Each fiscal year, the Millennium Challenge Act requires MCC to select countries as eligible for MCA assistance by identifying candidate countries, establishing an eligibility methodology, and making eligibility determinations. MCC evaluates eligible countries’ proposals and negotiates compacts, which must be approved by the MCC board. The Threshold Program assists countries that are not deemed eligible but show a commitment to MCA objectives. MCC is governed by a board of directors consisting of U.S. government and other representatives. For fiscal year 2004, the Millennium Challenge Act limited candidates to low-income countries—those with per capita incomes less than or equal to the International Development Association (IDA) cutoff for that year ($1,415)—that also were eligible for IDA assistance. This provision limited candidacy in the MCA’s first year to the poorest low-income countries. For fiscal year 2005, candidates were required only to have incomes less than or equal to the IDA ceiling for that year ($1,465). Additionally, for fiscal years 2004 and 2005, candidates could not be ineligible for U.S. economic assistance under the Foreign Assistance Act of 1961. (See app. II for a list of candidate countries for fiscal years 2004 and 2005.) The Millennium Challenge Act requires that the MCC board base its eligibility decisions, “to the maximum extent possible,” on objective and quantifiable indicators of a country’s demonstrated commitment to the criteria enumerated in the act. MCC selected its indicators based on their relationship to growth and poverty reduction, the number of countries they cover, their transparency and public availability, and their relative soundness and objectivity. For fiscal years 2004 and 2005, MCC’s process for determining country eligibility for MCA assistance had both a quantitative and a discretionary component (see fig. 1). MCC first identified candidate countries that performed above the median in relation to their peers on at least half of the quantitative indicators in each of the three policy categories—Ruling Justly, Investing in People, and Encouraging Economic Freedom—and above the median on the indicator for control of corruption. (See app. III for a table describing the indicators, listing their sources, and summarizing the methodologies on which they are based.) In addition, MCC considered other relevant information—in particular, whether countries that scored substantially below the median (at the 25th percentile or lower) on an indicator were addressing any shortcomings related to that indicator. MCC also considered supplemental information to address gaps, lags, or other data weaknesses as well as additional material information. Encouraging Economic Freedom 11. Country credit rating 12. One-year consumer 8. Public primary education spending (as a percent of GDP) 9. Public expenditure on health (as a percent of GDP) The Millennium Challenge Act requires that, within 5 days of the board’s eligibility determinations, the MCC Chief Executive Officer submit a report to congressional committees containing a list of the eligible countries and “a justification for such eligibility determination” and publish the report in the Federal Register. Eligible countries are invited to submit compact proposals, which are to be developed in consultation with members of civil society, including the private sector and NGOs. However, a country’s eligibility does not guarantee that MCC will sign and then fund a compact with that country. MCC is to sign compacts only with national governments. Under the act, the duration of compacts is limited to a maximum of 5 years; MCC expects to approve compacts with durations of 3 to 5 years. MCA funds are not earmarked for specific projects or countries, and money not obligated in the fiscal year for which it was appropriated can be used in subsequent fiscal years. For fiscal years 2004 and 2005, Congress has directed that MCC use its existing appropriations to fully fund a compact—that is, obligate the entire amount anticipated for the compact’s duration. Funding for compacts and the Threshold Program must be drawn from the appropriation for the fiscal year in which the country was eligible. MCC aims to be among the largest donors in recipient countries, which, according to MCC officials, creates incentive for eligible countries to “buy into” MCC’s principles of policy reform, sustainable economic growth, country partnership, and results. The Millennium Challenge Act authorizes a limited amount of assistance to certain candidate countries to help them become eligible for MCA assistance. These candidate countries must (1) meet the fiscal year 2004 or 2005 requirements for MCA candidacy and (2) demonstrate a significant commitment to meeting the act’s eligibility criteria but fail to meet those requirements. MCC has implemented these legislative provisions as its Threshold Program. Figure 2 compares features of MCC compact and Threshold Program assistance; appendix IV describes the Threshold Program. MCC has broad authority under the Millennium Challenge Act to enter into contracts and business relationships. The act establishes the MCC Board of Directors and assigns it a key decision-making role in the corporation’s activities, including those related to implementing the compact program. The act also makes provisions for the board to consult with Congress and provide general supervision of MCC’s IG. The board consists of the Secretary of State (Board Chair), the Secretary of the Treasury (Vice Chair), the USAID Administrator, and the U.S. Trade Representative, in addition to MCC’s Chief Executive Officer. The board has four other positions filled by Presidential appointment with the approval of the Senate. Two of these positions have been filled. (For a timeline of key events and milestones since MCC’s launch, see app. V.) For fiscal years 2004 and 2005, the MCC board based its determinations of countries’ eligibility on its quantitative indicator methodology as well on discretion. Although MCC published the countries’ indicator scores at its Web site, some of the indicator source data used to generate the scores were not readily available. Finally, we found that reliance on the indicators carried certain inherent limitations. MCC used the 16 quantitative indicators, as well as the discretion implicit in the Millennium Challenge Act, to select 17 countries as eligible for MCA compact assistance for fiscal years 2004 and 2005 (see fig. 3). Fiscal year 2004: In May 2004, the MCC board selected 16 countries as eligible for fiscal year 2004 funding. The countries deemed eligible include 13 that met the quantitative indicator criteria and 3 that did not (Bolivia, Georgia, and Mozambique). Another 6 countries met the criteria but were not deemed eligible. Fiscal year 2005: In October 2004, the MCC board selected 16 countries as eligible for fiscal year 2005 funding. The countries deemed eligible included 14 countries that met the indicator criteria and 2 countries that did not (Georgia and Mozambique). Ten countries met the criteria but were not deemed eligible. Fifteen of the 16 countries also had been deemed eligible for fiscal year 2004; the only new country was Morocco. MCC did not provide Congress its justifications for the 13 countries that met the indicator criteria but were not deemed eligible for fiscal years 2004 and 2005 (one of these countries, Tonga, did not score substantially below the median on any indicator). The act does not explicitly require MCC to include a justification to Congress for why these countries were not deemed eligible. In addition, our analysis of countries that met the indicator criteria but were not deemed eligible suggests that, besides requiring that a country score above the median on the indicator for control of corruption, MCC placed particular emphasis on three Ruling Justly indicators (political rights, civil liberties, and voice and accountability) in making its eligibility determinations. In fiscal years 2004 and 2005, 6 of the 13 countries that met the indicator criteria but were not deemed eligible had scores equal to or below the median on these three indicators. On the other hand, the 13 countries that were not deemed eligible performed similarly to the eligible countries on the other three Ruling Justly indicators—government effectiveness, rule of law, and control of corruption—as well as on the indicators for Investing in People and Encouraging Economic Freedom. Although MCC published its country scores for all of the indicators at its Web site, some of the indicator source data used to generate the scores were not readily available to the public. We found that source data for nine of the indicators were accessible via hyperlinks from MCC’s Web site, making it possible to compare those data with MCC’s published country scores. However, for the remaining seven indicators, we encountered obstacles to locating the source data, without which candidate countries and other interested parties would be unable to reproduce and verify MCC’s results. Primary education completion rates: The published indicators were created with data from several sources and years, and not all of these data were available on line. Primary education and health spending (percentage of gross domestic product): When national government data were unavailable, MCC used either country historical data or data from the World Bank to estimate current expenditures. Diphtheria and measles immunization rate: The general hyperlink at the MCC Web site did not link to the data files used to create the published indicators. One-year consumer price inflation: The published indicators were created with a mix of data from several data sources and different years. Fiscal policy: The published indicators were created with International Monetary Fund (IMF) data that are not publicly available. Days to start a business: Updated indicators were not published until after the board had made its fiscal year 2004 eligibility decisions. MCC’s use of the quantitative indicator criteria in the country selection process for fiscal years 2004 and 2005 involved the following inherent difficulties: Owing to measurement uncertainty, the scores of 17 countries may have been misclassified as above or below the median. In fiscal years 2004 and 2005, 7 countries did not meet the quantitative indicator criteria because of corruption scores below the median, but given measurement uncertainty their true scores may have been above the median. Likewise, 10 countries met the indicator criteria with corruption scores above the median, but their true scores may have been below the median. Missing data for the days to start a business and trade policy indicators reduced the number of countries that could achieve above-median scores for those indicators. For fiscal years 2004 and 2005, 20 and 22 countries, respectively, lacked data for the indicator for days to start a business, and 18 and 13 countries, respectively, lacked data for the trade policy indicator. Our analysis suggests that missing data for these two indicators may have reduced the number of countries that passed the Encouraging Economic Freedom category. The narrow and undifferentiated range of possible scores for the political rights, civil liberties, and trade policy indicators led to clustering—“bunching”—of scores around the median, making the scores less useful in distinguishing among countries’ performances. In fiscal year 2005, for example, 46 countries, or two-thirds of the countries with trade policy data, received a score of 4 (the median) or 5 (the lowest score possible) for trade policy. Our analysis suggests that bunching potentially reduced the number of countries that passed the Ruling Justly and Economic Freedom categories and limited MCC’s ability to determine whether countries performed substantially below their peers in affected indicators. With respect to the indicator for control of corruption, countries deemed eligible for MCA compact assistance represent the best performers among their peers; at the same time, studies have found that, in general, countries with low per capita income also score low on corruption indexes. Of the 17 MCA compact eligible countries, 11 ranked below the 50th percentile among the 195 countries rated by the World Bank Institute for control of corruption; none scored in the top third. MCC has received compact proposals, concept papers, or both, from 16 countries; of these, it has approved a compact with one country and is negotiating with four others. At the same time, MCC continues to refine its process for reviewing and assessing compact proposals. As part of this process, MCC has identified elements of country program implementation and fiscal accountability that can be adapted to eligible countries’ compact objectives and institutional capacities. Between August 2004 and March 2005, MCC received compact proposals, concept papers, or both, from 16 MCA compact-eligible countries, more than half of which submitted revised proposal drafts in response to MCC’s assessments. In March 2005, MCC approved a 4-year compact with Madagascar for $110 million to fund rural projects aimed at enhancing land titling and security, increasing financial sector competition, and improving agricultural production technologies and market capacity; MCC and Madagascar signed the compact on April 18, 2005. MCC is negotiating compacts with Cape Verde, Georgia, Honduras, and Nicaragua and is conducting in-depth assessments of proposals from two additional countries. Figure 4 summarizes the types of projects that eligible countries have proposed and that MCC is currently reviewing. The countries’ initial proposals and concept papers requested about $4.8 billion; those that MCC is currently reviewing (see fig. 4) and negotiating request approximately $3 billion over 3 to 5 years. Our analysis—based on MCC’s goal of being a top donor as well as Congress’s requirement that the corporation fund compacts in full—shows that the $2.4 billion available from fiscal year 2004 and 2005 appropriations will allow MCC to fund between 4 and 14 compacts, including Madagascar’s compact, for those years. MCC’s $110 million compact with Madagascar, averaging $27.5 million per year, would make it the country’s fifth largest donor (see app. VI for a list of the largest donors to MCA compact-eligible countries in fiscal years 2002-2003). As of April 2005, MCC is continuing to refine its process for developing compacts. According to MCC officials, the compact development process is open ended and characterized by ongoing discussions with eligible countries. According to a recent IG report, MCC’s negotiating a compact with Madagascar has served as a prototype for completing compacts with other countries. At present, the compact proposal development and assessment process follows four steps (see fig. 5). Step 1: Proposal development. MCC expects eligible countries to propose projects and program implementation structures, building on existing national economic development strategies. For instance, the Honduran government’s proposal is based on its Poverty Reduction Strategy Paper (PRSP) and a subsequent June 2004 implementation plan. MCC also requires that eligible countries use a broad-based consultative process to develop their proposals. MCC staff discuss the proposal with country officials during this phase of compact development. Although MCC does not intend to provide funding to countries for proposal development, some countries have received grants from regional organizations for proposal development. Step 2: Proposal submission and initial assessment. Eligible countries submit compact proposals or concept papers. MCC has not specified deadlines for proposal submission or publicly declared the limits or range of available funding for individual compacts. According to MCC officials, the absence of deadlines and funding parameters permits countries to take initiative in developing proposals. However, according to U.S.-based NGOs, the lack of deadlines has caused some uncertainty and confusion among eligible country officials. Honduran officials told us that knowing a range of potential funding would have enhanced their ability to develop a more focused proposal. During this stage, MCC conducts a preliminary assessment of the proposal, drawing on its staff, contractors, and employees of other U.S. government agencies. This assessment examines the potential impact of the proposal’s strategy for economic growth and poverty reduction, the consultative process used to develop the proposal, and the indicators for measuring progress toward the proposed goals. According to MCC, some eligible countries have moved quickly to develop their MCC programs. Others initially were unfamiliar with MCC’s approach and some faced institutional constraints. MCC works with these countries to develop programs that it can support. In addition, MCC is exploring ways—such as providing grants—to facilitate compact development and implementation. Once MCC staff determine that they have collected sufficient preliminary information, they seek the approval of MCC’s Investment Committee to conduct a more detailed analysis, known as due diligence. Step 3: Detailed proposal assessment and negotiation. MCC’s due diligence review includes an analysis of the proposed program’s objectives and its costs relative to potential economic benefits. Among other things, the review also examines the proposal’s plans for program implementation, including monitoring and evaluation; for fiscal accountability; and for coordination with USAID and other donors. In addition, the review considers the country’s commitment to MCC eligibility criteria and legal considerations pertaining to the program’s implementation. During their review, MCC staff seek the approval of the Investment Committee to notify Congress that the corporation intends to initiate compact negotiations; following completion of the review, MCC staff request the committee’s approval to enter compact negotiations. When the negotiations have been concluded, the Investment Committee decides whether to approve submission of the compact text to the MCC board. Step 4: Board review and compact signing. The MCC board reviews the compact draft. Before the compact can be signed and funds obligated, the board must approve the draft and MCC must notify appropriate congressional committees of its intention to obligate funds. MCC has identified several broadly defined elements of program implementation and fiscal accountability that it considers essential to ensuring achievement of compact goals and proper use of MCC funds. As signatories to the compact, MCC and the country government will be fundamental elements of this framework. However, MCC and eligible countries can adapt other elements (see fig. 6) by assigning roles and responsibilities to governmental and other entities according to the countries’ compact objectives and institutional capacities. Madagascar’s compact incorporates these elements in addition to an advisory council composed of private sector and civil society representatives, as well as local and regional government officials. The compact also requires that MCA-Madagascar, the oversight entity, adopt additional plans and agreements before funds can be disbursed, including plans for fiscal accountability and procurement. In addition, the compact requires the adoption of a monitoring and evaluation plan; provides a description of the plan’s required elements; and establishes performance indicators for each of Madagascar’s three program objectives, which are linked to measures of the program’s expected overall impact on economic growth and poverty reduction. MCC expects to disburse funds in tranches as it approves Madagascar’s completed plans and agreements. According to the IG, MCC officials expect to make the initial disbursements within 2 months after signing the compact. MCC has received advice and support from USAID, State, Treasury, and USTR and has signed agreements with five U.S. agencies for program implementation and technical assistance. In addition, MCC is consulting with other donors in Washington, D.C., and in the field to use existing donor expertise. MCC is also consulting with U.S.-based NGOs as part of its domestic outreach effort; however, some NGOs raised questions about the involvement of civil society groups. (See app. VII for more details of MCC’s coordination efforts.) MCC initially coordinated primarily with U.S. agencies on its board and is expanding its coordination efforts to leverage the expertise of other agencies. USAID and the Department of State in Washington, D.C., and in compact-eligible countries, have facilitated meetings between MCC officials and donors and representatives of the private sector and NGOs in eligible countries. In addition, several of the six USAID missions contacted by GAO reported that their staff had provided country-specific information, had observed MCC-related meetings between civil society organizations and governments, or had informed other donors about MCC. MCC has also coordinated with the Department of the Treasury and USTR. For example, according to MCC officials, MCC has regularly briefed these agencies on specific elements of compact proposals and established an interagency working group to discuss compact-related legal issues. Since October 2004, MCC has expanded its coordination through formal agreements with five U.S. agencies, including the Census Bureau, Army Corps of Engineers, and Department of Agriculture, that are not on the MCC board. MCC has obligated more than $6 million for programmatic and technical assistance through these agreements, as shown in figure 7. MCC has received information and expertise from key multilateral and bilateral donors in the United States and eligible countries. For example, World Bank staff have briefed MCC regarding eligible countries, and officials from the Inter-American Development Bank said that they have provided MCC with infrastructure assessments in Honduras. According to MCC, most donor coordination is expected to occur in eligible countries rather than at the headquarters level. In some cases, MCC is directly coordinating its efforts with other donors through existing mechanisms, such as a G-17 donor group in Honduras. In addition to soliciting donor input, MCC officials have encouraged donors not to displace assistance to countries that receive MCA funding. Donors in Honduras told us that MCA funding to that country is unlikely to reduce their investment, because sectors included in the country’s proposal have additional needs that would not be met by MCA. According to MCC officials, MCC is holding monthly meetings with a U.S.- based NGO working group and hosted five public meetings in 2004 in Washington, D.C, as part of its domestic outreach efforts. The NGOs have shared expertise in monitoring and evaluation and have offered suggestions that contributed to the modification of 1 of MCC’s 16 quantitative indicators. In addition, MCC has met with local NGOs during country visits. Some U.S-based NGOs have raised questions about the involvement of NGOs in this country and of civil society groups in compact-eligible countries. Environmental NGOs told us in January 2005 that MCC had not engaged with them since initial outreach meetings; however, MCC subsequently invited NGOs and other interested entities to submit proposals for a quantitative indicator of a country’s natural resources management. Representatives of several NGOs commented that MCC lacks in-house expertise and staff to monitor and assess civil society participation in compact development. In addition, U.S.-based NGOs expressed concern that their peers in MCA countries have not received complete information about the proposal development process. Since starting up operations, MCC has made progress in developing key administrative infrastructures that support its program implementation. MCC has also made progress in establishing corporatewide structures for accountability, governance, internal control, and human capital management, including establishing an audit and review capability through its IG, adopting bylaws, providing ethics training to employees, and expanding its permanent full-time staff. However, MCC has not yet completed plans, strategies, and time frames needed to establish these essential management structures on a corporatewide basis. (See fig. 8 for a detailed summary of MCC’s progress.) During its first 15 months, MCC management focused its efforts on establishing essential administrative infrastructures—the basic systems and resources needed to set up and support its operations—which also contribute to developing a culture of accountability and control. In February 2004, MCC acquired temporary offices in Arlington, Virginia, and began working to acquire a permanent location. In addition, consistent with its goal of a lean corporate structure with a limited number of full- time employees, MCC outsourced administrative aspects of its accounting, information technology, travel, and human resource functions. Further, MCC implemented various other administrative policies and procedures to provide operating guidance to staff and enhance MCC’s internal control. MCC management continues to develop other corporate policies and procedures, including policies that will supplement federal travel and acquisition regulations. Accountability requires that a government organization effectively demonstrate, internally and externally, that its resources are managed properly and used in compliance with laws and regulations and that its programs are achieving their intended goals and outcomes and are being provided efficiently and effectively. Important for organizational accountability are effective strategic and performance planning and reporting processes that establish, measure, and report an organization’s progress in fulfilling its mission and meeting its goals. External oversight and audit processes provide another key element of accountability. During its initial 15 months, MCC developed and communicated to the public its mission, the basic tenets of its corporate vision, and key program-related decisions by the MCC board. MCC began its strategic planning process when key staff met in January 2005 to begin setting strategic objectives and it expects to issue the completed plan in the coming months. In addition, MCC arranged with its IG for the audit of its initial year financial statements (completed by an independent public accounting firm) and for two program-related IG reviews. However, to date, MCC has not completed a strategic plan or established specific implementation time frames. In addition, MCC has not yet established annual performance plans, which would facilitate its monitoring of progress toward strategic and annual performance goals and outcomes and its reporting on such progress internally and externally. According to MCC officials, MCC intends to complete its comprehensive strategic and performance plans by the end of fiscal year 2005. Corporate governance can be viewed as the formation and execution of collective policies and oversight mechanisms to establish and maintain a sustainable and accountable organization while achieving its mission and demonstrating stewardship over its resources. Generally, an organization’s board of directors has a key role in corporate governance through its oversight of executive management, corporate strategies, risk management and audit and assurance processes, and communications with corporate stakeholders. During its initial 15 months, the MCC board adopted bylaws regarding board composition and powers, meetings, voting, fiscal oversight, and the duties and responsibilities of corporate officers and oversaw management’s efforts to design and implement the compact program. According to MCC, during a recent meeting of the board to discuss corporate governance, the Chief Executive Officer solicited feedback from the board regarding defining and improving the governance process. MCC’s board established a compensation committee in March 2005, and a charter for the committee is being drafted. In addition, MCC is preparing, for board consideration, a policy on the board’s corporate governance. As drafted, the policy identifies the board’s statutory and other responsibilities, elements of board governance, rules and procedures for board decision-making, and guidelines for MCC’s communications with the board. With regard to MCC board membership, seven of the nine board members have been appointed and installed. Through board agency staff, MCC staff have regularly informed board members—four of whom are heads of other agencies or departments—about pending MCC matters. The board has not completed a comprehensive strategy or plan for carrying out its responsibility—specifically, it has not defined the board’s and management’s respective roles in formulating and executing of corporate strategies, developing risk management and audit and assurance processes, and communicating and coordinating with corporate stakeholders. Moreover, although the bylaws permit the board to establish an audit committee—to support the board in accounting and financial reporting matters; determine the adequacy of MCC’s administrative and financial controls; and direct the corporation’s audit function, which is provided by the IG and its external auditor—the board has not yet done so. Finally, two of the MCC board’s four other positions have not yet been filled. Internal control provides reasonable assurance that key management objectives—efficiency and effectiveness of operations, reliability of financial reporting, and compliance with applicable laws and regulations— are being achieved. Generally, a corporatewide internal control strategy is designed to create and maintain an environment that sets a positive and supportive attitude toward internal control and conscientious management; assess, on an ongoing basis, the risks facing the corporation and its programs from both external and internal sources; implement efficient control activities and procedures intended to effectively manage and mitigate areas of significant risk; monitor and test control activities and procedures on an ongoing basis; assess the operating effectiveness of internal control and report and address any weaknesses. During its first 15 months, MCC took several actions that contributed to establishing effective internal control. Although it did not conduct its own assessment of internal control, MCC management relied on the results of the IG reviews and external financial audit to support its conclusion that key internal controls were valid and reliable. Further, MCC implemented processes for identifying eligible countries and internal controls through its due diligence reviews of proposed compacts, establishment of the Investment Committee to assist MCC staff in negotiating and reviewing compact proposals, and the board’s involvement in approving negotiated compacts. In addition, MCC instituted an Ethics Program, covering employees as well as outside board members, to provide initial ethics orientation training for new hires and regularly scheduled briefings for employees on standards of conduct and statutory rules. In April 2005, MCC officials informed us that they had recently established an internal controls strategy group to identify internal control activities to be implemented over the next year, reflecting their awareness of the need to focus MCC’s efforts on the highest-risk areas. However, MCC has not completed a comprehensive strategy and related time frames for ensuring the proper design and incorporation of internal control into MCC’s corporatewide program and administrative operations. For example, MCC intends to rely on contractors for a number of operational and administrative services; however, this strategy will require special consideration in its design and implementation of specific internal controls. Cornerstones of human capital management include leadership; strategic human capital planning; acquiring, developing, and retaining talent; and building a results-oriented culture. In its initial year, MCC human capital efforts focused primarily on establishing an organizational structure and recruiting employees necessary to support program design and implementation and corporate administrative operations (see app. VIII for a diagram of MCC’s organizational structure). MCC set short- and longer- term hiring targets, including assigning about 20 employees—depending on the number and types of compacts that have been signed—to work in MCA compact-eligible countries; it also identified needed positions and future staffing levels through December 2005 based on its initial operations. With the help of an international recruiting firm, MCC expanded its permanent full-time staff from 7 staff employees in April 2004 to 107 employees in April 2005; it intends to employ no more than 200 permanent full-time employees by December 2005 (see fig. 9). In addition, MCC hired 15 individuals on detail, under personal services contracts, or as temporary hires, as well as a number of consultants. Finally, in January 2005, MCC hired a consultant to design a compensation program to provide employees with pay and performance incentives and competitive benefits, including performance awards and bonuses, retention incentives, and student loan repayments. MCC officials told us that they intend the program to be comparable with those of federal financial agencies, international financial institutions, and multilateral and private sector organizations. Fifteen of these positions are administratively determined; Congress authorized 30 such positions for MCC in the Millennium Challenge Act. In its first 15 months, MCC took important actions to design and implement the compact program—making eligibility determinations, defining its compact development process, and coordinating and establishing working agreements with key stakeholders. MCC also acted to establish important elements of a corporatewide management structure needed to support its mission and operations, including some key internal controls. However, MCC has not yet fully developed plans that define the comprehensive actions needed to establish key components of an effective management structure. We believe that, to continue to grow into a viable and sustainable entity, MCC needs to approve plans with related time frames that identify the actions required to build a corporatewide foundation for accountability, internal control, and human capital management and begin implementing these plans. In addition, MCC’s board needs to define its responsibilities for corporate governance and oversight of MCC and develop plans or strategies for carrying them out. As MCC moves into its second year of operations, it recognizes the need to develop comprehensive plans and strategies in each of these areas. Implementation of such plans and strategies should enable MCC’s management and board to measure progress in achieving corporate goals and objectives and demonstrate its accountability and control to Congress and the public. As part of our ongoing work for your committee, we will continue to monitor MCC’s efforts in these areas. We recommend that the Chief Executive Officer of the Millennium Challenge Corporation complete the development and implementation of overall plans and related time frames for actions needed to establish 1. Corporatewide accountability, including implementing a strategic plan, establishing annual performance plans and goals, using performance measures to monitor progress in meeting both strategic and annual performance goals, and reporting internally and externally on its progress in meeting its strategic and annual performance goals. 2. Effective internal control over MCC’s program and administrative operations, including establishing a positive and supportive internal control environment; a process for ongoing risk assessment; control activities and procedures for reducing risk, such as measures to mitigate risk associated with contracted operational and administrative services; ongoing monitoring and periodic testing of control activities; and a process for assessing and reporting on the effectiveness of internal controls and addressing any weaknesses identified. 3. An effective human capital infrastructure, including a thorough and systematic assessment of the staffing requirements and critical skills needed to carry out MCC’s mission; a plan to acquire, develop, and retain talent that is aligned with the corporation’s strategic goals; and a performance management system linking compensation to employee contributions toward the achievement of MCC’s mission and goals. We recommend that the Secretary of State, in her capacity as Chair of the MCC Board of Directors, ensure that the board considers and defines the scope of its responsibilities with respect to corporate governance and oversight of MCC and develop an overall plan or strategy, with related time frames, for carrying out these responsibilities. In doing so, the board should consider, in addition to its statutory responsibilities, other corporate governance and oversight responsibilities commonly associated with sound and effective corporate governance practices, including oversight of the formulation and execution of corporate strategies, risk management and audit and assurance processes, and communication and coordination with corporate stakeholders. MCC provided technical comments on a draft of this statement and agreed to take our recommendations under consideration; we addressed MCC’s comments in the text as appropriate. We also provided the Departments of State and Treasury, the U.S. Agency for International Development, and the Office of the U.S. Trade Representative an opportunity to review a draft of this statement for technical accuracy. State and USAID suggested no changes, and Treasury and USTR provided a few technical comments, which we incorporated as appropriate. Mr. Chairman and Members of the Committee, this concludes my prepared statement. I will be happy to answer any questions you may have. For questions regarding this testimony, please call David Gootnick at (202) 512-4128 or Phillip Herr at (202) 512-8509. Other key contributors to this statement were Todd M. Anderson, Beverly Bendekgey, David Dornisch, Etana Finkler, Ernie Jackson, Debra Johnson, Joy Labez, Reid Lowe, David Merrill, John Reilly, Michael Rohrback, Mona Sehgal, and R.G. Steinman. We reviewed MCC’s activities in its first 15 months of operations, specifically its (1) process for determining country eligibility for fiscal years 2004 and 2005, (2) progress in developing compacts, (3) coordination with key stakeholders, and (4) establishment of management structures and accountability mechanisms. To examine MCC’s country selection process, we analyzed candidate countries’ scores for the 16 quantitative indicators for fiscal years 2004 and 2005, as well as the selection criteria for the fiscal year 2004 Threshold Program. We used these data to determine the characteristics of countries that met and did not meet the indicator criteria and to assess the extent to which MCC relied on country scores for eligibility determination. We also reviewed the source data for the indicator scores posted on MCC’s Web site to identify issues related to public access and to determine whether we could reproduce the country scores from the source data. Our review of the source data methodology, as well as the documents of other experts, allowed us to identify some limitations of the indicator criteria used in the country selection process. For these and other data we used in our analyses, we examined, as appropriate, the reliability of the data through interviews with MCC officials responsible for the data, document reviews, and reviews of data collection and methodology made available by the authors. We determined the data to be reliable for the purposes of this study. To describe MCC’s process for developing compacts, including plans for monitoring and evaluation, we reviewed MCC’s draft or finalized documents outlining compact proposal guidance, compact proposal assessment, and fiscal accountability elements. We reviewed eligible countries’ compact proposals and concept papers to identify proposed projects, funding, and institutional frameworks, among other things. To summarize the projects that countries have proposed and that MCC is currently assessing, we developed categories and conducted an analysis of countries’ proposal documents and MCC’s internal summaries. We also reviewed Madagascar’s draft compact to identify projects, funding, and framework for program implementation and fiscal accountability. We met with MCC officials to obtain updates on the compact development process. In addition, we interviewed representatives of nongovernmental organizations (NGOs) in Washington, D.C., and Honduras, as well as country officials in Honduras, to obtain their perspectives on MCC’s compact development process. To assess MCC’s coordination with key stakeholders, we reviewed interagency agreements to identify the types of formal assistance that MCC is seeking from U.S. agencies and the funding that MCC has set aside for this purpose. We also reviewed MCC documents to identify the organizations, including other donors, with which MCC has consulted. In addition, we interviewed MCC officials regarding their coordination with various stakeholders. We met with officials from the U.S. agencies on the MCC board (Departments of State and Treasury, USAID, and USTR) to assess the types of assistance that these agencies have provided to MCC. We also contacted six USAID missions in compact-eligible countries to obtain information on MCC coordination with U.S. agencies in the field. To assess MCC’s coordination with NGOs and other donors, we met with several NGOs, including InterAction, the World Wildlife Fund, and the Women’s Edge Coalition in Washington, D.C., and local NGOs in Honduras; we also met with officials from the Inter-American Development Bank in Washington, D.C., and Honduras, as well as officials from the World Bank, Central American Bank for Economic Integration, and several bilateral donors in Honduras. Finally, we attended several MCC public outreach meetings in Washington, D.C. To analyze MCC’s progress in establishing management structures and accountability mechanisms, we interviewed MCC senior management and reviewed available documents to identify the management and accountability plans that MCC had developed or was planning to develop. We reviewed audit reports by the USAID Office of the Inspector General to avoid duplication of efforts. We used relevant GAO reports and widely used standards and best practices, as applicable, to determine criteria for assessing MCC’s progress on management issues as well as to suggest best practices to MCC in relevant areas. Although our analysis included gaining an understanding of MCC’s actions related to establishing internal control, we did not evaluate the design and operating effectiveness of internal control at MCC. In January 2005, we conducted fieldwork in Honduras, one of four countries with which MCC had entered into negotiations at that time, to assess MCC’s procedures for conducting compact proposal due diligence and its coordination with U.S. agencies, local NGOs, Honduran government officials, and other donors. In conducting our field work, we met with U.S. mission officials, Honduran government officials, donor representatives, and local NGOs. We also visited some existing USAID projects in the agricultural sector that were similar to projects that Honduras proposed. We provided a draft of this statement to MCC, and we have incorporated technical comments where appropriate. We also provided a draft of this statement to the Departments of State and Treasury, USAID, and USTR; State and USAID suggested no changes, and Treasury and USTR provided technical comments, which we addressed as appropriate. We conducted our work between April 2004 and April 2005, in accordance with generally accepted government auditing standards. (continued) Lesotho Madagascar Malawi Mali Mauritania Moldova Mongolia Morocco Mozambique Nepal Nicaragua Niger Nigeria Pakistan Papua New Guinea Paraguay Philippines Rwanda São Tomé and Principe Senegal Sierra Leone Solomon Islands Sri Lanka Swaziland Tajikistan Tanzania Togo *Tonga Turkmenistan Uganda Ukraine Vanuatu Vietnam Yemen Republic Zambia * Candidate for FY 2004 only. ** Prohibited under Foreign Assistance Act in FY 2004 but not in FY 2005. Table 1 lists each of the indicators used in the MCA compact and threshold country selection process, along with its source and a brief description of the indicator and the methodology on which it is based. Since announcing the 16 quantitative indicators that it used to determine country eligibility for fiscal year 2004, MCC made two changes for fiscal year 2005 and is exploring further changes for fiscal year 2006. To better capture the gender concerns specified in the Millennium Challenge Act, MCC substituted “girls’ primary education completion rate” for “primary education completion rate.” It also lowered the ceiling for the inflation rate indicator from 20 to 15 percent. In addition, to satisfy the act’s stipulation that MCC use objective and quantifiable indicators to evaluate a country’s commitment to economic policies that promote sustainable natural resource management, MCC held a public session on February 28, 2005, to launch the process of identifying such an indicator. MCC expects to complete the process by May 2005. The MCC board used objective criteria (a rules-based methodology) and exercised discretion to select the threshold countries (see fig. 10). For fiscal year 2004, the MCC board relied on objective criteria in selecting as Threshold Program candidates countries that needed to improve in 2 or fewer of the 16 quantitative indicators used to determine MCA eligibility. (That is, by improving in two or fewer indicators, the country would score above the median on half of the indicators in each policy category, would score above the median on the corruption indicator, and would not score substantially below the median on any indicator.) MCC identified 15 countries that met its stated criteria and selected 7 countries to apply for Threshold Program assistance. Our analysis suggests that one of these seven countries did not meet MCC’s stated Threshold Program criteria. The MCC board also exercised discretion in assessing whether countries that passed this screen also demonstrated a commitment to undertake policy reforms to improve in deficient indicators. For fiscal year 2005, the MCC did not employ a rules-based methodology for selecting Threshold Program candidates. Instead, the board selected Threshold Program and MCA compact-eligible countries simultaneously. The board selected 12 countries to apply for Threshold Program assistance, including reconfirming the selection of 6 countries that also had qualified for the fiscal year 2004 Threshold Program. Figure 11 illustrates key events and defining actions relating to MCC since the passage of the Millennium Challenge Act in January 2004. MCC plans to be among the top donors in MCA compact-eligible countries. Figure 12 shows the total official development assistance net (average for 2002 and 2003) provided by the top three donors as well as the amount of total official development assistance net (average for 2002 and 2003) provided by all donors in each of the MCA compact-eligible countries. As the figure indicates, based on the average for the years 2002-2003, the United States was the top donor in Armenia, Bolivia, Georgia, and Honduras and was among the top five donors in nine additional countries. MCC is coordinating its program and funding activities with various stakeholders to keep them informed and to utilize their expertise or resources at headquarters and in the field (see fig. 13). In addition, several U.S. agencies have taken steps to coordinate their activities with MCC. Within each of the eight functional areas shown in figure 14, the actual staffing level as of April 2005 appears in the pie chart in each box and the planned staffing level by December 2005 appears in the right corner of each box.

Summary: In January 2004, Congress established the Millennium Challenge Corporation (MCC) to administer the Millennium Challenge Account. MCC's mission is to promote economic growth and reduce extreme poverty in developing countries. The act requires MCC to rely to the maximum extent possible on quantitative criteria in determining countries' eligibility for assistance. MCC will provide assistance primarily through compacts--agreements with country governments. MCC aims to be one of the top donors in countries with which it signs compacts. For fiscal years 2004 and 2005, Congress appropriated nearly $2.5 billion for the Millennium Challenge Corporation; for fiscal year 2006, the President is requesting $3 billion. GAO was asked to monitor MCC's (1) process for determining country eligibility, (2) progress in developing compacts, (3) coordination with key stakeholders, and (4) establishment of management structures and accountability mechanisms. For fiscal years 2004 and 2005, the MCC board used the quantitative criteria as well as judgment in determining 17 countries to be eligible for MCA compacts. Although MCC chose the indicators based in part on their public availability, our analysis showed that not all of the source data for the indicators were readily accessible. In addition, we found that reliance on the indicators carried certain inherent limitations, such as measurement uncertainty. Between August 2004 and March 2005, MCC received compact proposals, concept papers, or both, from 16 eligible countries. It signed a compact with Madagascar in April 2005 and is negotiating compacts with four countries. MCC's 4-year compact with Madagascar for $110 million would make it the country's fifth largest donor. MCC is continuing to refine its compact development process. In addition, MCC has identified elements of program implementation and fiscal accountability that can be adapted to eligible countries' compact objectives and institutional capacities. MCC is taking steps to coordinate with key stakeholders to use existing expertise and conduct outreach. The U.S. agencies on the MCC Board of Directors--USAID, the Departments of State and Treasury, and the Office of the U.S. Trade Representative--have provided resources and other assistance to MCC, and five U.S. agencies have agreed to provide technical assistance. Bilateral and multilateral donors are providing information and expertise. MCC is also consulting with nongovernmental organizations in the United States and abroad as part of its outreach activities. MCC has made progress in developing key administrative infrastructures that support its mission and operations. MCC has also made progress in establishing corporatewide structures for accountability, governance, internal control, and human capital management, including establishing an audit capability through its Inspector General, adopting bylaws, providing ethics training to employees, and expanding its permanent full-time staff. However, MCC has not yet completed comprehensive plans, strategies, and related time frames for establishing these essential management structures and accountability mechanisms on a corporatewide basis.