United States General Accouting Office

GAO Reportto the Chairman,Committeeon

InternationalRelations,

Representatives

Houseof

November 1996 FOREIGN

ASSIST~CE

Hmard Institutefor

International

Development’sWorkin

RussiaandUhaine

c A o

GAO~SM-97-27
I
GAOUnited States

General Accounting Office

Washington, D.C. 20548

National Securi@ and

International Affairs Division

B-275086

November 27, 1996

The Honorable Be@* Gilman

Chairman, Committee on hternationd Relations

House of Representatives

Dear Mr.Chairmm:

This report responds to your Committee’srequest that we review the Harvard Institute for

International Development’s(HIID)work. SpecWlcWy,we assessed (1) how the U.S.Agencyfor

International Development (USMD)awarded assistance agreements to HIIDto carry out work in

Russia and Ukraine and (2) HnD’Srole and accomplishment in implementing assistance

agreements to (a) develop a Russian capital market and (b) devise a legal reform program. In

connection with evaluating HnD’Srole, we tio assessed the effectiveness of the Russian

Privatization Center (RPC)in implementing USMDpost-privatization and land reform projeck.

Udess you publicly announce its contents eartier, we pla no further distribution of this report

until 30 days after its issue date. At that time, we wiflsend copies to the Secretaries of Stite md

the Treasury, the Administrator for USMD,and other interested parties.

This report was prepared under the direction of Be~amin F. Nelson, Director, International

Relations and Trade hsues, who maybe reached on (202) 512-4128if you or your staff have any

questions. Other m~or contributors are listed in appendix WI.

Sincerely yours,

Henry L.Hinton,Jr.

Assistant ComptroUer General
ExecutiveSumma~

Pu~ose Asthe Soviet Union began to dissolve, the United States sought to assist

Russia and the other newly independent states (NIS)in their transition to

free market democracies. The transition taking place was unprecedented

and touched dl potiticd, tiitary, economic, and social institutions.

Mmost overnight, Russia md the other NISwere beginning the process of

transforming from communist, state-controlled economic and pohticd

systems-systems that were for host a hdf a century in competition

with those espoused by the United States. However, the transformation

was not without serious opposition, and different reformers pursued

different approaches. The United States sought to consolidate the gains

that cotid be made by assisting the MSin their transformation and

supporting the reformers that were thought to have the best chance to

emerge as leaders in the new governmen~.

The U.S. god was to support reforms that were considered to be critical to

U.S. objectives: the development of democratic institutions, the

privatization of state-owned property, the establishment of legal codes,

and the creation of mechanisms to operate a private capiti market. The

success of the reforms in Russia potenti~y wodd have far-reaching

mititary, economic, and geopotiticd consequences for the United States.

The U.S.Agency for International Development (USND)was the lead U.S.

government agency to provide transition assistance. However, USMDdid

not have the estabhshed organization, contack, md e~ertise to

accomplish this unprecedented task. Therefore, it turned to U.S.private

organizations, including the Harvard ktitute for hternationd

Development (HUD),to provide direct technical assistance to Russian

reformers. HIIDwas ~so e~ected to provide technical assistance and help

oversee U.S. contractors in USMD’SRussian economic restructuring

project. HnDhad preexisting relationships with Russian officials and had

tieady helped establish several Russian institutions to sustain reforms,

including the Russian Privatization Center (RPC).lThe RPCassisted with the

restructuring of business enterprises and facilitated lad reform. USND’S

privatization program in Russia amounted to about $325tilion for fiscal

years 1992-96,approximately $40.4mi~ion of which went to HHD.

Concerned about the noncompetitive nature of the awards to HHDand

HIID’Seffectiveness, the Chairmm of the Committee on hternationd

Relations, House of Representatives, asked GAOto review HIID’Swork.

1~eRPCis a nonprofit organization es~blished by presidential decree in November 1992to

coordinate the mass privatization voucher process, provide ongoingadvice to the Russiangovernment

in privatization, and coordinate foreigndonor assistance in privatization and post-privatization

enterprise restructuring tith the assistance of eight local privatization centers (LPC).

Page 2 GAO~SW-97-27 Foreign Assis@ce
Executive Summ~

Specfilcdy, GAOassessed (1) how USNDawarded assistance agreemen~ to

HHDto c- outwork in Russia and Ukraine and (2) HIID’Srole and

accomptishmenk in implementtig assistance agreements to (a) develop a

Russian capiti marketz ad @) devise a legal reform program. In

comection with evaluating HDD’Srole, GAOdso assessed the effectiveness

of the RPCin implementing USMDpost-privatization and land reform

projeck.

Background me U.S. government-supported activities covered in this report were

conducted in a diffictit ad uncertain environment. ~rst, there was no

vfidated model to follow in trying to assist Russia’stransition. Moreover,

the view among the U.S. political leadership was that the provision of

assistice to the reformers, particdarly in Russia, was time critical.

In addition, the United States had to obtain the input, cooperation, and

support of the new leaders, particdarly in Russia and Ukraine, regarding

the timing and nature of spectilc projec~. Moreover, the assistance had to

be delivered in m environment where there was much distrust of U.S.

objectives and where the United States cotid not be viewed as being the

actual implementor of reforms. Nevertheless, USMDbelieved that the

establishment of capiti markets, the reform of the legalsystem, and the

privatization of Russian enterprises within a relatively short period were

critical to U.S.foreign policy objectives.

Results in Brief Russia has made progress in many areas where it received U.Sassistance;

however, some expectations have not been met. Asignificant portion of

U.S. assis@ce to Russia was provided through cooperative agreements

involtig oversight and strategic guidance from HIIDmd task execution by

several U.S. contractors. ~s approach restited in HIID’Shaving

substantial control over the U.S. assistance program.

me U.S. assistance program was driven by the desire to support reformers

whose agenda was consistent tith U.S. objectives. Between December

1992md September 1995,USMD,through a noncompetitive cooperative

~Capiti marke@consist of private institutions, technology,and regulatory structures needed to

facilitate the orderly and cost+ ffective execution oftransactions for co~orate securities such as

stocks and bonds.

3Acooperative agreement is a fundingmechanism used by a federal agencyto transfer fundsto an

organizationto support an agency program.Applicablelaws and regulationsimpose onlyminimal

requiremen- that agencies must followwhen selecting recipients and awardingcooperative

agreemen@.

Page 3 GAO~SfAD-97-27 Foreign Assistance
1 ExecutiveSmmq

agreement and amendment to the agreement, provided HnDwith

$40.4Wion to undertake a number of activities in Russia. These activities

included providing assistice in privatizing Russian companies,

developing a capiti market, instituting legal reform, and overseeing U.S.

contractors’ detivery of over $285tihon of technical assistance to

Russia institutions and private companies.

Prior to the 1992award, HHDhad worked extensively with certain Russian

reformers and had developed a system of contack within the Russian

govement. GAOfound that the noncompetitive awards to HHDreflected ib

existing relationships with Russian reformers and that the awards were

consistent with applicable laws and USNDguidelines. me USMD

guidelines encourage competition in the award of cooperative agreemenk,

they Wow noncompetitive awards based on factors such as a recipient’s

relationship with a foreign country and the promotion of U.S.foreign

poticy.

In 1995,USMDheld a competition for assistice in connection with four

projecb—two in Russia, one in Central &ia, and one in Ukraine. GAO

found that, in conducting the 1995competition, USMDused erroneous

scores to select the winning proposal for one of the Russia projecfi.

However, the ~g proposal was later rejected by the Russians.

Withthe assistice of HDDand U.S. contractors, Russia has made

significant progress in developing a capiti market. To date, Russia has

established (1) a Securities and Exchmge Commission (sEc),(2) a

national company for registering trades, (3) a Russian stock trading

system, and (4) a se~-regdatory organization for market participant.

However, the god of setting up fily functioning national clearing ad

settlement organizations (CSO)that handle stock trades had not been

realized due to potiticd resismce. Recent pohticd maneuvering to

downgrade the Russian SEC’Sstatus from ministry to stite committee have

to date proved unsuccessfti; nevertheless, the SEC’Sstatus and autonomy

may continue “to come under fire,” according to the Department of State.

HHD’Swork has supported reformers’ legislative agendas and contributed

to the development of key commercial laws md the estabkhment of the

Russian ktitute for hw-Based Economy (ILBE)to carry out the legal

reforms during and after USMDends its assistance. HnDdso assisted in the

development of strategies that enabled Russia to obtain a lom from the

World Bank to implement legal reform. However, due to the political

situation that developed in Russia after the 1995parliamentary elections,

Page 4 GAO~SM-97-27 Forei~ ksbtice
ExecutiveSummw

most of the legal reforms that have taken place since then have been by

executive decrees, rather than the passage of laws. Notwithstanding HnD’S

accomplishments, GAOfound that USNDexercised minimal oversight of

HIID.

With HIIDsupport, the RPChas assisted with the privatization and

restructuring of state-owned enterprises and promoting lmd reform. Since

April 1993,HHD’Sresponsibilities for the RPCand the wc network have been

focused mtiy on providingmacroeconomic policy advice and recruiting

program and management specitisk as needed. However, whfle effo~ to

provide pohcy advice and facilitate post-privatization were gener~y

successful, USND’Sland reform projec~ were less success~, and the RPC

may not be sustainable without further donor assis~ce.

Principal Findings

Cooperative In October 1992,HHDsubmitted a proposal to USNDseeking funding to

Agreement Awards

provide technical assishce in support of Russia’stransition to a market

economy. Because HHDhad already gained experience working in Russia

Consistent With and USXD’Sresistance program in that country was in i~ early stages, USMD

Applicable decided to award HHDa cooperative agreement without competition. GAO

found that the noncompetitive award of the agreement was consistent

Guidelines,but Errors with USMD’Sguidelines. These guidelines allow such awards when the

Occurred recipient has exclusive or predominmt capabihty based on an efisting

relationship with a cooperating country.

USNDinititiy provided $2.1dhon in funding for the agreement. USMD

amended the agreement nine times by September 1995,five of which

increwed funding to a total of $40.4tition. The largest single increase

was $20tilion provided in 1994for a legal reform project. USMD

considered holding a competition for award of a separate agreement for

the legal reform project because, by that time, at least one other U.S.

organization was providing legal reform assistance in Russia. However, as

Mowed by i@guidelines, USMDinstead decided to amend HIID’S1992

agreement and included this project based on HHD’Sexisting relationship

with Russian reformers.

In March 1995,USNDissued a request for applications to provide “Impartial

Oversight and Strategic Guidance for Privatization ad Mwket Reform

Page 5 GAO~SW-97-27 Forei@ Assistice
ExecutiveSwm~

Progrm” in Russia, Ukraine, md Central ~ia. USMDplanned to award

four separate agreemen@as a restit of the competition+ne for

assistance to the RPC,one for assistance on capital markek to the Russian

SEC,one for assistice in Central Asia, and one for resistance in Ukraine.

USMDawarded ody two agreemen~, one to mlDfor $17.4mi~on for work

with the RPCud one to the University of Wisconsin for work in Central

Mia. Whileproposals were received for the Russian SECproject and being

prepared for the Ukraine project, USMDcanceled the portions of the

request pertaining to those projeck.

The portion of the request pertaining to the Russian SECwas cmceled

because the Director of that organization refused to accept the indicated

winner of the competition. The Ukraine portion was canceled because

funds were ~ted, and the Ukrainim govement was not interested in

receiving the technical assis~ce at that time.

GAOfound that USMDused erroneous scores to select the winning proposal

for the Russian SECproject. ~timately, the Russian SECrejected the

selected proposti, and USMDdid not award a cooperative agreement for

the project. In September 1995,usND~oscow amended the etisting

cooperative agreement to provide $1.7Won to HnD.The amendment

Wowed HnDto pay the e~enses of the Russian Resource Secretariat (the

inte~ectud facitity for the Russim SEC)that wodd have been covered in

the rejected cooperative agreement.

The Ukraine portion of the request was withdrawn in May 1995before

proposals were submitted. k Jtiy 1995,HnDsubmitted an unsolicited

proposal to USMDto provide macroeconomic pohcy advice to the

government of Ukraine. This proposal was modified in August and

October 1995and at that time had an estimated budget of $6Mien. After

questions were raised by the House Committee on International Relations

in April 1996,the proposal was again modKled,and in May 1996USND

awarded a cooperative agreement for $1.5tition to HnD.The award was

for a scaled-back version of the $6-tition October 1995proposal. The

noncompetitive award was made under the authority of USMDguidelines.

These guidelines provide that competition is not required for

“circumstances deterrrdned to be critical to the objectives of the foreign

assistance program.” Because high-levelUkrainian officialsspecifically

requested HnDassistance, GAOhas no legal basis to question USND’S

determination that foreign policy considerations justified awarding HIIDa

cooperative agreement without competition. However, GAOobserved that

Page 6 GAO~SM-97-27 Forei@ Assistice
ExecutiveSummq

some proposed HIIDactivities may duplicate work being performed by

others.

Mked Progress on Russia, with support and =sistance from mIDand other U.S. entities, has

Key Features of an

made substantial progress in establishing some key features of a

functioning, efficient capital market. These accomplishments include

Efficient Capital

Market

developing a Russian SECand a Resource Secretariat for technical

assistance, a stock trading system, and a se~-regulating organization for

market participant@(deders md brokers). However, implementation of

some other aspecfi of the capiti market infrastructure projects, such as

CSOS,have met with considerable resistance. Most of USND’Sinfrastructure

efforts til end in late 1996.USMDhad hoped that by then the necessary

laws and institutions wotid be substantially in place, but this now appears

tikely.

HIID’sRole in Establishing

a CapitalMarket

Developmentof the

RussianResource

Secretariat

The cooperative agreement between HIIDand USNDgave HIIDresponsibility

for guiding the effort to develop a capital market. This included working

with the newly created Russian SECto estabhsh its independence and to

devise the necessary capiti market infrastructure, including a

se~-regtiatory organization, independent stock registers, and CSOS.

Under the HIIDcooperative agreement, HIIDworked with the Russian SECon

its regtiatory and infrastructure projects. k addition, HnDlong-term

advisors and short-term specidisk assisted with monitoring the

performance of U.S. contractors to identify and implement capital market

activities.

During the surnmer of 1994,in anticipation of the creation of the Russian

SEC,USNDbegan to fund a Resource Secretariat. The idea w= to

consolidate dl technical assistance to the Russian capital market

development effort under a single organization led by experienced

professionals. The Resource Secretariat was created through the

assistance of HUDand USMDcontractors. Specifically,HIIDprovided

executives, coordinated the work of U.S. contractors and their

subcontractors—who created the administrative and organizational

component of the Resource Secretariat-and implemented various

infrastructure projecfi. USMDhas provided about $15.6mfllionin support

of the Resource Secretariat and the establishment of the Russian SEC,

Page 7 GAO~SMD-97-27 ForeignAssistance
ExecutiveSumm~

including $13.9mi~ion to U.S. contractors and $1.7million to HIID,w of

May 1996.4

fiogress in Organizingthe U.S. constitants assisting in the development of a Russim capital market

Russian fiadng System proposed to USMDin December 1993that the market’s evolution might best

-- be advanced by organizing deders into seM-re@atory organizations

largely patterned on the U.S. market. The task orders issued by USMDfor

implementing this Russian trading system amounted to approximately

$15tifion.

As of October 1996,there were 328members of the broker self-regdating

organization that owns the trading system, of which 215have trading

system terminrds in their offices. The broker orgartizationnow has

members in 39 cities, and in 24 of these cities, members have access to the

trading system. According to H~D,most of the 15cities where brokers do

not have access wtil be connected by the end of the year by U.S.

consdting firm ~ynveld, Peat, Marwick, Goerdeler (mMG)~aren@under

its -k order. Over 100company stock issues are listed on the system, ad

roug~y 40 to 50percent of the over-the-counter trading in Moscow flows

through it. The Russian trading system no longer receives assistice and is

operated by the market participant on a self-financingbasis.

Effortsto Develop CSOS Market participants gener~y believed that a national regist~ compmy

WereDisappointing and a cso were needed. The cso project was to be the centerpiece of HIID’S

infrastructure effort, with a potential impact on stock registras, deders

and brokers, the Russian central bank, foreign and domestic banks, the &

inspectorate, and others. USMD’Scost for this effort was estimated at

$14tihon. In mid-1993,a project under HIID’Sdirection got underway to

create five CSOS.Bylate 1994,cso in Moscow, Ekaterinburg, Novosibirsk,

St. Petersburg, and Wadivostok had emerged. Each cso evolved from an

existing stock exchange and was owned and controlled by the exchange

and the market participant. As of tid-1996, ordy the Wadivostok stock

exchmge was active. However, trading was limited to 30transactions a

day, and the cso for Moscow was disintegrating. USMD,mID,U.S.

contractors, and market participants cited unfavorable market conditions,

discouraging tax laws, and political power struggles as reasons for the

disappointing outcome.

‘The $1.7millionwas approved in September 1995to pay the cost of Russiansworhng for the

Resource Secretariat. The amount does not include the cost ofthe executive management positions

paid through HIID’scooperative agreement that were categorized as “policyadvice,”

Page 8 GAO~SMD-97-27 ForeignAssistace
ExecutiveSumm~

I

Statusof the RussianSEC The following evenk higMightthe ongoing nature of the struggle for

lasting reform. On April 22, 1996,Russian President Boris YelWinsigned a

comprehensive law “Onthe Securities Market”that established a structure

for market re@ation by the Russian SEC. The underlying concepk and the

vision for the regtiated capiti market contained in the law are a direct

resdt of HnD’Ssupport of the Resource Secretiat and the Russian SEC.5

Mthough the Russian SECseemed to be progressing as planned, in

August 1996,President Yel&insigned a decree that downgraded the s~tus

of the Russian SECfrom a ministry to a state committee with an unclear

mandate and no appointed Chairma. Repo~ from Moscow indicated that

Russian stock market participant@were surprised and dismayed by this

move. kss than 1month later, the action taken in the August 14decree

wm at least partially reversed in a decree of the President “Onthe System

of Federd Executive Agencies,” dated September 6, 1996.The Russian SEC

was upgraded but moved from subordination to the Ministry of Finance to

the presidential structure.

I

It is unclear whether the Russian SEChas the resources to ftiil i~

responsibilities. Market participant told us that fifi~ing the Russian SEC’S

considerable respomibflities til require a significant edargement of its

staff and budget.

HIID’sRole in Legal ~

Refom

stateowned enterprises and allowed private ventures but hm lacked

economic md commercial laws to underpin these developments. Under a

cooperative agreement, HIIDprovided expert advice and drafting assis~ce

on legislation; established a core group of long- and short-term resident

legal advisors; helped create LBEto carry out a legal reform project after

USMDends i~ assistice; and helped Russia obtain funding from the World

Bank for continued legal reform, among other accomphshmenk.

HIID’Swork plan for the legal reform effort states that, among other things,

it was to provide commen~, expert advice, and drafting resistance on

19pieces of legislation. Ofthe nine laws that were passed, HIIDwas the

principal drafter of three; for three others, it served either as co-drafter or

provided commenti.6 These laws are sigtilcant accomplishments and

include ties on securities, joint stock companies, and advertising.

%e reform ofthe capitil markets has involvednot onlyHIID,but also substantial input by the New

YorkStock Exchange,the U.S.SEC,and the Federd Reserve.

6HIIDparticipated in work on seven additional lawsthat were passed but were not part of HIID’s

originalwork plan.

Page 9 GAONSW-97-27 Foreign Assistmce
ExecutiveSmm~

The majority of laws USMDhoped that the parliament would have passed

by the end of 1996have not been enacted. Confronted with the possibility

that none of the remaining legislation wodd come to fruition because of

pofiticd opposition to reform legislation, HIIDbegan to place more

emphasis on working with the executive branch to have decrees

promdgated rather than on the enactment of legislation.

HIIDconducted this project with minimal oversight from USMD.GAOfound

that USMDdid not always enforce the reporting requirements contained in

the cooperative agreement, did not set measurable gods, and was not

aware of decisions HIIDwas making that cotid have resulted in added cost

to the government or sigtilcantly affected U.S.strategy. HIIDat first

submitted quarterly repofi rather than the montMy reviews that were

specified. USMDofflcids in Washington, D.C., questioned the completeness

of the data in the reports that were submitted. For example, no

information was provided on how specific HIIDprojects were related to the

overall gods of the legal reform program. HIID started work on part of the

legal reform effort before it received USNDapproval, and in so doing

became involved in work being performed by another us~~tided

organization. This may have restited in some unnecessary costs being

incurred.

Sustainabili& of HIIDhelped estabhsh the RPCand oversaw the work of the contractors who

Privatization Centers developed the RPCaccounting system, located its office space, and

recruited i~ personnel. Mer September 1994,the responsibility for RPC

Questionable fmancid oversight shifted from HIIDto the USMDmission in Moscow.

Athough USNDthen gave a direct grant to the RPCto cover its operating

expenses, HIIDremained engaged by recruiting and paying the salaries of

expatriates who held important positions such as the Chief Financial

Officer, the Chief Procurement Officer, the Press Secretary, and a number

of project associates.

FoHowingthe completion of Russia’sprivatization of most state-owned

enterprises in June 1994,USNDfocused on using the RPCand wcs to help

(1) USMDwork with newly privatized firms on the difflcdt process of

restructuring and (2) devise procedures for land reform. U.S. contractors

working with the RPChelped some Russian firms successfully complete

enterprise restructuring. For example, some of the enterprises reduced

labor costs by stretiining operations and lowered other expenditures by

revising procurement procedures.

Page 10 GAONSMD-97-27 ForeignAssistance
ExecutiveSumma~

The largest usMD-sponsoredland reform project was to create a red estate

information system in selected municiptities. five of the nine cities in

which the project was implemented rejected the system offered by the

contractors and worked on developing another version. The RPC was

responsible for factiitating negotiations among local agencies to uni~ into

a single datibase the information each was mainlining, such as dab on

land, structures on the land, and housing. However, in a number of cases,

because the negotiations became protracted, this project did not meet i~

objectives.

USMDinformed GAOin November 1996that the RPChad successfily

implemented on a fee basis a series of consdting seminars using materials

developed by the Mancid Management ksistance program and fiograrn

for Intensive Enterprise Support contractors. However, according to USMD,

the development of LPCstif SWIShas been uneven, and it is not clear

whether ~ LPCScodd successftiy offer the efisting consdting materiti.

Moreover, U.S. contractors dso were unsure to what efient the RPCcodd

provide constiting services without support from private e~atriates and

independent contractors. me financial support from the World Bank

wi~ be provided, Bank funds are not e~ected to ftiy meet the RPC

network’s operating cosfi.

HIID ad Agency USMDand HIID generally agreed with GAO’Sfindingsrelated to the award of

Comments

the cooperative agreement to HIIDand GAO’Sassessment of HnD’Srole and

accomptishmen@.USNDnoted that although GAOhad no recommendations

in this report, it planned to review efisting policy regarding amendmenk

to noncompetitive agreemenk and improve the management and oversight

of the grantee with respect to reporting requiremen~, estibhshment of

measurable gods, performance monitoring, and resd@ evaluation.

Officialsfrom the Department of the Treasury said that they had no

comments on the report. The Department of Stite commented that HIID’S

preefisttig relationship with Russian reformers may have been adequate

reason for the selection of HIIDin the past, but given the large number of

specials@ with substitid e~erience in the Russian market who are

currently available, this dl be a less likely rationale for sole-source

selection in the future. State dso commented that GAO’Sreport generdy

appears to give a good ded of credit to HIIDfor endeavors that had a

number of contributors.

Page 11 GAONSMD-97-27 Forei@ Aasis*ce
Contents

Executive Summq 2

Chapter 1 16

ktroduction USND’SUse of the Harvard Institute for International 17

Development

USND Used HIIDto Help Manage Other Contractors 18

Objectives, Scope, and Methodology 19

Chapter 2 22

UsND’s Award of Minimal Requirement for Award of Cooperative Agreemenk 22

1992Noncompetitive Award of first HIID Cooperative

Cooperative

23

Agreement

Agreements 1995Competition Under Request for Applications 25

1996Noncompetitive Award of Cooperative Agreement for 28

Ukraine

Agency Commen& 30

Chapter 3 31

Russian Progress Condition of Russia’sCapiti Market When Assistice Began 31

HIID’sRole in Establish a Capital Market

Tow~d Developing ~ Development of the Russian SEC

33

34

Efficient Capital ~ture of the Russian SEC 41

Market HIIDmd AgencyCommenk and Our Evaluation 42

Chapter 4 43

Russian Progress on

HIID’sRole in the LegalReform Project 44

USMD’SOversight of HHD

Legal Refom

48

~ID and AgencyCommen&and Our Evaluation 51

Chapter 5

Support for Privatization and Enterprise Restructuring Assistance tO the RPC L~dRefom~fitiativeS

52

53

55

Sustinabitity of RPC Network Is Uncertain 57

HIIDmd AgencyCommen@and Our Evaluation 59

Appendixes Appenti I: Organizational Profile of the Harvard Institute for 62

International Development (N ofJune 30, 1996)

Appendk II: Evenk Leading to HIID’sCooperative Agreement for 63

Work in Ukraine

Page 12 GAO~SM-97-27 Forei@ Assistice
[

t:

1

Contenfi

Appendti 111:S@tusof 19hws in ~ID’s ~st Work P@ 70

Appenti N: Comments ~om USMD 71

Appendti V:Comments from HIID 90

Appenti W: Commenk from the Department of SWW 113

Appendk WI: Major Contributors to This Report 118

Tables Table 1.1:SummW of USMD’sRussian Privatization Prop 19

~ding Obligations, ~scd Years 1992-96

Table 2.1:Criteria and Weightsfor Proposal Evaluation 26

Page 13
I

Contenta

I

I

I

Abbreviations

CSFB

Cso

DCC

ELS

FMA

Fsu

GM

GPU

HIID

ILBE

IRIS

WMG

WC

NAUFOR

Nasdaq

NBU

NIS

NSC

NRC

OTC

PAUFOR

PIES

REIS

RDI

RPC

SEC

SRI

USMD

Page 14

Credit Suisse First Boston Bank

clearing and settlement organization

Depository Clearance Company

Enterprise Land Sales project

Financial ManagementAssistance program

former Soviet Union

Stite Cotittee of the Russian Federation for the

Management of the State Property

State LegalAdministration of the Office of the President of

the Russian Federation

Harvard ktitute for kternationd Development

ktitute for Law-BasedEconomy

hstitutiond Reform and the Mormd Sector @niversity of

Maryland Center)

~ynveld, Peat, Mtick, Goerdeler

local privatization center

National Association of Professional Market Participants

National Association of Securities Dealers Automated

Quotition system

National Bank of Ukraine

newly independent states (of the former Soviet Union)

National Security Councfl

National Registry Company

over the counter

Professional Association of Market P@icipants

Program for Intensive Enterprise Support

Red Estate Information Systems

Rural Development Institute

Russian Privatization Center

Securities and Exchange Commission

Sword Resemch hstitute

U.S.Agency for International Development

GAO~S~-97-27 Foreign Assistance
GAONSMD-97-27 Forei@ Assistance
~

i Chapter 1

~ Introduction

The chmges that swept the Soviet Union starting in 1989were enormous,

unprecedented, and unexpected. Mmost overnight, Russia and the other

newly independent states (NIS)began the process of transforming from

communist, state-contro~ed economic and political systems-systems that

were for almost a century in competition with those espoused by the

Utited States-into market systems.

In December —.1990,the United Stites began providing timited resistance to

the Soviet Union to support ifi reform effort; after the Soviet Union

dissolved in December 1991,the United States incre~ed this aid. h

October 1992,Congress enacted the freedom for Russia and the Emerging

Eurasian Democracies and Open Market Support Act of 1992,commo~y

known as the “freedom Support Act.”This act set forth the broad policy

outline for helping the MSthat were part of the former Soviet Union (FSU)

carry out both political and economic reforms. It authorized a bilateral

assistance program that is being implemented prim~y by the U.S.Agency

for International Development (USMD).As of September 1996,USND

reported obligations of $1.6bi~ion and expenditures of $1.2biltion for

progrm and projecfi in Russia.

The act dso estabkhed a coordinator within the State Department who,

among other things, was responsible for developing a strategic plan for

providing such assis~ce. The core objectives of the approved strategy for

Russia were to (1) help Russia make the transition to a market economy,

(2) support the conversion to a democratic political system, and (3) ease

the humm cost associated with the transition. The strategy document

recognized that ody Russian reformers codd make Russia’stransition a

success but that the United States cotid support the effort. It dso

recognized that the success of the reforms within Russia wodd have

far-reaching consequences for the United States. A democratic,

market-oriented, stable Russia codd be a constructive partner on a wide

range of global issues. The benefi~ to the United Stites could include

reduced defense requiremenfi ~ we~ as expanded opportunities to

market U.S. goods and services to a country of 150miltion people.

Conversely, a Russia in potiticd and economic turmoil would have the

potential to destabilize the region md adversely affect a variety of U.S.

interesk.

Mthough USMDis the lead U.S. agency for providing transition assistance

to Russia, ik approach to providing aid is to seek out U.S.private firms or

org~zations to provide most of the economic, business, and financial

adtice. The United States had to reach agreement with Russian and

Page 16 GAO~SMD-97-27 Foreigo &sistmce
Chapter 1

Introduction

Ukrainian officials on the timing ad nature of the assistance. Giventheir

assessment of the situation, U.S. executive branch offlci~ believed that

they had a narrow window of opportunity to provide assistance to Russia.

This was reiterated in the U.S.strategy for assistance to Russia, which set

a god of accomphshing several m~or reforms by the end of 1996.These

included establishing capital marketi, developing a free market legal

system, and privatizing Russian enterprises.

USMD’SUse of the The aforementioned conditions presented the United States with a m~or

Harvard Institute for

set of ch~enges. USMDatittedly did not have the in-house capacity to

accomplish the task at hand owing to the political-strategic confrontation

International of the past decades and the uniqueness of the transitioning command

Development economies to market basis. Before USMD’Sprogram began, the Harvard

Institute for International Development (~ID) had been worting with the

top echelon of Russian President Boti Yeltsin’skey economic reformers.

HIID’Songoing work in Russia offered USNDart opportunity to suppoti the

economic reform work tieady under way and to have access to reformers

within the Yeltsin govement.

USMDdecided to fund mIDthrough a cooperative agreement for support of

reformers’ effo~ in privatization, legal reform, ad capiti marke~. ~

led to an oversight and management structure that did not follow the

tradition pattern. The approach that was setied on resdted in ~D’S

having substmtid control over the U.S. assistance program. h particdar,

the tradition project management approach that USMDnormtiy employs

was not in place for Russia’s econotic restructuring activities. btead,

HHDserved in an oversight role for a substantial portion of the Russian

assistance program. Appendix I graphically depicfi this structure.

Since 1992,USNDhas amended ik initial cooperative agreement with HUD

nine times, the completion date has been extended to August 1997,and the

value of the agreement has groin from $2.1mi~ion to $40.4fllion. These

amendmenk have expanded mD’srole from providing strategic policy

oversight, prim~y to the State Committee of the Russian Federation for

the Management of the State Property (GH),to establishing the Russian

Privatization Center (RPC),assisting in drafting commercial laws chmeled

through the State LegalAdministration of the Office of the President of the

Russian Federation (the Russian President’s LegalAdvisor [GPU]),and

‘Acooperative agreement is a fundingmechanism used by a federal agencyto transfer fundsto an

organization to support an agency program.Applicablelaws and regdations impose onlyminimal

requirements that agencies must followwhen selecting recipien- and awarding cooperative

agreements.

Page 17 GAONSW-97-27 Foreign Assistance
Chapter 1

Introduction

providing support to the Russian Securities and Exchange Commission

(SEC).In each of these are~, HIIDhelped establish Russian institutions to

participate in the reform process and managed enterprise restructuring

and land reform projects implemented by other U.S. contractors. The

reformers associated with HIIDhave had a leadership role in these new

institutes. In addition to the cooperative agreement with HIID,USNDmade a

direct grant of $16.5milhon to RPCto support its work.

To foster competition for work in the FSU,on March 17, 1995,USND

requested proposals from applicank to provide impartial oversight and

strategic gtidance for privatization and market reform programs. USMD

intended to award four cooperative agreements under the proposals: one

for western MScountries, includtig Ukraine, one for the Central Asian

republics, and two for work in Russia—one to assist the RPCand another

to assist the Russian SEC.The Universi@of Wisconsin was awarded the

cooperative agreement for Central Asia, ad HnDwas awarded a

cooperative agreement for work to assist the RPCand to resist USMDwith

the overall coordination, mmagement, and monitoring of different

contractors and initiatives. Awards were not made for assistice to the

Russian SECor to Ukraine. HIIDsubsequently submitted m unsolicited

proposal to provide assistance to Ukraine and was awarded a $1.5-million

noncompetitive cooperative agreement for this purpose.

USND Used HIIDto In addition to assistance provided to Russia directly by HIID,HnD~so

Help Manage Other helped USMDto manage md oversee contractors such as Arthur Andersen;

Deloitte &Touche; Price Waterhouse; Nynveld, Peat, Marwick, Goerdeler

Contractors (mMG)~eat Marwick; and several other consulting fm. The U.S.

contractors were paid by USND,not HIID.This arrangement required strong

managerial sW1 and a high level of coordination. Asshown in table 1.1,the

total value of USND’Sobligations for 1992-96for the Russian privatization

program as of May 10, 1996,amounted to about $325tilion, including

approximately $40rni~ion for H1lD.

Page 18 GAO~SMD-97-27 Foreign Assistice
Chapter 1

Introduction

Table 1.1: Summarv of USAID’S

Russian Privatization Program Program USAID obligations

Funding Obligations, Fiscal Years Mass privatization $58,324,607

1992-96(as of May 10, 1996) Land and real estate reform 62,626.116

Capital market development 77,189,912

Post-privatization activities 71,559,346

Policy, legal, and regulatory reformsa 39,103,676

Otherb 16,436.643 ——.

Total $325,240,300

aHllD received $36.1 million of its funding through this line item

b“Other” consists of miscellaneous privatization projects

Source: USAID

Objectives, Scope, Concerned about the noncompetitive nature of the awards made to HIID

and HHD’Seffectiveness, the Chairman of the House Committee on

md Methodology Interrtationd Relations asked us to review HnD’Swork. SpecWlcAy,we

assessed (1) how USMDawarded assistance agreement to HIIDto carry out

work in Russia and Ukraine and (2) HIXD’Srole and accomplishments in

implementing assis@ce agreements to (a) develop a Russian capital

market2 and (b) devise a legal reform program. We dso assessed the

effectiveness of the RPCin implementing USMD post-privatization and land

reform projec~. ~Wy, in response to the specific questions by the

Committee, we provide a chronology of evenk regarding the

noncompetitive award to HIIDfor work in Ukraine artd as ummary of what

knowledge Ukrainian offici~ had about the project. This information is

provided in appendix II of this report.

To review the basis for noncompetitively awarding HUD’Sf~st cooperative

agreement in Russia, a subsequent $20-mfltionlegal reform amendment,

and the noncompetitive award for work in Ukraine to HHD,we adyzed

USMDguidelines, relevant fdes, and documen~; interviewed USMD,

Department of State, Department of the Treasury, and National Sectity

Councfl offlcids; wd officialsrepresenting the University of Maryland,the

Russian Research Center for Private Law, HIID,and the government of

Russia.

‘Capiti markets consist of private institutions, technology,and regulatory structures needed to

facilitate the orderly and cost+ffective execution oftransactions for co~orate securities such as

stocks and bonds.

Page 19 GAONSMD-97-27 Foreign Assistance
Chapter 1

Introduction

To evaluate whether the HIIDproposal for work in Ukraine duplicated the

work of other assistance protiders, we reviewed files of the USMD mission

in Ukraine; analyzed the HIIDproposals; md interviewed offlcids from

Ukrainian ministries, U.S. contractors, the kternational Monetary ~d,

the U.S. Department of the Treasury, and other international assistice

providers.

In reviewing USND’Smanagement of the 1995competition, we analyzed the

competition files and other relevant documenk; and interviewed members

of the evaluation panel, the USMDProcurement Officer, other USMD

offlcids, and government of Russia officials responsible for the rejection

of the winning proposal for the Russian SECportion of the request for

proposals.

To assess HIID’Srole and accomplishments in the development of the

capiti market, we focused on the effort to estabtish an independent

Russian SECand the necessary capiti market infrastructure. We

interviewed offlcids from mID,USMD)the kstitute for Law-BasedEconomy

(ILBE),USND’Simplementing contractors, capital market participaw, U.S.

embassy economic section staff in Moscow, the New York Stock

Exchmge, the U.S. SEC,and international fmancid institutions, including

the World Bank. We reviewed USMD,HHD,and contractor files, including

task orders md work plans.

To assess HIID’Srole and accomplishments in the legal reform program, we

reviewed USNDand Department of State justtilcation documenk to

estabtish the gods of the program; discussed the program with the U.S.

bbassador to Russia, the USND~OSCOWDirector, and mDRussia’s

General Manager, the HIIDmOSCOWGeneral Manager,law firms

specitizing in commercial reform in Moscow, WorldBank

representatives, other contractors working in the legal reform area, the

Director of the Russian Research Center for Private Law, offlcids from the

University of Maryland who had worked on the Russim CivilCode,

members of the Russian parliament, and other relevant officials; and

reviewed work plans, HIIDprogress reports, HIIDreports prepared

specifically for our retiew, and other USNDdocuments.

To determine the restits of HIID’Sand USND’Sassistice to the RPC,we

interviewed representatives from the RPC’SMoscow office, including the

Chief Executive Officer, the HIIDSUppOfiedChief ~nancid Officer, the

ChiefLegalAdtisor, the Press Secretary, and project associates. We dso

interviewed USMDcontractors responsible for implementing us~D-funded

Page 20 GAO~SW-97-27 Forei@ Assistance
Chapter 1

Introduction

technical assistance projeck in enterprise restructuring and land reform

and the USNDrepresentatives responsible for overseeing these projecfi.

We dso reviewed project status and completion repo~ prepared by USMD

contractors and USND.

In addition to our work in Moscow, we performed site visits to St.

Petersburg, Tver, and Madimir. At each location, we interviewed

representatives of the local privatization centers (wc), local government

administrations, ad recipienfi of usMD-fundedtechnical assistance. Nso,

we interviewed representatives from HUD’Sheadquarters in Cambridge,

M~sachuse*.

The Rural Development htitute (RDI),a ~D contractor working in the

area of land reform, did not Mow us to interview iti Russian contacts;

consequently, we were Mted in our evaluation of RDI’Scontribution to

the process of developing land reform legislation in Russia in that we

codd not obti a Russim perspective on RDI’Sactivities. HIIDstated that

RDI’Scon~ck were sensitive, because they had been developed with a

commitment to cotildentidty.

The information on foreign laws in this report does not reflect our

independent legal analysis but is based on interviews md secondary

sources.

We conducted our work from March 1996to October 1996in accordance

tith generally accepted government auditing standards.

The Departmen@of State and the Tremury, USND,and HIIDwere protided

an opporttity to comment on this report. Tre=ury offlcids told us that

they had no comenk on the report. USND,mD, and the Department of

Shte provided dewed commenfi that are discussed in the appropriate

chapters of this report. Their commenk are reprinted in appendties N, V,

and W,respectively.

Page 21 GAO~SW-97-27 Foreign Assistance
I

I

I

Chapter 2

USMD’SAwardof CooperativeAgreements

USMDused noncompetitively as we~ as competitively awarded cooperative

agreements to fund HIIDactivities in Russia and Ukraine. We looked at a

December 1992noncompetitive award for work in Russia, a competition

held under a request for applications issued in March 1995,and a May 1996

noncompetitive award for work in Ukraine.

Byvirtue of its early md extensive work in advising the Russian

reformers, HIIDhad developed experience, expertise, and a system of

con@c@within the Russian government. We found that USMD’Sawards to

HIIDreflected the relationship it had established with Russian offlcids and

that the awards were consistent with applicable laws md USMDguidehnes.

WhileUSMDguidelines encourage competition, they recognize several

broad exceptions to the competition requirement, allowing

noncompetitive awards based on factors such as a recipient’s relationship

with a foreign country and the promotion of foreign poticy objectives.

We found that, in conducting the 1995competition, USMDused erroneous

scores to select one of the winning proposals. With respect to the 1996

award for work in Ukraine, we found no legal basis to question USND’S

decision to award HHDa cooperative agreement without competition for

foreign policy reasons. However, we observed that some of HIID’Sactivities

may dupticate work being performed by other assistance providers.

Minimal Requirements A cooperative agreement is a funding mechanism that a federd agency

for Award of

uses to tr-fer funds to a public or private organization to support m

agency program. Agencies often use cooperative agreements when they

Cooperative plan on being substantially involved in the management of the project

Agreements being funded. The agreement defines the agency’srelationship with the

recipient. Urdike acquisition of goods or services by contract, cooperative

agreements are often used to define project gods md determine the best

approach for achieving them. Because of the need for flexibility,

applicable laws and regulations impose ofly minimal requirements with

respect to the procedures agencies must follow when selecting recipients

and awarding cooperative agreements.

The Federd Grant md Cooperative Agreement Act of 1977(31 U.S.C.

6301) establishes criteria for selecting the appropriate funding

instrument-procurement contract, grant, or cooperative agreement-for

a particular activity. The act requires agencies, in awarding cooperative

agreements, to “encourage competition, where deemed appropriate.”1

t

Page 22

I

131U.S.C.6301(3).

GAO~SMD-97-27 Forei@ Assistice
Chapter2

USAID’SAward of CooperativeAgreements

Ukewise, USND’Sguidelines “encourage” competition in the selection

process. However, the guidelties describe a number of circumstances

where competition is not required.z For example, competition is not

required for (1) unsolicited proposals, (2) awards where one recipient has

exclusive or predominant capability based on an existing relationship with

the cooperating country, (3) follow-on awards that continue an existing

assistmce relationship, or (4) such other circumstances determined to be

critical to the objectives of the foreign assistance progrm (the “foreign

poticy”exception).3

1992Noncompetitive In October 1992,HIID submitted a proposal to USNDseeking funding to

Award of First HIID

provide technical assistance to Russia. The proposal focused primarily on

support for Russia’sprivatization effo~. At the time, USMD’Sassistance

Cooperative program in Russia was in ik early stages. WIDofflcids already had

Agreement experience working with Russian reformers and had provided substantial

technical assistance in eshblishing Russian institutions designed to

sustain economic reforms.

Since USMDbeheved there was an urgent need to begin U.S.support for

Russia’sprivatization effo~ and to coordinate western donors and

contractors, it decided to award WIDa cooperative agreement without

competition based on the expertise and relationships mIDhad developed in

Russia. Under USMDguidelines, competition is not required when the

recipient is considered to have exclusive or predominant capabtiity based

on an existing relationship with the cooperathg country.4Therefore, in

our view, the award was consistent with USMDguidelines.

us~Difiti~y pro~ded $2.1~hon in funding for the agreement. me

agreement was amended nine times; five of the amendmenk increased

funding for the agreement with MID.By September 1995,funding for the

agreement totied $40.4mi~ion. The largest single increase in funding was

a noncompetitive amendment executed in Jdy 1994that provided

$20milfionfor a legal reformproject. The purpose of the project was to

support a newly formed coordinating committee on law drafting, chaired

by the head of GPUmd composed of representatives from GPU,the Durna

(the lower house of the Russian parliament), and the Federation Council

(the upper house of parliament). The amendment increased funding for

~USMDHandbook13,chapter2,“SelectionofRecipients.”

~USMDHandbook 13,chapter 2B(3).

~USMDHandbook 13,chapter 2B(3)@).

Page 23 GAONSW-97-27 Foreign Assistance
~’

Chapter2

USAID’SAward of CooperativeAgreements

I

I HIID’Sagreement from $15.6mi~ion to $35.6mi~ion and extended the

completion date from August 1995to August 1997.5

I

By the time of the amendment, USND’Slegal reform effotis in Russia were

expanding and other USNDrecipients were providing technical wsistance

to Russian institutions. For example, the University of Maryland’sCenter

for Institutional Reform and the Informal Sector (IRIS),another

organization that had received USMDfunding, was also doing legal reform

work in Russia.

In view of the fact that another organization was by now providing this

type of resistance to Russia, USMDconsidered conducting a competition.

Nevertheless, USNDdecided to amend HHD’Sexisting agreement, justi~ng

the amendment based on HIID’Shaving an exclusive or predominant

capabili~ due to ifi existing relationship with Russian officials. The

usMD~oscow Director dso noted that the decision to continue HIID’Swork

was supported by foreign policy considerations and endorsed by the State

Department’s NISCoordinator’s Office, the National Security Council,the

Department of the Treasury, the Office of Management and Budget, and

the USMDAssistant Administrator for Management.

In support of ik determination to award the amendment, USNDexplained

that HIIDhad a unique advantage to carry out the legal reform program

because HIID’S=sistance had been requested by GPUas a direct outgrowth

of ifi ongoing program. Specifically,USMDfound that HIIDhad developed a

“deep relationship of trust” with the Russian reformers involved in the

project and that it had a unique track record in providing policy advice in

Russian reform efforts. USNDcharacterized GPUas the primary legal

counsel to the Russian President.

According to IRIS documenhtion, IRISchallenged USND’Scharacterization of

GPUM the Russian President’s chief legal advisor. According to IRIS,

President Yeltsin tiso sought legal advice from a broad group of

individuals ad entities, including other members of the Presidential

Councfl,the Ministry ofJustice, and the Chairman of the Research Center

for Private bw. In fact, according to IRIS,the Research Center was

primatiy responsible for developing an important portion of Russia’snew

CivilCode, with assistance from representatives of the Office of the

President and Prime Minister, the Minist~ ofJustice, the judiciary, the

%e other amendments that USMDmade to the cooperative agreement were smaller. Under USAID

Handbook 13,chapter 2B(3)(c), competition is not required for amendmen@to existing assistance

agreemenW.

1 Page 24 GAO~SMD-97-27 Foreign Assistance
Chapter 2

USAID’SAward of CooperativeAgreements

parliament, and the academic community. According to mIs,this work was

accomphshed despite initial opposition from GPU.

Whether or not GPUwas the President’s primary legal advisor, it is clear

that GPUwas an important force in Russia’slegal reform effo~ and that it

was to play a sigtilcant role in the project that formed the basis for the

amendment to H~D’Sagreement. Therefore, we believe that USND’Sdecision

to amend HIID’Sagreement was reasonably based on mID’Sefisting

relationship with Russian reformers.

1995Competition On March 17,1995,USMDissued a request for applications for “kpartid

Oversight and Strategic Guidance for Privatization and Market Reform

Under Request for Progr~ in Russia, West NIS[Ukraine, Moldova,and Belarus], and Central

Applications Asia of the Former Soviet Union.nUSNDplanned to award two agreements

for assistance to Russia+ne for work related to the RPCmd one for

assistance to the Russian sEc—andone agreement each for work in

Ukraine and Central Asia. HIIDsubmitted two proposti-one for

assistance related to the RPCand one for assistance related to the Russian

SEC.

USMDawarded ody two agreemenk, one to HIID,valued at $17.4milhon,

for work with the RPCand one to the University of Wisconsin for work in

Central Aia. me proposals were received for the Russim SECproject

and were being prepared for the Ukraine project, USNDcanceled the

portions of the request pertaining to those projects.

We found that USMDused erroneous scores to select the winning proposal

for the Russian SECproject. ~timately, the Russian SECrefused to accept

the projected winner, and USMDdid not award a cooperative agreement for

the project. In the meantime, USMDamended HIID’Sorigin~ cooperative

agreement and added $1.7rni~ion to cover certain Russian SECcosts

through September 1996.

The Ukraine portion of the request was withdrawn before proposals were

submitted, based on USND’Sdeterrrdnation that funds were hmited and that

Ukrainian officials were not interested in oversight assistance. In

May 1996,USNDawarded HIIDa cooperative agreement for work in

Ukraine. Because high-levelUkrainian officials specifically requested HIID

assistance, we had no basis to question USMD’Sdecision to award HIIDa

cooperative agreement without competition for foreign pohcy reasons.

Page 25 GAO~SW-97-27 Foreign Assistance
Chapter 2

USAID’SAward of CooperativeAgreements

SelectionProcess for USNDestibtished a committee and developed criteria for evaluating

RussianSECWork proposals for the RPC,the Russian SEC,and the Central Asia projects. USMD

instructed panel members to use the following criteria and weights to

evaluate proposals (see table 2.1).

Table 2.1: Criteria and Weighta for

Proposal Evaluation Criteria Weights (percent)

Qualifications and ex~erience of Dersonnel 50

Prior case study 30

Institutional qualificationsand experience 20

Total 100

USMD~so specified that it wotid “look favorably on applications that

minimize the number of expatriate person months, maximize the

participation of local indigenous staff md provide the best overa~ value to

the Government, cost and other factors considered.”

The evaluation committee was composed of five individuds, including

three USNDofflcids, an RPCrepresentative, and a Russian SEC

representative. me committee Chairmm was from the USMDproject office.

Both the RPCmd the SEChad been given an invitation to nominate

representatives to the selection panel. In late June 1995,the Assistant

Administrator for European and NIS~airs communicated a second

invitation to the Russian SECdirector. According to USMDand State

Department offlcids involved in this decision, the Russian institutions

were allowed to place representatives on the committee because they

wotid be working closely with the winners of the competition. The

offlcids wmted to ensure that the Russian institutions would have a say in

and titimately accept the selection of the organization with which they

wodd be working.

The Director of the RPCnominated a tigh-level RPCemployee. The

employee was approved by USNDand named to the committee. The

Russian SECinitiallynominated an individud employed by Price

Waterhouse, but USMDrejected this individud because Price Waterhouse

was subject to HnDoversight. The Russian SECthen nominated an

individud from the World Bank’sInternational ~ance Corporation who

had extensive experience working in the Russia capital markets. The

Executive Director of the Russian SECstited that the nominee was very

familiar with the content and organization of his progras and plans for

the future. USMDapproved the nominee. However, because the Russian

SEC’Ssecond nomination of a representative did not occur until after the

Page 26 GAONSW-97-27 Foreign Assistance
Chapter 2

USAID’SAward of CooperativeAgreements

other committee members had completed their evaluations, US~Dhad to

formally reopen the process to allow the Russian SECrepresentative to

conduct her evduation.6

According to the USNDProcurement Officer responsible for conducting the

competition, the Russian SECrepresenbtive did not follow the instructions

fo~evaluating proposals based on the us~wdeveloped criteria. Instead,

she ranked the eight applican~ in descending order, with eight being the

highest rating and one the lowest. USND’SProcurement Officerreconciled

the Russian SECrepresentative’s ranking with the other committee

members’ numerical ratings by mdtiplying each proposal’s ranking by the

weighted value of the category. For example, he gave the top-ranked

proposal an 80 (0.8 x 100percent). Because most of the panel members

had departed Washington, D.C.,where the scoring had taken place, the

USMDProcurement Officer said he made no effort to reconvene the panel

for group artdysis or to have the Russian SECrepresentative correct her

scores.

MathematicalErrorsin We found that the USMDProcurement Officer made several mathematical

Calculationof fid Scores errors when cdctiating the find panel’sscores for the Russian SEC

proposals. According to the official, he made the errors when he

transferred co~ttee members’ individud scores to his find worksheet.

Based on his tdy of individud scores, the Procurement Officer cdctiated

that the panel had rated a proposal submitted by the Stanford Research

Institute (SRI)the highest. He cdctiated an average score of 76.7percent

for SRIand 76.4percent for HIID.Our discussions with the panelists and our

review of their individud evaluations disclosed several discrepancies

between the panel members’ ratings and the ratings recorded by the

Procurement Officer. Based on our cdctiations, the panel members

actutiy gave HHDm average rating of 77.1and SRIm average rating of

76.08.

me Procurement Officer stid that he recommended SRIfor award of the

Russian SECcooperative agreement based on the committee ratings, which

he acknowledges were incorrect. According to USNDoffici~s, when USMD

informed the Director of the Russian SECthat SRIhad been selected for the

cooperative agreement to work with his organization, he refused to accept

6Becauseof HIID’sclose involvementin esbblishing and operating the RPCandtheRussianSEC,

questionshave been raised concerning the ability ofthe individualsrepresenting these organizationsto

fairly and independently evahrate the proposals. For both ofthese organizations,HIIDhad provided

personnel for keymanagerial positions, and each organization stronglysupported HIID’swork.

However,each representative certified in writingthat he or she had no conflicts of interest.

Page 27 GAO~SMD-97-27 Foreign Assistance
Chapter2

USAID’SAward of CooperativeAgreements

SRI.Consequently, USNDchose not to award a cooperative agreement for

the Russian SECwork.

In September 1995,before SRIwas notified that the Russim SECportion of

the competition had been canceled, usMD~oscow amended H~D’Setisting

cooperative agreement to provide $1.7tihon to HIIDto finance 20Russia

professionfi for the Russian Resource Secretiat (the Resource

Secretariat provided professional advice to the new SEC).The amendment

Wowed ~ID to fund these personnel through September 1996;the cost of

operating the Russian Resource Secretiat wotid have been covered in

the rejected cooperative agreement.

1996Noncompetitive The March 17, 1995,request for apphcations covered assistance in the

Award of Cooperative western MS,including Ukraine, Moldova,and Belarus. The request was for

irnpartid oversight and strategic advice for privatization md market

Agreement for reform progr-. On May 23, 1995,USMDdecided not to award a

Ukraine cooperative agreement for assis~ce to Ukraine ad withdrew that

portion of the request.7According to the us~D~ev Director, the decision

to withdraw the request was made because of hmited funds and because

Ukrainian officiti had indicated they were not interested in oversight

assistance.

k Jdy 1995,H~Dsubmitted an unsolicited proposal to USNDfor a project

to provide macroeconomic poticy advice to the govement of Ukraine.

The proposal was modified in August and October 1995and at that time

had an estimated budget of $6 fion. In April 1996,after the House

Committee on ~ternationd Relations raised concerns about the proposed

agreement, HHDsub~tted a scaled-back proposal that had three

componenk: advice on macroeconomic ad mone@ pohcies, t= and

budget assistance, md advice on reforming Ukraine’s pension program. In

May 1996,USNDdecided to award without competition a cooperative

agreement for $1.5rni~ion, based on HUD’Sscaled-back proposal. The

noncompetitive award was made under the authority provided in USMD

Handbook 13,chapter 2, paragraph 2B3e,which states that competition is

not required for “circumstances determined to be critical to the objectives

of the foreign assis~ce program by the cognizant [Assistant

Administrator].”According to USMD,eartier attempts to provide policy

advice to Ukraine through the competitive process had been rejected by

the Ukrtian government, which had a generdy negative view of foreign

7HIIDhad decided not to submit a proposal for Ukaine pursumt to the March 17,1995,request.

Page 28 WO~SW-97-27 Foreignksistice
Chapter 2

USAID’SAward of CooperativeAgreemen@

advisors. However, Ukrainian offlcids subsequently specifically requested

resistance and macroeconomic advice from HIID.

On March 26, 1996,the Assistant Administrator determined that the award

would be made without competition based on foreign poticy

considerations.8 The award was dso approved by a representative from

the State Department’s Coordinator for Assistance to the mu, a

representative from the Treasury Department, md a representative from

the National Security Council.The justification for the award provided the

following:

“Itissquarely in the interest of the United States for Uhaine to implement its reform

programs successfuUy, and high-level strategic advice W clearly serve as a cnticd catalyst

at this juncture. Thus, it behoovesUSMD to beresponsivetothe[government ofUkraine]

requestforHUD’S assistance,whichti enablestrategicpohcyadvisors,whospecidzein

transitioneconomies,tohelpshoreupthe[government ofUkaine’s]potiticdW and

providethemwiththetechnicale~ertisetoformulateandimplementappropriatepohcies.

Earherattemptstoprovideeconomicpohcyadvicethrougha competitiveRequestfor

Applicationsprocesswasspecificallyrejectedbythe[government ofUtie] becauseat

thetime,theydidnotperceivetheneedfortechnicalassistancethattheynow

acknowledge. ”

Because high-levelUkrainia offici~ specificdy requested HIID

assistance, we have no legal basis to question USND’Sdetermination that

foreign policy considerations justified awarding HHDa cooperative

agreement without competition.

PotentialDuplicationof The USNDmission in Kev observed that the ti componenk of HIID’S

OngoingWork proposal wotid largely duplicate and quite possibly delay work already

being done by a U.S.Treasury advisor and others. The mission tiso noted

that HHD’Sproposal would hkely duplicate work being done by the

International Monetary find for the NatiorudBank of Ukraine in areas of

foreign exchange and credit pohcies. This concern was dso raised by the

~d representative in Wev in Jdy 1996.The USMDmission dso concluded

that despite some deficiencies with a German-sponsored program in the

area of pension reform, HIID’Sproposal wotid be counterproductive to this

effort and the project wotid have to begin dl over again.

%e head of USMD’Sprivatizatiotieconomic reform office noted that the HIIDpropos~ mightin some

respects duplicate work under the request for applications, and we note tiat both HIIDandtierequest

soughttoprovideadticeandassistancein reformingUhaine’s t= law. Mile the USMDofficial

believes that the work should have been competed, she recognized that the Asistant Administrator

had authority to make an award to HIIDbased on foreign policy considerations.

Page 29 GAO~SWD-97-27 Foreign Assistance
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USAID’SAward of CooperativeAgreements

The May24, 1996,cooperative agreement with HIIDawarded on the bmis of

foreign policy considerations recognized these potential areas of

duphcation ad made reference to the need for HHDto coordtiate with

other assis@ce providers.

Agency Comments In commenting on this report, USMDgenerally agreed with our findingsthat

these awards were consistent with applicable laws and ifi guidelines. USND

dso stated that although we made no recommendations, it plmned to

review etisting policy regarding amendmenk to noncompetitive

agreemenk.

The Department of State noted that while HHD’Spreexisting relationship

with Russian reformers may have been adequate for the selection of HIIDin

the pint, “an e~losion in the numbers of economic specitisk md of

kericans, with business and acadetic backgrounds tith substantial

e~erience in the Russian market, wodd make this a less hkely rationale

for ‘sole source’ selection in the future.”

Page 30 GAO~SW-97-27 Foreign Assistance
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EfficientCapitalMarket

USMDand HIIDagreed early on that a well-functioning, efficient capital

market was critical to Russia’ssuccessfl transition to a market economy.

Russia needed an efficient system to (1) raise capital; (2) facilitate the

selfing and registration of shares; and (3) provide reliable information to

potential investors, among other things. Between fiscal years 1992and

1996,USMDprovided $77.2mi~ion for the capiti market development

effort, mostly through constitant organizations such as BoozNlen,

Burson Marsteller, Arthur Andersen, mMG~eat Marwick, Ian Reed

Constiting, Price Waterhouse, and Deloitte &Touche. HIID’Srole was to

provide strategic guidance to the capital market development effort,

including helping to coordinate and provide impartial oversight over the

constitant contractors that gave technical assistance to Russian

institutions.

Withthe assistance of HUDand other U.S. contractors, Russia has made

sigtilcant progress in developing a capiti market. A key factor in this

progress was HHD’Sassistance in creating an organization to consolidate

technical aid to the Russian capital market. To date, Russia has

estabhshed (1) an SEC,(2) a national company for registering trades, (3) a

stock trading system, and (4) a se~-regtiatory organization for market

participant. However, the god of establishing an efficient,

well-tictioning capital market has encountered a number of problems,

including recent political maneuvering to downgrade the Russian SEC’S

status and autonomy. These effo~, although ultimately unsuccessful,

created uncertainty about its future role. Furthermore, plans for a national

system of clearing and settlement organizations (CSO)needed to facilitate

the settlement of transactions have not been fully realized.

According to H~D,the threa~ to capiti market development have been

red and serious. HIID’Sresident General Director stated that over the last

2 years, many parties have been interested in an aggressive bureaucratic

intervention to prevent market mechanism from functioning norrndly.

Thus, the future of the Russian capital market is uncertain at this time.

Condition of Russia’s At the time when USNDbegan to support this capital market development,

Capital Market men

Russia was suffering from many of the illstypically associated with the

transformation from a state-controlled economy to a market economy.

Assistmce Began Pirst, the Russian securities market was created by the mass privatization

of thousands of state-owned enterprises, which eventually resulted in

millions of new shares and share owners.

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In addition, the lack of an organized, efficient, and controlled environment

for trading securities presented a huge obstacle to the development of a

secondary market in Russia.l In the absence of a modern trading

apparatus, brokers had to physically travel to a company’sregistrar to

ensure that the change in share ownership was entered in the books

correctly. Brokers then had the option of carrying suitcases full of cash to

close the ded or transferring money through the banking system. This

codd tie weeks or even months—e~osing the broker to additiond risk.

In the interim, the price of the shares purchased cotid fa~ or, in the case

of a price increase, the se~er cotid decide to back out of the ded in order

to retain the gain.

The etisting capital market was dso highly fragmented and opaque. There

was no mandato~ listing of shares. Trading occurred principally through

informal arrangement among brokers and w= conducted most entirely

in the over-the-counter (oTc)marketi. Brokers relied on their connections

with enterprises to find shares and then set their own prices, which could

differ by a huge margin from other sellers’. Most often, information on

transactions and prices WMnot disclosed and, when it was revealed, it

was not trustworthy. k most cmes, stock certtilcates were not issued.

Instead, ownership was recorded in company ledgers that were not

necessarily independent of the actual company they served. These factors

encouraged trading activities that were nonstandardized, fragmented,

costly, tim~cons uming and, from an investor’s perspective, unreliable.

The absence of organized trading marke~ dso meant that enterprises had

few avenues for raising capital through the issuance of shares. Broker

syndicates that placed shares in the capital markek were onlyjust

beginning to emerge. Moreover, a number of logistical and practical

difficdties impeded the sde of shares, ptiiculmly on an interregiond

basis. Therefore, enterprises had to devise their own method of attracting

share buyers. Moreover, in the absence of organized capiti markets, these

enterprises generdy found it unnecessw to engage in practices designed

to ensure investor confidence. Enterprises did not disclose detailed

fmucid information on a regular basis. Their boards rarely included ttiy

independent directors. hd some enterprises deliberately tried to thwart

the righk of ou&ide investors.

‘Themarketplace for buyers and sellers of existing securities is called a “seconda~ market.”me most

frequentlycited example of a secondary market is the NewYorkStock Exchange,where equities of

largeU.S.corporations are traded. Secondaw markets are often contrasted with primarymarkets,

where newlyissued securities are sold to investors.

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HIID’sRole in Withthe award of the cooperative agreement in December 1992,HIID

basically became responsible for guiding the capital market development Establishing a Capital effort. Thisincluded working with the newly created Russian SECto

Market estabfish i@independence and to develop the necessa~ capiti market

infrastructure, including self-regtiatory organizations, independent stock

registers, and CSOS.

Under the cooperative agreement, HIIDwas to work with the Russian SEC

on iti regdatory and infrastructure projects. HIIDwas to assist in the

development of institutional capabilities with respect to regdatory

requirement and infrastructwe needs and then participate in project

design and implementation by helping to (1) design and execute

information-gathering tasks, (2) analyze existing needs, (3) determine key

concepk for the project, (4) articulate the vision for the projects, and

(5) define and carry out the projec@.In addition, HIID’Slong-term advisors

md short-tern specitis@ dso were responsible for =sisting with

monitoring contractor performance.

In 1994,HfID,with the resistance of a representative of a senior investment

officer from the World Bmk’s kternationd ~nmce Corporation, prepared

a memorandum on developing a Russian capital market. The

memormdum presented some of the choices about the structure of the

capital market and made recommendations about possible courses of

action to follow. For example, it recommended that the capital market

shodd be regulated through a combination of a se~-regulatory

organization and a centralized bureaucracy. It also recommended that the

market participak be left to choose the trading system that best met their

needs. In addition, the memorandum discussed shareholding and

settlement structures, share depositi, and custodid services but did not

make any recommendations in these areas.

USND~so used “omnibus”contrac@2to retain the services of U.S.

contractors that had the ability to mobilize the resources and expertise

needed to identify and implement capiti market activities. These

contrack required the subsequent approval of task orders and work plms

for the purpose of further defiting the role the contractor was to perform.

‘USND’SEurope and NISBureau often procured LT.S.technical resistance through multipurpose

contracts, commonlyreferred to as “omnibus”contrac@.These contracts protided for the

performance of activities, many of which needed to be further defined. USAIDused the omnibus

contrac@to retin the services of U.S.companies to mobilize,either in-house or through

subcontractors, the resources and expertise needed to identify and implement project activities,The

description of work in these contracts was very general.

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HIID(working with Russian reformers, contractors, and USMD) helped wfite

these &k orders.

Development of the During the summer of 1994,in anticipation of the creation of a Russian

Russian SEC SEC,USMDbegan to fund a Resource Secretiat through HIIDand USMD

contractors. The idea was to consolidate dl technical assistance to the

Russian capiti market under a single managerial and coordination

structure led by experienced professionals. The objectives of the Resource

Secretariat and the Russian SECwere

● to develop the institutions and infrastructure of the Russian securities

market,

● to foster self-regtiation by market participants, and

● to provide regdatory oversight of the market through self-regtiatory

organizations.

The Resource Secretariat was created through the assistance of HIIDand

USMD contractors. Spectlcdly, HnD recruited and, using funds provided by

USMD,paid for the salaries of executives in the Resource Secretariat. HIID

~so coordinated the work of USMD contractors, including consultant and

accounting fm, and of their subcontractors. These subcontractors

created the administrative and organizational component of the Resource

Secretariat and implemented various infrastructure projects. USMD had

provided about $15.6mi~ion in support of the Resource Secrettiat and

the eshblishment of the Russian SEC,including payments of $13.9million

to U.S. contractors and $1.7tition to HIID,= of May 1996.3

In addition to the work performed by the Resource Secretariat, HIID

assisted the Russian SECthrough HIID’Slegal reform project. Among other

efforts, the Iegd reform project worked on a draft securities law and

provided amendmenk and refinemen~ to the draft. On April 22, 1996,

President Yeltsin signed a comprehensive law “Onthe Securities Market”

that established a structure for market regulation by the Russian SEC.

Market participant said that the adoption of this law was a significmt

milestone. According to USMD and HIIDofficials, the concepts of the law

and the vision of the capiti market regtiation contained in the law are a

direct resdt of HIID’Ssupport of the Resource Secretariat and the Russian

SEC.

‘%e $1.7millionwas provided by USMDin September 1995to pay the cost of Russiansworhng for

the Resource Secretariat. However,this does not include the fundingfor the executive management

positions funded through HIID’scooperative agreement that HIIDaccounted for as “policyadvice.”

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Progresson OtherFeatwes Russia, with support and assistance from HIIDand others,4 has made

of an EfficientCapital substantial progress on some of the key features of a functioning, efficient

Market capital market infrastructure. These accomphshments include developing

a Russian SEC,a stock trading system, md a se~-regulatory organization

for market participant@(deders and brokers). Efforts to establish other

infrastmcture elemen~, however, have encountered obstacles. Most of

USMD’Sinfrastructure efforts will end in late 1996,by which time USMDhad

hoped that the necessary laws and institutions wodd be substantially in

place. This now appears urdikely.

me Russian Trading System HIIDprovided oversight over the development of the Russian stock trading

system. Barents, an economic consdting unit of the accounting firm

mMG~eat Marwick, was responsible for implementation of the project.

In December 1993,mMG~arents proposed to USMD and in February 1994

to the western staff (Resource Secretiat) of the Russian SECthat the

market’s evolution might best be advanced by organizing deders in a

National Association of Securities Dealers Automated Quotation system

(Nasdaq)-styleself-regtiatory organization. This wotid be an evolutionary

step from their present activities in an informal OTCmarket. In mid-1994,

wMG~aren&, the Russian SEC,and USMD began to create a national

electronic OTCmarket largely patterned on the U.S.market. The

nMG~aren@’ task orders for implementing the Russia trading system

and the associated institutional development, paid by USND, amounted to

approximately $15mi~ion from 1992through 1996.

The project covered the operational cosw to ‘jump-start” the trading

system. For example, the contract task order included funds to pay for the

salaries of expatriate advisors that provided technical assistice to the

se~-regtiatory organization, covered the operational cost of this

organization, and provided computers and software along with the training

to establish a telecommunications network that connected Moscow

brokers md regional brokers to the trading network. One of the Russian

trading system’s primary contributions has been in increasing the quality

of pricing information.

As of October 1996,there were 328members of the broker self-regulating

organization that owns the trading system, of which 215 have trading

system terminals in their offices. The broker organization now has

members in 39 cities, and in 24 of these cities, members have access to the

~Thereform of the capital markets has involvednot onlyHIIDbut also substantial input by the New

YorkStock Exchange,the U.S.SEC,and the Federal Reserve.

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trading system. According to HnD,most of the 15cities where brokers do

not have access dl be connected by the end of the year by mMG~arents

under ifi &k order. Over 100company stock issues are tisted on the

system, and rougMy 40 to 50 percent of the oTctra~ng in Moscow flows

through it.5The Russian trading system no longer receives assistice and

is operated by the market participant on a se~-financing basis.

DevelopmentofSelf-Re@atow The Russian trading system initiative served as a springboard for the effort

DederBrokerOrganizations to promote professional associations and seu-re~atory organizationsfor

brokers and deders. According to a wMG~arents offlcid, wMG~arenti

presented to the State Department Coordinator a proposal to assist in

organizing a self-regdatory deder~roker organization. The mMG~arents

official betieved that there was a need for Morm practices and codes of

ethical conduct in the Russian market. Without organized discipline,

hquidity and cosb suffer, and market activiw is impeded. ~D provided

general oversight over wMG~aren@’work as part of i= cooperative

agreement responsibilities.

As a restit of wMG~aren@’work, a Professional *sociation of Market

Participan& (PAUFOR) was established. PAUFORis the Moscow association

of brokers and deders. Anationwide organization cded the National

Association of Professional Market Participant (NAUFOR) was dso

estibhshed. It is essentitiy an umbrella organization of local broker

organizations, including PAUFOR, in six regions of the country. The

associations are se~-regdatory organizations of market participant that

develop governmce, fair practice fies, trading ties, and compliance and

enforcement procedures to help promote fair and trustworthy markek

that earn the confidence of investors in Russia and overseas. As of

Jdy 1996,the umbrella organization had been active for approximately

1 year.

Market participants, both Russian and foreign, stated that PAUFOR, while

sti~ in i~ infancy, has had a positive effect on market practices and has

helped to improve the conditions in Russian capital markefi. Whilethe

organization is not yet as strong or effective as many wotid like to see it,

market participants we interviewed were genertiy quite impressed with

the progress to date. They said that PAUFORisgainingmembers on a fairly

steady basis. According to contractor and U.S. officials we intetiewed in

Moscow, as more and more market participants adhere to PAUFOR’Scodes

and practices, it wi~ become increasingly difflctit for “rogue”traders or

fm to conduct business in the Russian market.

%ese sbtistics were providedby HIIDin October 1996.

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PAWOR isoperating at close to a break-even level and is increasing in

membership at a promising rate, according to mMG~arenk officials and

market participmts. Compliance with financial and disclosure

requirements is improving, md disciplinary measures are being taken

agai~t transgressing firms.

NationalRe@stryCompany HIIDrecognized that the establishment of refiable stock registrars must be

Es@bkhed to Address Re@ster one of the highest priority areas of the Russian SEC.The spectilc go~ of

fioblems the task order HnD helped prepare for mMG~arenk were to (1) play a

catiytic role in stimdating the creation of one or more third-party

registrars capable of providing quality services, on an interregiond basis,

to large issuers and (2) provide guidace to the registrar industry on legal,

regdatory, and operational issues involving such areas as shareholders’

entitlement and processing of distributed share trmsfers.

According to a senior Resource Secretariat offlcid, the concept behind the

National Registry Company (NRC)was that Russian companies seeking

foreign capiti wodd be compelled to use NRCor a s~arly

well-conceived and -operated registrar. A centerpiece of the proposal was

the participation of very large and visible Russian companies, such as

Lukoti,that wotid serve as examples of significant companies Wing to

place their company’sstock registration with NRC.This was intended to

induce otier companies to move their registries to the new, or similar,

registrars.

Large issuers particdarly present problems in the areas of shareholder

communications, exercise of voting righ~, payment of dividends, righ=

offerings,Gand other shareholder entitlements. Thisis partly because large

issuers often have their shares broady distributed across a number of

regions, with transfers occurring in more thw one principal location. This

introduces sigtilcant organizationrd, processing, and legal ad re@atory

questions, such as the role of subregistrars and mtitiple transfer agents.

In February 1994,USMDdeveloped a task order for Deloitte &Touche to

assist in the development of a large stock issuer registrar for recording

stock ownership. The task order noted that for large issuers (defined as

those companies having in excess of 100,000shareholders) the chtienge

of obtaining quality services from an independent registrar is considerably

greater than for smaller companies.

‘Rightsofferingsare the sale of new shares of comon stock by distributing stock purchase rightsto a

fire’s existing shareholders.

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NRC,a large-issue shareholders’ registry designed to conform to

internation~ standards for registry activities, was initi~y capitized at

$10Nhon by the Bank of New York International Stock Registry

Corporation, NikotiInvestment Company (Russia), United Export-Import

Bank (Russia), the World Bak’s International hance Corporation, and

the European Bank for Reconstruction and Development.

However, as of October 1996,the transfer of the Lukotiregister had not

been executed. This, among other factors, has led to a certain amount of

skepticism on the part of market participan~. Whilethey do not doubt that

NRCike~ ~1 be a responsible ad worthwtie organization, the delay in

Lukofl’sexecuting the arrangement lowered hopes in the broker

community by givingthe appearance, at least to some, that the project did

not have the momentum necessary to succeed.7

However, according to HHD,progress has been made in solidifyingthe

NRC’Sposition. HIIDsaid in October 1996that NRChas now taken over the

registers of 17Russian companies, dl of whom have more than 1,000

shareholders. ~ve of these companies have more than 10,000

shareholders. HIIDsaid that in September 1996,NRCbecame the registrar

for No~sk Nickel, the world’slargest nickel producer, and that NRCwas in

the fmd stages of negotiation for chent agreemenfi with an additiond five

Russian companies, including Lukoil.It said that although the transfer of

the Lukoilregister has been delayed, Lukoflhas pubticly reconfined its

intention to transfer i~ company register to NRC assoon as i~ internal

corporate reorganization is complete. This shodd occur by April 1, 1997.

Lukoti and NRC arecurrently finalizingthe contract for such a transfer. We

have not verified the recent information provided by HDD.

Effortsto Develop CSOS There was consensus among market participant= that a central depository

EncounteredObstacles was needed to facilitate the clearing and settlement of transactions. k

mid-1993,a project under HIID’Sdirection got under way to create five CSOS.

Bylate 1994,csos in Moscow, Ekaterinburg, Novosibirsk, St. Petersburg,

md Wadivostok had emerged. Each cso evolved from an existing stock

exchmge and was owned and controUed by the exchange and the market

ptiicipant.

‘Whilecertain decrees and regulations have been passed in an attempt to improve industrywide

registrar practices, many companies are serviced by “pocket”registrars, that is, registrars that they

control. This has proven to be a mtior impedimentto secondary trading. Companymanagementis

often able to use its relationship with the pocket registram to get them to refuse to record changesin

ownership ofshares in order to lessen outsider paficipation in tie firm.

Page 38 GAONSMD-97-27 ForeignAssisWce
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The cso project was to be a key element of HIID’Sinfrastructure effort, with

a potenti~ impact on stock registrars, de~ers and brokers, the Russian

centr~ bank, foreign and domestic banks, the tax inspectorate, and others.

USMD’Scost for this effort was $14miflionfor fisc~ years 1992-96.

HnD,through i~ support of the Resource Secretariat, took an active role in

designing and implementing the Moscow CSO,bown x the Depository

Clearance Company (DCC).The original concept was for DCCto hold stock

shares in either the stock owner’s name or a nominee’s name. It was dso

to settle stock transactions. The Resource Secretariat’s former Executive

Director, an HHD employee, devoted considerable time to develop DCC.

Moreover, HUD, using usND-providedtids, ptid the salary of the DCC’S

second President. h addition, U.S. contractors, under HIID oversight,

(1) identfled potential institutions with which it hoped to work to develop

CSOS,(2) determined the level of assistance required and developed a work

pl~, (3) pro~ded finmcid suppoti to these institutions to cover OPeratkg

expenses,(4) gave poticy and organizational advice, and (5) trained staff

to perform the activities required for a self-regtiatory organization.

According to the contractor, as of mid-1996,only the Wadivostok stock

exchange was active, executing about 30 transactions a day, ad as of

mid-1996,DCC was disintegrating. USMD,HIID,U.S. contractors, and market

participan~ cited a number of reasons for the CSOS’current status. These

included unfavorable market conditions, discouraging tax laws, and

potiticd power struggles.

Unfavorable Market Conditions According to HnD and a U.S. contractor, DCCis not yet fully operational in

part because the market was not ready for such an organization. In 1994,

the deders in Moscow and to a lesser extent in St. Petersburg were buying

and selfing shares mainly to accumtiate share packages for large buyers.

The dominant force in this market was foreign buyers purchasing through

Credit Suisse Pirst Boston Bank (CSFB).The Moscow deders were

providing CSFBshares they bought from smd regional deders.

Bymid-1995,however, foreign interest in Russian shares declined, and

market activity then centered on domestic buyers who were consolidating

their purchases of shares. Dealers were buying from smti customers and

selhng to larger customers, usually Russian enterprises, banks, and

voucher funds.8These activities did not involve a settlement between

deders. Moreover, high itiation and political uncertainty continued to

8Duringvoucher privatization, a number of funds containingvouchers, or shares, for many companies

were established by Russian organizations,

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reduce the demand for shares to a few dozen large, well-known

I companies, matiy traded by 20 or 30 Moscow deders.

I

[ T=es and Registrar Fees According to foreign bmks and other market participants, even if DCChad

the capacity to settle trades, it wodd not be in their interest to trade using

domestic organizations because of the Russian w structure. Russian law

makes no distinctions between beneficial (the investor) and nominee

(generally the custodian) holders in offshore custody arrangement.g This

creates uncertainty as to whether the investor or the nominee will be

required to pay taxes. One contractor noted that in late 1993,the

long-awaited decree on nominee ownership was pubhshed but without

elaboration and specificity that might have created confidence among

investors and market participant in using DCC.

The amount of taxes on domestic transactions dso works against the god

of getting foreign companies to trade through domestic CSOS.E a foreign

company sells property in Russia (for exmple, shares), it is liable for a

20-percent withholding tax on the profits. (Capital gains are taxed as

ordinary income in Russia, at a rate of 35to 38 percent.) In contrast,

market participant stated they did not have to pay trees on Russian

trades going through offshore trading companies.

International bankers dso stated that to transfer their present holdings to

DCCwas currently not in their chents’ interest. They explained that to

move the shares that are currently under their custodid care wodd

require the shares to be registered in the nominee name of DCC.Such a

transaction wotid incur a significmt registration fee. On the other hand,

the President of DCCstated that the banks were making money by acting as

depositories and were therefore not interested in using DCC asa

depository.

Potitical Power Struggles According to HUD,U.S. contractors, and market participants, politics has

been a ubiquitous factor in the history of market reforms and, in

partictiar, the effort to develop effective clearing and settlement

mechanism throughout Russia. The early history of the project was

affected by the pohticd struggle between the Russian central bank and the

Russian SECover issues such as market re@ation and structure.

A 1994task order directed the contractors to attempt to obtain some level

of commitment to and input from the Russian central bank on the general

‘Anoffshore custody arrangement is a me of arrangement in which the custodian has an obligationto

preseme and safekeep the prope~ entrusted to him for his principal.

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concept of a cso along with a legal, regdatory, and operational analysis of

such a project. The ~k order recognized that a key step in organizingthe

intraregiond md interregiond movement of funds was to obtain the

cooperation of the Russian central bank.

Unfortunately, the Russian central bank and the Russian SECdid not have a

good relationship untd early 1996.This relationship directly affected the

DCC’Sdevelopment. For example, DCCcodd not obtain a general bnking

ticense without the Russian central bank’s approval and, as ofJdy 1996,

had not implemented a f~y functioning funds settlement capabdity.

Another threat to the DCC’Sfuture was the instigation of a new DCC

President in October 1995who had ties to President Yeltsin’sLegal

Advisor. According to one contractor, the installation of a govement

bureaucrat as the President of what market participant had thought w=

their own organization substantially diminished their support for DCC.As

ofJune 1996,DCCW= not operating m either a depository or a cso but W*

generating revenue by providing registration services.

Future of the Russim The following eventi hi@ight the nature of the ongoing struggle for

l=ting reform. ~though the Russian SECseemed to be progressing as

SEC planned, in August 1996President Yel@insigned a decree that

downgraded the status of the Russian SECfrom a ministry to a state

committee with an unclear mandate and no appointed Chairman. Repo~

from Moscow indicated that Russian stock market participant were

surprised and dismayed by this move. The Chairman of the Russian central

bank stated that it was unclear why this decree wm adopted.

Less than 1 month later, the action taken in the August 14decree wm at

le~t parti~y reversed by a decree of the President—”On the System of

Federal Executive Agencies,”dated September 6, 1996.This decree

upgraded the Russian SECbut moved it from subordination to the Ministry

of Finance to the presidential apparatus.

It is unclear whether the Russian SEChas the resources to ftifdl i~

considerable responsibilities without a sigtilcant enlargement of i~ staff

and budget. Market participants told us that fulfillingthe Russian SEC’S

considerable responsibilities will require a significant enlargement of ifi

stif and budget. For example, under Russian law, salaries to federd

employees are capped at levels that are not competitive with the private

sector, according to the Director of the Russian SEC.The Russian central

Page 41 GAO~SW-97-27 ForeignAssistance
Chapter3

RussianProgress Toward Developingan

EfficientCapital Market

bank has a waiver from the cap and can pay higher salaries. However, the

Russian SEChas not been grated such a waiver.

HIID and Agency

Comments and O

Evaluation

HIIDmd USMD gener~y agreed with our evaluation of HUD’Srole and

accomplishments in developing a capiti market; however, mID disagreed

Ir with some specific poink. HDD said that in 1994,when the Russian cso

project was initially designed, each cso was paired with a developing

floor-based exchange in each respective city. HHD said that because the

floor-based exchange was never a viable equities trading

platform-although it initially supported this approach—the floor-based

exchanges have not survived. HIIDmd USMD noted that the DCCboard of

directors was changed ad a new management tem elected. Whermore,

HIIDsaid that the WorldBank’sInternation~ fiance Corporation had

repeated its pledge to assist in raising capiti to support the DCC’Sgradud

assumption of guarantees for reregistration, settlement, and depository

activities.

According to H~D, additiond capital W now have to be raised to support

a reorganized DCC.me HHDprovided no estimate of the capiti

requiremen~ necessary to guarantee clearing ad settlement activity, one

expert close to DCCtold us that it wiflrequire capital in excess of what

either the International Wance Corporation, the Russian government, or

the U.S. government are hkely to provide.

Page 42 GAONS~-97-27 ForeignAssistance
Chapter 4

RussianProgresson LegalReform

In December 1993,USNDMOSCOWreceived a request from the Russian

President’s legal office for help in carrying out a critical and ambitious

program of legal reform. USMD and the U.S. embassy in Russia expressed

the view that U.S. government support in the drafting of legislation shotid

be provided only in areas in which the Duma and the executive branch of

the Russian government agreed to a collaborative approach. The approach

wotid involve using either joint drafting teams or having one or the other

body hke the lead in ceti areas. The 1995U.S.strategic plan for Russia

stated that the p=sage of specflc laws by late 1996would be the

benchmark of success for the legal reform program.

On May 7, 1994,usND~oscow w= informed that GPUand the Duma had

reached an agreement to establish a coordinating committee for law

drafting, chaired by the head of GPU and composed of representatives from

GPU,the Duma, and the Federation Council.The coordinating committee

agreed on 19core laws that it saw as necessary for providing a sound legal

basis for a market economy. USMD’Slegal reform project was initiated in

August 1994.Under the $20dfion program, HIID,through an existing

cooperative agreement with USMD,supported the coordinating committee

by setting up working groups and hiring consdtanfi to advise, comment

on, and recommend legislation needed to develop these and other laws.

The legal reform project resdted in the development of many draft laws

and the establishment of a Russian organization, ILBE,to carry out the leg~

reforms during and after USMDends its assis~ce. Ofthe nine core laws

that were passed, HIIDwm the principal drafter of three, served as either

the c~drafter or provided commenfi on another three, but had a minimal

role in the development of three sections of the CivilCode. The sections of

the Citi Code were primtiy the work of another us~D-funded

contractor. With assistance from HIID,Russia obtained a loan from the

World Bank to expmd i~ legal reforms. However, due to eventi that

occurred after initial optimism regarding Russia’spolitical environment,

such as the changes that followed the 1995parliamentary election, more of

the Iegd reform took place through presidential decrees tha through the

passing of laws.

Consistent with the cooperative agreement, USMD gave HIIDgreat latitude

in implementing the legal reform program; nonetheless, we found USMD’S

management and oversight over HIIDto be lax.

Page 43 GAO~SW-97-27 Forei@ AssisWce
Chapter4

Rwsian Progress on Legal Refom

HIID’sRole in the

Legal Refom Project .

●

●

I

,

I ●

HnD’SNovember 1994work plan stated that it was to

provide commentary, expert advice, and drafting assistance on

commercial legislation as directed by the coordinating committee (see

app. IIIfor the status of these laws);

estabhsh a core group of long-term resident advisom and short-term

western experts who wotid be available to assist the working groups in

preparing drti legislation;

develop an institutional structure for continued legal reform work after

USMD funding ends; and

promote closer coordination between the Russian executive branch and

the Duma.

HIID’sApproach to HIIDprovided commentary, expert advice, and drafting assistice in many

DrtitingLegislation general areas of law related to economic activity.M~D was the pnncipd

drafter of a law, it wotid often begin the process through the development

of concept papers. These papers outked the relevant issues to be

addressed in a particdar subject of legislation and explained how the

legislation shotid be dedt with in the Duma. This required lengthy

consdtations with foreign experts and extensive meetings within the

relevant government tistries, Duma committees, working groups, and

the Russim private sector. Once a consensus had developed, the

legislation wotid be introduced to the Duma, and the le@lative process

wotid begin. The initial hur~e was to get the Durna to approve the fit

reading of the draft law; the draft legislation wodd then go through two

more readings, where it wotid be revised md amended before find

approval. Up~sed by the Duma, the draft legislation wodd be sent to the

Federation Councti md, if passed, wotid then go to the President’s office

for consideration. There is no officialrecord or formal reporting on this

legislative process.

HIIDidentfled nine laws that were passed as ofJune 1996related to the

19areas of basic legislation identWledby the coordinating committee in

1994as tiportant to supporting a market economy. These laws werehe

(1) Law on Joint Stock Compties, (2) Law on Securities, (3) Law on

Taxation of Smd Business, (4) Law on Advertisements, (5) Federd Law

on Noncommercial Orgtiations, and (6) Law on HoldingCompanies and

Financial hdustrid Groups. HnD indicated that three of the nine laws were

covered in the Citi Code. These included (1) Contract Law (titie ~ of the

CivilCode), (2) hsurance Law (title II of the CivilCode), and (3) Law on

Pledges (title II of the Citi Code).

Page 44
Chapter4

RussianProgresson Legal Reform

Wenoted that HIIDhad begun work on the fwst two laws 1year before the

sw of the legal reform project. USMD had funded work on the first two

laws in April 1993as part of HIID’SRussian privatization effort. These two

laws were enacted in December 1995and Apd 1996,respectively. HUD was

the principal drafter of the fwst three laws, c~drafted the fourth law, and

participated in the drtiing of the fifth and stih laws. However, the core

laws related to the CivilCode+ ontract law, insurance law, and the law

on pledges—were primtiy the work of the University of Maryland’smIS

Center and the Russian Research Center for Private kw. According to mIS

offlci~, it had worked with other reformers in the Research Center to

develop parts I and II of the Citi Code, and HIIDhad had virtu~y no role

in developing or drafting these three sections of the CivilCode.

HIIDnoted that in 4 of the 19areas of law, it had discouraged my effort to

propose or pass laws. HHD believed that passage of laws in these four areas

wotid be detriment to a free market economy.1

HHDdso noted that it had had a role in drafting other laws that were signed

by the President. These laws covered such areas as condominiums,

agricdture cooperatives, and banking activities.

The usMD~oscow Mission Director, the LBE Director, HnD’SMoscow

General Manager and its former project manager, the GPU Director, and a

member of the coordinating committee ~ indicated that ~D had

performed we~ in the legal reform project and offered several

explanations about why more laws were not passed. For example, the

former HDD project manager in Moscow said that USMDand HIIDwere too

optimistic about the number of laws that codd be passed within 2 years.

She said the number of laws listed in HHD’Swork plan indicated how overly

optimistic the project was, especi~y considering that they now know it

usually takes about 2 years to pass a law in Russia. She *O said that

factors within the Duma slowed legal reform. For example, she pointed

out that the Durna was new and did not know how to work as a legislative

body, had to develop an agend~ spent most of the year trying to pass a

budget, and was distracted by the Chechenya secession crisis. In addition,

she said it lacked such basic systems as a dahbase for members to

IAccordingto HIID,these areas included (1) Fundamental of PricingPolicy,which involvedthe

government’ssetting rules for pricing and thus invitingbureaucratic control instead of market forces;

(2) Delivervof Products for Stite Needs, which raised problems of ewanding the government’srole in

se’ting s~dards for goods and services; (3) Managementof State Propetiy, which-raisedthe same

problem; and (4) Movementof Capital,which raised the problem ofthe government,instead ofthe

market forces, allocating capital.

Page 45 GAO~S~-97-27 Foreign Aaaistice
Chapter4

RussianProgress on Legal Reform

ident~ what btils had been introduced, their sbtus, or their location

within various committees.

The coordinating committee members had varying reco~ections of HIID’S

input to the legislative process. One member was unable to remember

which of the thousands of amendmenk offered from many participants

had come from HDD staff.Another member said that HHDlawyers had great

expertise and were higMyqutified and s~led and that mID had provided

the organizational and financial support needed.

LegalRefom Incremingly The 1994estabhshment of the coordinating committee to draft laws was a

inthe Fom of Decrees major step toward improving cooperation between the executive and

legislative brmches of the Russian government and in rationalizing the

legislative process.z However, much of HIID’Swork has contributed to

executive decrees rather thm legislation. Athough presidential decrees

bypass the coordinating committee md the Duma, they are legallybinding

urdess they contradict preexisting laws. HHD believed that taking this

approach was necess~ to advance reform, particdarly after the 1995

parliamentary elections.

According to USND,HIIDdrtied hundreds of decrees during the f~st

2 years of the project. HIIDprovided docurnenbtion showing that

HuD-drafteddecrees were issued in most of the areas identified by the

coordinating committee. HnD supported the use of decrees because it

betieved that they advanced reforms and, if supported by the market

participants, pressured the Durna to pass similar legislation. HIIDaccepted

the use of decrees because those members of the Durna and offici~s in the

ministries opposed to reform cotid SW or ki~ reform legislation through

outright objection, proposing antirefom amendments, or applying

delaying tactics. HIIDbelieved that this had been the case with many pieces

of reform legislation.

According to HHD,those members of the Duma and offlcids in the

ministries who opposed reform stiled or prevented (1) banking and

payments legislation, where the Russim central bank had been an

impediment; (2) bankruptcy legislation, where the Russian federd

bankruptcy agency had not wanted artysuch legislation passed and the

many stite-o~ed enterprises that were technically bankrupt opposed the

legislation; and (3) ti legislation, where the Ministry of ~ance and the

‘Before the project, Duma committees had no stif or resources to help develop,evaluate, or

consolidate variouslegislative drafts.

Page 46 GAO~SMD-97-27 Foreign Assistance
Chapter4

RussianProgress on Legal Reform

I

I

[

I

1

tax inspectorate, for a variety of reasons, opposed serious tax reform.

Nthough the legal reform project had prepared draft legislation in these

and other areas, it increasingly relied on presidential decrees because of

the political opposition to reform legislation.

HIID contracted with the U.S. RD13to do work in lmd reform. RDIstated that

its most significant accomplishment involved issuance of two presidenti~

decrees. One laid the groundwork for trasfomation of rur~ md urban

land ownership and agrictitur~ reform, and another strengthened private

ownership righk of individu~s to agric~tur~ land. Addition~ly, RDIwas

instrument~ in cdhng attention, through newspaper articles and meeting

with U.S. government officials, to a section of a presidential decree

prepared by another donor organization that RDIassessed could have

sabotaged land reform in Russia. About 1year later, according to RDI,this

decree was rescinded through i@effo~.

HIIDInitiatedILBE HIIDiniti~y setup the legal reform project by hiring a team of about

20Russim specidisk to begin support of the coordinating committee.

According to HHD~OSCOW’S General Manager, these specitisk included

Russian lawyers and economis~ experienced in western commercial law.

However, because it was not pohticdy acceptable for HIIDor other foreign

organizations to be directiy associated with the Russian legislative

process, Russian offici~s and HnD proposed the establishment of ILBE.LBE

was staffed with Russian speci~isk who were able to interact with

Russians involved in the legislative process.

In April 1995,ILBEw= formtiy chartered m a nonprofit organization.

ILBE’SrougMy40 Russian specidisk are mostly paid through HDD’S

cooperative agreement with USMD.Athough HIIDand USNDoffici~s said

that ILBEcurrently re~es on USMD for about 80 percent of its funding, they

are optimistic about mBE’Slong-term sustainabihty m USMD assistace is

completed in early 1997.

According to HnDmOSCOW’SGeneral Manager, LBE has established itself as

the leading Russian group with expertise in commercial law development

and has a very high reputation with the range of Russian interests. For

example, the World Bank representative who has worked with ILBEstaff,

another USMD contractor who participated in ILBE’Sdrafting of land reform

:3RDI’scontracts tith HIIDhave totied about $3million.HIIDsaid that in addition to commentingon

drafts of decrees and land reform legislation,RDIhas advisedRussian officiafson land reform issues

such as real estate registration, mortgages, land use planning,and state management of land.

Page 47 GAO~SfAD-97-27 Foreign Assistice
Chapter4

Russia Progress on Legal Reform

legislation, and a private Russian lawyer who worked with ILBElawyers, ~1

endorsed the competence of the ILBEstaff.

WorldBankLoanMayHelp Mthough not part of HIID’Swork plm, HIIDplayed a critic~ role in helping

SustainILBE the Russian executive branch secure a $58-millionWorld Bank legal

reform loan. The loan codd have long-term ramifications for Russian legal

reform effo~ and may possibly help fund KBE activities tier [JSMD

assistance ends. According to HHD,the idea of promoting a loan for legal

reform was conceived by the stif of the legal reform project. The staff

prepared background papers for Russim government officials whose

approv~ was a prerequisite for the borrowing of funds and held many

discussions and negotiations to build support for the loan in the Duma, the

executive branch, the judiciary, and other organizations. The staff dso

worked closely with GPU to design the legal reform loan and to identify the

highest priority components for loan financing. Throughout this process,

HIIDadvised the Russian executive branch on i~ negotiations with the

WorldBank.

A WorldBank official told us that HHDplayed a significant role in the

Bank’sdecision to add a legislative drafting component to the loan. She

said that HIID’Swork in legal drafting gave the World Bank confidence to

include legislative drafting in its program, citing HIID’Swork on the law on

joint stock companies and its capit~ markek legislation and regulations.

She said that HIIDdemonstrated that assistance in legal drafting, if done at

the right time, cotid sigtilcantly improve the qu~ity of legislation.

USMD’SOversight of Despite favorable commenfi from Russian and World Bank officials

HIID

regarding HnD’Swork and notable accomplishments, we believe that

USND’Smanagement and oversight of HIIDwas lax. In particular, USNDdid

not enforce specific reporting requirement, did not set measurable goals,

and was not aware of decisions HUD was making that could have resulted

in cosk to the U.S. government or that cotid signtilcantly affect U.S.

strategy.

USND Did Not Require According to the cooperative agreement, HIIDwas required to provide

HIIDto MeetMl of IW semiannual work plans that detied program objectives and the main

ReportingRequirements anticipated resdk or targets. HHDwas dso to supply monthly progress

reports. The progress reports were to include such information as an

evaluation of the effectiveness of the assistance, proposals by HIID’S

Page 48 GAO~S~D-97-27 ForeignAssistice

I
Chapter4

RussianProgresson Legal Refom

Russian counterparts (such as the coordinating committee) for impro~g

the delivery of assistance under the program, an outline of my decisions

that the Russian counterp- must make, and a description of upcoming

activities for the next month. In addition, USMD’SHandbook 13states that

progress reports are to contain a comparison of actual accomplishment

with the gods estabhshed for that period.

HIIDprovided quarterly progress repo~ from Jtiy 1994until

December 1994instead of montMy progress reports as c~ed for in the

agreement. In addition, these repo~ gener~y higtighted ordyinpu~,

md there was no comparison of accomphshmenk tith the gods.

Moreover, the progress reports did not include Russian proposals to

improve project operations.

us~D~ashington officifi raised several questions concerning the lack of

information in the progress reports. For exmple, according to a

us~D~ashington analysis in late 1995,it noted that (1) HHD never

explained why new projeck started or how they tied in with the over~

work, (2) accomplishments were not easy to discern, (3) progress reports

did not explain the purpose of projeck, and (4) no information was

provided about projects that were completed. According to the

USMDMOSCOW project officer, these suggestions were discussed at

USMDMOSCOW, but it was decided they were unnecessary. As a resdt, few

in usND~ashington knew the accomphshmenti or methods of ~D’S legal

reform efforts.

USMDDid NotSet USND did not incorporate measurable gods into HUD’Swork pla. USMD

Memwable Goals poticy states that each project shodd identify specflc gods and measure

progress toward meeting those goti. ~le USMD~OSCOW has made

32 submissions for other reform activities, it has supplied none for HUD’S

work. HUDwas not averse to the establishment of program gods. For

example, on September 23, lgg4, HIID’Sproject M~ager sent

usMD~oscow 10suggested measuremen~ of success for the first &month

work plan. However, these suggestions were never incorporated into HIID’S

work plan.

Lackof USND Oversight The CivilCode is the foundation for dl civil and commercial relations in

MayHaveResultedin Russia, and dl commercial laws must conform to the code. Nthough the

UnnecessaryCosts us~D~ashington Office of Democracy in Russia had tieady begun

funding a U.S. contractor—the University of Maryland’smIsCenter—to

Page 49 GAO~SW-97-27 Foreign Assistice
Chapter4

RussianProgress on Legal Reform

help to draft the Citi Code, HIIDindependently began work on part I ofthe

code without formal USMD authorization and before USND approved HIID’S

legal reform project. In January 1994,HIIDbegan developing what it

believed to be a more market-oriented part I of the CivilCode. This effort

was not formally approved by either USND~OSCOW or usMD~ashington,

and the work was begun 6 months before the HUDlegal reform project was

approved. HIIDspent $500,000on this effort, using U.S. and Dutch expe~

to develop the competing code. HHDpaid these expenses in September and

November 1994with money from the legal reform project that was

authorized in August 1994.HIID’Sversion of the CivilCode was rejected by

the President’s office, and the original version drafted by the Russian

Research Center for Private Law, tith the assistance and support ofthe

University of Maryland’sIRISCenter, went into effect January 1, 1995.

Greater oversight by USNDmay have precluded this duplication of effort or

ensured that HIID’Swork complemented that of IRIS.

HIIDModifiedIts HIID altered the us~D~epartment of State legal reform strategy by deciding

ApproachWithoutUSND’S to emphasize the use of presidential decrees without receiving prior

Approval approval from USMD.The U.S.strategy was to foster closer

executive-legislativeworking relationships that cotid lead to passage of

criticdy needed commercial legislation. One member of the 1994

coordinating committee stited that the use of decrees was becoming more

common and he was concerned that this was a negative development. The

usNDNashington Office of Democracy for Russia dso opposed using

decrees because it believed decrees did not support the democratic

processes envisioned by the project. HIIDdid not raise this issue in i~

progress reports, and we found no USND approval for this change in

strategy. Both are required by HIID’Scooperative agreement with USMD.

HIIDsated that i~ work on decrees did not alter the Iegd reform project’s

strategy and that decrees were widely used during the initial effort. We

agree that decrees were used extensively during the privatization program

and that HIIDcontributed to their drafting. However, we disagree with

HIID’Sassertion that the use of decrees was an integral part of the Iegd

reform project’s strategy. None of the USMD or Department of State

documents authorizing the program discuss accomplishing legal reform

through the issuance of decrees, only the passage of legislation.

The U.S.Ambassador to Russia told us that the issuance of decrees was

not part of the legal reform strategy and that it was this very use of

decrees during privatization that led him to push for the coordinating

Page 50 GAO~SMD-97-27 Foreign Assistance
Chapter4

RussianProgress on Legal Reform

committee to gain legislative involvement. furthermore, USMDjustified the

project based on the need to pass legislation and the need to “foster a new

pattern of executive-legislativecooperation. . necessary to adopt and

implement the new laws.”

HIID and Agency In commenting on this report, USMD generally agreed with our assessment

Comments and Our

and stated that it planned to improve management and oversight of the

grantee with respect to reporting requirements, establishment of

Evaluation measurable goals, performance monitoring, and resulk evaluation.

Nonetheless, USMD and HIIDdisagreed with our reporting of even@

surrounding the development of part I of the CivilCode. USMD and HDD

stated that HHD’Swork had USMD approval and did not duplicate IRISwork.

However, our review showed that HHDbegan work on the CivilCode

6 months before the legal reform project was authorized. HHD also stated

that i~ work contributed to the p=sage of part I of the CivilCode. The

us~D~ashington official in charge of the IRIS program, as well as IRIS

docwenk, indicated that the HHDdraft did not expedite the Research

Center’s draft but held up p=sage of part I for several months. According

to the Russian Research Center and IRISrepresentatives, none of HIID’S

work was used in part I. On June 20, 1996,HIIDstated to us that “the legal

reform project had little involvement with part I of the Code. . . . [HHD]

provided commenfi. . . to the Research Center. . . although it WaSnever

very clear how the Research Center dealt with such comments. ”

HIID said that our report overstated i~ role in the creation of ILBE.HIID

stated that ILBEwas conceived and formed by Russians on their own

initiative. We believe that HIID’Sresponse understated its role because

Russian officials and HHDjointly proposed to USMD the establishment of

ILBE.Moreover, HHDand its contractor developed the legal reform project’s

management structme; identified, hired, and paid Russian, U.S., and

foreign legal experts; developed the working groups used to support the

Duma; developed the administrative functions; and created the support

structures that were dl transferred to ILBE.

Page 51 GAO~SUD-97-27 ForeignAssistance
r Chapter 5

! Assistanceto theRPC

The RPCis a nonprofit organization established by presidential decree in

I November 1992to, among other things, help businesses that had been

( privatized restructure their operations; that is, to downsize their work I

forces and modernize corporate governance, accounting systems, and

marketing approaches, d of which were intended to improve their

! profitability and make them attractive investments. The RPC~so had a role !

[

in land reform and privatization of red estate. Since April 1993,HIID

~otted about $13mi~ion of ifi cooperative agreement resources from

USNDto support the RPC,primarily to pay for personnel costi ad some

I initialoperating e~enses. h addition, USMD made a direct grant of about

$16.5tiion to the RPCto pay for i@operations and provided another

$16tilion indirectly to the RPCthrough other U.S. contractors to help

create the wc network.1

During this period, HIID’Srole was to give policy advice to Russian

reformers through ik association with the RPC,whereas USMD helped

implement enterprise restructuring and lad reform projec~. USMD did so

through contractors ad through the RPC’Sassishce. These projec~

involved providing financial management advice and improving the

performance and management of some newly pnvatized enterprises. ~D

dso paid the salaries of project managers and high-leveladministrators.

These effo~ largely achieved their gods.

In the area of land reform, the RPCand LPCSplayed a role in desigtig a

number of projecb, including a red estate information and titling system,

md in assisting enterprises to acquire municipal land. The red estate

information and tithng system e~erienced difflctities in meeting i%

objectives. This can partly be attributed to the RPCnetwork’s difflctities in

resolving differences among the project participant. The land acquisition

project has encountered fewer problems.

Because the RPCrelied almost completely on USMD funds, the RPC’S

sustainability is in question once USND assistance ends in lgg7. The RPC

has not submitted work plw md program repo~. ~o, the RPCmay not

be able to support ikelf with fees earned for providing advice to Russim

enterprises. AWorld Bmk project may help with the RPC’Sadministrative

overhead cos~, but the Bank’slom will not cover M RPCe~enses.

‘~is fundingdso supported the creation of a BusinessInformationSystem,a datab=e that contim

information about large-and medium-sizedprivatized enterprises in the eightregionssupported by the

LPCnetwork.

Page 52 GAO~SN-97-27 Foreign Assis-ce
~, Chapter5

&sisWce to the RPC

Support for During Russia’sinitial privatization efforts, mIDprovided policy adtice and

Privatization and

personnel to assist with the RPC’Sand State Committee of the Russian

Federation for the Management of the State Property’s (G~) organization

Enterprise and supervision of the mass privatization process. During this process,

Restructuring nearly 15,000medium- and large-scale state-owned enterprises were

transferred to private ownership. ByJune 1994,ownership in Russia

moved from the ministries of the Sovietstate to tilions of Russian

citizens; for example, over 70 percent of the industrid sector was in

private hands.

With HIIDsupport, the RPCprovides ongoing pohcy advice to government

agencies, including commenk on draft laws on natural monopolies,

competition, antitrust poticies, and tax reform. For example, during 1995,

HIID’SGeneral Director and the WC’SChief Executive Officer worked with

senior reformers in the Russian government to help the government

negotiate a stabilization loan from the International Monetary hd.

According to the senior HUD representative, this policy didogue wifl

continue w~e HHD remains engaged with the RPC.

FoUowingthe completion of Russia’sprivatization of most state-owned

enterprises by June 1994,USMD focused on using the RPCnetwork to help

USMD work with newly privatized firms on the difflctit process of

restructuring. USMD funded two targeted enterprise restructuring

efforts-the fiancid Management Assistance (m) and Program for

Intensive Enterprise Support (PIES)projects.2 Them project objectives

were narrowly focused on providing financial management advice, while

the PIESobjectives were geared to improving the overti management and

performance of some newly privatized enterprises. These projec% directly

reached 23 enterprises and, to varying degrees, these enterprises have cut

costs and improved their management operations. For example, one of the

enterprises we visited cut ik workforce by hti and revised its accounting

procedures as a resdt of the restructuring advice and assistance it

received.

According to project repo~, constants, and USMD and RPCofficials,the

project objectives of M and PES were largely achieved. For example,

32 consultants were trained, some of whom are currently working for the

WCnetwork, to continue to provide financial mmagement advice to

enterprises. h addition, participating enterprises have changed their

operations by doing dl or some of the fo~owing that are required to

restructure and cut costs:

‘~ese projec= cost about $18tillion.

Page 53 GAO~SW-97-27 Forei@ Assis-ce
Chapter 5

Assistice to theRPC

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downsized labor forces,

improved accounting and financial management,

revised procurement procedures, and

identtiled more profitable product fines.

To implement w and PIES,USMD used U.S.management consdting

companies and the RPCand LPCnetwork to assist in program detivery.HIID

did not have a direct role in these activities. The project task orders called

for the RPCto

pubticize the projeck at the federd level through the RPCand the local

level through LPCS;

make participant apphcation forms available to potential constitan~ and

enterprises;

propose candidate enterprises that the RPCbetieved were suitable for the

programs;

review submitted applications and establish a short-list of candidate

enterprises;

select and approve, with USMDand contractors, enterprises to participate

in the projec~; and

monitor contractor progress.

In addition to =sisting with program implementation, usflD’sstrategy to

get the RPCand wc network involved was dso directed at developingLPC

staff capabilities. USMDeqected that the RPCnetwork wodd continue to

provide technical resistance for enterprise restructuring on a

cost-recovew, self-sustainable bmis.

Both USNDand the contractors found the RPC’Seffo~ to pubhcize the

programs and coordinate the application process very usefi. Enterprises

dso commended the RPCand LPCnetwork on these accomphshmen~.

Reaching enterprises that cotid become candidates for receiving

resistance was an important component of the projec~ because the

implementing contractors were unfamiliar with the potential clien~. The

wc stif knew the clien~ in their locations and made the necessary

contac~.

According to one of the contractors, a few of the RPC’Sselections of

candidates to participate in the M and PIESprograms appeared potiticdly

motivated (i.e., there were political or personal ties between senior-level

RPCand LPCstiff and the heads of selected enterprises), but they codd

provide no proof of this.

Page 54 GAO~S~D-97-27 Forei@ Assistance
Chapter 5

Assistice to the RPC

Land Reform

Initiatives ●

●

The RPCand LPCSplayed a role in two USMD model land reform initiatives:3

the Red Estate ~ormation Systems project (REIS),which W= to design

and implement integrated land and red estate information systems for

localjurisdictions that wodd serve as a basis for later land registration

and titling and

the Enterprise Land Sales project (ELS),which was designed to resist

enterprises in acqtiring municipal land they were presently using and in

managing the land as an asset.

REISProject Did NotMeet The red estite information and titling systems, the largest model project,

E~ectations encountered difflctities in meeting ifi targets. USNDexpected the REIS

project, funded at about $22mi~ion,wodd be inst~ed in up to 19cities.

However, the project was implemented in ordy nine cities, of which six are

still not providing land registration. According to the USMD project officer,

municipal officials in five cities rejected the systems offered by the

contractors and were worMng on their own versions. The principal reason

for this was dissatisfaction with the information system design the

contractor chose to implement and a desire to obtain a more advanced

system. h one city, the offlcids implemented their own system tier

observing the implementation of a red estate information system by

contractors in a neighboring city.

The RPChelped select the cities included in the project. The RPCand LPCS

negotiated with the municipal authorities, helped prepare draffi of sample

documenk used in the project, prepared drafts of local legislation

(although this legislation’s passage was the responsibility of the local

authorities), and were involved at the federd level in worting on a draft

law to codify land registration nationwide. Despite RPCand LPCefforts,a

m~or hurdle that the REIScontractors faced was getting the various

municipal agencies to agree on how the information that each agency was

co~ecting, such m data on land, structures on land, md housing, would be

made avtilable to M of the other municipal agency users of the new

system.

In St. Petersburg, the U.S. contractor had a diffictit relationship with some

of the directors of city agencies with which it had to interact. The

contractor had difflcdties with his computer subcontractor, who was not

‘~Atthe beginningofthe land reform projects in 1994,the RPCmanaged their implementation because

USMD~oscowhad onlyone project officer assigned to this work. Once USAIDstaffing was increased,

the RPCand LPCacted as facilitators and advisorsto the participants ofthe projects, particularly at

the local level.

Page 55 GAO~SMD-97-27 Foreign Assistance
Chapter5

Assistice to the RPC

●

●

●

ELS Project Implementation Is

Promising

selected in an open and transparent manner but was forced on the

contractor by the city. The RPCland reform manager was assigned to help

coordinate and mediate the find implementation of the St. Petersburg

project, but after 1year of disagreement some issues were sti~ not

resolved.

U.S. contractors cited other reasons for REIS’limited restifi:

USMDpushed to get the projec~ s~ed before the project design was

completed;

the legislative basis for the work was only in place in one of the cities

when the projec~ were started;

the project was “oversold”by USMD,and some cities did not know what

they wodd get; and

the cities were not required to pay for the services of the REIScontractors

and, consequently, some did not value the contractor’s work.

The $&mi~ionELSproject established and implemented a legal and

procedud process for the sde of land inititiy by the municipal

administrations to the new owners of the privatized former sate

enterprises. At first, enterprises in Russia were privatized without the new

owners’ obtaining title to the land on which the enterprises were located

or used in the course of doing business. ELSwas designed to help with this

problem and is now being ro~ed out in about 43 cities. In St. Petersburg,

where we observed the program, ELS appears to be meeting its gods for

enterprises that have obtained titles to land. Nthough the ELSproject dso

had gods for secondary sales-subsequent sales to new buyers—the

contractor said that the project was running into diffictity in meeting

these gods. Some people fear that if the political situation changes, sales

to second~ buyers cotid be considered illegal, as land ownership was

under the communist system.

The challenge for USND’Scontractor was to work within the present legal

environment where there is no federal land code that addresses the

purchase of urban land. The contractor made recommendations to city

administrators and managers of enterprises and provided training on how

to organize land privatization. The contractor dso prepared legal

docurnenk and suggested strategies for enterprises on how to begin to

purchase land from the state. ~hermore, sales of commercial propetiy

that are being undertaken under the project are already being copied by

others without the contractor’s help. Thus, there is reason to believe that if

the political and legal environment continues to be conducive, private

Page 56 GAO~SMD-97-27 ForeignAssistance
Chapter5

Assistice to the RPC

citizens will be able to buy and sell land without the intervention of further

technical assistance.

The U.S. contractor told us that whfle RPCand LPCstaff were helpfti in

making the initial contack for the project, the staff were not red estate

professionals and were not partictiarly usefd to the subsequent

development of the ELS project.

Sustainability of RPC The RPChas relied most exclusively on USNDgrant funds for its

Network Is Uncertain existence. Despite USMD’Sapproximately $45mfihon investment in the RPC

network, the RPCdid not comply with the reporting requirements of the

grant agreement. Therefore, USMD never had a clear understanding of the

RPC’Slong-term gods and business plan. Moreover, it is uncertain whether

the RPCwi~ be capable of providing continued technical assistance on a

cost-recove~ b~is. Mthough the World Bank is committed to using the

RPCfor an upcoming large-scale enterprise restructuring project, this

project wi~ not support dl of the RPC’Soperational cos&.4

RPC’SLackof Repotiing to The lack of adequate RPCprogress reporting to USNDmanagers made it

USMD very difficultfor USMD toeffectively manage and evaluate the RPC’S

performance. A a resdt, USMDhm been unable to identify a

well-thought-out post-privatization role for the RPC.USMDdso has raised

questions about whether the RPCwodd be able to manage other donor

resources—the World Bank included—when USMD assistance ends. The

RPCdid not comply with the grant agreement, which required the RPCto

submit an annual work plan and quarterly progress repo~. The RPCh=

never submitted a work plan or presented an adequate finartcid plan

showing i~ strategy for spending the grant monies and graduating from

dependence on USMD.

Mthough RPCrepresentatives have sought additiond funding from USMD,

usND~oscow does not support givingthe RPCadditiond resources.

USND~OSCOWbeheves (1) the existing pipeline til provide the RPC

operating funds for about 6 months beyond the original grant completion

date and (2) the RPChas been unable to clearly identify i~ objectives for

the proposed extension period in a carefully considered business plan and

budget.

The RPCdid not protide us tith complete access to its donor portfolio and, therefore, our

conclusions about the RPC’Soperational cost needs are based on USAID’Sassessment.

Page 57 GAO~SMD-97-27 ForeignAssistance
Chapter5

Assistanceto theRPC

PutureRPCRole in Contractors working on them and PIESprograms have raised questions

EnteWriseRestructuring about the RPC’Srole in future projecti and whether it wodd be able to

andLandRefom Is sustain ifi operations in a competitive market. Some contractors stated

Unclear that what the wc network did best ti~ increasingly become less valuable

for the programs. For example, now that many western constiting

companies have been working throughout Russia, they have established

contacfi and personal relationships with many potential clien~. Thus, the

need for the LPCnetwork to provide this service maybe doubtfd.

In addition, contractors said that the RPCand LPCnetwork does not possess

the consdting expertise on a scale required to compete in a market

economy. According to two contractors, the RPCsimply cannot compete

with the ever-developing constiting base in Russia and, therefore, shotid

not try to dupticate what others can do more effectively.Commercially,

however, these Russian enterprises might use the LPCnetwork on a

cme-by-c=e basis depending on whether the services wotid be needed in

more remote locations.

We inked enterprises that participated in the w and PIESprogram

whether they wodd be able to afford stiar but unsubsidized technical

=sistance. Representatives from these enterprises said that they did not

have the resources to pay what the w and PIESprograms cost. One

representative stated that even after domsizing his company as

recommended by the contractor, the company sti~ hm been unable to pay

ik remaining employees on a regdar b=is. He said that his employees had

not been paid in 3 months.

Other representatives said that they could afford to pay nominal fees for

more timited resistance. USND maintains that the potential exis@for the

RPCto take consdting materials developed in the wad PIESprograms

and provide them for a fee. USNDinformed us in November 1996that the

RPChas successfully implemented on a fee basis a series of consdting

seminars using materials developed by the w and PIEScontractors.

However, according to USMD,the development of LPCstaff skflls has been

uneven, and it is not clear whether dl LPCScodd successftily offer the

existing consdting materials.

With regard to the RPCand future lmd reform activities, the ELScontractor

trained some LPCstaff, along with others, in commercial real estate

transactions as part of the project. These skills could be usefti once a

commercial real estate market develops. At present, it is unclear to what

extent those who received this training will be able to sell their services to

Page 58 GAO~SWD-97-27 ForeignAssistance
Chapter 5

Assis@nce to the RPC

facihtate commercial red estate transactions. It is Aso unclear if LPCSwill

be able to co~ect fees for these services.

A contractor involved in REISwas preparing a manual that codd be used to

help spread information about the techniques of land information and

titting, but no plans e-t for disseminating the manual. The RPCsaid it will

not take on the responsibility for doing this because it lacked funds for

ths activity. An upcoming USNDproject til have the kk of identifying

mechanisms for disseminating the land reform training materials.

WorldBmk WillProtide The RPCrecently concluded negotiations with the World Bank in which the

Increwed Supportto the Bank agreed to cover some of the administrative overhead costi

RPC ~sociated with mmagement and disbursement of i~ current privatization

loan mwaged by the RPC.This agreement win become effective in

Jmuary 1997.

In November 1996,USNDinformed us that the World Bank dl use the RPC

network to implement ik estimated $100-dUon Enterprise Restructuring

Services Project. This loan is e~ected to support enterprise restructuring

activities for about 200 newly privatized enterprises throughout Russia.

However, the loan wi~ not cover dl of the RPCnetwork’s operational cos~.

If the RPCis unable to obtain other resources to make up the deficit, it may

be forced to downsize md stretiine ifi operations accordingly. USMD ~so

informed us that the Japanese government ha committed to support the

fdl operational cosk of the LPCnetwork.

HIID and Agency In commenting on this report, USMD stated that wtie the sustinabtiity of

Comments and Our

the RPCand the LPCnetwork as a private consdting organization maybe

questionable, the sustinabi~ty of that network as a donor coordination

Evaluation and project implementation organization is not. USMD added that at the

time the RPCwas established it was not plmed that the RPCwotid be a

long-lmting organization but one that “would support the effective

implementation of privatization now.”

We recognize that USMD’Soriginal eqectations were short term and based

on the RPC’Simmediate role to support privatization. However, USMDlater

e~ected the RPCto sustain itself either through donor resources or fees

generated by constiting services based on the objectives of USMD’S

assistance to the RPC.Accordingly, when USMD made its final direct

contribution in 1995to support the LPCnetwork, it stressed that the RPC

Page 59 GAO~SW-97-27 Foreign &sistance
[.

; Chapter5

&sis*ce to theRPC

needed to develop a strategy for sustainability. from fiscal years 1992

through 1996,USMD budgeted nearly $50mi~ion for enterprise

restructuring and lmd reform resistance programs to, among other things,

develop the RPCand the LPCnetwork’s capabihties to continue such

activities after graduating from USMD assistance. Furthermore, USMD made

funding available to PIESand m contractors to develop constiting

materi~ for the RPCand the LPCnetwork spectilctiy as a fee-generating

service. In addition to providtig ik own funding, USMD informed us in

August 1996that it was working very closely with the World Bank to

secure the RPC’Sbest prospec~ for sustainability-the Enterprise

Restructuring Services Project. USMD and HnD have dedicated subs@tid

financial and human resources to the RPCand, therefore, both have a

sigtilcant investment in the RPC’Sfuture.

HIIDsaid that it had not been significantly involved in the development ad

operations of the RPC.We recognize that the RPCis an independent Russian

institution governed by ik own management structure md board of

directors; however, HIIDhas had a impotit relationship with the RPC.

For example, HIID,with finmcid resources from USND ad assis~ce from

private contractors, oversaw the creation of the RPCin1993ad continues

to support the RPC’Smission. Since 1993,HIIDhas received about

$13mflhon from USMD to provide project maagers md high-level

administrators to the RPCand to provide impartial oversight of the RPCfor

I

USMD.In addition, HDD had subs@tid access to the RPC’Sleadership

through its ongoing didogue with the RPCChiefExecutive Officer md ik

project maagers and high-leveladministrators. Furthermore, the

memorandum of understantig that governsthe relationship between ~D

and the RPCunderscores the sigtilcant role that mD played in the RPC’S

creation and i~ current operations. Specflcdly, the memor~dum stites

that HIIDis both a “founder” and “ml Member of the Center,” which is the

“highest governing body of the RPC.”

Page 60 GAO~SUD-97-27 Forei~ Aasistice
I

Page 61 GAO~SW-97-27 Foreign Assistice
Appendix I

OrganizationalProfileof theHa~ard

Institutefor InternationalDevelopment(as

of June30, 1996)

kl .. ssion Legal Office of the

+%;StateCommitaaonthe ;~$:j:f

X?!

Management ofState

~.~ CapitalMar&;~ .. ‘resident(Gpu) :,{ prope~(GKl)

StateDuma and

j;;,,, Finance “,, wG””,,..-- !*.:. various committees

!

USAID

I

I Washington Moscow

I

I

I

I

I

I v HIID

Advisory Group

on Tax Reform —-—— —

4 1 Cambridge Moscow ‘– –q

I I

I

I I

I

I I I

I

I + + I

I

I Consultants I

I and I

I

subcontractors I

I I

I I

I

+ I

— Fundingand oversight

————— F Omnibus contractors * --——-

— — - Adviso~ relationship I I

Source: GAO analysis.

Legend:

HIID = Harvard Institute for International Development

ILBE = Institute for Law-Based Economy

LPC = local privatization center

RPC = Russian Privatization Center

USAID = U.S. Agency for International Development

Page 62 GAO~SWD-97-27 ForeignAssistance
Appendix II

EventsLeadingto HIID’sCooperative

Agreementfor

Chronology of Events

WorkinUkraine

This appendix responds to specific questions by the House Committee on

International Relations concerning even& leading to USMD’SMay24, 1996,

noncompetitive cooperative agreement with HHDto protide strategic

poticy advice to Ukraine. It discusses the roles that U.S. government

offlcids, private participants, and govement of Ukraine officials played

in the development of the agreement. It also provides details on the

concerns that were raised by USMD,National Bank of Ukraine (NBU),and

International Monetary Rnd officials over the HHDproposal. ~ndly, it

provides information on what knowledge Ukrainian ministries and other

agencies had about the cooperative agreement when we discussed the

proposal with them in late June 1996.

USND issued a request for applications on March 17, 1995,that, among

other things, sought proposals for assistance to the western newly

independent states (NIS),including Ukraine, Moldova,and Belarus. The

request was for impartial oversight and strategic advice for privatization

and market reform programs. The main areas identified included mass

privatization, capital market development, legal and regulatory reform,

lmd privatization, post-privatization resistance, and public education.

Withrespect to the area of legal reform, the request stated that given the

importance of tax law for the viabflity of commercial businesses, the

structure of the tax law and its system of incentives and disincentives

must be addressed in developing po~cy objectives for many of the fields of

law covered in the request.

On May23, 1995,while applicank were preparing proposals but before

they were submitted, USMDdecided not to award a cooperative agreement

for assistance to Ukraine and withdrew that portion of the request.1

According to USMD,the decision to withdraw the request was made

because of limited funds and because Ukrainian officials had indicated

they were not interested in oversight resistance.

On June 21 and 22, 1995,USMD sent letters to apphcan@explaining why it

was canceling the request for applications. USMD stated that Ukraine had

recently more clearly defined its priorities for technical assistance and that

it did not want long-term adtiors in these areas. It preferred technical

assistmce to be focused on program implementation rather than the kind

of strategic guidance and oversight suggested in the request for

appficatiom. h addition, USND’Stight budget conditions were noted as a

contributing factor to the cancellation decision.

‘HIIDwas not among those preparing to submit a proposal pursuant to tie March 17,1995,request.

Page 63 GAO~StiD-97-27 Foreign Assistance
Appendh 11

Eventi Leadingto HIID’s Cooperative

Agreementfor Work in Ukraine

In early Jdy 1995,a representative from the Washington, D.C.-breed,

Carnegie Endowment for International Peace, who managed a small team

of advisors in Ukraine funded by the New York City-based George Soros

Open Societies Institute, encouraged the HIIDDirector to become involved

in economic policy work in Ukraine. The HUD Director said that he had a

long-standing relationship with the Carnegie Endowment representative

who encouraged him to increase his assistance to the Ukrainian

government at this critical time when the Ukrainian government was

beginning to seriously undertake reform. HIID’SDirector also said that he

had been providing unpaid advice to Ukrainian officialssince ifi

independence. For example, in February 1995,he had met with a

Ukrainian delegation in Davos, Switzerland, and had discussed substmtid I

economic issues with them, and again during March 19-22,1995,when he

had visited Ukraine and discussed economic issues with high-level

Ukrainim officiti.

On Jdy 24, 1995,USMD received an unsolicited proposal for a project to be

led jointly by the Carnegie Endowment and HIID’SDirector, with HUD m the

project administrator. According to the HIIDDirector, the proposal was

jointiy developed by HmD and the Soros hstitute staff.

Between Jtiy 24 and Jdy 29, 1995,the Deputy Assistant Secretary of the

Tremury and a National Security Councfl (NSC)Director for the NISvisited

Ukraine to discuss broad economic issues with key Ukrainian govement

offlciti. During these discussions, the NBU Governor expressed concern

that there w= an internal cotict within the NBU between the foreign

exchange, internal debt, and capit~ m~ket blocs. The Tre=~’s DePutY

Assis_t Secretary said that he knew of an advisor who might be able to

provide some assistance in unifying the NBU approach to policy issues.

During this visit, the Ukrainian Deputy Prime Minister responsible for

economic affairs in Ukraine specifically asked the U.S.visitors for

macroeconomic technical assistance to focus on policy and strategy

formation. The Ukrainian Deputy Prime Minister asked that HIID’S

Director coordinate such policy advice. In addition, he told the Tre=ury’s

Deputy Assistant Secretary md the NSCDirector that he had previously

tried to contact HHD’SDirector, but a proposed meeting with him in Paris

did not tike place. The request for policy resistance came at a time when

Ukraine was experienctig partictiar difficulties in both formulating and

implementing a coordinated macroeconomic strategy, according to the Nsc

Director. The NSCDirector stated that he was not aware of the HIID

proposal untfl he returned to the United States on August 4, 1995.

Page 64 GAO~SMD-97-27 Foreignhsis-ce
1,., ,tt,,

Append& II

EventsLeading to HIID’s Cooperative

Agreement for Work in Ukraine

On August 10, 1995,at the invitation of the George Soros Institute, the HIID

Director, representatives from the World Bank md the International

Monetary fid, the NSCDirector, and the Deputy Assistant Secretary of

the Treasury met to discuss a wide range of issues. These included the

need to help the Ukrainians develop a coordinated, consensus-building

apparatus within the government of Ukraine.

Between August 21 and 24, 1995,HHD’SDirector, along with the expert

recommended by the Treasury’s Deputy Assistant Secretary, met in Kev

with the Ukrainian Deputy Prime Minister and the NBU Governor.

According to the HHDDirector, he had a broad discussion with the Deputy

Prime Minister that covered substantial economic problems facing

Ukraine. He indicated that HUD was prepared to enter a more formal

adtisory relationship with the government of Ukraine. The HIID Director

told us that these discussions covered the key elements in the July 1995

proposal and some of the logistic considerations of the proposal. The

Director stid that the Deputy Prime Minister was very enthusiastic about

the prospec~ of working with him.

The Governor of the NBUtold us in June 1996that during the

late-August 1995meeting with the HIID Director, he told ~he Director that

the NBUftiy supported existing USMD progrm and that additiond

assistance shodd not be provided at the expense of existing U.S.

assistance. The HDDDirector told us that he had known the Governor for

many years md that as he recalled the discussion, it had focused on

macroeconomic issues. He said that he did not recall anything negative

being said about HIIDassistance at the meeting, or that they should not

move ~ead with the proposal. The HIID Director noted in passing that he

had a long-term professional relationship with the mone~ expert who

accomptied him and it was appropriate that he participate in these

discussions.

On August 30, 1995,HIIDsubmitted a revised proposal to USMD to organize

a high-levelmacroeconomic management mission of resident and

nonresident advisors for a period of 2 years. HIID proposed that it focus on

(1) monetary reform and monetary management, (2) tax reform, (3) pubhc

administration of fiscal systems, (4) fiscal reform of social programs,

(5) macroeconomic forecasting, (6) banking sector regulations,

(7) enterprise paymenti reform, and (8) regional fiscal finance at the

oblmt (regional) level.This proposal did not have an estimated budget.

Page 65 GAO~S~D-97-27 Foreign Assistance
Appendix II

Even~ Leading to HIID’s Cooperative

Agreementfor Work in Ukraine

On October 2, 1995,the Stite Department Coordinator held a working

group meeting to discuss Ukrainian reforms, as we~ as tax reform in

Russia, issues covered in HIID’SAugust Ukraine proposal for future work in

Ukraine, and HnD’SSeptember 1995cooperative agreement for work in

Russia. According to the Deputy Assistant Secre~ of the Treasury, he

participated in the working group discussion on the U.S.tax reform

technical assis~ce effort in Russia. The discussion centered on

rationalizing coordination of the U.S. effort there, which included U.S.

Treasury advisors, a ~ynveld, Peat, Mtick, Goerdeler~aren@ project,

and an ongoing HnD proposal. He said that because of his previous

professional relationship with HHD’SDirector, he chose not to be part of

any Ukraine discussion.

On October 30, 1995,mD submitted revised proposals to USMD that gave a

more detied description for a 2-year program in Ukraine. The prelimin~

budget for this proposal was $6 tilion. It covered the fwst four areas

contained in the August 30 proposal and dropped the remaining areas.

However, it added a fifth proposal to assist with privatization and private

sector development. Subsequently, an NBU officialreviewed the

October 30, 1995,proposal and told the us~DKev mission that there was

no need for a long-term advisor from HDD and that the NBUcotid use ody

short-term advice on specific matters and continuing the ongoing technical

assis@ce from usND.

On December 1, 1995,USMD notKled Congress that it intended to obligate

up to $6 miWonfor a pohcy adviso~ component of ik assistice program

for Ukraine.

On December 22, 1995,the Chairman of the House Committee on

hternationd Relations gave written notification to the USMDAdministrator

that he was placing a “hold”on the obligation of funds and that he had

continuing concerns about the proposed effort. This notification was

supplemented by a series of questions directed to the Stite Department

Coordinator for U.S.resistance to the NIS.

On January 25, 1996,the Committee sent a letter to the Coordinator stating

that the answers it had received from the Coordinator on January 17, 1996,

were nonresponsive to dl of the questions.

On February 22, 1996,the Chairman of the House Committee on

International Relations sent another letter to the USND Administrator

expressing his continued concerns ad asked for certain assurances

Page 66 GAO~SN-97-27 ForeignAssistance
I~,

Appendti H

EventsLeadingto HIID’s Cooperative

Agreementfor Work in Ukraine

before the “hold”wotid be removed. These included assurances that (1) a

thorough review of the econotic restructting project in Ukraine wotid

be performed and a report submitted by May 1, 1996;(2) a process of

competition for the HIIDwork in Ukraine would be conducted in the near

future so that work based on a competitive award could start by

February 1997;(3) coordination would remain within the U.S. govement

jurisdiction and not be itiuenced by HIIDfor work not related to HIID’S

progrm; (4) funding of the HUDnoncompetitive proposal wodd not

exceed $2miflion and would end by February 1997;and (5) a briefing

wotid be provided to Committee s~f on the stitus and progress of HIID’S

work.

On February 27, 1996,the hternationd Monetary Fund’s ksistartt

Director for the Monetary and Exchange Department sent a letter to the

us~DKev mission stating that

“[t]here is always the danger that with many possible sources of technical advice, the NBU

management W search for advice untfi it fids the one that it is lootig for. Indeed, we

must dso be cogntiant of the possibfity of contradicto~ advice when many sources are

involved and httle coordination takes place. Itis with these elements in mind that I would

caution providing additiond adtisors to the NBU at this time and would think that the

proposed advisor from Jeffrey Sachs’ Think Tank could be repetitive of assistmce tieady

provided and could even be counterproductive.”

In emly March 1996,HHDstaff visited Ukraine and discussed the proposed

progrm with the us~DKev mission, representatives of the Ukrainian

Deputy Prime Minister, the Ukrainian NBU offlcid, and the U.S.Treasury

advisor.2According to an NBUofficial, HIID was told that the NBUwould

accept ody one advisor to work on the project.

On March 19, 1996,the head of us~D’sprivatizatiotieconomic reform

office in Washington indicated a reluctmce to clear the waiver of

competition that wotid permit the award of a cooperative agreement to

HUDbecause she was concerned that some parts of the proposed

agreement may had been included in the withdrawn request for

applications. The officer did not clear the waiver because she was not

‘me U.S.Treasury advisor was part of a workinggroup consisting ofthe VekhovnaRada (the

Ukrainianparliament) and the State Tax Inspectorate (now the State Tax Administration).He told us

that the best chance to succeed in Ukraine was to divide its work into fivemajor areas oftax law, He

said that there were five areas that needed attention-administrative provisions,valu~added -,

enterprise profit (corporate income) taxes, personal prope~ taxes, and excise taxes. He added that

the issue of using a cash versus accrual basis for making a vahre-addedtax payment,whichwas

discussed in detail in the HIIDproposal, was already included in the value-addedtax legislation

awaitingthe third reading of the parliament.

Page 67 GAONSfAD-97-27ForeignAssistance
Appendti 11

Even& Leadingto HIID’s Cooperative

Agreementfor Work in Ukraine

involved in discussions of the foreign poficy circumstances that formed

the bmis of the waiver.

On Mmch 26, 1996,USND’SAssistant Administrator determined that an

award for work in Ukraine on macroeconomic issues wotid be made

without competition based on foreign poticy considerations. Other U.S.

offlci~ dso approved the waiver.

On Apti 9, 1996,HIIDsubmitted a scaled-back proposal that had three

components: provision of advice on macroeconomic wd monetary

pohcies, assistance on @ and budget matters, and advice on reforming

Ukrtie’s pension program.

On Apd 19, 1996,the usNDKev mission completed iti analysis OfHnD’S

Apti 9, 1996,proposal and concluded that

‘there is a clear need for the type of assistance for which the waiver was granted: strategic

pohcy advice by long-term adviso~ who are higMy qufied and recogtied e~erts h their

fields, to help shore up the Government of Ukraine’s (GOU) pofiticd ~ and leademhip in

reform efforts. Thiswould be a m~or contribution and a valuable complement to our

ongotig USMD fic~ and financial reform programs, which are we~-focused and sttied

tith higNyqutied emefi, but are hampered and often delayed by a lack of high-level

commitment and direction.

“However, most of HHD’S current proposal does not meet these criteria. It is overly rich in

lower-level researched dotig the same poficy stuties produced by our efisting

contractors, and scarce h sustied commitmen@ from senior-level pohcy advisors to

spend time in Ukraine pemuading top offici~ to move on needed reforms.”

~is analysis was f=ed to us~D~ashington on Apti 19, 1996,and was

taken into account in negotiating the subsequent cooperative agreement

between USMD and HHD.

On Apti 26, 1996,the Ukrainian Depuw Prime Ministersent a letter to the

Sbte Department Coordinator co~ . g his desire to obtain ~ID

assistance, and on May24, 1996,HIIDand USMD entered into a cooperative

agreement for $1.5mi~ion.

Uhtia Govement Concerning questions about what knowledge Ukrainian officials had about

howledge of HIID’s the cooperative agreement, our interviews in June 1996indicated that

fioposd while the Ukrainian Prime Minister and a Deputy Prime Minister endorsed

Page 68 GAO~SfAD-97-27Foreign Aasistice
[

Appenti II

I Even@ Leadbg to HIID’s Cooperative

! Agreementfor Work in ~aine

HHD’Srole in assisting Uhaine, others within the Ubainian government

had tittle or no bowledge of the proposed project. Most other ministries,

including the Ministry of Economy, the Ministryof Pinance, the Stite

Property ~d, wd the General Stite TM Wpection Agency,told us they

did not bow about HnD’Sproposal untti tier it was approved in May 1996.

However, these ministry offici~ told us that they generdy beheved that

HUD’Sproposal held some promise.

Page 69 GAONSM-97-27 ForeignAasbtance
ADDendtiIII

Statusof 19LawsinHIID’sFirstWorkPlan

., ,

Laws Status

Tm Code Not passed

Contract Law Passed/Civil —----, Code, 1/26/96

Law on Insurance Passed/Civil Code, 1/26/96

Law on Holding Companies and Financial Industrial Groups Passed, 11/30/95

Law on Fundamentals of Pricing Policy Not passed

Law on Noncommercial Organizations Passed, 1/12/96

Law on Advertisements Passed, 7/18/95

Law on Delivery of Products for State Needs Not passed

Law on Nonstate Pension Funds Not passed

Law on Bankruptcy Not passed

Law on Pledges Passed/Civil Code, 1/26/96

Law on Foreign Economic Activity and Investment Not passed

Law on Management of State Property Not passed

Law on Joint Stock Companies Passed, 12/26/95

Law on Movement of Capital Not passed

Law on Securities Passed, 4/22/96

Law on Intellectual Property Not passed

Law on Concession Contracts and Agreements on Division of Production Not passed

Law On Competition and Restrictions of Mnnnnnliqtic Activities in commodities Market Nnt naqsed

Page 70 GAO~SWD-97-27 Forei@ Aasistice
CommentsMom USND

Note: GAO comments

supplementing those in the

report text appear at the

end of this appendix. a==

U.S.AGm =

1~AnmN

~~

Nw b W

Mr. Henry L. HintOn, Jr.

Assistant Comptroller General

National Security and International Affairs Division

U.S. General Accounting Office

441 G Street, N.W. - Room 4039

Washington, D.C. 20548

Dear Mr. Hinton:

I am pleased to provide the U.S. Agency for International

Development’s (USAID)S) formal response to the draft GAO report

entitled, %*Foreign Assistance: Harvard Institute fOr

International Development’s Work in Russia and Ukrainea (October,

1996).

The report reflects considerabletine and effort by the GAO

in assessing a major assistance effort undertaken by the Harvard

Institute for InternationalDevelopment (HIID) and USAID. We

agree with the finding that the award to HIID was consistent vith

applicable laws and USAID guidelines, and generally agree vith

the positive assessment of HIID’s role and accomplishments in

implementing programs in the areas of capital markets, legal

reform and privatization.

Although no formal recommendationswere contained in the

draft report, we plan to take the following actions: (1) review

existing policy regarding amendments to non-competitive

agreements; and (2) improve management and oversight of the

grantee with respect to reporting requirements, establistient of

measurable goals, performance monitoring, and results evaluation.

Enclosures (1) and (2) provide specific co=ents on the

report. These comments were developed by individuals and

operating units most familiar with the subject matter and we

respectfully request that they be given consideration in

completing your final report.

320Twm-FIHT SIREET,N.W. WASHINGm,D.C. 20523
Appendk N

CommentiFromUSMD

2

Thank you for the opportunity to reepond to the GAO draft

report and for the courtesies extended by your staff in the

conduct of this review.

Sincerely,

q-z~c962 Fd

)

Larry E. Byrn

Assistant Atiinistrator

Bureau for Hanag-ent

Enclosures: as stated

,

Page72 tiONSH-97-27 Foreign Aasiatice
Appendix W

CommentsFromUSMD

See comment 1.

See comment 2.

~CLOSUAE (1)

USAID Co-enta on the Principal Findings

USAID has one general comment and several specific comments on

the GAO findings.

Our general comment concerns the respective roles of USAID and

HIID. HIID has not had substantial control over the U.S.

assistance program. Nor did HIID ‘manageW other contractors in

the sense of exercising any fiscal controls or even day-to-day

work supervision. HIID has worked under the direction of, and in

close coordination with, both USAID and appropriate counterparts

in providing strategic guidance and oversight and in actively

coordinating other contractors~ efforts in capital narkets and

privatization. At no time did USAID cede its own project

nanagenent responsibilities to HIID.

Our specific comments below are keyed to the findings in the

draft GAO report.

Findina: Awardina of CooDerative Aareements consistent wit~

BDDlicable Guidelines. But Process Errors Occurred

As noted in the GAO report, USAIDts policy is to encourage

competition in the award of cooperative agreements. The policy

also allows for flexibility when a noncompetitiveaward is in the

best interests of the U.S. Government. Decisions regarding

noncompetitiveprocurements are thoroughly vetted with

appropriate parties to ensure that viable alternatives for

meeting the AgencyBs needs are considered. The GAO report

accurately acknowledges that USAID made prudent decisions in the

award of noncompetitive agreements to HIID given their

established relationship with the Russian government and

experience working in the country.

The report indicates that USAID used erroneous scores to select

the winning proposal for the Russian SEC activity due to a

mistabulation of panelists scores for the proposals. USAID

disagrees with GAOts conclusion that the discrepancy was the

result of an error in scoring. The procurement officer

interpretedthe handwriting of an evaluation committee member

differently than the GAO evaluator when aggregating the

individual evaluation scores for a total component score

percentage. The procurement officer provided this explanation to

the evaluator prior to the issuance of the draft report.

~xed Proaress on Kev Features of an Efficient CaDital

Market

Recent events indicate that proqress is no lonqer ‘mixed”. The

situation in Russian capital markets changed significantly in the

period immediately following the completion of the GAO fieldwork.

Page73 GAO~SM-97-27 Foreign Assistance
AppendixW

CommentsFromUSMD

See D. 42.

See p, 37.

See p. 41.

2

The GAO nay therefore wish to update its report and adjuat two of

its sub-findings to reflect the changes.

Sub-findina: Efforts to Develow CSOS were Disaww~. .

This finding should be revised based on events subsequent to the

field work of the audit. Efforts to develop clearing and

settlement organizations (CSOS) were disappointing until the

summer of 1996. However, since that time, significant progress

has been made by the Depository Clearing Company (DCC), a central

Moscow-based depository:

●

●

●

●

In August 1996, the President, a political appointee,

resigned and in September 1996, a new President was elected

by tha board of directors.

In October 1996, the shareholders’meeting elected a vicepresident and approved: (i) a strateqic and financial plan;

(ii) a company charter and, (iii) a protocol for settlement

procedures electronically linked with the Russian Trading

System (RTS).

Two crucial new shareholders -- the National Association of

Professional Market Participants (NAUFOR) and Interbank

Credit Union (MKS), a cash settlement bank owned by Ruaeian

banks -- joined DCC in October.

The International Finance Corporation intends to wrovide DCC

with technical assistance, in~ludinq assistance w~th the

development of a business plan and in the examination of

financing alternatives.

This progress is being driven by increased tradinq activity,

which jumped from $15 million per day in July 1996 to $49.4

million in October 1996. The number of brokers connected to the

RTS has grown from 130 in July to more than 200 in’October 1996.

Membership of tha National Association of the Professional Market

Participants (NAUFOR)has grown to more than 328 companies. With

the increasing demand by market participants for clearing and

settlement services, DCC is rapidly developing into a leading

Russian clearing house.

We propose that discussions in the report concerning unfavorable

market conditions for clearinq and settlement services, as well

as discussions concerning political power struggles, be revised

to include this updated information.

. .

~ : Ss

&

We recommend that this sub-finding be revised. The raport argues

that the lagal status and mandate of the Russian SEC is unclear,

Page74 GAO~S~-97-27 ForeignAsstitice
Appendix N

CommentiFromUSMD

See comment 3.

See comment 4.

See comment 5.

See comment 6.

See p. 43.

3

and questions whether the workforce can be maintained due to the

inability to match private sector salaries.

The Russian SEC’S status, defined by a federal law as an

independent federal agency with ministerial status subordinated

directly to the President of the RUSSian Federation, was restored

by a Presidential Decree on September 6, 1996. As of October

1996, the Russian SEC has a staff of more than 100 professionals

at its headquarters and is in the process of establishing 12

regional offices. The Russian SEC has issued more than 40

regulations for the securities market and licensed more than 150

professional market participants.

with regard to salaries, regulatory agencies in general tend to

pay lower salaries than would be available to staff in the

private eector (the United States is a good example). However,

this has not been seen to be detrimental to the sustainability of

those agencies. The Ruseian SEC is one of five federal

ministries that compensate employees at the highest federal

government rates.

We propose that eections of the report and executive summary

that question the Russian SEC’s future be revised to reflect the

Russian SEC’s current status and prospects.

Sub-findina:-D’s Substantive Role in Establua a Cavital

Market

It is recommended that the report note a very relevant

contribution by HIID to the establishment of capital markets in

Russia. HIID executives at the Resource Secretariat played a

critical role in securing funding for capital markets activities

from other donor organizations. The $89-million World Bank Capital markets loan, approved by the Bank’s Board on May 28,

1996, will build upon the USAID-funded effort and could have

long-term ramifications for Russian capital markets. HIID also

helped to secure funding from other donors - TACIS (about 7.4

million ECU) and British Know How Fund (about $5 million). The

total amount of this fundin9 -- more than $lQQ million ‘- is

significant, and will exceed USAID~s contributions.

~indina: HIID Plaved a Kev Role in -qal Reform Proiect

We agree with this finding, but object to two of its contributing

sub-findings. We also suggest that the GAO clarify its text

regarding the issue of the number of new laws expected as a

result of HIID assistance. First, the cooperative agreement with

HIID did not require that they achieve the passage of 19 laws in

2 years; rather, it required that HIID work in certain areas and

that the areas of law to be addressed could include the 19 laws.

Second, in terms of HIID accomplishments, it is misleadin9 to

state that HIID played a major role in the passage of only 5 key

Page75 GAO~SM-97-27 ForeignAssis*ce
1

Appendti W

Commen@From USMD

I

See comment 7.

See p. 49.

See comment 7,

4

commercial laws passed by the Duma. In Russia, presidential

decrees have the same force as laws passed by the Duma, as long

as there is not a conflict between the decrees and laws. HIID

contributed to completion of 20 major co=ercial laws or decrees,

many provisions of Part II of the Civil Code, and an additional 6

laws and 19 regulations promulgated in the capital markets area.

The laws and the decrees were for the most part the result of the

same collaborative drafting process involving members of the

Duma, academia, government ministries, the practicing bar, the

judiciary, the business community, etc.

3ub-Findinu: Uck of USAID Oversi~t Uav Have Resul ted h

Ynn ecessarv Costa

We do not agree with the finding and request that it be

eliminated. Our reading of the record indicates that: (a) HIIDIS

work on the Civil Code was a complementary and not a duplicative

effort to the work of IRIS; (b) it had been requested by Duma and

Presidential administration officials; and (c) it had been

officially approved by the USAID Mission and USAID/Washington.

The report is misleading because it ignores the positive benefits

that came from HIID’s participation in the process of drafting

Part I of the Civil Code, The legal reform project was asked to

become involved to create competition and force the Research

Center to open up the drafting process to other points of view.

The ultimate version of Part I that was passed by the Duma was

improved because of this pressure, in addition to the excellent

work the IRIS project performed in expanding the horizons of thie

small group of drafters. It should be noted that the President’s

office solicited the draft produced by the HIID Russian lawyers.

The fact that the legal reform project was brought into the

drafting process led to the two entities working more

collaborativelyon Part II of the Code, which Russian and foreign

experts alike agree was a far better piece of legislation.

sub-~d~~ o I* Strateav

We disagree with the GAO assertion that ‘HIID altered the

...legal reform strategy by deciding to emphasize the use of

presidential decrees without receiving approval from USAIDn. The

agreement document is broad, and there ie no indication that

there was a violation of the terms or spirit of the cooperative

agreement. Since the inception of this project, HIID and its

Russian legal team have worked closely with the coordinating

committee to advance economic reform legislationusing a variety

of strategic approaches. USAID/Moscow and USAID/Washington have

been aware of, and in agreement with, this strategy. In fact,

the agreement was drafted in such a way as to afford HIID maximum

flexibility to identify opportunities for reform legislation, and

to move forward in the most appropriate nanner. Thus, the use of

1 Page76 GAO~SW-97-27 ForeignAssietice
I

1

See pp. 57-59.

See comment 8.

Appendk W

Commen@FromUSMD

5

decrees was not a change in strategy, but was part of the

strategy itself.

Findina: Sustainability Prlvatlzatlon Centers . . .

of Oues~

We recommend that the finding be modified or clarified. While

the sustainabilityof the Russian Privatization Center (RPC) and

its Local Privatization Center (LPC) network as private

consulting organizationsmay be questionable, the sustainability

of that network as a donor coordination and project

implementationorganization is not. The latter point is

supported by the fact that the World Bank has designated the RPC

to be a Project ImplementationUnit for a $100 million loan

project, the Japanese have co=itted to support the full

operational costs of the LPC network, and EU-TACIS has initiated

three new enterprise restructuring projects designed and

implemented in conjunction with the RPC.

It should also be noted that the body of the report contains

several conclusions about USAID@S e~ectations for the

sustainabilityof the RPC that are incorrect. At the tine the

RPC was established, USAID design documents stated that the

‘purpose of A.I.D. assistance is not to establish a long-lasting

Russian institution,but rather to support the effective

implementationof privatization now.n It was also stated that

l*RpCfinancial independence throughrevenue generating prOgramS

is not politically or bureaucraticallypossible at this time.m

As privatizationprogressed rapidly, it became clear that massive

post-privatizationsupport for restructuring privatized

enterprises would be necessary and the GOR designated the RPC to

undertake that responsibilitythrough a presidential decree

establishing the LPC network, which USAID subse~antly supported.

When USAID made its final direct contribution in 1995 to support

the LPC network, USAID stressed that RPC needed to develop a

strategy for sustainability. Since then, USAID has assisted the

RPC to do so, to ensure a rational and responsible’phase out of

the USAID investment to the RPC and LPCS.

Page77 GAO~SN-97-27 Foreign Aaahtice
Appendti N

CommentsFromUSMD

The following are GAO’Scommenb on USMD’Sletter dated November 5,

1996.

GAO’sComments 1.To assess the respective roles of HIIDand USMD,it is important to

understand the position that HHDhad in providing technical assistance. As

indicated in appendix I, HnDhad direct access to the Russian reformers

through the Russian Securities and Exchange Commission’s (sEc)

Resource Secretiat, mBE,and the RPC.The HIIDmOSCOW General Manager

told us that he considered his ctients to be the Russian reformers, not

USMD,and that he responded to his client’sreques@for assistance. HIID’S

responsibilities included gathering information necessary to develop task

orders, determining key concepts for the project, and defining and

implementing the project. HIID was in daily contact with Russian reformers

and U.S. contractors that were co-located with HIID.Contractor personnel

told us that although USMDsigned the task orders, it was the Russian

reformers and HHDthat directed their activities. Moreover, HIIDofflciti

told us that they gave advice to Russian reformers on a confidential basis

and did not always inform USNDor the Department of State that sensitive

areas were being discussed. USMD md State offlcids confirmed to us that

they did not always know about these discussions. S~arly, USMD retied

on HIIDto work with the Russia President’s kgd Advisor ad the

legislative coordinating committee to develop the legislative agenda, and

at times H~D initiated activities before funding approval was received from

USMD.

2. We confirmed the individud scores of the pael members and, at the

time of our review, the procurement specialist agreed with our finding.

3. The report has been modified to reflect this new information. However,

the information illustrates the political struggle that the Russian SEChas

encountered from its inception.

4. We revised the report to expand the discussion of SECresources issues

beyond that of federd versus private sector salaries. Market participants

told us that ftiihng the Russian SEC’Sconsiderable responsibtiities til

require a sigtilcant e~argement of its staff and budget.

5.The report was modKledto include this information.

6. Our objective was to provide an assessment of HHD’Srole in the legal

reform effort and the progress made in the 19areas, since success in this

Page 78 GAO~SM-97-27 ForeignAssistance
AppendixW

CommentsFrom USMD

regard was viewed by State as critical to the overall pohticd and economic

transition. We did not intend to imply that HHDofly provided assistance on

19pieces of legislation and we acknowledge HIID’Sinvolvement in many

legislative areas. We have attempted to clarify this point.

7. USMD’Scomment about the use of decrees to achieve reform is correct,

as far as it goes. We recognize in the report that the situation that

developed after the 1995parhamen~ elections, may have prompted a

greater use of decrees to accomphsh reforms. However, none of the USMD

or Department of State documen~ authorizing the program discuss getting

decrees issued; they ody discuss the passage of legislation. Mhermore,

the U.S.Ambassador told us that decrees were not an integral part of the

initial legal reform strategy. As we point out in the report, it was this very

use of decrees during the initial privatization effort that led the U.S.

Ambassador to push for the coordinating committee to gain legislative

involvement. Mher, USMD’Saction memormdum justtiled the program

based on the need to pass legislation to “foster a new pattern of

executive-legislative cooperation. . . necess~ to adopt and implement

the new laws. . . .“

8. USMD’Scomments do not reflect the change in strategy regarding the RPC

that took place in light of emerging economic and business issues. We

recognize that USMD’Songind expectations were short term md based on

the RPC’Simmediate role to support privatization. However, USMDlater

expected the RPCto sustain itself either through donor resources or fees

generated by consdting services based on the objectives of USMD’S

assistance to the RPC.Accordingly, USMDdocumenk show that when it

made its find direct contribution in 1995to support the NCnetwork, it

stressed that the RPCneeded to develop a strategy for sustiabitity. from

fiscal years 1992through 1996,USMDbudgeted nearly $50tihon for

enterprise restructuring ad land reform assistance programs to, among

other things, develop the RPCad the WCnetwork’s capabilities to

continue such activities after graduating from USMDassistance.

Wherrnore, USMDmade funding available to Program for Intensive

Enterprise Support and Rnancid Management Assistice program

contractors to develop consdting materials for the RPCand the NC

network specifictiy as a fee-generating service. k addition to protiding

ik own funding, USMDinformed us in August 1996that it was worhg very

closely with the World Bank to secure the RPC’Sbest prospects for

sustainability-the Enterprise Restructuring Services Project. USMD and

HHDhave dedicated substitid fmancid and human resources to the RPC

and, therefore, both have a significant investment in the RPC’Sfuture.

Page 79 CAO~SM-97-27 Foreign Aasistice
Appendix V

} CommentsFromHIID

Note: GAO comments

supplementing those in the

report text appear at the

end of this appendix.

Tel:(617) 4q>41 12,495-9871

Fax (6I 7) ~SS6&, 4963967

email:lmchs@hiid.horvard.edu

Cable Addres HIID

Telex:275276

HARVARDUNIVERSl~

wHARVARDINSTITUTEFOR INTERNATIONALDEVELOPMENT

One El!otWwt, Combfidge,Mowchuwfls 02138

JefieY D Sochs. Director

Galen L Stone Prokssor ot InternatioMl Trade

Dewment of Economics

October29, 1996

Mr.BenjaminF. Nelson

Director,lntemationrdRelationsand TradeIssues

InternationalAffairsDivision

U.S.GeneralAccountingOffice

441G Street,N.W.

Washington,DC20548

DearMr. Nelson:

The followingare the commentsof the HarvardInstituteforIntematiomdDevelopment(HIID)

on the draft GAOReportyoukindlysent us forreview. Weverymuchappreciatethe

opportunityto comment.

In general,we thinkthat the conclusionsof the reportare reasonablybalanced. We m pleased

to note,in particular,the findingthat USMD’Sawardsto HIID“wereconsistentwith applicable

lawsandUSAIDguidelines”and reflectedHIID’s “earlyandextensiveworkin advisingthe

Russianreformers”and “its experience,expertiseanda systemof contactswithinthe Russian

Government,”

Weare pleasedthat the reportconcludesthat 6’Russi~withHIID’ssupportand assistance,has

madesubstantialprogresson someof the key featuresofa functioning,efficientcapital market.”

Weare also pleasedthat the reportconcludesthat the lawsand decreeswhichthe LegalReform

Projecthelpedto draftrepresent“significantaccomplishments”andcovered“37 generalareas [of

law]related to economicactivity.” Wewouldgo furtherand say they representa tidmentil

transformationof the legal environmentandarea criticsdfoundationofthe developmentof a

marketeconomyinRussia. Whenthe legalreformprocessstarted inRussi~ Westernlegal

systemsand conceptsin commerciallawweretotallyunknow unlikeEmtem Europewhere

such systemsand conceptsexisteduntilthe end of WorldWar11andthuscouldprovide a solid

modelor frameworkfor newaction. As a resdt, legalreformhas beena muchmore difficult

task in Russiathan in EasternEurope.

Withrespectto Ukraine,we are pleasedthat the Reportmakesclearthat the currentHIIDproject

1

Page 80 GAO~SM-97-27 ForeignAesis~ce
AppendixV

CommentsFrom HIID

See comment 1

originatedwith a requestfromthe Governmentof Ukraine(GOU)to MID. The projectwas

entirelyunrelatedto the previousUSAIDconsiderationof a cooperativeagreementfor wsistance

to Ukrainein Spring 1995(subsequentlywithdrawnby USAID)and coveredmuchdifferent

workthanwas contemplatedin the 1995proposal. The projectinvolvesprovisionof adviceto

the GOU atthehighestlevels on strategicmacroeconomicpolicy. me projecthas been highly

successfuland has made uniquecontributionsthat arehighlyregardedby seniorGOUofficials.

We understandthe terms of referenceofthe Report(as set forthon pp. 3 and 37) are limited,and

do not includean evaluationof HIID’sworkin Russiain providingadvicein the areas of price

liberalintion, stabilimtionand privati=tion. Nevertheless,it is worthstatingthat these three

issues(whichare at the heart oftbe transitionto a marketeconomy)mpreaerrteda substantial

elementof HIID’swork inRussia. Wewouldbe happyto provideany further informationthe

GAOwisheson these matters.

Finally,we wish to notethat in a nurnbr of mattersthe Reportis in error, misleadingor

incomplete. HIIDactivitiesin Russiaare complexandour commentsare not intendedto reflect

adverselyon the workof the GAOstaff. In somecases, eventssince the GAOstaff completed

their investigationhave supersededthe conclusionsof the M Report. We think it importantto

set forththese mattersin some depthand haveattacheda memorandumlistingthem. We have

also attachedfor yourconveniencethe specificchangesin the languageofthe Repofito correct

thesematters. To the extentthat our commentsarc not reflectedin the fid Report,we request

thatthis letter,the enclosedmemorandumandthe chartsattachedbe printed in the Report. The

memorandumcontainingoursuggesteddraft languagedoes not needto be includedin printing

our response.

Verytruly yours,

JeffreySachs

Director

Attachments:2

Page 81 GAO~SM-97-27 Foreign -istassce
AppendixV

CommentsFromHIID

Now on p, 17

See comment 2

Now on pp. 2, 4, 18, and

47,

Now on p. 17,

See comment 3,

See comment 4,

MEMORANDUM: DETAWEDCOMMENTSONGAOREPORT

I. GeneralCommentsandAwardofContracts

1. TheReportmisstatesHIID’srole in legalreform,capitalmarketsand the Russian

PrivatimtionCenter(RPC). HIIDdid nothave “substantialcontrol”(p. 32)overthe US

AssistanceProgram. Thiscontrolwas actuallygivento Russianreformersthroughthe vehicleof

the CoordinatingCommitteeforlegalreformmatters,tn the RussianSECfor mpital markets,

and to the RPCfor enterpriserestructuring.All the workof HIIDandits prirtcipd subcontractor,

the non-profitRussianentity the InstituteforLaw-BasedEconomy(ILBE),was directedand

controlledby the CoordinatingCommitteeandthe RussianSEC;therewas an agreementwith

USAIDand the LegalOffIceofthe Presidentof Russiaand the StateDurnaexpresslyproviding

forthis control,whichstatedthat “coordinationof technicaland legalassistancef~ded by

USMD and aimedat the suppotiof legalreform”and the “determining[ofltop priorityareasto

supportthe legalreformfundedby the USAID”shall be exercised“exclusively”and

“inde~ndently” bythe CoordinatingCommittee.

ILBEhad been formedandwasstaffedby an elite groupof Russianprofessionals- lawyersand

economists- whohad beenworkingin the area of commerciallegalreformand privatimtionfor

sometime and whoactuallyperformedthe substantivelegalworkstandingbehindthe reform

process. All the legalworkdiscussedin the Reportwas done in whatproperlyshouldbe called

the LegalReformProjeet(LRP)whoseparticipmrswere the leadershipof the Durna,the Legal

OffIceoftbe Presiden$ILBEandHIID. Manyof the referencesin theReportto MID shodd

actuallybe changedto LRP.

2. TheReportappearsto suggest(pp.2,7,33,92)that HIIDhada significantrole in

establishingRussianinstitutionslikethe RPC,ILBEor others. Thesewere conceivedof and

formedbyRussianson their owninitiativewithonlymodesthelp fromHIID,

3. It is incorrectto state (p. 33)that assistancein drafiingcommerciallaws was “charmeled”

throughthe RussianPresident’sLegalAdvisor, Suchassistarreeac~ly was channeledthrough

the CoordinatingCommitteeof whichtheLegalAdvisorwas a member.

4. TheReportsuggeststhatthe Ukrainecontractduplicatesworkalreadybeingdone in the

Ukraine. We thinktheReportfailsto distinguishbetweenthe concernsofsome individds at

the USAIDMissionin Kiev at the very start oftbe projectand the positionofthe missionitself

as determinedby the seniorofficialsresponsible. Wedoubtthat the missionwouldhave

awardedthe agreementif it thoughtmajorportionsofthe workwouldduplicate,possiblydelay

or be counterproductiveto otherprojects. Priorto enteringinto the cooperativeagreement, HIID

was madeawareofthe concernsthat individualstaffershad raised,andwas explicitlycommitted

to avoidingduplicationin effort. The essenceofthe HIIDproject(strategicadvisingto the most

seniorGOUoficials on macroeconomicandtax-) is findarnentallydifferentfromother

Page 82 GAO~S~-97-27 ForeignAsak~ee
AppendixV

CommentsFromHIID

See comment 5

Now on pp. 4 and 9.

Now on pp. 31 and 41-42.

See comment 6.

Now on pp. 9 and 41.

See comment 7.

ongoingprojects. We do not at all understandthe commentin the Reportconcerningthe work

on pensionreformand the suggestionthat it wouldhavebeen counterproductiveto a German

sponsoredprogram. Thisstatementis completelycontraryto manyrepresentationsmade by

seniorUS governmentofficials,includingseniorUSAIDofficials duringthe entireprocess,

We are confidentthat examinationofthe projecttodaywouldmakeit clearthat there is no

duplicationofthe workbeingdonebythe USTreasuryadvisoror by the InternationalMonetary

Fund.

II. CommentsonChapter3: CapitalMarkets

1. Futureof theRussianw: TheExecutiveSummary@p.7, 18-19)andthe draft

Report(pp. 60,81-82)state that in August1996a Presidentid Decreewassignedwhich

downgradedthe status of the RussianFederalCommissionand therebyrendereduncertainthe

fiture ofthe Commission. The informationin the SummaryandReportis dated. Lessthan one

monthlater,the actiontaken in the August 14Decreewas correctedin a Decreeofthe President

#1326“On the Systemof FederalExecutiveAgencies”dated6 September1996. In the

SeptemberDecree,the status ofthe FederalSecuritiesCommissionwasreconfirmedas a

ministryin full accordancewith the Russim federd “Lawon Securities.” It is widely

acknowledgedthat tie inclusionoftheCommissionin certain provisiomofthe AugustDecree,

whichreorgarrizd the entire federalgovernmentin detail,was a mistakeby the draftersof the

AugustDecree.

The Summary(p. 19)and the Report@,82) also state incorrectlythat “[I]t is unclearwhetherthe

RussianSECwill be able to maintainits workforcedue to its inabilityto matchprivate sector

salaries,”becausethe salaries of feded employeesare cappedat a level belowthat of the private

sector. Thisis true of all federalgovernmentsaroundthe world,andthe conclusionis an

overstatement. The federd employeesthat makeup theCommissionstaff are professional

bureaucratswhowere hired by theCommissionfromother governmentagencies,such as the

RussianCommitteefor State PropertyManagement(privatintion agency),tie RussianMinistry

of Finance,and the RussianCentralBank. Thisstaffis accustomedto the normalrange of

federalgovernmentsalaries. In March 1995,theCommissionwas not onlywanted ministry

status, but also “privileged”ministrystatusso that it is one offive federalministriesthat pay the

highestfederalgovernmentsalaries. The rate of attritionof Commissionstaffto the private

sectoris expectedto be lowerthannormal.

TheReportand Summaryshouldpointout that au independentfederalregulatoryagencyforthe

securitiesmarket has been establishedwith a privilegedministrystatuswhichgainedthe respect

ofthe marketalmost immediatelyas a competentregulator, Theministryhas grownfrom3

officialsinNovember 1994to a staff of morethan 100professionalsby October 1996. The

Commissionhas adoptedmorethan 40 regulationsforthe securitiesmarket,andhas issuedmore

than 150licensesto fundmanagers,specialimddepositoriesand registrars. TheCommissionis

Page 83 GAO~SM-97-27 Foreign hsistice
I

AppendixV

CommentsFrom HHD

Now on pp. 38-41,

See comment 8.

Now on p, 39,

Now on pp. 39-40.

See comment 9,

currentlyin the processof establishing12territorialbranchofices. The status oftbe

Commissionas a federalministry,and its authorityto regulatethe securitiesmarket,is

@ablished by a federd lawpassedalmostunanimouslyby the Russianlegislatureand signedby

the Presidentin 1996.

2. orv C~ (DCC\ and0~ CleannQ~

ns(CSOQ: TheReportand Summarycontainvariousinaccuraciesand

dated informationaboutthe CSOproject,ad in particularaboutDCC,

TheReport@p.75-76)and the Sumrnw@. 18)statetiat “[E]achCSOevolvedfroman

existingstockexchangeandwasownedandcontrolledbytheexchangeandthemarket

participant[sic].”TheRepoti and Summarythen implythe irrcomct conclusionthat the CSOS

are no longerviablebecausetradingonthese exchangesis no longersignificant.’ This

conclusionconfusesthe differencebetweenfloor-basedexchangesandthe over-the-counter

market. CSOSare an integralportionof any securitiestradinginfrastructure,whetherthe trades

aremade on a floor-basedtradingsystemor an over-the-countersystemor a hybrid. So longas

trades are executedon any tradingsystem,the needexistsfor an organimtionto clear and settle

suchtrades.

In 1994,whenthe RussianCSOprojectwasinitiallydesigned,each ofthe CSOSwas paired with

a developingfloor-basedexchangein the respectivecity. Becausethe floor-basedexchangewas

nevera viable equitiestradingplatformin Russi~ the initialfloor-basedexchangeshave not

survived. Instead,the over-the-countermarketfor equitieswhichbeganto developnaturallyhas

been successfullyirrstitutionalimdasthe RussianTradingSystem(RTS). Asthis nati trading

structureemergedduring 1994,a ptilel structurewas devisedfor theCSOs--i.e.,a central

depositoryin Moscowwith branchdepositoriesin the other cities wherethe RussianTrading

Systemoperates. Today,the DCC(the MoscowCSO)is electronicallylinkedto RTS in orderto

clear and settle trades on the system.

TheReport ~. 77) dso statesthat “DCCis not yetfullyoperationalin pti becausethe market

was not ready forsuch an organimtion.” DCChas been“filly operational”as a professionalreregistrationbusinessfor abouttwo years. It bas, however,taken longerthan’hopedfor DCCto

fullydevelopsimultaneousbook-entrysettlementof shm ownershipand payment-vsdelivery

clearingof tradesthat is a naturalfunctionof the depositorybusiness. Asthe Report(pp. 77-81)

pointsOULthis has beendue to the slower-than-expecteddevelopmentof demandforsuch

servicesby the marketparticipmts. A clearingandsettlementorganimtionis a derivativeservice

provider,and can onlydevelopas the marketmaturesand itsservices are demandedby market

1“According to the crmtiactor, as ofmid-1996, only the Vladivostok stock exchange W= active, executing about

30 rramatiions a day, and as ofmid-1996 DCC was disintegrating.” Repen (pg. 77) and Executive Summa~ (pg.

18).

Page 84 GAO~SW-97-27 ForeignAasia~ee
AppendixV

CommentsFrom HIID

See comment 9.

Now on pp. 40-41

Now on p. 37.

See comment 10.

See pp. 37-38.

participants,

Onlyrecentlyhasthis demandby marketparticipantsfor the clearingand settlementservices

providedby DCCreacheda critical level. TradingactivityinRussia asreportedbyNAUFOR

hasincreasedsince June 1996from$10millionto $15millionper day,with a dailyhighthat has

jumped from$15millionto $47millionin October 1996. Thisincreasedactivityhas

significantlyinfluencedthe attitudesand commitmentof thosemarketparticipantsthat drive

DCC’Sdevelopment. Furtherevidenceoftbe increasinggrowthandmaturityofthe market

participantsandmarketinfistructure isthe growthof NAUFOR. hrthe last sixmonths,

NAUFORhas grownfrom200to 300members.

In addition,the politicalstrugglesmentionedin the Report~. 80-81)whichinhibitedthe

marketdemandfor CSOserviceshavebeenameliorated. In August 1996,the DCCmanagement

resigned. At a mid-October1996shareholders’meeting,the shareholderselecteda new

managementteamwhichis rapidlybuildingcredibilityin the marketplace. TheBoardof

Directorsof DCCwas adjustedto includeCbaseandCreditSuisse(two ofthe largestglobal

custodians),NAUFORandMKS,a limited-purposecash settlementbankcollectivelyownedby

marryof Russia’sIargestbhs. A representativeof each ofthe Federd SecuritiesCommission

and the RussianCentralBankdso wereelectedto DCC’SBoardof Directors.

At the sameOctober 1996meeting,a representativeofthe ktemationrd FinancialCorporation

repated IFC’Spriorwritten intentionto providespecialistsand participatein the longprocessof

raising capiti to supportDCC’Sgradti assumptionof guaranteesforre-registration,settlement

and deposito~ activities. The IFCaJsoagreedthatthe Corporation’snamecouldbe usedto

help boostmarketconfidencein the DCC.

Newmembersarejoining DCC,includingNAUFORandthe InterbankCreditUnion(MKS),

each of whichhas committed$200,000in newcapitaL New servicesarebeingdeveloped,

includinga programto offer a fom of deliveryvs. paymentwhenf~ds settlementis handled

offshore. DCCis now rapidlyrealizingits potentialasthe leadingmember-owneddepository

institutionin Russia.

3. statusof theNational~strv Co~ : TheReport@. 75) andthe Executive

Summary(p. 17)incorrectlystate that Lukoilhas “backedout”of its agreementto transferits

companyregisterto theNRC, and thatthisfactorbasled to skepticismonthe part of market

participantsaboutwhetberNRChasthe momentumtosucceed.

In fact, Lukoilhas consistentlyreconfirmedpubliclyits intentionto transferits companyregister

to NRCas soonas its internalcorporatereorganimtionis complete,whichshouldbe by April 1,

1997. LukoilandNRC are currentlyfinalizingthe contractfor suchtransfer. To date,NRChas

takenoverthe registersof 17Russiancompanies,all of whomhavemorethan 1,000

shareholders. Five ofthese companieshavemore than 10,000shareholders. In September1996,

NRCbecamethe registrarforNorilskNickel,the world’slargestnickelproducer. NRC is

Page 85 GAO~SWD-97-27 Foreign Assistance
Append& V

CommentsFrom HIID

See comment 3,

Now on pp. 8 and 36,

Now on p, 36,

See comment 3

See comment 11.

currentlyin the finalstagesof negotiationfor clientagreementswithan additionalfourRussian

companies.

4. .

~: Althoughdescribedin theReportas an unqtiified

success,the statisticsin the Report(p. 14)andthe Summary(p. 70) aboutthe RTSare dated

already. TheReportand Summarystate that “[Currently, over 130brokersuse the system”md

“[~he trading systemconnectsseverrdcitiesthroughouttheRussianFederation.” In fact,ss of

October 1996,there are 328NAUFORmembers,of whom215haveRTSterminalsin their

ofices. NAUFORnowhasmembersin 39cities, and in 24ofthese citiesmembershave access

to theRTS. Mostofthe 15cities whereRTSdoes notnowhaveaccess will be connectedover

the nexttwo monthsby ~MG~arents underitstask order.

TheReport@.71) and Summary@. 15)state thatthere are twoorganimtionsbearingthe name

PAUFOR-a Moscow-basedorgaimtion and a nationalorganimtion. TheMowow-based

organi~tion of brokersis namedPAUFOR,but the self-regulatingnatiomdassociationof

brokerswhichows the RTS is namedNAUFOR.

5. ~ forc~ita]~ AS5~@u: TheReportand Summaryneglect

to mentionone importantcontributionof HIIDandthe ResowceSecretariatto the capitalmarket

developmentin Russia. HIIDhas beeninstrumentalin attractingsignificantbi-lateraltechnical

assistancefundsfor capitalmarketprojectsfromthe Britishbow-How Fundand fromthe

EuropeanUnion’sTACIS,and in integratingthose projectsintothe workofthe Resource

Secretariat, HIIDhas dsn been instrumentin preparingan $89millionWorldBankloan for

RussiancapitalmarketdevelopmentwhichwassignedbytheRussianGovernmenton

September29, 1996andwhichwill providefundsoverthe comingthree year period forfirther

developmentof theRussiancapitalmarketthroughthe ResourceSecmtsriat.

111. Commen@onChapter4:-l Reform

1. ~~: TheR~rt at variousplacesstatestit ~ID (itshodd

havestatedLRP)origidly wasto workon 19s~ific piecesoflegislation, andthathe

CoordinatingCommitteehadidentifiedth~ 19subjectsaspriorityitems. N Reportthenattempts

to adduphowmany“laws”werepassedandto determinehowmanywereontie on& “list”of 19

andhowmanywemnot. Thisapproachrnischarac- MID’scontrac~ undertakingsandti

LRP.

A. Asstatedin ~ID’s June21,1996lettertotheGAO,theCoopemtiveAgmemenL~ID’s

Agreementtith theCoordinatingCommitteeand~D’s WorkPland] providedforHJIDto do

legal*g serviceforcorrunemid lawdevelopmentin gend. Thesethreedocumentsdidnot

provide(and~D, USND andtheCoordinatingCommitteedidnotintend)thattheLRPwould

workon 19la% 21laws, 150lawsor anyothernumber.

Page 86 GAO~S~D-97-27 Foreign Aasistice
Appendti V

Commen@FromHIID

See p. 45.

See comment 12.

See comment 3

TheCooperativeA_ent statesthatHIIDwillprovideIegd assistance“asquested bythe

CoordinatingCommittee...”andthat‘m ~ific lawsandareasoflawto be adtis~ d

include[the 19_ refad to intheReport],”TheJuly25, 1994Ag~ent betweenMID andthe

CoordinatingCommittee(whichwasdoneordyinRussian)providesthat:

‘- bodyoflawfiwting bminessincorporatesa tide nmgeof differentfieldsoflaw,

includinglawscoti g w- ~d ~P~te relationships,~~mird andfinancti

activities.TheProjectwodd supportting effortsinthesearcm.Thespecificlawsand

- oflawto beaddressedbytheProj~ ~ areno ~, thefollowing:”

@iSting14,not 19,verybroad~ ofLaw,e.g.“Civil-Cde~ “Cornrnmid Law~’

“SecuritiesLaw;’“LandLaw,”etc.,eachofwhichcouldincludemanyseparatelaws.]

Ftiy, assetforthinHID’s SixMonthWorkPIw thetirdinating Committeeformedworking

SMUPS~ 1gwfi~ mim ~ ~t~ w b LRPwodd ..... provideassistanceto theworking

groups~ bythebnunittee.” Itrdsostatedti the“na~ andduration”oftheworkwill

be determinedbytheCommittee.Inno sensewmthisa listof 19specificlawsto be adoptedona

fiority basis- thiswassimplyan indiutionoflaw or- oflawto be studied.It wasnotintended

(md theWorkPlandidnotstate)thattheLW wodd notworkonmattersbeyondthe 19subjects

hstedorthat eachofthe 19subjectsw ofqd priorityor deed majorattention.Indd, some

oftbe 19subjectsIistd wereseriouslysd- to thedevelopmentofa freemarketeconomywhm

anylegisktionwmddbeopposed,andthiswasreco~d byd co~. Andassetforthinthe

June21, 1996letter,thedirectionfim theCoordinatingCommitteeshiftd withevents,andthe

subjectsworkedonbytheLRP- a changingmixofemptrasisandpriorityofvtious aspectsof

commerciallaw.

Ifthereport_ to recordtotis itshoutdsimplynote,assetforthin thedetailedchartsthatNID

subrniti to GAOonJune21, 1996(attached),thatas aresdt oftheLRP,inthe cornmcrcd law

-13 lawswm pas~ plusTifleII oftheCivilCodewhichcontained7 majorchapterstich m

eachvw sepamteareasoflaw, 13d-s were~mrdgatd havingthe forceoflawand 19major

~@atio~ ~ promulgatedinthecapitalmarkets-. TheLRPw theprinciprddmficrof4 of

thelaws,5 ofthed~, anddl 19oftheregulation, andwaseitherthem~er or contributedin

a significantmy intheting oftheothcm.

B. W ReportisinermrindcscribingtbeLNs workon someofthe laws(whichshodd dso

includethe dmrces)dly passedasmerely“providingsomecomments.”Thedetailedchartsthat

~D submittedto GAOlistingthe lawsanddecreesthatLRPworkedon werebrokenintothree

categories:(a)’’principrdlyMeal” @)’’coMed’’or(c) “contributedto in a significantway?’ ~ID

didnotattemptto listmatterswheretheLRPmerelyprovidedsomecomments.

C. TheReport’ss~estionthat itwdesiredto enactlawsindl 19categonesis wng. As

discussedonthechartsubrnittedtotheGAOonJune23, 1996,fourofthe 19“laws”or areasoflaw

listedmtid be seriouslydetrim~ to developmentofa & marketeconomyandwe discouraged

Page 87 GAO~SW-97-27 ForeignAssistice
AppendixV

CommentsFromHHD

See comment 3.

See comment 12.

See comment 14.

anyeffortsto proposeor passanylawintheseH: (1)Fundarnentisof PricingPolicy,which

involvedthegovernmentsettingties forpricingandthusinvitingbmaueratic controlinstmdof

marketforces(2)DeliveryofProductsforStateNeeds,whichmisedproblemsofexpmdtig the

Government’sroleinsettingstandardsforgoodsandservices(3)Managementof StateProperty,

whichraisd the sameproblem(4)MovementofWapiti,whichraisedtheproblemofthe

GovenunenL_ of marketfous, allocatingmpiti.

D. Evenusingthelistof 19subjectsoflaw,theReportisin errorinthe totis. As discti at

lend onthechartsubmittedonJune231996,lawswereactily passedinninecategories,notfour.

~us, iftbe Reportcontinuesto focusonthe 19subjwtsoflaworigidly listed,it wouldbe a fair

statementthattheL~’s workretited inthepassageoflawsin 9 outof 15categorieswherelaws

weredesired.AppendixI oftbe Reportshodd be revisedto reflectthis,

2. H~’sR_ : me Reponat variousplacesdesdswiththeregularityandadequacyof WID’s

writtenreportsto USMD,andsuggeststhattherewasa lackofperformanwby HIID. HIID

acknowledgesthatfortheM fewmonthsoftheProjectitsubrnittd ordyquarterlyreports,not

monthlyreports,buttis deficiencywassooncle- up,startingaboutJanuary,1995.me substanw

oftheEprts (whch rangedtim 10to 50pages),however,wastily inaccordwiththe

requirementsof MowowUSMDandwassatisfactorytothem. Asstatedin theJune21, 1996letter

toGAO:

“Beeauseofthe sensitivityofworkingwithintheplitid processofRussi%it was

SpecificallyunderstoodbyUSMDandMIDthattherewouldnotbe a comprehensivepaper

trailofforrndreportslistingspcific accomplishments,dtiugh hem wasregularwritten

reporting. NonetJseless,theLegalReformProjectbadan opendoorandopenfilepolicy

whhUSMD,andUSMDofficialswerere~arly intheofficesoftheLegalReformProject

edmoston a dailyhis andcertairdyonaweeHy basis. ASYOU- readilyconfm tith

MatthewMosnerorJamesNorris,USMDknewrmdapprovedofdl significantactivitiesof

theProjeetandof anythingtheProjectwasnotdoingthatmighthavebeenlistedintie

agreements.”

FinaJly,it isinco-t to statethatUSMDWashingtondidnotreceiveHIID’s~rts untillate 1995.

me twostaffpcrsorrsinWashingtonat theOfice ofPrivateEnterpri&Re~cturing responsiblefor

theMID a~ment receiveddl ofHIID’smpo~, weresatisfiedwiththem,andin addition,werein

mdm telephone contactwifi ~ID andwereMly informedaboutH]ID’sactivities,

3. UseofDeer*:

A. me Repofid~s at variousplaceswiththeuseofdccreesbutdoesnotmentiontheerurnberof

decreesissud coveringcornenercirdlawareas,whichtotrd13,nordoesit describethe processby

wfich decreeswereadopted.Itwodd bemoreinformativeiftheRepottindimtedthata decreein a

givenareaofcorrrmercidlawistypicallytheculminationofthe sameprocessthatleadsto enactment

of a law- e.g.developmentof conceptpapers;corrsdtationwithvariousrninisrnes,theofficeofthe

President,variousDurnaCoerrmittees,outsideex~, academicsandtheRussianprivatesector;

Page 88 GAO~SWD-97-27 Foreign Assistance
Appendix V

CommentsFromHIID

I

!

See comment 15.

See D. 50

See comment 16.

See comment 17.

Now on pp. 10 and 35

See comment 18

preparationandreviewofarnendrnents;anddevelopmentofa consensusorpoliticaltill to issuea

decreeinthe absenceof adequatelegislation.ThusthedecreemakingprocessinRussiahasbeen

broadlyconsistentwiththe developmentof democraticprocesses,andindeedhasprovidedtheDurna

withm incentiveto takepositiveaction.

B. ThereportiswronginstatingtbatHIID(morecomdy, theLRP)akercdtheUSAD and

Departmentof StateIegd reformstrategyby decidingto emphasti theuseofdecmeswithout

receivingapprovalfromUSMD. Pnorto enteringintotheCooperativeA_ent bothH~Dand

USMDhadbeenactivelyinvolvedintheRussianprivatimtioneffortandthebeginningsoflegd

reform,bothofwhichhadinvolvd extensiveuseofdec~ wbm legislationwasblockedor

delayed.Useofdwrees wasa factoflifeknownandrecognid byeveryoneas necessaryto hasten

thetransitionofRussiato a tie m~et society;con- to the srs~estionoftheReponsuchusewas

an integralpartofthe Iegd reformstrategy.TheL~’s in-ing useof decrees,&r themajor

communistgainsinthe 1995electionmadeit momdificuk to getlawsenactedby theDum%was

know to andapprovedby MoscowUSMDandbymoreseniorUSGovemmcntofflcids,andwas

nota changein stmtegy~uinng forrndUSMDapproval.

4. Work onPartI oftheCivicCod&. Thediscussion@.9~ oftheworkonPsrtI oftheCivil

Codeis almosterrtily wrong.HIIDbegmrworkonPart1oftheCivilCtie atthe requestofthe

Iegd off]ceofthe PresidentoftheRussianFederationandthechairmenoftherelevantcommitteesof

theDurna. me workwasdonebeforeILBEwasfomd) Theworkwasknownto andauthon=d

by MoscowUSND, andwehaveinourfilesa memorandumdatedMarch11,1994km the

DirectorofUSMDMoscowseekingrspprovdfromUSND Washington(whichwassubsequently

granted)forWIDto hiretheFmncharrdDutchexperts.me projectw considered sticiendy

highprioritybytheDurnachairrnenandtheLegalOfice ofthePresidentthata specialdachawas

providedbythePresidentsofficeat its expensewheretheRussianspecialistscodd worktithout

distraction.Wedo notundemtsndhnwGAOestimatedthatHIIDspent$500,000ontheworkon

Part 1. Inthe shorttimeavailableto preparethis-rise webavedet-tid thatapprordmately

$85,000to$90,000wasspentforthenon-Russisnexpertshiredandestimatedthatthecostofthe

workoftheRussian~idists on HIID’s&did notex- $50,000,thusthetoti costwas

appmxirnstely$135,000to $140,000. TheworkofMID’sRussian~idists andtheforeign

consultantswasnotrejectedbythePresident’soffice;tothecors~ it was~ bythePresident’s

officeas a threatto theRussianCenterforPrivateLawto movemorequic~yto publishits@of

Part1andto incorporatetheworkof~ID’s specialists.Thiswork(andtheworkofIWS)

contributedto the rcstit ofPartI andwasnotduplimtiveofINS’swork.

5. Tw&Yesr Ti~ : Onpages20and68,tie ReportststesthatUSMDhopcdthatthe

neccss~ lawsandinstiMionsforIegd~forrn wouldbepassedandinplaceintwoyears. We

questionsucha statement-we arenotawareof anyoneinUSMDMe-w orWashington

knowledgmbleabouttheRussiansituationwhocotid havehadthatview. Whenoneconsidershow

longitmaytaketo enactlegislationintheU.S.oncorttroversirdsubjects- e.g.medid care,

enticementreform,etc.- it is notdistic to ex~t suchrapiddevelopmentinRussi%particularly

whenthe subject(comrnercidlaw)is onewheremostRussianshavelittleexperienceandwherethere

Page 89 GAO~S~-97-27 Foreign Assistance
Appendti V

CommentsFromHIID

See comment 3,

Now on p. 21,

See comment 3.

Now on p, 47,

See comment 3,

Now on Q.47,

See comment 19,

See pp. 57-60.

isstillstrongoppositionto thewholeidm

6. Work oftheRrrd Dw~ :

A me Reporton we 40 is notaccurateinstatingthatRDIdidnotwantitsRusaiasscow

“known”by GAO. RDIprovidedthenamesofits Rrrssiancontactsto GAOatameetirrg in

WashingtononJtiy 17withthe understandingthattheywodd notbe interviewedbyGAO.

B. Onpage91theReportmitik a PresidentidDecreeas dlotig “intividh who

rentedmd plotsto obtainfill owership rights.”me* wasmuchbroader,anda more

accuratedescriptionwouldbethatit “_ened privateomership rightsofindividtis to

@Cdti land.”

c. Page91doesnotgiveacompletedeacription of~I*seff@ onbmdtiorminRti In

additiontowhatismmtioned,RDIhasprovideddvice on issuessuchsad ate registrati~

~@WCS ~ Imd usePlting, andhash providedadvicetoWdd Bankperso~l -g

landpolicyinitiativesto be includedinWoddBanklorms.

Iv. CommentsonChapter5: RussianPrivatition CenterWC).

Withrespectto the MC, we shodd clarifi the extentof ~ID’s involvementand

responsibility. me RPCis a Russianorganimtion,with its ow boardof directors and

managementstructure. SevendagenciesoftheRussiangovernmentarerepresentedonitsboard

of directors. me WC getsfundingkm a varietyofsources,and performsa numberof servims

forthe Russiangovernment,includingmostimpo~tly the administrationof WorldBankloans

and othertechnid assistance.

HIIDcooperateswith the RPCin a numberof ways,but does nothave controloverits

activities. HIID(througha grantfromUSAID)isresponsibleforthe employmentofa smsdl

numberofrelativelyseniorRPCofficials. ~ese offlciaisfdl intotwo bro~ categories:project

managersandadministrators. WhiletheRPCand the HHDhavejoint responsibilityfor hiring

and firingthem,the scopeof theseofflcids’ workis determinedby the RPCmanageman~and

they reportto the WC management.[n addition,as the Repon reeogni~, ~ID has cooperated

withthe RPCin the provisionof policyadviceto seniorRussianreformers,and hasin this

capacityretainedconsultantsto providesomeofthe advice.

Giventhe natureof thisrelationship,we do notfeel that it is appropriatefor usto comment

on the adequacyof the part ofthe GAOReportthat assessesthe activities ofthe RPC. However,

we do havetwo generalobservations. First,we are pleasedthat the Reportrecogni~ the

valuablecontributionsthatthe MC hasmadein the tramformationof the Russianeconomy,

althoughin seved areastie Reportneglectssomeof the aehievnrentsof the RPC while
f

AppendixV

CommentsFrom HIID I

overempasitingthe problems. Second,the Repofiistoo pessimisticaboutthe sustainabilityof

the RPCbecauseitisclosetoreceivingextensivefundingfromthe Rwsiarrgovernmentthrough

the WorldBankto continueits workon promotingenterpriserestructuring. It maybe more

appropriateto ask the RPCdirectlyto respondto GAO’sassessmentoftheir work.

Page 91 GAO~S~-97-27 Foreign Assistance
I Append& V

CommentiFrom HIID

LISTING OF LA\VS, DECREES AND REGULATIONS, DEVELOPED B%’TIIE IIIID LEGAL WFORM PROJE~(L~)

IN TI?E AREA OF CAPITAL MAWETS

(199S1996)

1. LAWS DECREESANORSGULATIoNS IN EFFE~

LA. LAWS DECRCWAW WGULATION FRWGATEDONWICH L~ s~RvcD As~E pnl~IpALD~~gR

Page 92 GAO~SM-97-27 Foreign Aasiatice
AppendixV

CommentsFromHIID

Page 93 GAO~SM-97-27 Forei@ Assistance
~

AppendixV

CommenfiFromHIID

I.B. LA\vs, DECREESANDREGULATIONSPROMULGATEDONWINCHLRP SERVEDASmE CGDRA~ER

Date EffmtivdS~sd

No- 18, 195

Md21, 1%

~126, 1%

~ Is, 195.

I

bw, Dccmc or Regulation

Dmr= oftk Pr&dmt No. 1157”@ SomeM~ufor In@on md

Page 94 GAO~SM-97-27 ForeignMsis@ce
Appendix V

CommentsFromHIID

Il. DaA~ LAWS,DECREESANDREGULATIONSUNDERA~lVECONSIDESATIONBYOu

OFFICE(G? U). RFSEC ANWORM1NKTRIE9

w. STATELEGAL

ILA. DWn LAWS, DECREESANOREGULATIONSONWNICNLRP SERVEOASTI!EmNCIPAL DWnER

Draft hw, Dmree or Rtgulntion status

Fderal Law on InvestmentFunds DraR was ●pprov~ by Ihe RFSEC ●nd submittedto

ik Government for funhw considua!ionJwe 1996.

Adoption ~~ tsd in Fdl 1996.

Federalbw On Cmsationof Shares,R-cd in the FcdmalPropefiy ad Adoptaf by the State Duma sfiu extmsiw

OnComributingObjmts in Fderal Pro@y 10 ChamerCapitalsof ammdmt Gstokr 1995

Pannershipsmd Smieties Vetoed by the President.

Project hssAmRsd ths bw, combiningit Mth the

drcR bon the Ordw of Dispositkn of SharmFixd

in the Fsdsralpropmy (s= bdow). ●d is bsi~

Vm ad fw itiroduction to ths Duma.

F4eral Law ti tk Orda of Di~iIion of Shar= Fixedin Ibs Fedml

PrO*y

Adoptd by Ik State ~ma Ostoh 1995 sflm

sstemive ammdment.

V~oed by the Prcsidsot.

Rdrsfid.

Fderal Law on Ameodingthe CriminalCo& andtk Code of Suhittd IO the Governmentin May 19%;

Admitir~the Violations introducedto the Duma in Jum 1996,

(hmdmems mlatd to violatiom on -uritiss tikst)

Fsdeal bw onTaxationof Uoit lmestmmt Fuds Drtfi submittal to Ik RFSEC for considmnlionAoril

1996.

Demm ”~ GrantingAdditioml Autkritim to the FedmalCommision On Submittedto tbs RFSEC May 1996

S=urities Ma*et underthe Govcrnmml of!he Rutian Federation”

Page 95 GAO~S~D-97-27 ForeignAssistance
Appendti V

CommentiFrom HIID

Deer& “On Amendingand Aqlifying Decree of:k RF Prmibt N 1186 Submitted10 lk Governmmt April 1996

‘On hieasurcsfor R%ulations of Securi!im Mwket ~rinff the Privatization

of Stateand Muticipal Enterpri~ datedOctober, 7 1992”

Dz~ of the Prcddmt oftb RF “G lnvmment (Finatial) Brokw” Shiltd to tk Govemmm JulyIWS

Owre of the Presidentoftk RF ‘.~ Self-Regulato~ Or&ni~tiom in Submittal to th GovernmentJuly 1995

Smritks Msrket kea.

-e “On Wgani=tion of Pa~ts for hriti= Mark~ ~ntims ad

Cmitilion of Organimli~ IncludingBti$ ~n6 Out Pa~ts in

lb S~rities Mati”’

k= .ti Stities Iswed by tk State Authoritia ofh SuW@s oftk Sutit!d to Ik RFSEC Fdl 199S - 19%

_ Fdertim md -l Sti-gW~ Niu.

-.~ lntrndu~on ofh~tits md @lifiMiomto h Dr@ Subtiltd to the RFSEC Fdl 1995- 19%

D~ee of the P- RussiaoFed=tim Praidmt “h S-rities Iwed

byti Sute Awhd& nflhe S~of& haai~ F*ctknand bcd

.*~ B*.

~Ofti~oftha-F ~~u~ StiItd to lb Govemti in Jdy 1995,

~wtiofb~ *. 7s dml

P*mm Pm- of~~the~ .“ of ~md “

.~of-~

Suhittti to the RFSEC 1995

T~tihmS-&ti~W~ Wwof Sbmitted to tk RFSEC Otiti 199$ . .

-m -n

~m tiwsx w ~ sApplid 10-d T* Submittal to the WSEC April 19%.

~ w tilb Mwkd

~im4WSEC & theObofT ~ofvti~t Submittal to tk RFSEC in -k 1995

wtiud ~Fmk

Rdtionof WSEC ti Sti& Mti Submittedto tk WSEC in April 1996.

R~MknofftFSEC m P~tiof~atbnin tMCapci!y of S~and

R

Submittedto the RFSEC in Ma~h 1996

-m A@ ofl~ Utits of UrntItim@ Futis

Page 96 GAO~SM-97-27 ForeignAasiatice
I

AppendixV

CommentsFromHIID

Subtitd toRFSEC i“ A“*s IW5

Subittsd to RFSEC in Au~q 1995

Sutiitld 10WSEC in A~SI 1995

Sbmiltti to RFSEC m A“@s 1995

Page 97 GAO~SM-97-27 Foreign &sistice
Append& V

CommentsFromHIID

LA\VS AND DECREES PRONIULGATED OR IN PROCESS

pREPARED BY TIIE IIIID LEGAL REFORRl PROJECT (LRP)

(OUTSIDE TIIE AREA OF CAPITAL hiARKETS)

1.LAWSANI)DrCREESADmED

A. ,\ DO~EO LA\VSANDDECREES~ WIIICIILRPSERVEDASTIIEPRINCIPALDMnER

.

T~ctions I

Voron~h Oh/o.!/Law on R%ulation of Lati Relatio”sin / AdoptedMay 2s, 199s

Page 98 GAO~SN-97-27 Foreign Assistance
I

1,

1.

Appendti V

~ Commen@From HIID

6. LAWSANDDECREESONWHICHLRPSERVEDAsACOD~~~~

La\v Procms O(Ad~lkn

FederalLa\v o“ Non.C~mercial orga”i=lion~ S&nd by PresidentJamaW 12, 1996

PresidentialDecree No, 293 ‘.OnAdditionalMeasurssto Sigmd by Rssidcnt FebwaW 28. 19%

Promtc Motiwg e Lendhg..

Page 99 WO~SM-97-27 Foreign Aasistice
Append& V

CommentsFrom HIID

Covering~rovitions dealingtifh

a) Contractsfor the Purchaw and Sale of Gods;

b) Provitins on Loansand btiing;

c) Ckpler on Settlements;

d) Chapteron Factotig;

e) Chapteronlnwrawc;

9 ChaDterm Amcv:

Si@ by lh Pr~idmt Januaq 26,

Page 100 GAO~SM-97-27 Foreignksistance
1’ Append& V

Commen@From HIID

Il. DRAn LECISLATIONORDECREEUNOERCONSIOEWTIONByDUA!AANO/ORMINIWRI&S,AND\VtSERE

THELRP HASACONTINUE•AmVEROLE

A. ottA~ LEGISLATIONORDECREESUNDERCONSIDERATIONON}VIIICWLUI) SERVtDAST+IEPR9NC.IPALDtiWER

Draft Law or Dccrss status Expcctcd Date of

Adoption

FederalLaw on Non-StatePensionSuppt-I Suhilted to Dum Msy 1996 July 19%

Fedwal hw on Proptiy RelationsRsfon ad on First dmfi wtittsd to the Slate h SpriW

Orgafizatioml Forn!sin HcahhCue Systm

Ftil 1996

190s,

Fsdtil bw on Ftii~l tiins Funk elsbmationrqtimd foradoptti on Sum~ 1996

m*l 1*1~. SutittSd 10~hsks Spring

1996.

Fadrnibwon Ral Mate Vshratim Tk && w adopfsdk the firstrndi~ April June1996

15,1996.me drafiisb~ ~usd tithe

- rad~ inJue 199d.

F*4 k fi tk B= ofFsddPoSsymtbsh ti wtti to & m Cotittem

w UnarrdPm*

Fdl 1996

xti S* 1996.

Fsdml bW on F+ Trsnsfss first*R m~b~ hfsy 1995.-sd Fdl 1996

dmfiw r~~cd tothsDuma

Su~ttaa inMmh 1996.

FedaalLawonImodutig -mtis md Chsrasss10 ban Suwltsd to thsGmmt S*W

lhsCde of CMl ProAm of!hs RussianFdmtti

Fall 1996

1996,

~Ck Actkns)

F+ml Law on Ptiste fibfir~ion Cws FkSI M ~plc!sd,rtied ~ fOmiEn Fall 1996

ev~s rnWember 199Sand is him final~ed

for introduction10 the Mm.

Fsdwal Law on Tax Amnesty Drafi Law was preparedpmant 10the Fall 1996

Pmidmtial Dwrss No. 685. Subtittd 10 the

Stale Legal Dqanmat Jum 199f.

Page 101 GAO~SW-97-27 Foreign Assistice
Append& V

Commen@FromHIID

I I

Page 102 GAO~S~-97-27 Foreign Aasistice
~

[:

~ Appenti V I

Commen@From HIID

B. DRAW LECIWATIH Umm C~SIDEMmON ONWHICHLRP SERVED~SACoonAnER

Page 103 GAO~S~-97-27 ForeignAssistice
[

k

[;

!. Append& V

Commen@From HIID

C. DRAn LEGISLATIONORDECRELSUNDEnCONSIDERATIONONWINCNl,Rr PARTN.IPATCDINTllEDRA~INC riOCLRq

Dmfthw or hcm status I Expected Dale of I

Adapttin

Tax Code GE-1 Pafi adopted~ Dum in fir~ r-ding. Fall lm

Wo~ing withtk pritipal dmRmsrn~im

work~w~.

Federalhnd Code Drti a~d byIk Dum in lhird mding. Ptidmtial veto is

May 1996, md is mm~ly Wng rnntikd by ~~d md dctird.

lhCWtil oflb F~tion. LRr

Page 104 GAO~SW-97-27 Foreign Assistice
f

Appendti V

CommentsFrom HHD

Page 105 WO~S~-97-27 Forei@ Assistice
I

Appendti V

CommentiFromHHD

Ill. DRAm ANDCONCEWPAPERSCOmLmMN FRocnssem Rt~mw~w!~nvm

Page 106 @O~SN-97-27 Fore@ k~ce
Appendix V

CommentsFrom HHD

Page 107 MONSW-97-27 Foreign Assis~ce
~

Append& V

CommentsFrom HIID

MODEL CONTRAaS AND Fores MLATWGTO LAND R2FOM m LAm ~T

-ATION Wmmm Em LEGAL R2Fom PRma

HAS DWnED SWCE JWY 1994

1.Model ContractsAdoptedandPubliclyDisseminatedby theRussianGovernment

1) “ModelLandShareLmse Agreement”,approvedby the State Cotittee on Land

Resource andLandUseon May 16,1996,

2) “ModelAgreementof Lease of LandShare by MultipleLessors”, approvedby the

State CommitteeonLandResourceandLandUse on May 16, 1996,

H. Model ContractsandFormsDraftedandPr-ented totheRussianGovernment

1) ContractforPurchase-Saleof AgricultureLand Plot (1995).

2) Contractfor Purchase-SaleofAgridtursd Land Share(1995).

3) Decree“Onthe DevelopmentofRed Estate Market” @ecember 1995),

4) LandShareLeaseAgreement@amMApd 1996).

5) Multtiterd LandShareLeaseAgreement~arcMApd 1996)

6) .4greernentonTransfmof~ Sharea PerrnanerstContributionto CharterFundof an

A@dtuA Orgtition ~Ith theRightto Mocate the LandSharek ~d ifthe Owner

ThermfWlthdrawsFromThatOrg&tion) (1996).

7) Agrmmenton Transferofthe Rightto Use Land Shareas PermarrentContributionto

the Chmer Capitalor ShareFundof an Agrimltud Orgtition ~Ith the Rightto

Momtethe LandShareissfid ifthe@ner ThereofWithdrawsFFomThatOrgtition)

@iUC~~d 1996).

8) AgreementonTransferofLandShareas PemsanentContributionto CharterCapitrdor

ShareFundof anAgrimlturdOrgsnimtion~thout theRightto Wome the LandShe

in fid iftheOwrterThermfWhhdrswsFmmThatOrgtition) ~arcWApd 1996).

9) Contraa for Lease of Nght to Use an Agrimlturd Land Share to Peasmt @arm)

Enterprise~srch 1996)

10) Corstraa for b of the Rght to Use assAgricultud bd Shareto AgricultuA

Orgtition (Apd 1996),

11) Contra@for Transfw of Agria Md Share on the Basis of Annuityand

Mairrtenarrmbr Lfe ~arcWApd 1996).

Page 108 GAO~SL4D-97-27Foreign Assistice
Appendix V

CommentsFrom HHD

The following are GAO’Scommen~ on HIID’Sletter dated October 29, 1996.

~

1.We agree with HHDthat parts of its proposal to provide strategic pohcy

advice through long-term advisors who are higMyqutified and recognized

experts in their field was not duplicative of ongoing assistance in Ukraine;

however, other pm of i@proposal did duplicate such assistance. For

example, the HUDproposal stated that at the end of the first 8 months, HIID

wotid have fily developed tax reform proposals and wodd have

identtiled the measures that had the greatest potential to be implemented

during the early stiges of reform. The proposal ident~led the value-added

-, payroll and personnel income ~, corporate and business profits ~,

and excise tax as areas of interest. However, the U.S.Treasury advisor

working with represen~tives from the Ukrainim partiarnent and the stite

tax inspectorate shted that he had informed HHDrepresentatives in early

March 1996that the Ukrainians had settled on how they wanted to address

tax issues in five phases, including the four areas identified in the HDD

proposal. He told us that the issue of using a cash versus an accrual basis

for making value-added tax payments, which was discussed in detil in the

HIIDproposal, wm tieady awaiting the third reading of the parhament. He

said that if HHDcotid convince key Ukrainian players to move on taxes, it

wodd be very usefi. However, if HIID chose to develop an independent

t= initiative, it cotid be counterproductive and might delay enactment of

tax reform. Nthough there was duplication in the proposal, we noted that

an August 27, 1996,us~DKev mission’s HHDstitus report indicated that

HIIDwas attempting to coordinate ik work with others. The report stited

that, according to HIID’Sdraft work plan, HHD til provide comment ad

analysis in support of changes in the value-added and corporate income

taxes tieady underway with the aid of the U.S.Treasury advisor.

2. We have mo~led our discussion of the legal reform project; however,

our review indicates HIIDhas understated i~ role. H~D was the U.S.

recipient of U.S.funding and was responsible for directing the progra for

USND.

3. Wehave mo~led our report to reflect this information.

4. USND’Swithdrawn request for apphcations was not solely for work that

differed greatly from HIID’Sproject proposal for Ukraine. The main are= of

assistance identified in the withdrawn request for application included

mass privatization, capital market development, legal and regulatory

reform, land privatization, post-privatization assistance, and pubhc

Page 109 GAO~SW-97-27 Foreign Assistice
Appendk V

CommentsFromHIID

I

education, some of which overlapped with HUD’Sproposal. For example,

the structure of the tax law and its system of incentives and disincentives

were to be addressed in developing pohcy objectives for many of the fields

of law covered in the request. Moreover, the request required apphcants to

include the disposd of social assets. HIID’Sscaled-back Apti 9, 1996,

proposal had four components, including one for ties and one on

pension reform, which wotid tikely be part of any comprehensive

enterprise restructuring initiative. Mso, HIID’Searfier proposal included

assistance related to privatization and private sector development.

5. Our finding concerning the work on pension reform and how HIID’S

proposal may relate to the German program is based on discussions with

and documents obtained from USMD offlci~s.Furthermore, the us~DKev

mission’sAugust 27, 1996,shtus report noted a continuing concern over

HDD’Sproposed work on pension reform. It said that

“HIID has gener~y worked with USMD staff to make sure that ik activities are coordinated

with those of other us~mfunded advisors and other donor org-ations. However, the area

of fiscal aspeck of social poficy requires further discussion and effective coordination in

order to make the best use of the resources avtiable. For example, there are other donor

organizations with better capabfity to provide continued support which have done or pla

to do pension system work, including the World Bank, the German technical assismce

group and the htemationd bbor Organization, and it is impotit that ~ID bke these

effoti into account in developing ik workplan.”

6. me repoti has been changed to reflect this new information. me

information tilustrates the potiticd struggles that the Russian SEChas

encountered from iti inception. We recognize that a governmenttide

reorganization was taking place about the time the decree was issued;

however, according to an expert close to the Russian SEC,there were other

motivations behind the provisions of the decree affecting the Russian SEC.

For example, we noted that the decree W= issued while the Russian

President’s Chief of Staff was away and that the designated Director of the

Russian SECremains unconfirmed as of October 1996.Furthermore, the

Department of S@te,in commenting on this report, noted that although

“recent political mmeuvering to downgrade the SEC’Sstatus from Ministry

to State Committee dtimately proved unsuccessfi, the SEC’Sstatus and

autonomy may continue to come under f~e.”

7. We revised the report to expand the discussion of resources beyond that

of federd versus private sector salaries. Market participant told us that

Page 110 GAO~SM-97-27 ForeignAssistice
Appendk V

CommentiFromHIID

ftififlment of the Russian SEC’Sconsiderable responsibilities til require a

sigtilcat erdargement of its staff and budget.

8. HHDmisunderstood our draft report and inferred a conclusion that we

did not make. me draft does not link the ftiure or success of clearing and

settlement organizations (CSO)to any particular type of trading platform,

either floor based or over the counter (OTC).

9. Mthough HnDsaid that the Depository Clearance Company (DCC)has

been ffly operational as a professional reregistration business for about

2 years, we found that DCCwas not executing the ffl range of services

typically associated with clearance, settlement, and deposito~

orgardzations. Moreover, as HIIDitie~ noted, “Ithas, however, taken longer

th hoped for DCCto WY develop simdtaneous book-entry settlement of

share ownership and payment-vs.-detivery clearing of trades that is the

natural function of the depository business.” Our report acknowledged the

performance of registration services.

10.me report has been chmged to incorporate the updated information.

Nonetheless, it is impotit to note that (1) the transfer of the registrar has

not yet taken place and (2) the “delay”was cited by market p~icipank in

Moscow as a reason for skepticism and pessimism about the project.

11.We did not mean to imply that HIIDotiyprovided assistance on

19pieces of legislation. We have attempted to provide clearer and more

comprehensive discussions of H~D’Srole. However, our objective was to

show the status of the 19laws to determine whether USND’Sinitial program

goti were met.

12.We have modified the discussion of the nine laws that HHD said were

passed through the legal reform project. According to Institutional Reform

wd the Wormd Sector ~niversi~ of MarylandCenter [IRIS]) officials,

IRIS, not H~D, working with the Research Center for Private Law, developed

the Citi Code. IRIS officifi told us that HHD had no role in the passage of

these provisions of the CivilCode.

13.me dettied ch- that HIIDprovided stated that for catego~ (c), HUD

“participated in the drafting process,” but did not chmacterize mID’Slevel

of involvement.

14.We have deleted this point horn the report.

Page 111 GAO~SM-97-27 ForeignAasiatice
Appendk V

CommentsFrom HHD

15.We recognize that the process by which decrees are developed may in

some ways par~el the process used to develop draft laws; however, the

actual processes for getting legislation passed are quite different.

16.We agree that decrees were used extensively during the privatization

program and that mD contributed to their drafting. However, we disagree

tith HUD’Sassertion that the use of decrees was an integral part of the

legal reform projec~’s strategy. None of the USMD or Dep@ment of State

documen~ authorizing the program discuss accomplishing legal reform

through the issuance of decrees, ofly the p=sage of legislation. ~is was

further suppotied by HnD/Carnbridge’sDirector and General Manager,who

told us that the legal reform project was intended to get laws passed md

move beyond the issuance of decrees.

me U.S.hbassador to Russia told us that the issumce of decrees was

not part of the legal reform strategy and that it wm this very use of

decrees during privatization that led him to push for the coordinating

committee to gain legislative involvement. ~ermore, usMDjustifiedthe

project based on the need to pass legislation and the need to “foster a new

pattern of executive-legislative cooperation. . . necessary to adopt md

implement the new laws.”

17.me estimate of ~D’s cosfifor development of part I of the Citi Code

were provided by HDD’Sproject manager in a document prepared for the

WorldBank. me document, entitied LegalReform Project: Program

Expenditure Report for the World Bank, November 1995,described the

amount of funding that was necessary to carry out law-drafting activities

under the legal reform project. me report stated that HIIDspent $500,777

to develop part I of the Citi Code. ~s covered numerous cos~, including

the cost for 15foreign short-term consti~b, 37 Russian short-term

consdtanti, project management, administrative support, research

support, translations, operational expenses, and a conference.

18.We have modified the report to show that the Department of State’s

1995strategic plan for Russia stated that the passage of specWlclaws by

late 1996wotid be the benchmark of success.

19.We have modified the report to clari~ this point. Nthough the RPCwas

insome ways conceived and formed by Russians, HnD had a significant

role in i~ formation md initial management, and continued to play a role

in providing senior-level management even after USMD~OSCOW assumed

oversight responsibtiity for the RPC.

Page 112 GAO~SN-97-27 ForeignAssistance
Append& W

CommentsFromtheDepartmentof State

supplementing those in the

report text appear at the

end of this appendix. United States Depa*ent ofState

Ckf Finad ~er

Was~on, D.C. 20520-7427

Dear Mr. Hinton:

We appreciate the opportunity to provide enclosed Department

of State comments on your draft report, “FOmlGN ASSIST~CE:

Harvard Institute for International Development’s Work in Russia

and Ukraine,” GAO/NSAID-97-25, GAOJob Code 711186.

If you have any questions concerning this response, please

call Ms. Sandra Gust, S/NIS/C, at (202) 6~7-~635.

Sincerely,

Enclosures:

As Stated.

cc:

GAO - Mr. George, Jr.

STATE/S/NIS/C - MS. Gust

Hr. Henry Hlnton, Jr. ,

Assistant Comptroller General,

National Security and International Affairs,

U.S. General Accounting Office.

Pagel13 GAO~SM-97-27 Foreign Aasis@ce
Appendti W

Commentsfrom the Departmentof State

Now on pp. 50-51,

! See comment 1,

i

1

Now on pp. 49-50,

1

See comment 2,

Department of State comments on GAODraft Report:

“FO~IGN ASSISTANCE: Harvard Institute for International

Development; Work in Russia and Ukraine,’l GAO/NSIAD-97-25,

GAOJob Code 711186

S/NIS/C understands that AID will provide separate comments

on this draft report with contributions from the AID mission in

Moscow, and that AID will address USAID?S procurement

procedures regarding the award of cooperative agreements to

HIID.

The fact that some pieces of Rus9ian legislation were

enacted via Presidential decrees as oppoged to Duma action is

perhaps over-emphasized on pageg 90-97. The decree mechanism

is provided for in the 1993 Russian constitution. Laws passed

through Duma action may be preferable from a strictly

jurisprudentialpoint of view, but decrees are not illegal.

Reform decrees also may pave the way for later Duma

legislation, as was the case with privatization. To sugqest a9

the draft report doeg, that HIID’9 involvement with decrees wag

an unauthorized revision of approved State/AID strategy,

especially with the assertion that it undermined democracy, is

unfounded. The report further failed to recognize that, in the

end, it is the Russian Dumats responsibility to pass or reject

legislation, and HIID cannot be held singly responsible for the

number of reform laws passed.

On pageg 95 and 96, we note that the HIID-backed version of

the Civil Code wag not wholly rejected by the Duma. The Civil

Code wag ultimately divided into three parts. The first part

had involvement from IRIS/RCPL. The second part, passed later,

had some critical contributions from the HIID team. We

understand that the third part is still under consideration,

with HIID and ILBE involvement. IRIS and HIID have-made

different kindg of contributions to the legislative process,

both important and each complementary. By working with

different Russian teams, all key players, HIID and IRIS in

effect widened the congensug around the new Code. Working with

senior Russian jurists, IRIS restricted itself to commentary,

while HIID actually worked with the drafters and was able to

introduce key language up to internationalbusiness standards.

In short, the efforts were not duplicative in any

counterproductivesenge; they each supported pagsage of

fundamental commercial legislation, and the related cogtg of

the9e effort9 were not unnecessary.

Pagel14 GAO~SN-97-27Forei~ Assistance
AppendixW

CommentaFromthe Departmentof State

Now on p. 35.

See p, 20.

I

Now on p. 4.

t

S/NIS/C also solicited cements on the draft rePOrtfrom

officers on the Rus9ia desk at State, EUR/RUS. The following

are thoge comments:

After review of the above report, EUR/RUS hag a number of

general and specific comments regarding both the HIID effort

and the GAO draft. -ong general observations, much credit

appearg given to the Harvard project for endeavorg that had a

number of contributors. For example, the reform of capital

markets hag involved not only HIID, but also gubgtantial input

by the New York Stock Exchange, the U.S. Securitiesand

Exchange Commission and the Federal Reserve. Not only should

appropriate acknowledpent of the9e effortg be made (e.g., at

the end of the firgt para. on p. 43, middle of gecond para. on

p. 18), it ig noteworthy that no interview9 were conducted with

individual from these organization (gee p. 38).

Additionally, interview with ~aggy economic section gtaff

who gerve~ at post during the period could have given a useful Perspective on HIID~9 role during this period. NGO experts

headquartered in Washington girnilarly could have been consulted.

The justificationfor the initial gelection of the Harvard

In9titute and its repeated award of increasing contract fundg

is the pogition that HIID had “preexisting relationahipg with

Ru99ian officia19 and had already established several Rus9ian

inatitution9 to 9ustain refoms ...” mile this may have been

adequate for selection of HIID in the Pa9t, an eXP109i0n in.the

numbers of Rusaian economic specialists and of American9, w~th

business and academic backgrounds with substantial experience

in the Ru99ian market, would make thig a less likely rationale

for ‘sole gourcen gelection in the future.

The text ghould be updated to reflect more recent

developments in the matter of the statug and role of the

Ru9sian SEC -- Federal Commi99ion for the Securftie9 Market.

-- p. 7 (Resulta in Brief) - Replace ‘Due to recent...”

sentence (para one) with ~#Althoughrecent political

maneuvering to downgrade the SEC’g gtatus from Ministry to

State Committee ultimately proved ungucceggful, the SEC’s

status and autonomy may continue to come under fire.”

Pagel15 GAO~SMD-97-27 ForeignAssistince
AppendixW

Commen@From the Depsr@ent of State

Now Onp. 9.

Now on p, 31.

Now on p, 17,

See comment 3

Now on p. 53.

-- p. 19 (Future Independence of the Russian SEC May Be in

Doubt) - at end of line two at top of page: “The decree

~...”, and add, at the end of the paragraph ‘The

SEC has gince been upgraded, but moved from subordination

to the Ministry of Finance to the Presidential apparatus.”

-- p. 60 (Chap 3 - Ru9sian Progresg Toward Developing an

Efficient Capital Market) - para one in the sentence

beginning ‘However, the goal...,” after the words, “ a

number Vincluding of problems” replace the end of the sentence with recent maneuverings to downgrade its status and

autonomy, which although ultimately unsuccessful create

uncertainty about its future role.

Other suggested changes include the following:

-- p. 31 (Chapter one - Introduction), the firgt gentence

in para two should be changed to read: “... it admittedly

did not have the expertise to accomplish the task at hand

owing to the political-strategicconfrontation of the past

decadeg and the uniqueness of transitioning command

economies to market bases.”

-- P. 103 (Support for Privatization and Enterprise

Restructuring), the gecond gentence clearly linkg the

privatization of 15,000 gtate-owned enterprise to ‘these

effortg” originating with the HIID. That appears

exaggerated. Sentence two should read: “During the

process, nearly 15,000 medium and large-gcale state-owned

enterprises were transferred to private ownership.”

Page 116 GAO~S~-97-27 ForeignAssistance
Appendk W

CommentsFrom tie Departmentof State

The following are GAO’Scommenti on the Department of Stite’s letter

dated November 8, 1996.

GAO’sComments 1.We agree with the Department of State that the decree mechmism is

provided for in the 1993Constitution and, as we note in the report, it cn

pave the way for later legklation. However, none of the key program

docurnenk suggest that HIIDshotid be working to get decrees issued

rather than legislation enacted. Moreover, USND’SOffIceof Democracy for

Russia indicated that the use of decrees may undermine the democratic

process envisioned by the project. USMD’Saction memormdum justtiles

the program based on the need to “foster a new pattern of

executive-legislative cooperation. . . necessary to adopt and implement

the new laws. . . .“

We recognize that HnD cannot be held responsible, nor can it be given

credit, for p~sage of any law. HHD’Sresponsibilities and accomplishments

in this area were primarily to provide commentary and drafting assurance

on legislation.

2. We agree with the Department of State that Institutional Reform and the

Informal Sector (University of Maryland Center), and not MID,was

responsible for part I of the CivilCode. The former Director of the

Research Center for Private Law told us that HIXDdrafted a competing

version of part I of the Citil Code and that HIIDdid not provide i~ drafts to

the Research Center for review. IRISmd the Director of the Research

Center noted that part I of the CivilCode presented to the Duma by

President Yeltsinhad no input from HIID;HnD’S effort on part I of the Civil

Code did not support the Research Center, the group designated by

President Yeltsinto develop the Citi Code; and HnD and GPU delayed

passage of part I for several months.

3. The report has been modified to include this information.

Page 117 GAO~SM-97-27 ForeignAssistmce
Appendix WI

MajorContributorsto ThisReport

National Securi& and Harold J.Jobon

Internationti Mfairs

LouisH.Zanardi

Ned J. George

Ditision, Wmhington, MariaZ.Ohver

D.C. Michael C. Zola

Claude T. Adrien

Rena Mendehohn

Accounting md RogerStoltz

Information

Management Ditision,

Washington, D.C.

Office of General L~ Gibson

Counsel, Washington,

JohnG.Brosnan

MarkC.Speight

D.C.

(711186) Page 118 GAO~S~-97-27 Forei~ Assis-ce


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