it appears that few of these required 

annual plans have been submitted. For the FSM, four plans were on file, 

and two were available for the RMI. (See app. II for a listing of 

1

The annual reports are to be submitted by the first day of the third quarter of each fiscal 

year or as soon as practicable thereafter.
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accountability requirements that the FSM, the RMI, and the United States 

did and did not meet.)

In addition, the FSM and the RMI have failed to adequately control and 

account for Compact expenditures. According to their annual financial 

audits, the FSM and the RMI did not maintain or provide sufficient financial 

records to effectively audit Compact funds. Of the 60 financial reports of 

the FSM national government and its four states from which we obtained 

financial statement data, Deloitte Touche Tohmatsu (the independent 

auditor for the FSM and the RMI) was unable to issue an audit opinion on 

the financial statements in 7 reports, and issued a qualified opinion on the 

financial statements in the other 53 reports.2

 Of the seven audits with no 

opinion, the auditor cited accounting deficiencies and a lack of financial 

data from the government entity or one of its component units. The auditor 

cited similar reasons for the qualified opinions in its remaining audits. For 

example, in fiscal year 1998, the Yap Fishing Corporation, in which the 

government has a majority interest, did not provide financial statements. 

Similarly, none of the 12 independent audits we read for the RMI were 

issued without qualification. A frequent reason for the qualification was the 

lack of financial statements provided by government entities. For example, 

in fiscal year 1998, eight entities were not able to produce financial 

statements, including the Marshall Islands Social Security Administration, 

the Marshall Islands Development Bank, the Marshall Islands Drydock, and 

the College of the Marshall Islands.

Further, the independent audits showed that the two countries, as well as 

the United States, have taken little action to address management 

weaknesses and resolve questioned uses of Compact funds. The annual 

audit reports list questionable uses and accounting of U.S. assistance, 

including direct Compact payments and U.S. program assistance. The 

United States expects the FSM and the RMI to develop and implement 

corrective action plans to resolve these questioned costs. 3

 However, under 

current guidelines, if the FSM and the RMI do not take corrective action, 

2

Typically, a qualified opinion results when an auditor identifies one or more significant 

matters that prevent the auditor from issuing an unqualified (“clean”) opinion on an entity’s 

financial statements.

3

Audits of States, Local Governments, and Non-Profit Organizations (Washington, D.C.: 

Office of Management and Budget, Circular No. A-133, Revised June 24, 1997). This Circular 

was issued pursuant to the Single Audit Act and sets forth standards for obtaining 

consistency and uniformity among federal agencies for the audit of states, local 

governments, and non-profit organizations expending federal awards.
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and if the U.S. agencies providing the assistance do not notify the FSM and 

the RMI within 2 years that the issues are unresolved, then the FSM and the 

RMI can remove all questioned costs that fall outside this 2-year window 

from the summary audit schedule of questioned costs. As a result, by fiscal 

year 1998, the two countries wrote off about $57 million in questioned uses 

of Compact and other program assistance that had been unresolved since 

the 1980s ($46.3 million for the RMI and $10.8 million for the FSM). The 

FSM created a special committee in 1998 to address questioned costs 

directly and work with the government agencies to implement corrective 

action on open recommendations.

Finally, program audits by the FSM Public Auditor found inappropriate use 

of Compact funds and extensive management weaknesses in accounting 

for Compact funds. For example, an audit of Compact-funded projects for 

fiscal years 1997 and 1998 found that 37 of 42 projects examined were not 

properly managed and had deficiencies such as improperly documented 

payments. An audit of Compact-funded projects for fiscal years 1992-96 

found problems related to misuse of funds. For example, the audit found 

that nearly $600,000 of heavy equipment purchased for a $1.3-million road 

improvement project in Tolensome, Chuuk, was being used at a former 

mayor’s personal dock for activities not related to road improvement. 

According to the auditor, funding for the road project continued even after 

inspections identified this instance of inappropriate use of funds. We could 

not identify any similar program audits involving the use of Compact funds 

conducted by the RMI Auditor General.

The U.S. Government 

Did Not Meet Many 

Accountability 

Requirements

The U.S. government has not met many of the Compact’s accountability 

requirements to review and consult on Compact expenditures. We found 

that the U.S. government concurred with and praised the initial 

development plans of both countries, although Interior officials informed 

us that U.S. concerns over the plans remained. Despite this concurrence, 

the Department of the Interior was unable to provide us with the reviews of 

the first plan of both countries, and we found no evidence that required 

reviews of, and concurrence with, the second plans took place. Although 

the Compact requires the U.S. government to review each FSM and RMI 

overall economic development plan to, among other things, assess whether 

they include appropriate development goals, we did not find any 

assessments. We found no evidence that Interior consulted with the Agency 

for International Development or other agencies regarding the plans, as 

required in the Compact.
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With respect to the annual reports prepared by the FSM and the RMI, we 

were unable to identify documentation demonstrating that the Department 

of the Interior reviewed these reports. A Department of the Interior official 

stated that the reports are not assessed to determine if they provide 

adequate information on development plan implementation and the role of 

Compact expenditures in achieving development goals.

In addition, the United States did not initiate the required annual 

consultations with the two countries until 1994—7 years after the Compact 

went into effect. The United States has held four additional consultations 

with the FSM and three consultations with the RMI since 1994. As a result 

of missed meetings, the FSM and the RMI were not required to demonstrate 

their progress in economic development and justify their Compact 

expenditures on a regular basis. Further, according to a Department of the 

Interior official, the talks that were held have been cordial diplomatic 

meetings but have not included serious discussions of economic growth or 

compliance with Compact spending requirements. A Department of State 

official disagreed with this statement.

The Compact requires that audits of FSM and RMI Compact expenditures 

be conducted. A Compact-related agreement requires that annual audits be 

conducted within the meaning of the Single Audit Act of 1984. These audits, 

discussed in the previous section, were contracted to an independent 

auditor and have been conducted for both the FSM and the RMI for every 

year since the Compact was enacted. The Department of the Interior pays 

for the annual audits. According to an Interior official, the audits cost over 

$1 million for both countries in fiscal year 1999. Our review of independent 

audit information has demonstrated that U.S. government reliance on the 

financial statements of the FSM and the RMI as a complete accounting of 

Compact expenditures is questionable. The independent auditor has 

routinely stated that it has been unable to audit the financial statements of 

various recipient government subcomponents—entities that may have 

received Compact funding. Further, a large portion of U.S. direct Compact 

payments were placed in a general government fund and commingled with 

other revenues and therefore cannot be further tracked. In addition, due to 

transfers between different types of funds, some Compact assistance is 

only traced at a high level with few details readily available regarding final 

usage. In addition, the Department of the Interior’s Inspector General has 

done few audits of its own in either country. Since 1987, the Interior 

Inspector General has issued four reports for the FSM and four for the RMI. 

Most of these audits occurred in the first few years of the Compact. When 
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asked to summarize how Compact funds were spent, one Department of 

the Interior official replied that “they were spent.”

As noted in the previous section, U.S. agencies took little action to address 

questioned costs identified in the annual independent audits of the FSM 

and the RMI. However, we did identify documentation demonstrating that, 

in the last few years, the U.S. Ambassador to the RMI raised the issue of 

questioned costs and fiscal mismanagement with the Department of the 

Interior and requested increased attention to audit compliance by the 

Department of the Interior’s Inspector General. The Ambassador informed 

us that Interior has not taken any action.

Finally, Interior resources devoted to Compact oversight are minimal. 

Currently, Interior has one person in Washington, D.C., who works with the 

two Compact nations, as well as one person in the FSM,4

 and no one is 

posted in the RMI.5

 In 1987, the Department of the Interior reported that it 

would need 15 staff positions to implement the Compact, including 7 field 

positions, but few of these positions were filled. Interior has speculated 

that a larger U.S. presence in the FSM and the RMI might have produced 

better results through moral suasion and encouragement.

U.S. Oversight Limited 

by Interagency 

Disagreements and 

Interior’s Belief That 

Compact Provisions 

Restricted U.S. Actions

4

The Interior staff in the FSM monitors federal program assistance, not direct Compact 

funding.

5

There are three to four additional Interior staff in Washington, D.C., who work with the 

Compact nations as needed.
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Interagency Disagreements An executive order issued in 1986 shared Compact responsibilities between 

the Departments of State and the Interior. The Department of State was to 

conduct government-to-government relations, while the Department of the 

Interior was responsible for providing the assistance, coordinating and 

monitoring all federal programs in both nations, and monitoring economic 

planning.6

 However, disagreements between the Departments of State and 

the Interior regarding the level of and responsibility for Compact oversight 

have led to limited monitoring. These disagreements, discussed in the 

following paragraphs, have not engendered U.S. government action, 

specifically by these two Departments, to assess expenditures and review 

them with both countries. As a result, the United States did not use its 

influence to promote greater progress toward self-sufficiency and more 

effective financial management on the part of the FSM and the RMI.

Accountability. The Department of State counseled Interior to be lenient in 

reviewing the use of Compact funds in the early years of the Compact 

because State placed a high priority on maintaining friendly relations with 

the FSM and the RMI. State viewed positive relations as key because, for 

example, both countries had a tendency to vote with the United States in 

the United Nations General Assembly. According to a Department of State 

official, the Department did not place greater priority on oversight of 

Compact funds until the early to mid-1990s, after the Cold War had ended. 

As a result, Interior did not aggressively monitor Compact expenditures, 

according to Interior officials.

Staffing. The Departments disagree regarding authority over Interior staff 

selected to work in the RMI, as well as where Interior staff would be 

located within the country. Specifically, while the Department of State 

reports that U.S. government staff working in the RMI are under the direct 

authority of the Ambassador, who is a State Department official, the 

Department of the Interior disagrees. Further, a Department of State 

official reported that the two departments have disagreed regarding 

whether Interior staff posted in the RMI should be located in the capital, 

6

Executive Order 12569 issued in 1986 establishes the responsibilities of the heads of both 

Departments with respect to the Compact and notes that the Secretary of State shall 

conduct the government-to-government relations of the United States, the FSM, and the 

RMI, and shall chair the InterAgency Group, while the Secretary of the Interior shall be 

responsible for making economic and financial assistance available to the two countries, 

coordinating and monitoring any program or any activity by any department or agency of 

the United States provided to the FSM and RMI, and monitoring economic development 

planning.
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Majuro, or in the Kwajalein Atoll. These disagreements partially explain 

why there are currently no Interior staff working in the RMI. Finally, the 

Departments differ on whether Interior is the appropriate agency to be 

responsible for administering a foreign assistance program.

Roles and Responsibilities. Disagreements over agency responsibilities 

help to explain the lack of consultations with the FSM and the RMI from 

1987 to 1993. Department of the Interior officials told us that the 

Department of State is supposed to initiate discussions regarding Compact 

issues with the FSM and the RMI as part of its responsibility for 

“government-to-government relations” with the two countries and as chair 

of the interagency group that establishes policy regarding the two 

countries. However, Department of State officials maintain that the 

Department of the Interior, as the agency responsible for providing 

Compact funding, should have requested meetings with the FSM or the RMI 

regarding Compact expenditure issues. Consultations began in 1994 and 

are now supported by both Departments.

Inability to Withhold 

Funding

In addition, Department of the Interior officials believe that certain 

Compact provisions limit the Department’s ability to require accountability. 

They told us that while the Compact and a related agreement refer to direct 

payments for economic assistance as “grant assistance,” these payments 

are not the same as discretionary grant assistance as commonly 

understood in domestic U.S. programs. For discretionary grant assistance, 

requirements such as performance measures can be applied to control the 

use of funds. According to Department of the Interior officials, Interior 

voiced concerns to Compact negotiators, prior to implementation of the 

Compact, regarding the lack of enforceable standards in a Compact-related 

agreement.

Further, Interior officials told us that one Compact provision states that 

payments are expressly backed by the “full faith and credit” of the U.S. 

government and are intended to be an enforceable obligation. If the United 

States withholds funds or otherwise fails to make a payment, the FSM and 

the RMI can seek redress in court. As a result, Department of the Interior 

officials told us that they are unable to withhold funding from the FSM and 

the RMI and essentially have no mechanism to ensure that funds are not 

misused. We and the Department of State officials agree that withholding 

funds is impracticable. Interior felt it became simply a “pass-through” for 

the money. Interior officials told us that the guarantee of funding provided 

by the “full faith and credit” provision explains why the agency has not 
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pursued questioned costs identified in the independent audits involving 

direct Compact payments.

While the “full faith and credit” provision may make withholding most 

funds impracticable, the legislation enacting the Compact did identify 

certain funds that could be withheld for noncompliance with Compact 

requirements. We identified one instance in which Interior withheld funds 

from the FSM. In late 1994, Interior withheld a portion of these funds 

(targeted for health and education) from the FSM state of Chuuk due to 

unpaid bills outstanding at a hospital in Guam. Interior reported that this 

action was effective, and Chuuk took quick action to resolve the problem. 

The funding was then provided to Chuuk.
Page 85 GAO/NSIAD-00-216 Compact of Free Association

Chapter 6

Conclusions and Recommendations Chapte6r

Conclusions Our work reviewing the Compact with the FSM and the RMI has led us to 

conclusions in three specific areas. First, Compact assistance spent on 

economic development has been largely ineffective in promoting 

significant economic growth, with many unsuccessful development efforts. 

Second, the structure of the Compact provided insufficient guidance 

regarding the expenditure and accounting of Compact funds. Third, the 

accountability requirements contained in the Compact were not met by the 

FSM, the RMI, or by the United States. Lastly, our work raises several broad 

issues that need to be resolved as Compact assistance nears its scheduled 

end and as the United States negotiates with both nations regarding 

possible future assistance.

Compact funds spent on economic development have been largely 

ineffective in promoting economic growth. Neither the FSM nor the RMI 

can boast a strong track record in economic development, despite some 

improvements in social and living conditions. Although the countries have 

had sporadic success in using Compact funds, many development efforts 

have been unsuccessful because the funds were spent without planning or 

were misused, such as the bad investments in business ventures or the 

maintenance of a large public sector. Many projects have failed, and the 

money has been wasted, because the countries did not conduct 

cost-benefit or feasibility analyses or plan for local environmental 

conditions or maintenance needs and were not held accountable for the 

effective use of funds. The persistent problems we found in project 

planning, implementation, and monitoring demonstrate a lack of adequate 

local skills and experience in managing projects and large budgets. Both 

countries remain highly dependent on U.S. assistance and, thus, economic 

self-sufficiency at current living standards remains a distant goal for the 

FSM and the RMI.

The Compact of Free Association with the FSM and the RMI provides 

insufficient guidance regarding how Compact funds are to be spent and 

accounted for by the FSM, the RMI, and the United States. By issuing 

Compact revenue-backed bonds, both countries took a risk in 

concentrating spending in the early years of the Compact when they had 

little experience in planning and managing economic development 

investments. Further, the listing of eligible capital account expenditures in 

an agreement related to the Compact includes a broad range of 

expenditures that are not traditionally viewed as capital investment. As a 

result, the determination that both countries spent 40 percent of certain 

Compact funds on capital investment as required by the Compact provides 
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Page 86 GAO/NSIAD-00-216 Compact of Free Association

little assurance that infrastructure has actually received this level of 

investment. Also, expenditures were not subject to performance measures 

or evaluations. Finally, our review of financial statements and audits 

revealed that it is often not possible to track specific uses of Compact 

funds. Transfers between funds and commingling of Compact and local 

revenues seriously limit the ability to track Compact funds to their final 

usage.

The Compact contains some accountability requirements, but they were 

never followed with any degree of rigor. Further, the financial data on 

Compact expenditures provided in the audits are not linked to the 

performance and effectiveness of Compact-funded projects. The limited 

U.S. oversight of Compact expenditures, particularly in the early years of 

the Compact, reduced a potentially effective means for the United States to 

influence Compact spending. For example, by not holding the required 

annual consultations with the FSM and the RMI during the first half of the 

Compact, the United States forfeited the chance to review how the 

countries used Compact assistance and to provide input into future 

spending decisions. Further, disagreements between the U.S. Departments 

of State and the Interior on the level of and responsibility for Compact 

oversight have contributed to minimal monitoring efforts. Moreover, the 

“full faith and credit” provision of the Compact, which guarantees most 

funding to the FSM and the RMI, has had the effect of restricting the ability 

of the United States to take actions necessary to ensure Compact funds are 

spent efficiently and effectively. Partly as a result of this provision, the 

Department of the Interior provided limited oversight.

Our work raises several issues that need to be resolved as Compact 

assistance nears its scheduled end and as U.S., RMI, and FSM negotiators 

discuss the possibility of future assistance. First, unless U.S. policy 

objectives are reassessed and consensus is reached on the appropriate 

objective for U.S. assistance, the United States may continue to provide aid 

without adequate assurance that it will be targeted to high-priority areas 

with a potential for achieving lasting impact. Second, in conjunction with 

determining appropriate policy objectives, consideration should be given 

to the level and the duration of future assistance and mechanisms to ensure 

performance. Policy goals should be consistent with judgments about how 

much funding the United States should spend on aid to Micronesian 

countries versus other competing programs. Third, U.S. policymakers need 

to determine the appropriate composition of U.S. assistance, including 

support for general government operations, targeted assistance for priority 

areas and projects, and whether U.S. domestic programs should continue 
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Page 87 GAO/NSIAD-00-216 Compact of Free Association

for the FSM and the RMI and be administered separately from the 

Compact. Finally, negotiations on future assistance provide an opportunity 

to assess and clarify or redefine the respective roles of U.S. agencies 

responsible for providing and monitoring U.S. assistance to avoid a 

continuation of oversight problems stemming from disagreements.

Recommendations As negotiations to determine the extent and nature of future assistance to 

the FSM and the RMI continue, we recommend that the Secretary of State, 

in consultation with Congress, develop guidelines regarding U.S. policy 

objectives for assistance; the level, duration, and composition of U.S. 

assistance; and the agency responsible for U.S. oversight.

Further, we recommend that the Secretary of State direct the Special 

Negotiator for the Compact of Free Association to negotiate Compact 

provisions that provide greater control and effectiveness of expenditures 

and that include

• requiring that funds be provided primarily through specific grants that 

facilitate the ability of the United States to (a) direct the money to 

mutually agreed-upon priority areas and projects; (b) control and 

monitor expenditures through grant requirements such as performance 

indicators, technical and financial planning, incremental funding, and 

evaluation; and (c) provide technical assistance for planning and 

implementing the use of funds;

• more specifically defining the eligible uses of capital account funds;

• requiring that funds, either Compact or from local revenues, be set aside 

for maintenance of capital projects; and

• requiring that consultations that lead to a consensus take place between 

the U.S. and the FSM or RMI governments before either the FSM or the 

RMI issue any Compact revenue-backed bonds.

To achieve greater oversight over expenditures, we recommend that the 

Secretary of State direct the Special Negotiator for the Compact of Free 

Association to negotiate Compact provisions

• requiring, in addition to annual financial statement data, expanded 

annual reporting requirements for the FSM and the RMI, including a 

requirement to provide data and information on specific expenditures in 

mutually determined priority areas on an annual and historic basis 

presented in a format that is easily understandable to U.S. policymakers 
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Page 88 GAO/NSIAD-00-216 Compact of Free Association

and officials responsible for providing and monitoring Compact 

assistance and

• ensuring an expanded agenda for the annual consultations that will 

include discussions of (a) progress toward mutually agreed-upon 

objectives, (b) questioned costs and management weaknesses identified 

in financial and program audits, and (c) the role of U.S. program 

assistance in furthering development.

Finally, to secure an improved U.S. ability to enforce compliance with 

Compact spending and oversight requirements, we recommend that the 

Secretary of State direct the Special Negotiator for the Compact of Free 

Association to exclude a “full faith and credit” provision from any future 

economic assistance agreement and to include provisions that will provide 

that funds can be withheld from the FSM or the RMI for noncompliance 

with spending and oversight requirements.

In order to strengthen accountability and ensure the effective use of the 

remaining FSM and RMI Compact funds, we recommend that the Secretary 

of the Interior direct the Director of the Office of Insular Affairs to make 

increased use of existing Compact oversight provisions. The Secretary of 

the Interior needs to reassess the level of resources being directed to this 

area and ensure that appropriate agency resources be used to monitor 

Compact assistance. In particular, the Department of the Interior should 

review annual independent audits as well as the annual reports prepared by 

the FSM and the RMI in order to identify, for example, questioned costs, 

management weaknesses, or spending that does not support development 

goals. The Director should ensure that required annual meetings are held 

with both countries and include the participation of other U.S. agencies, as 

appropriate, in order to resolve the issues identified previously.

Further, in the event Interior retains the responsibility for providing and 

monitoring any additional Compact assistance as a result of the current 

negotiations, in order to strengthen accountability over expenditures, we 

recommend that the Secretary of the Interior direct the Director of the 

Office of Insular Affairs to implement a system to centrally monitor 

program assistance. Further, the Secretary of the Interior should report 

annually to Congress on Compact and program expenditures and how they 

are specifically advancing economic progress in the FSM and the RMI, as 

well as on compliance with oversight responsibilities for all three 

countries. The Secretary of the Interior should also ensure that appropriate 

resources, including the number and skills of staff, are dedicated to 

monitoring U.S. assistance to both nations.
Chapter 6

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Page 89 GAO/NSIAD-00-216 Compact of Free Association

Agency Comments and 

Our Evaluation

We received comments on this report from the Departments of State and 

the Interior as well as from the governments of the Federated States of 

Micronesia and the Republic of the Marshall Islands. The Department of 

State agreed with three of our recommendations. It agreed that the 

Department should consult with Congress to determine U.S. policy 

objectives for future Compact assistance; the level, duration, and 

composition of U.S. assistance; and the agency responsible for U.S. 

oversight. The Department also agreed with our two recommendations that 

it negotiate Compact provisions that establish greater control and 

effectiveness of, and oversight over, future U.S. assistance. While the 

Department of State agreed with us that any future Compact provisions 

should allow for the withholding of funds, the Department reserved 

judgment on our recommendation that any future funding exclude a “full 

faith and credit” provision until the Department better understands the 

ramifications of this action on budget procedures. The Department of the 

Interior did not respond to our recommendations.

Neither the Department of State nor the Department of the Interior 

disagreed with our conclusion that Compact expenditures have led to little 

economic development. Both departments noted that the circumstances of 

both countries merit further discussion in our report. Both departments 

stressed that it is important to acknowledge the challenges faced by Pacific 

island nations, such as geographic isolation and a lack of natural resources, 

in achieving economic advancement. We further emphasized this point in 

the report. State and Interior also stated that our report downplays 

successes under the Compact. We added information summarizing Interior 

and State views that Compact expenditures to support general government 

operations were necessary to build stable governments, and funding to 

develop public institutions has been important. State and Interior also 

emphasized the importance of investing in infrastructure, including 

utilities, as being necessary for further economic development.

The governments of the Federated States of Micronesia and the Republic of 

Marshall Islands also expressed some of the views of the Departments of 

State and the Interior previously noted regarding development challenges, 

the limited recognition of successes under the Compact in our report, and 

the importance of infrastructure investment. They further cited their 

experience under the Trust Territory Administration, specifically the failure 

of the United States to promote economic development during this period, 

as a contributing factor to their difficulties in realizing economic growth 

under the Compact. In addition, they cited concern over our view that 
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Page 90 GAO/NSIAD-00-216 Compact of Free Association

Compact expenditures have led to little economic development in either 

country and provided examples of economic advancement under the 

Compact. For example, the Republic of the Marshall Islands government 

noted the growth of private business under the Compact, while the 

Federated States of Micronesia government reported that the country had 

experienced respectable economic growth during the Compact years. We 

have responded to such comments by noting that increasing private sector 

activity is dependent upon government support and does not reflect 

sustainable growth, and economic performance has been limited. We 

maintain that our assessment of economic development is accurate. 

Finally, both countries raised several issues that were outside the scope of 

our review. The comments of the Department of the Interior, the 

Department of State, the government of the Republic of the Marshall 

Islands, and the government of the Federated States of Micronesia appear 

in full, along with our specific responses, in appendixes III-VI.
Page 91 GAO/NSIAD-00-216 Compact of Free Association
Page 92 GAO/NSIAD-00-216 Compact of Free Association

Appendix I

Compact of Free Association Capital Apendxies

Expenditures, Fiscal Years 1987-98 ApendxiI

Dollars in thousands

Federated States of Micronesia 

Capital expenditures

National

government Chuuk Kosrae Pohnpei Yap FSM total

Economic development $37,843 $38,399 $17,205 $51,434 $10,758 $155,639

Infrastructure development 6,426 40,875 21,651 36,106 27,967 133,027

Social services development 2,985 14,863 3,723 6,519 2,154 30,244

Other 3,218 14,312 2,110 2,031 3,003 24,674

Totala $50,472 $108,451 $44,690 $96,090 $43,882 $343,583

Economic development

Marine resources $7,061 $17,820 $9,953 $18,317 $6,623 $59,774

Agriculture & forestry 974 7,389 814 1,672 2,499 13,348

Commerce & industry 84 8,159 1,980 269 1,038 11,530

Tourism 55 379 173 512 212 1,331

Development loans 22,506 2,303 350 1,749 200 27,108

Other/unspecified 7,163 2,350 3,935 28,913 186 42,548

Subtotala $37,843 $38,399 $17,205 $51,434 $10,758 $155,639

Infrastructure development

Energy/power 0 $6,201 $4,780 $12,090 $7,689 $30,761

Water/sewer $402 11,443 2,569 2,259 844 17,517

Air/sea transportation 2,923 9,448 998 6,194 6,466 26,030

Roads/bridges 127 7,199 9,258 13,167 11,819 41,571

Communications 16 399 99 0 495 1,008

Government infrastructure 2,518 6,185 494 871 133 10,202

Other 439 0 3,452 1,525 521 5,937

Subtotala $6,426 $40,875 $21,651 $36,106 $27,967 $133,027

Social services development

Health $178 $1,099 $491 $469 $229 $2,467

Education 1,933 4,843 1,536 2,033 1,212 11,556

Manpower training 872 46 994 1,094 235 3,241

Social/community services 2 3,159 51 62 278 3,552

Housing 0 5,716 651 2,860 200 9,427

Other 0 0 0 0 0 0

Subtotala $2,985 $14,863 $3,723 $6,519 $2,154 $30,244

Other

Land lease & acquisition 0 $3,095 $1,097 $50 $1,491 $5,732

Resource management $227 429 176 500 373 1,706
Appendix I

Compact of Free Association Capital 

Expenditures, Fiscal Years 1987-98

Page 93 GAO/NSIAD-00-216 Compact of Free Association

Other/unspecified 2,991 10,789 837 1,480 1,139 17,236

Subtotala $3,218 $14,312 $2,110 $2,031 $3,003 $24,674

(Continued From Previous Page)

Dollars in thousands

Federated States of Micronesia 

Capital expenditures

National

government Chuuk Kosrae Pohnpei Yap FSM total

Dollars in thousands

Republic of the Marshall Islands 

Capital expenditures Total

Economic development $32,518

Infrastructure development 35,274

Social services development 7,950

Other 64,653

Totala $140,395

Economic development

Marine resources $9,137

Agriculture & forestry 862

Commerce & industry 6,864

Tourism 3,257

Development loans 0

Other/unspecified 12,398

Subtotala $32,518

Infrastructure development

Energy/power $1,429

Water/sewer 490

Air/sea transportation 19,667

Roads/bridges 809

Communications 384

Government infrastructure 11,133

Other 1,362

Subtotala $35,274

Social services development

Health $4,161

Education 3,789

Manpower training 0

Social/community services 0
Appendix I

Compact of Free Association Capital 

Expenditures, Fiscal Years 1987-98

Page 94 GAO/NSIAD-00-216 Compact of Free Association

Note: These figures include only expenditures listed for projects or recipients in country financial 

statements. Transfers and capital expenditures made from bond proceeds are not included.

a

Numbers may not sum due to rounding.

Source: GAO analysis of FSM data, compiled by the Joint Committee on Compact Economic 

Negotiations, and of RMI financial statements.

Housing 0

Other 0

Subtotala $7,950

Other

Land lease & acquisition $100

Resource management 0

Other/unspecified 64,553

Subtotala $64,653

(Continued From Previous Page)

Dollars in thousands

Republic of the Marshall Islands 

Capital expenditures Total
Page 95 GAO/NSIAD-00-216 Compact of Free Association

Appendix II

Record of Accountability for the Federated 

States of Micronesia, the Republic of the 

Marshall Islands, and the United States ApendxiI

Table 3: Five-Year Economic Development Plans

a While the U.S. government officially concurred with the initial development plans submitted by both 

countries, the Department of the Interior was unable to provide us with analyses or reviews of the 

plans.

b The Federated States of Micronesia (FSM) submitted a 3-year (1999-2001) planning framework 

document to the U.S. government. The Department of State Special Negotiator for the Compact of 

Free Association informed us on August 22, 2000, that he has accepted this document as the country's 

third economic development plan.

Source: GAO analysis of FSM, Republic of the Marshall Islands (RMI), and U.S. government 

documents.

Table 4: Annual Reports and Meetings

Source: GAO analysis of FSM and RMI government documents and U.S. government documents, and 

discussions with U.S. government officials.

Time period

Submitted by 

the FSM

Submitted by 

the RMI The United States concurred

1987-91 Yes Yes Yesa

1992-96 Yes Yes No

1997-01 Yesb No Yes (for the FSM)b

Submitted by the FSM Submitted by the RMI

Annual meeting held between the 

United States and:

Fiscal year Annual report

Health/education 

report Annual report

Health/education 

report The FSM The RMI

1987 Yes No No No No No

1988 Yes No No No No No

1989 Yes No Yes No No No

1990 Yes No No No No No

1991 Yes No Yes No No No

1992 Yes No Yes No No No

1993 Yes No No No No No

1994 Yes No Yes No Yes Yes

1995 Yes No Yes No Yes Yes

1996 Yes Yes No Yes No No

1997 Yes Yes Yes (draft) Yes Yes Yes

1998 Yes Yes No No Yes Yes

1999 No Yes Yes (draft) No Yes No
Page 96 GAO/NSIAD-00-216 Compact of Free Association

Appendix III

Comments From the Department of the 

Interior ApendxiI

Note: GAO’s comments 

supplementing those in 

the report text appear at 

the end of this appendix.
Appendix III

Comments From the Department of the 

Interior

Page 97 GAO/NSIAD-00-216 Compact of Free Association

See comment 1.

See comment 2.

See comment 3.
Appendix III

Comments From the Department of the 

Interior

Page 98 GAO/NSIAD-00-216 Compact of Free Association

See comment 4.
Appendix III

Comments From the Department of the 

Interior

Page 99 GAO/NSIAD-00-216 Compact of Free Association

See comment 5.

See comment 6.
Appendix III

Comments From the Department of the 

Interior

Page 100 GAO/NSIAD-00-216 Compact of Free Association
Appendix III

Comments From the Department of the 

Interior

Page 101 GAO/NSIAD-00-216 Compact of Free Association
Appendix III

Comments From the Department of the 

Interior

Page 102 GAO/NSIAD-00-216 Compact of Free Association

The following are GAO’s comments on the Department of the Interior’s 

letter dated September 5, 2000.

GAO’s Comments 1. We have added a paragraph to the report on pp. 40-41 quoting the 

Departments of the Interior and State regarding the importance of 

Compact funding in building independent nations through supporting 

government operations and developing public institutions.

2. Our report does not establish expectations regarding the level of 

economic development and self-sufficiency that should have been 

reached by the FSM and the RMI during the term of Compact 

assistance. In chapter 4 of our report, on p. 50, we have added 

information reiterating some of the challenges, such as geographic 

isolation and limited natural resources, faced by these two Pacific 

island nations in realizing economic growth. We report on the economic 

performance of the two countries over the term of Compact assistance. 

Both countries remain highly dependent on U.S. assistance to maintain 

current standards of living that are higher than could be sustained 

without U.S. funding. In our report conclusions, we note that U.S. 

policy objectives regarding the two countries should be reassessed.

3. We have added a footnote at the beginning of chapter 3 of our report 

(p. 34) reflecting the views of the Department of the Interior regarding 

standards of living in the two countries.

4. A reduction in reliance on U.S. funding does not necessarily signal an 

increasingly productive economy. For example, in the FSM, the 

reduction in reliance on U.S. funding reflects changes in accounting of 

revenues and increased local revenues in the form of fishing license 

fees and import taxes. Regarding investments in infrastructure, our 

report notes the importance of such investment in improving the 

quality of life and creating an environment attractive to private 

business.

5. We have added text on p. 83 of the report noting that Interior expressed 

concerns to negotiators over the inability to withhold Compact funds 

prior to implementation of the Compact.

6. We have no audit responsibilities set forth in the Compact or its 

implementing legislation. However, We are granted authority to 

conduct audits regarding Compact assistance in the FSM and the RMI. 
Appendix III

Comments From the Department of the 

Interior

Page 103 GAO/NSIAD-00-216 Compact of Free Association

As noted in our report, required annual audits have been conducted 

each year in the FSM and the RMI by a private accounting firm. The 

Department of the Interior pays for these audits.
Page 104 GAO/NSIAD-00-216 Compact of Free Association

Appendix IV

Comments From the Department of State ApendxiIV

Note: GAO comments 

supplementing those in 

the report text appear at 

the end of this appendix.

See comment 1.
Appendix IV

Comments From the Department of State

Page 105 GAO/NSIAD-00-216 Compact of Free Association

See comment 2.

See comment 3.
Appendix IV

Comments From the Department of State

Page 106 GAO/NSIAD-00-216 Compact of Free Association
Appendix IV

Comments From the Department of State

Page 107 GAO/NSIAD-00-216 Compact of Free Association

The following are GAO’s comments on the Department of State’s letter 

dated August 18, 2000.

GAO’s Comments 1. In chapter 4 of our report, on p. 50, we have added information 

reiterating some of the challenges, such as geographic isolation and 

limited natural resources, faced by these two Pacific island nations in 

realizing economic growth.

2. We do not state or imply in our report that the living standards in the 

FSM and the RMI are “high.” Rather, we note that living standards in 

both countries are artificially higher than could be achieved in the 

absence of Compact funding.

3. We have added a paragraph in chapter 4 on pp. 40-41 quoting the 

Departments of State and the Interior regarding the importance of 

Compact funding in building independent nations through supporting 

government operations and developing public institutions. Our report 

notes improvements in energy, communications, transportation, and 

education and acknowledges that investments in infrastructure have 

led to improved quality of life and are necessary to create an 

environment attractive to private business.
Page 108 GAO/NSIAD-00-216 Compact of Free Association

Appendix V

Comments From the Republic of the Marshall 

Islands ApendxiV

Note: GAO comments 

supplementing those in 

the report text appear at 

the end of this appendix.

The page numbers in 

this letter refer to a draft 

of this report. We have 

indicated page number 

changes.
Appendix V

Comments From the Republic of the Marshall 

Islands

Page 109 GAO/NSIAD-00-216 Compact of Free Association
Appendix V

Comments From the Republic of the Marshall 

Islands

Page 110 GAO/NSIAD-00-216 Compact of Free Association

See comment 1.

Now on p. 14.
Appendix V

Comments From the Republic of the Marshall 

Islands

Page 111 GAO/NSIAD-00-216 Compact of Free Association

See comment 2.

Now on p. 40.

See comment 3.
Appendix V

Comments From the Republic of the Marshall 

Islands

Page 112 GAO/NSIAD-00-216 Compact of Free Association

Now on p. 41.

See comment 4.
Appendix V

Comments From the Republic of the Marshall 

Islands

Page 113 GAO/NSIAD-00-216 Compact of Free Association

Now on p. 42.

See comment 5.

Now on pp. 52-56.
Appendix V

Comments From the Republic of the Marshall 

Islands

Page 114 GAO/NSIAD-00-216 Compact of Free Association

Now on p. 56.

Now on p. 56.

See comment 6.

Now on p. 57.

See comment 7.
Appendix V

Comments From the Republic of the Marshall 

Islands

Page 115 GAO/NSIAD-00-216 Compact of Free Association

See comment 8.
Appendix V

Comments From the Republic of the Marshall 

Islands

Page 116 GAO/NSIAD-00-216 Compact of Free Association

The following are GAO’s comments on the letter from the government of 

the Republic of the Marshall Islands dated August 30, 2000.

GAO’s Comments 1. Compact assistance to the RMI and the FSM is not provided through 

the budgets of the Department of State or the Agency for International 

Development. Compact assistance is provided through the Department 

of the Interior—the agency that has been responsible for providing 

funding to the region since before the RMI and the FSM became 

sovereign nations. Our past analysis of the U.S. government budget has 

found numerous examples of foreign affairs spending not contained in 

the budgets of the Department of State or the Agency for International 

Development. Our May 2000 report included funding associated with 

U.S. nuclear testing in the region. We agree that such funding does not 

constitute foreign assistance. This report, however, emphasizes direct 

Compact payments intended to further economic advancement. Such 

assistance to sovereign nations would commonly be viewed as foreign 

assistance. We note in our report in footnote 8 of chapter 1, the RMI’s 

objection to the use of this term, but we maintain that it is an accurate 

characterization of U.S. Compact assistance to the RMI and the FSM.

2. Our review concerns the Compact as agreed to between the three 

sovereign nations and does not consider any hypothetical alternative 

arrangements. At the request of Congress, we have recently initiated a 

review of U.S. programs extended to the FSM and the RMI. Programs 

that are extended include weather service, childhood programs, grants 

for college students, and health grants.

3. The dependence of the private sector on Compact expenditures 

demonstrates the lack of a viable economy. Irrespective of the growth 

in the number of businesses operating, the Asian Development Bank 

has reported that the overwhelming reliance on U.S. assistance has 

damaged the RMI’s ability to develop income-generating activities.1

 The 

existing economy could not be sustained in the absence of further 

Compact assistance.

4. We have added text on p. 41 of our report noting recognition by the U.S. 

embassy in the RMI that reforms, including government personnel 

1

Marshall Islands: 1996 Economic Report (Manila, Philippines: Asian Development Bank, 

June 1997).
Appendix V

Comments From the Republic of the Marshall 

Islands

Page 117 GAO/NSIAD-00-216 Compact of Free Association

reduction, appear to be back on track under the new administration 

that took office in January 2000.

5. We have modified our language in this section of the report to state that 

targeted Compact funds spent on physical and social infrastructure 

have not contributed to significant economic growth. We state that RMI 

investment in infrastructure has not led to “significant” economic 

growth, rather than our prior statement that investment in 

infrastructure did not directly contribute to economic growth.

6. We have deleted our statement that the dry dock is inoperable based on 

the comments of the RMI government as well as a statement from a 

private businessman in the RMI. We are uncertain as to the dry dock’s 

actual status, as a senior RMI government official continues to maintain 

that the dry dock is inoperable.

7. We did not conduct a comprehensive assessment of government 

subsidies to public enterprises. In 1998, financial statements were not 

available for various public enterprises such as the Marshall Islands 

Drydock Inc., and the Marshall Islands Port Authority. Such 

information is necessary in order to calculate total RMI subsidization to 

public enterprises. We do note, however, that because of scheduled 

step-downs in Compact funding and required payments of bond debt, 

the RMI government lacks sufficient Compact funds to subsidize public 

enterprises at past levels.

8. The RMI government was given 45 days to review and comment on our 

draft report, per the terms of a Compact-related agreement.
Page 118 GAO/NSIAD-00-216 Compact of Free Association

Appendix VI

Comments From the Federated States of 

Micronesia ApendxiVI

Note: GAO comments 

supplementing those in 

the report text appear at 

the end of this appendix.

The page numbers in 

this letter refer to a draft 

of this report. We have 

indicated page number 

changes.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 119 GAO/NSIAD-00-216 Compact of Free Association

See comment 1.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 120 GAO/NSIAD-00-216 Compact of Free Association

See comment 2.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 121 GAO/NSIAD-00-216 Compact of Free Association

Now on pp. 14-17.

See comment 3.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 122 GAO/NSIAD-00-216 Compact of Free Association

See comment 4.

See comment 5.

Now on p. 82.

See comment 6.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 123 GAO/NSIAD-00-216 Compact of Free Association
Appendix VI

Comments From the Federated States of 

Micronesia

Page 124 GAO/NSIAD-00-216 Compact of Free Association

See comment 7.

See comment 8.

See comment 9.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 125 GAO/NSIAD-00-216 Compact of Free Association

Now on p. 35.

See comment 3.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 126 GAO/NSIAD-00-216 Compact of Free Association

See comment 10.

See comment 11.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 127 GAO/NSIAD-00-216 Compact of Free Association

Now on p. 7.

See comment 12.

See comment 13.

Now on p. 9.

See comment 14.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 128 GAO/NSIAD-00-216 Compact of Free Association

Now on pp. 10, 34, 49, 

and 50.

Now on pp. 7, 10, and 34.

See comment 15.

See comment 16.

Now on pp. 10 and 11.

Now on p.11.

See comment 17.

See comment 18.

Now on p. 11.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 129 GAO/NSIAD-00-216 Compact of Free Association

Now on p. 11.

See comment 19.

Now on p. 14.

See comment 20.

Now on pp. 30-32.

Now on p. 34.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 130 GAO/NSIAD-00-216 Compact of Free Association

See comment 21.

Now on p. 35.

Now on p. 40.

Now on p. 40.

See comment 22.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 131 GAO/NSIAD-00-216 Compact of Free Association

Now on p. 40.

See comment 23.

Now on p. 41.

See comment 24.

Now on p. 42.

See comment 25.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 132 GAO/NSIAD-00-216 Compact of Free Association

See comment 26.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 133 GAO/NSIAD-00-216 Compact of Free Association
Appendix VI

Comments From the Federated States of 

Micronesia

Page 134 GAO/NSIAD-00-216 Compact of Free Association

Now on pp. 43-44.

Now on p. 49.

See comment 27.

Now on p. 49.

Now on p. 50.

See comment 28.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 135 GAO/NSIAD-00-216 Compact of Free Association

Now on p. 50.

Now on p. 51.

See comment 30.

Now on p. 52.

See comment 31.

See comment 32.

Now on p. 54.

See comment 29.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 136 GAO/NSIAD-00-216 Compact of Free Association

Now on pp. 54-55.

See comment 33.

Now on p. 56.

See comment 34.

See comment 35.

Now on p. 60.

See comment 36.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 137 GAO/NSIAD-00-216 Compact of Free Association

Now on p. 62.

Now on p. 62.

See comment 34.

Now on pp.64-66.

Now on pp. 69-70.

See comment 37.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 138 GAO/NSIAD-00-216 Compact of Free Association

Now on p. 73.

See comment 38.

Now on pp. 77-79.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 139 GAO/NSIAD-00-216 Compact of Free Association

See comment 39.

Now on p. 77.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 140 GAO/NSIAD-00-216 Compact of Free Association
Appendix VI

Comments From the Federated States of 

Micronesia

Page 141 GAO/NSIAD-00-216 Compact of Free Association

The following are GAO’s comments on the letter from the government of 

the Federated States of Micronesia dated September 1, 2000.

GAO’s Comments 1. Our report states that U.S. interests have been met in two key areas: 

(1) securing self-government for the FSM and the RMI and (2) assuring 

certain national security rights. However, with respect to the Compact 

goal of advancing economic growth in both countries, we have 

concluded that Compact funds have been spent in a manner that has 

not furthered such progress. Many FSM officials agreed with this 

conclusion. Further, a Bank of Hawaii assessment found that there has 

“been very little change in the FSM’s basic economic structure since the 

Compact went into effect.”1

 As a result, we are recommending that if 

future Compact assistance is provided, it should in fact be more tightly 

controlled, with a greater emphasis placed on accountability. Of note, 

two FSM state governors and a former FSM president told us that 

future U.S. assistance should be more tightly controlled.

2. For the sake of consistency and fairness, we evaluated both countries 

using criteria, such as progress toward economic self-sufficiency, listed 

in the Compact. As a result, our discussions of the FSM and the RMI are 

often integrated. However, we clearly distinguish between the two 

countries in our discussion of specific expenditure and project data.

3. Our review assessed actual progress made by both countries in 

furthering economic self-sufficiency and development as a result of 

Compact expenditures. Our review did not establish or imply levels of 

economic growth that should have been achieved, nor did it suggest the 

degree to which economic self-sufficiency was attainable within the 

15-year term of Compact assistance.

4. As cited in our report, we conducted a review in 1983 regarding 

Micronesian self-sufficiency.2

 This review found that both countries 

lacked sufficient managerial and technical expertise and management 

systems to overcome significant obstacles to growth. This finding may 

in part explain the performance of both nations under the current 

1

Bank of Hawaii, Federated States of Micronesia Economic Report (Honolulu, Hawaii: July 

2000).

2

See The Challenge of Enhancing Micronesian Self-Sufficiency (GAO/ID-83-1, Jan. 25, 1983).
Appendix VI

Comments From the Federated States of 

Micronesia

Page 142 GAO/NSIAD-00-216 Compact of Free Association

Compact. The impact of U.S. Trust Territory Administration on both 

countries, whether negative or positive, was not part of our current 

review.

5. Our analysis began with the first year of the Compact, fiscal year 

1987—a logical point to begin assessing economic progress under the 

Compact. This approach is consistent with that used by the FSM 

government in its response to our report.

6. In order to identify the principal economic goals of Compact 

assistance, we relied upon the Compact itself. These goals of promoting 

economic advancement and self-sufficiency in the region, as stated in 

the Compact, were reiterated by officials from the Departments of the 

Interior and State. The objectives of maintaining social peace and 

political stability are not contained in the Compact.

7. In chapter 4 of our report, on p. 50, we have added information 

reiterating some of the challenges, such as geographic isolation and 

limited natural resources, faced by these two Pacific island nations in 

realizing economic growth. Our review focused on identifying the 

current state of economic self-sufficiency and development resulting 

from Compact expenditures and was not intended to encompass a 

comprehensive comparative analysis regarding Pacific islands or other 

nations. Such analyses are available from the Asian Development Bank.

8. We report on the growth of the FSM economy between 1987 and 

1997/98, from a gross domestic product (GDP) of $130.3 million to 

$213 million. However, as the FSM government noted on page 7 of its 

comments, economic growth has barely been sufficient to overcome 

the effects of population growth and decreased U.S. assistance. Real 

per capita GDP reached a peak in 1993 of $2,261 and has since fallen to 

$1,927 in 1999.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 143 GAO/NSIAD-00-216 Compact of Free Association

9. While the private sector and private sector employment have grown 

overall during the entire Compact period, this growth was realized only 

during the early years of the Compact. According to the March 2000 

FSM Planning Framework document (hereafter referred to as the 

“Framework” in our comments),3

 real private sector GDP has fallen 

since 1993, and private sector employment has decreased from its 1994 

peak.

10. The question regarding the length of time required to achieve economic 

self-sufficiency was outside the scope of our review.

11. While our report does not address the issue of the amount of time 

needed for the FSM to achieve economic self-sufficiency, we note that 

the FSM government has not provided an analysis that its current level 

of government services is appropriate or sustainable. An Asian 

Development Bank assessment found that the FSM’s public service is 

both large and unproductive and has in part played a welfare function. 

As a result, this hypothetical projection aimed at maintaining 

government services on a constant per capita basis may not be 

appropriate.

12. The FSM has cut public sector employment and wage levels in recent 

years. However, inconsistent data make a precise analysis of public and 

private sector wages difficult. For example, the FSM Framework 

document notes that public sector wages are 82 percent higher than 

private sector wages (1996-97). FSM Social Security Administration 

data, as reported in a Bank of Hawaii report,4

 show that public sector 

wages are 147 percent higher than private sector wages (1996-97). 

Similar average data inconsistencies also exist regarding the size of 

public employment. The FSM Framework reports 5,862 public sector 

employees in 1997, while the FSM Social Security Administration data 

show 9,917.

13. While the FSM has substantially improved its self-sufficiency, with 

dependence on U.S. funding as a percentage of total FSM government 

3

Federated States of Micronesia, The FSM Planning Framework, 1999-2001 (Pohnpei, FSM: 

March 17, 2000) (draft). The United States and the FSM recently agreed that the Framework 

represents the FSM’s third economic plan required under the Compact.

4

Bank of Hawaii, Federated States of Micronesia Economic Report (Honolulu, Hawaii: July 

2000).
Appendix VI

Comments From the Federated States of 

Micronesia

Page 144 GAO/NSIAD-00-216 Compact of Free Association

revenue falling from 83 percent to 54 percent, this situation cannot all 

be attributed to economic growth resulting from the use of Compact 

funds. Social Security Administration revenues were not included in the 

FSM government financial statements until 1991. As a result, since 

1991, local revenue shows growth due to this change in how 

government revenues are reported. In addition, in 1998 fishing license 

fees constituted the largest single source of local revenue in the FSM 

(except for Social Security revenues). While such fees represent an 

important means for raising local revenue, they do not represent local 

productivity. Finally, reductions in Compact assistance have by 

definition increased FSM self-sufficiency.

14. According to the FSM Framework document, “The extensive and 

expensive traveling done by public servants must be reigned-in [sic]...” 

Further, a former President of the FSM told us that travel was not 

undertaken on the basis of government need.

15. We have added text to our report on pp. 10, 34, and 50 that notes that 

standards of living are higher than could be achieved in the absence of 

Compact funding. The Asian Development Bank report referred to in 

this comment was not the basis for our conclusion that Compact 

funding has maintained artificially higher standards of living in the FSM 

and the RMI. Rather, this conclusion was drawn independently 

following our assessment of the continued dependency of both 

countries on U.S. assistance. In our view, it is clear that current living 

standards are far higher than can be sustained through local resources, 

given that both countries rely on the United States for at least half of 

total government revenues.

16. We agree with the comment that the decline in dependency in the FSM 

on U.S. funding equates to substantial progress toward enhanced 

self-reliance—as long as U.S. assistance is not being replaced with 

other external donor assistance.

17. Officials in all four FSM states told us that fisheries ventures had failed 

due to inexperience and poor judgment. For example, we were told by 

a government official in Pohnpei that FSM officials were novices in 

their knowledge of fisheries, and a Kosraean official told us that fishing 

ventures failed due to a lack of knowledge and foreign partners who 

took advantage of FSM investments.
Appendix VI

Comments From the Federated States of 

Micronesia

Page 145 GAO/NSIAD-00-216 Compact of Free Association

18. We agree with this comment. One of our recommendations is to expand 

annual reporting requirements.

19. In addition to financial management weaknesses identified by Deloitte 

Touche Tohmatsu, the Public Auditor for the FSM has found numerous 

instances of inadequate financial and program controls. Based on these 

two sources, we believe that there has been a general lack of control 

over the use of funds.

20. In providing comments on a GAO report published in May 2000 

identifying the amount of assistance provided to the FSM and the RMI 

from various U.S. agencies,5

 the FSM government did not dispute the 

FSM population figure of 131,500. Therefore, we were comfortable 

using this estimate in our draft report. However, we have changed the 

report to reflect the lower population estimate. This change does not 

affect our message in any way.

21. We have recomputed the U.S. assistance per capita figure based on a 

revised population estimate for 1998 of 111,536. This figure is now 

$895. We added footnote 4 in chapter 3 to our report that identifies our 

data sources for our discussion of U.S. assistance per capita and FSM 

gross domestic product.

22. A review of the success of the public sector reforms currently 

underway was outside the scope of our work. Our report does note that 

the FSM is a member of international organizations such as the United 

Nations and that infrastructure in the areas of electricity and 

communications has improved. In addition, we added a paragraph to 

the report quoting the Departments of the Interior and State regarding 

the importance of Compact funding in building independent nations 

through supporting government operations and developing public 

institutions.

23. In the FSM Framework document, “large public sector employment 

opportunities and higher relative wages” are listed as one of the 

“specific factors limiting private sector growth.” This characterization 

is in line with the statement in our report that “[S]ubstantial Compact 

funds were used to support general government operations that have, 

5

See Foreign Relations: Better Accountability Needed Over U.S. Assistance to Micronesia 

and the Marshall Islands (GAO/RCED-00-67, May 31, 2000).
Appendix VI

Comments From the Federated States of 

Micronesia

Page 146 GAO/NSIAD-00-216 Compact of Free Association

among other things, maintained high levels of public sector 

employment and wages and have acted as a disincentive to private 

sector growth.”

24. The “unattributed quote from someone saying that in the FSM the 

reform program ‘seems to have lost its way’” is from an Asian 

Development Bank evaluation of its reform programs in the region,6

and is properly footnoted in the paragraph.

25. Our report now states that investment in infrastructure, which has 

improved the quality of life in the FSM and the RMI and is necessary to 

create an environment attractive to private business, has not 

contributed to “significant” economic growth to date, rather than our 

prior statement that investment in infrastructure did not directly 

contribute to economic growth. For example, the FSM government 

points out in its comments that growth in the tourism industry during 

the last 13 years would not have been possible without improvements 

in infrastructure. While we agree that improved infrastructure may 

have benefited the tourism industry, we dispute that this improvement 

represents significant economic growth. Over the past 13 years, 

tourism has grown to represent only 2 percent of the FSM economy. 

The FSM Framework document notes that the annual number of 

visitors to the FSM has decreased during the 1990s and points out that 

“...average hotel occupancy rates in FSM are low—less than 30 percent 

in 1996...”

26. As the FSM states that it needs additional funding for infrastructure, we 

note that the current level of existing infrastructure in the FSM is not 

sustainable without additional external donor assistance. For example, 

an official from the Pohnpei Utilities Corporation told us that 80 

percent of the utility’s revenues come directly from the government or 

government employees, and thus the Pohnpei Utilities Corporation is 

very dependent upon Compact funding. Further, an official from the 

FSM telecommunications company told us that without Compact 

payments, consumer demand would collapse and the company could 

not repay its outstanding loans to the U.S. government.

6

Bruce Knapman and Cedric Saldanha, Reforms in the Pacific: An Assessment of the Asian 

Development Bank’s Assistance for Reform Programs in the Pacific (Manila, Philippines: 

Asian Development Bank, 1999).
Appendix VI

Comments From the Federated States of 

Micronesia

Page 147 GAO/NSIAD-00-216 Compact of Free Association

27. As noted previously, we have changed the FSM population estimate for 

1999 from 131,500 to 116,268 to reflect the estimate provided to us by 

the FSM government in its comments. This does not, however, change 

our reported estimate of per capita income growth in the FSM. 

According to the FSM Framework document, real GDP per capita in 

fiscal year 1987 was $1,881. In fiscal year 1999 it had grown to 

$1,927. This represents a growth in real GDP per capita of 2.4 percent 

over a 12-year period. All figures reflect 1998 U.S. dollars.

28. We agree that there are numerous businesses in operation in the FSM. 

However, according to a Bank of Hawaii report,7

 “U.S. funds are the 

only primary income source” in the FSM economy. The report further 

states that “[T]hese funds are used mainly to pay government wages, 

salaries and benefits, and a portion goes towards adding to public 

infrastructure...” The report concludes that “[T]hus, the economy’s 

engine is the public sector which, in turn, supports a private sector that 

is made up largely of services and distribution activities. There is very 

little indigenous commercial production economy other than 

subsistence production that has stagnated in the last 10 years.”

29. Improvements in economic management and a shift in policy direction 

that emphasizes private sector growth with the government’s role being 

to improve the business environment and provide necessary 

infrastructure and social services are in an early stage. According to the 

FSM Framework document in its discussion of future actions for 

accelerating private sector development, “The initiatives embarked 

upon within the FSM to restrain government employment and wages, 

improve training, reform public enterprises, encourage foreign 

investment, liberalize banking regulations, improve leaseholds, and 

improve business support indicate that progress is being made. But 

there is still a long way to go to have these initiatives fully developed, 

refined, publicly understood and accepted, passed into law, and 

implemented effectively.” The government faces significant challenges 

in implementing reforms that will foster private sector development. 

For example, regarding reforming public enterprises, the Framework 

points out that “[N]o complete inventory of public enterprises is 

currently available.”

7

Bank of Hawaii, Federated States of Micronesia Economic Report (Honolulu, Hawaii: July 

2000).
Appendix VI

Comments From the Federated States of 

Micronesia

Page 148 GAO/NSIAD-00-216 Compact of Free Association

30. We changed the title of this section to reflect the FSM government’s 

comment.

31. During our visit to the FSM, no government fish storage and processing 

facilities were in operation in any of the four states. For example, in 

Pohnpei, officials from the Pohnpei Fisheries Corporation told us that 

the plant had completely shut down as of October 1999, and the 

refrigeration system was inoperable, awaiting parts, at the time of our 

visit. In Kosrae, we were told that the cold storage facility had been 

closed since January 2000. In addition, officials in Yap and Chuuk told 

us that the facilities in those states had never been profitable or had not 

been profitable for years.

32. We have modified our discussion of the pepper industry to reflect FSM 

government comments. We have also eliminated our statement that 

there is no longer a pepper industry in the FSM. It is our understanding, 

based on a discussion with an official from the Pohnpei Office of 

Agriculture and Forestry, that there is currently one Japanese pepper 

farmer in Pohnpei with 10 acres. According to data published in the 

1999 FSM Statistical Yearbook (the most recent data available), black 

pepper exports in 1996 and 1997 were $0. The Yearbook also shows no 

purchases of black pepper in major local markets in 1998.

33. In data provided to us by the FSM government detailing Compact 

capital fund expenditures, we were unable to find any Compact funds 

that went to the garment factory in Yap. Regarding the Pohnpei garment 

factory, we were told by the Governor of Pohnpei that the facility 

received a development bank loan (U.S. funds) and had employed 

foreign workers, but did not receive any direct government assistance. 

The development loan to the company was almost $1.8 million. A 

Department of State official informed us that the facility is now closed. 

The Kosrae slipway is operating but does so at a loss. Kosrae’s 

investment in the ship repair facility is almost $1.5 million.

34. In choosing capital projects for our review, we used the following 

criteria: (1) the largest areas of investment by the governments, 

(2) project expenditures covering a wide range of sectors, and 

(3) project expenditures made at different points in the Compact. 

Regarding the projects listed in the FSM government comment letter as 

examples of well-planned and implemented Compact-funded projects, 

we questioned FSM officials as to the data sources for these projects 

and were told that this information is incorrect. The FSM Capitol and 
Appendix VI

Comments From the Federated States of 

Micronesia

Page 149 GAO/NSIAD-00-216 Compact of Free Association

the College of Micronesia were not funded using Compact funds but 

were instead built using funds provided outside of the Compact.

35. At every government location (national and state), we requested access 

to complete project documentation for all projects we reviewed and 

mentioned specifically that we were interested in reviewing documents 

such as feasibility studies, competitive bids, and inspection reports. We 

believe that the burden was on government officials to provide us with 

access to all relevant documentation. Officials from the state of Kosrae 

mailed us documentation after we had returned to the United States.

36. The Governor of Kosrae told us that the chip-seal roads in the state 

were an example of a project that was not properly designed or built. 

Further, an official from the Kosrae Department of Public Works 

informed us that the chip-seal roads lasted only 4 years but with 

patches were usable for 10 years. He also noted that chip-seal paving is 

a high-maintenance type of pavement and Kosrae did not budget for 

maintenance.

37. We reviewed the road and dock project because it was identified by 

Chuuk State officials as an example of a questionable use of Compact 

funds that would not upgrade basic social and economic infrastructure. 

After visiting the site, we concluded that the Mayor would be the chief 

beneficiary of the dock and road since there were few other houses 

between the Mayor’s house and the seaside village at the end of the 

road.

38. The U.S. embassy in the FSM, the FSM Public Auditor, and we all 

independently concluded that the “boats for votes” had no 

demonstrable economic impact or accountability. The U.S. embassy, in 

numerous cables, reported that the boats were given away to support 

reelection efforts. The FSM Public Auditor concluded that the boats 

were given away with no requirement or evidence that they were used 

for economic advancement. When we spoke with the recipients of 

these boats, they told us that the mayor simply gave them the boats. 

There is no requirement that they demonstrate how the boats would be 

used for economic advancement and no reporting requirements.

39. Our report notes that the FSM, the RMI, and the U.S. governments all 

had a role to play in ensuring that 5-year economic development plans 

were sufficient. We noted that while the plans had deficiencies, it was 

the responsibility of the U.S. government to discuss and correct these 
Appendix VI

Comments From the Federated States of 

Micronesia

Page 150 GAO/NSIAD-00-216 Compact of Free Association

deficiencies with the FSM and the RMI. The U.S. Department of State’s 

Special Negotiator for the Compact of Free Association informed us 

that the FSM Planning Framework for 1999-2001 has been accepted by 

the U.S. government as the FSM’s third economic development plan, 

thus allowing the FSM to meet its Compact obligations in this area.
Page 151 GAO/NSIAD-00-216 Compact of Free Association

Appendix VII

GAO Contact and Staff Acknowledgments ApendxiVI

GAO Contact Emil Friberg, Jr., (202) 512-8990

Acknowledgments In addition to the person named above, Leslie Holen, Dennis Richards, and 

Edward George, Jr. made key contributions to this report.

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