Brazil State of Bahia. Bahia Socio-Economic Development for Inclusive Growth Development Policy Loan (P126351)

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1 Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Brazil State of Bahia Bahia Socio-Economic Development for Inclusive Growth Development Policy Loan (P126351) Release of Second Tranche Full Compliance 1. The two-tranche Bahia Socio-Economic Development for Inclusive Growth Development Policy Loan (DPL) in the amount of US$700 million to the State of Bahia (GOB or Bahia) was approved by the Board on June 28, The Loan was signed on December 18, 2012, and became effective on December 21, 2012, with the release of the first tranche in the amount of US$350 million on December 27, The second tranche in the amount of US$350 million is to be disbursed upon completion of specific tranche released conditions related to the GOB s reform program. The Loan supports the GOB in its efforts to (i) improve social and productive inclusion; (ii) develop social, physical, and institutional infrastructure for sustainable development; and (iii) strengthen public sector management. 1. INTRODUCTION 2. A largely rural state with most of its GDP generated around the metropolitan area of Salvador, Bahia has the largest absolute number of extreme poor in Brazil. Bahia has one of the lowest urbanization ratios in the country at 68 percent. Salvador, the State s capital and largest city, is home to 2.7 million inhabitants in the Municipality and 3.4 million in the larger Metropolitan Region out of a population of approximately 14 million. However, 53 percent of the State GDP is concentrated in the Salvador Metropolitan Region. An estimated 1.96 million inhabitants of Bahia are extremely poor, and 8.2 million are registered in the Cadastro Único (CadUnico) to receive social assistance through government conditional cash transfers. As such, Bahia has been one of the main targets of the Federal Government s program for the eradication of extreme poverty Brasil Sem Miséria through income transfer programs, access to public services, and productive inclusion. 3. While poverty has sharply declined over the past decade, Bahia continues to face significant challenges to make the growth process more inclusive. Social policies accompanied by rapid economic growth lifted a great part of the poor into the middle class in the 2000s, causing the poverty rate to fall from 60 percent of the population in 2003 to about 39 percent of the population in However, economic activity has remained geographically concentrated and logistical bottlenecks have affected productivity and competitiveness as well the growth opportunities in landlocked regions such as the Semi-Árido. As such, even though Bahia s GDP has grown more rapidly than Brazil s GDP, most of Bahia s poorest municipalities, especially in the semi-arid zone have not experienced growth. 4. The State of Bahia has developed a strategic vision to foster higher and more inclusive growth that can be expanded to lagging regions and poorer populations. The strategic plan of the State of Bahia supports productive and social inclusion via family agriculture, social and solidarity economy, democratization of access to public services and housing and improving 1

2 social services (health, education) as key elements for sustainable development. The State of Bahia recognizes that these sectoral policies require an overall modernization of the state, and is actively implementing a medium term public sector management reform program to support the sectoral reforms 5. The DPL supports the strategic vision of the State of Bahia in a number of critical areas. The DPL focuses on three policy areas which are key pillars for achieving sustainable development and inclusive growth: (i) improving social and productive inclusion (equity) through actions relating to education, health, social and productive inclusion, crime and violence prevention, and gender; (ii) developing social, physical, and institutional infrastructure for sustainable development (efficiency) through actions relating to disaster risk management and transport; and (iii) strengthening planning and management of the public sector (governance) through actions relating to planning and budgeting, financial and human resource management, tax administration, and public private partnerships. Brazil 2. RECENT ECONOMIC DEVELOPMENTS 6. Brazil has recently experienced a period of weak growth, reflecting cyclical and, increasingly, structural factors (Table 1). Initially, tighter monetary and fiscal policies in 2011 weakened domestic demand at the same time as external demand was dampened by protracted weakness and uncertainty in advanced economies and slowing growth in major emerging economies. However, as the slowdown continued throughout 2012 as policy became looser and the external environment strengthened, growth has come to be increasingly seen as driven by structural factors such as the tight labor market and high cost of production. 7. Recent data suggests that the recovery remains uneven and tentative, with inflation nevertheless relatively high. After a stagnant first quarter (0 percent) and a growth surprise in the second quarter (1.8 percent), third quarter growth disappointed with a contraction of 0.5 percent. On the demand side, fixed investment reported stronger growth in the year (6.5 percent). Household consumption remained relatively robust (2.4 percent) despite concerns about its resilience in the face of higher inflation and indebtedness. Headline inflation reached 5.8 percent in October. Inflation is higher for goods whose prices are not regulated, running at 7.4 percent (compared with 1.0 percent for regulated prices) as well as for non-tradable goods (8.2 percent). 8. Fiscal and monetary policies were adjusted in response to slow growth and rapid inflation. Over the past decade Brazil s three-pillared macroeconomic framework (flexible exchange rates, inflation targeting and fiscal prudence) gained credibility. However, the extensive use of fiscal policy to revive growth and a higher tolerance for inflation have partially eroded this credibility. The fiscal stance has been loosened with primary surplus declining from 3.1 percent in 2011 to 1.4 percent in October However, with inflation close to the 6.5 percent upper limit of the target range, monetary policy was tightened and the interest rate has been raised by 275 basis points between April and November 2013 to 10 percent currently. 2

3 Table 1. Brazil: Selected Economic Indicators, Projections Indicator National Accounts Real GDP Growth Gross domestic investment External Sector Current account Merchandise trade balance Exports (fob) Imports (fob) Nonfactor services, net Income and current transfers, Direct investment, net Portfolio equity, net Gross international reserves Current account (% of GDP) General Government Total Revenues and Grants Total Expenditure Current Expenditure of which: Net Interest Capital Expenditure Primary Balance Overall Balance Gross Public Sector Debt of which: Domestic of which: Foreign Currency Prices GDP Deflator Consumer Price Index (eop) Memorandum items: Nominal GDP (in R$ billions) Total External Debt (% of GDP) Note 1: Porfolio equity does not include debt securities Source: IMF, BCB, IBGE, EIU, WB Calculation 9. The worsening of the external accounts together with a more uncertain external scenario has led the exchange rate to depreciate and became more volatile. The current account deficit widened to 3.7 percent of GDP in the 12 month period ended in October. At the same time FDI failed to fully cover the gap reaching 2.6 percent. The difference was covered by portfolio investment which has reached 1.4 percent of GDP. The central bank responded with an intervention plan consisting of purchasing interest rate swaps and a foreign exchange repurchase program. 3

4 10. Concerns about the adequacy of the macroeconomic policy mix have emerged. Recently, economic policy has appeared more interventionist. Higher inflation tolerance and attempts to control inflation by administering prices and reducing taxes, together with other discretionary tax incentives, subsidies to energy and state-owned banks as well as slower growth and increased social demands have weakened the fiscal pillar. This in turn has added to demand complicating the Central Bank s task of curbing inflation. Indeed, this combination of factors has led Moody s and Standard and Poor to reassess their of Brazil s sovereign debt outlook from positive to stable and from stable to negative respectively. 11. In spite of these risks and challenges, Brazil s overall macroeconomic framework remains adequate for the purpose of this operation. Brazil s policy framework continues to provide the Federal Government with the flexibility to respond to economic crises. While the continuation of elevated inflation pressures and the recent deterioration of fiscal outturns have raised concerns, the authorities have not renounced their commitment to inflation control and fiscal prudence. Gross public sector debt is expected to decline in the future, given the levels of the primary surplus, despite difficulties in maintaining fiscal balance in the face of large investment needs and popular pressures for improved service delivery. Moreover, flexible exchange rates and relatively large foreign reserves provide Brazil with a buffer to shifts in market perceptions and an associated turn-around in capital flows as the recent episode of market turbulence has suggested. Finally the subnational fiscal framework provides a means of controlling the indebtedness of subnational governments. Bahia 12. Economic activity in the State of Bahia has been robust in recent years, in spite of the weak national trend. Industrial production in the state increased by 4.1 percent in 2012 while it fell by 2.6 percent in the country as a whole. The State of Bahia has also experienced above average growth in industrial production over the recent period compared to neighboring northeastern states. Real retail sales in Bahia grew 7.0 percent in 2012, in line with other northeastern states and slightly above the national average (6.8 percent). 13. The strong economic performance has led to a fall in poverty and unemployment but also rising inflation. As the economy has grown strongly in recent years, Bahia has seen a dramatic fall in its historically high poverty rate. The percentage of the population living below the poverty line has decreased from 60 percent in 2003 to about 39 percent in National social policies coupled with high economic growth in the State of Bahia, averaging over five percent annually between 2003 and 2010, have lifted a great part of the poor into the middle class. Unemployment in the Salvador metropolitan region, for which data is available, has fallen significantly from 8.4 percent at the end of 2010 to 5.7 percent at the end of 2012, almost closing the gap with the national level which stood at 4.6 percent at the same time. As unemployment has fallen, inflation in Bahia has increased, reaching 6.8 percent at the end of 2012, compared to 6.1 percent in 2011 and 5.8 percent on the national level. Inflation in Bahia has been consistently higher than the national average as well as that of the northeastern region in recent years. 14. The strong economic growth in the State was mirrored in the fiscal aggregates through strong revenue performance. Tax revenues increased by 10 and 12 percent in 2011 and

5 respectively, with the Goods and Services Tax (ICMS), which accounts for over 80 percent of the state s tax revenues, growing at a similar, level (9 and 11 percent respectively). Tax revenue collected accounted for 50 percent of the state s revenue in 2012 with social contributions accounting for another 6 percent. 15. The intergovernmental fiscal arrangements between the Federal Government and the State of Bahia are adequate and rule based and the state continues to receive large transfers. Current transfers from the federal government represented 34.5 percent of total state revenues in Transfers from the federal government increased strongly (15 percent) in 2011 but slowed down somewhat in 2012 (9 percent). In 2012, the State Participation Fund (FPE) accounted for 53 percent of transfers from the Federal Government while the earmarked fund for education (FUNDEB) represented 23 percent. 16. The expenditure framework of the state is adequate, spending on the priority areas such as health and education has grown. Spending on health and education, two areas supported by the DPL, has grown by 25 percent and 21 percent respectively between 2010 and Capital expenditure grew moderately at 7.7 percent in 2012 after falling 3.1 percent in Fixed investment made up 6 percent of total spending in The state s overall fiscal balance is currently recording sizable surpluses. In 2012, the State recorded an overall surplus of R$ 1.6 billion, equivalent to 5 percent of total revenue. This is a significant improvement for the small overall deficit in 2011 (R$ 65 million, 0.2 percent of total revenue). For the current year through October, the surplus is even larger at R$ 1.7 billion or 6.5 percent of total revenues. 18. The State of Bahia is in full compliance with the limits set by Brazil s fiscal responsibility law (LRF) for expenditure and debt. Current expenditure on personnel stood at 44.2 percent of net current revenue (NCR) in 2012 and 44.4 percent in October 2013 (the limit established by the law is 48.6 percent). In addition, the State s net consolidated debt stood at 49 percent of NCR at end-2012 and has fallen to 33 percent in October 2013 (legal limit is 200 percent). New credit operations increased in 2012 to 8.6 percent of NCR (up from 2.3 percent in 2011) but remain well below the limit of 16 percent. 19. Looking ahead, the economic outlook for the State of Bahia is expected to evolve favorably. At one level, while the country-wide economic recovery remains tentative and is expected to be protracted, Bahia would benefit from this gradual recovery process. At another level, however, the State of Bahia continues to face significant potential for catch-up growth driven by human and physical capital accumulation, where this operation is also expected to contribute positively to the State of Bahia s underlying growth capacity. 20. The overall macro fiscal framework of the State of Bahia is adequate for the purpose of this operation. The State of Bahia has recovered its capacity to invest by considerably growing its tax revenues. The State of Bahia has used the fiscal space generated to pay down debt and invest in priority sectors such as health and education, setting up the foundations for faster, more equitable and sustainable growth. The State of Bahia is expected to continue to comply with all 5

6 the indicators of the Fiscal Responsibility Framework in the medium term as key indicators such as debt to net current revenue are far below the limits of the framework. 3. PROGRESS IN IMPLEMENTING THE REFORM AGENDA 21. Overall progress in the GOB s Reform Program supported by this operation has been satisfactory. The Program supports three pillars: (i) improving social and productive inclusion (equity); (ii) developing social, physical, and institutional infrastructure for sustainable development (efficiency); and (iii) strengthening public sector management (governance). Improving Social and Productive Inclusion (Equity) Education 22. To address low internal efficiency in the education sector and poor learning outcomes among students, the Program supports the implementation of the Pacto pela Educação, which is proceeding in a satisfactory manner. The State Government has signed partnership arrangements with 217 municipalities to improve the quality of education and internal efficiency of students in second grade in the first cycle of fundamental education. The partnership agreements between the state and municipalities are aimed to expand coverage and provide a schooling environment conducive to effective learning in the earlier grades. The State has also taken significant steps to monitor implementation progress. In partnership with the municipalities (Pacto com Municipios), the State assessed the test results of standardized evaluation provided to second grade students in the subject matter of Portuguese language and recorded the passing rate of students in second grade. It has also disseminated the results per school from monitoring the implementation impact of the Pacto pela Educação to the respective schools. It has identified the 25 percent least performing participating municipalities based on such results, which has helped tailor the distribution of learning materials and the delivery of additional pedagogical support to the schools located in those municipalities. Health 23. The State of Bahia is also making good progress in the area of health, where the objective is to expand primary health care coverage with the municipalities while reorganizing the system. To this effect, the State has identified and published new strategies, guidelines and standards on primary health care activities, which are fundamental for the expected State Policy on Primary Health Care. Through these measures, Bahia has, among other institutional initiatives, reorganized the system that establishes official rules/protocols on the medical care provided during pregnancy and delivery which has an enormous potential to reduce infant and maternal mortality a pressing concern in Bahia. At least half of all infant deaths and most maternal deaths are due to events related to pregnancy and delivery. The State has also approved the State Policy on Primary Health Care decree, which prioritized systemic mechanisms to provide quality health care access and is leading to greater coverage of primary health care and an increased proportion of pregnant women enrolled by primary health teams. 6

7 Productive Inclusion 24. With the Bahia accounting for 20 percent of Brazil s rural poverty, the State of Bahia has taken additional measures to foster regional integration and the economic development of lagging regions of Bahia through the Vida Melhor program. These measures have focused on raising the productivity and market participation of small-scale producers and increasing their access to basic infrastructure, including water and sanitation. The government has been particularly active in responding to the demand of community-driven initiatives through technical assistance and financing support. Specifically, the GOB has formalized its Productive Inclusion Program and enacted two laws in support of the Productive Inclusion Program (to provide technical assistance to and debt restructuring for family farms). Social Inclusion 25. The State of Bahia continued to make satisfactory progress in the eradication of extreme poverty in line with the Federal Government s initiative Brazil Sem Miséria. The large number of the extreme poor and a history of poor management in social assistance are big issues facing the state of Bahia. The government of the State of Bahia recognizes the importance of strengthening its management of the Centros Referencial de Asistencia Social CRAS and the CadUnico. The progress in the social protection component has been satisfactory in spite of the fact that many municipalities that were selected for the actions have gone through management changes in the last year. The progress made builds on an earlier action to sign social assistance co-financing plans with municipalities that are considered to have weak capacity to manage the program. The co-financing plans have resulted in increased funds and TA for the municipalities to improve their management capacity in the social assistance sector and also to provide support for these municipalities to actively search for not registered yet eligible poor households in the CadÚnico. The State of Bahia has strengthened the capacity of municipalities with the worst performance in terms of IGD-M in order to include a greater number of families in the registry that is used to target social assistance to the poor. Additional training was provided and technical meetings were organized. Crime and Violence Prevention 26. To improve the capacity to respond to crime and violence, the government launched a flagship cross-cutting program, the pact for life Pacto pela Vida (PPV) with a strong emphasis on the prevention of crime and violence through social development interventions. Recognizing that the problem is as much an issue of public sector management and social policy rather than just of law enforcement, the GOB has established a sub-committee of crime and violence prevention through social development. In addition, the State has adopted and is implementing strategic action plans to: (i) improve its institutional capacity to target and implementing social crime and violence prevention programs in Municipalities prioritized by Pacto pela Vida; and (ii) strengthen its crime and violence data collection, management, and analysis system. Gender 27. To promote gender equality through the social and economic inclusion of women, the GOB has established a Secretariat for Policies for Women (Secretaria das Políticas das 7

8 Mulheres -- SPM) with an improved organization structure and expanded human and financial resources. Gender issues have since attracted greater visibility and the SPM has been successful in contributing to the mainstreaming of gender issues, including through the execution of a State Policy on Gender Equality across sectors and an increased coverage and quality of services offered by the reference centers to women victims of violence in the State of Bahia. With respect to the latter, the SPM sought to raise funds, which resulted in five parliamentary amendments that promised resources for nine centers. Further progress needs to be made however in making sure that the amendments are executed, as municipalities have faced difficulties to identify real estate or land for the purpose of the centers. More broadly, however, there has been progress in the last area with respect to policies addressing violence against women. Bahia will receive for example the first Casa da Mulher Brasileira and two mobile units were received as well, which will travel through the 27 territories to reach women of rural area. Developing social, physical, and institutional infrastructure for sustainable development (efficiency) Disaster Risk Management 28. The loan supports the GOB s objective to improve the institutional coordination for the prevention, mitigation and response to natural disasters. The State of Bahia has taken a number of actions to modernize, strengthen, and restructure the Civil Defense System, to use available resources effectively and efficiently, and to involve other public institutions and the private sector in disaster risk management. To better coordinate and communicate, the State of Bahia has established a new coordinating body, CORDEC (Coordenação Estadual de Defesa Civil). In addition, CORDEC carried out two pilot risk studies for the municipalities of Lauro de Freitas (flooding) and Canabrava (landslide). The pilot studies demonstrated the State s capacity to mobilize internal expertise to perform disaster risk management activities. Furthermore, the State of Bahia has trained and equipped 30 brigades during 2012 and 2013 in the area of disaster risk management (covering topics of Environmental Education and Legislation, First Aid, Enforcement, Prevention and Bush Firefighting). Transport 29. To develop and maintain cost-effective and efficient transport and logistics services in support of regional development and competitiveness, the State of Bahia aims to modernize the regulatory framework for transport and logistics and provide transport infrastructure with a good quality of service. To better integrate logistics, transport coordination, planning and networks connectivity, the State of Bahia created and operationalized the Bahia Logistics Advisory Committee (Committee), which provides a platform to coordinate between the various stakeholders involved in transport and logistics in Bahia. The Committee has in the meantime already issued two resolutions. The new institutional arrangement has contributed to strengthening institutional capacity in logistics for state transport infrastructure management as well as more cost effective logistic supply chains. 8

9 Strengthening public sector management (governance) Planning and Budgeting 30. The GOB aims to redesign the planning, policy and budget process (to ensure greater correspondence between resources and priorities) and to foster coordination across agencies to increase the effectiveness and efficiency of public spending. The State has implanted processes to integrate planning, budgeting, and financial management supported by the new financial management system (FIPLAN) and the intensive monitoring and training that the Superintendência de Gestão e Avaliação da Secretaria Estadual do Planejamento (SGA/SEPLAN) is providing have been critical to this end. The Superintendência de Orçamento Público (SPO/SEPLAN) has worked with all Secretariats to review and adjust each budget action and the revisions have been reflected in their respective Annual Work Plans (PTA). Together, these mechanisms are contributing to making planning more results-oriented and realistic. A Budget Bill was submitted early October 2013 that includes a dedicated annex aligning deliverables foreseen in the Plano Plurianual (PPA) with budgetary allocations. The SGA/SEPLAN is currently preparing the improvement plans for 20 priority programs, representing 83 of the investment budget for , as part of the first phase of monitoring of the PPA. SEPLAN estimates that all 47 programs of the PPA will have improvement plans by the end of 2014, thus exceeding the agreed target for that year of 30 programs. Financial Management and Human Resource Management 31. To promote the coherent, efficient and transparent management of financial resources, the State of Bahia has established the institutional and technical basis for the implementation of accrual-based International Public Sector Accounting Standards (IPSAS). This action allows for transparent budget reporting and improved internal control and transparency in respect of expenditure, assets and liabilities and the alignment with best accounting practices through the application of credible, independent accounting standards. The Secretariat of Finance (SEFAZ) has deployed beginning 2013 a new system (FIPLAN) that integrates the budget planning and execution systems (currently two separate systems) with the accounting system. As such, the State of Bahia has already completed the main steps in relation to the process laid out by the Federal Government to adopt new accounting standards by December As a result, from the current year onwards, financial reports will be prepared on the basis of the new system. 32. In the area of human resources, the State of Bahia has adopted a new regulatory framework for implementing management processes for human resources aimed at allowing workforce planning, career management, and the wider use of performance management and merit-based promotion. The new regulations specify the required qualifications and promotion standards for civil servants, as well as hiring mechanisms to meet future demand of the public service. A new HR system will support the implementation of the institutional arrangements and provide the information for workforce planning and performance management. The bidding process for procurement of a company to develop the system started on June Although the adoption of the full system should take multiple years, it is expected that by December 2014 public employees in the areas of public health and citizen security would be included in the new system. In addition, the promotion and performance evaluation systems for 5 careers have been approved. 9

10 Tax Administration 33. To improve the State s fiscal revenue performance, the State of Bahia has implemented a data sharing arrangement with the National Tax Department in order to gain access to information on taxpayer s donations, inheritances and assets to facilitate identification of fiscal evasion. Based on this arrangement, the State cross-checked back in November 2012 data based on the access to taxpayer information on donations, inheritances, and assets, and assessed taxpayers with incongruent tax fillings, and as a result of assessment has taken action to collect overdue tax. In addition, the State has taken additional efforts to collect back taxes. The actions undertaken are expected to contribute significantly to the State s revenues. Public-Private Partnerships 34. To improve the institutional framework for private sector participation through Public- Private Partnerships (PPPs), the State of Bahia has issued a decree to regulate the request for private sector participation in early project stages. In the meantime, new projects were structured and procured as PPPs. Improvements in the institutional framework have been realized, with particular focus on contract management, both regarding independent performance monitoring and the need to reinforce and consolidate contract management teams. As a result, improvements are observed both in terms of an increase in the number of public projects structured as PPP and an improvement in contract monitoring. 4. PROGRESS AGAINST TRANCHE-RELEASE CRITERIA 35. The State of Bahia has made significant and satisfactory progress in the implementation of second-tranche conditions. The implementation of reforms supported in the first tranche has been satisfactory and all actions for the second-tranche release under the operation have been met. The evidence received in support of this conclusion is presented in Table 2. Table 2: Bahia Socio Economic Development for Inclusive Growth Development Policy Loan Status of Evidence for Second Tranche Withdrawal Action Status of evidence Education The Borrower, through its Secretariat of Education, has: (a) monitored the implementation impact of the Pacto pela Educação in Participating Municipalities by: (A) evaluating test results of standardized evaluation provided to second-grade students in the subject matter of Portuguese language; and (B) recording the passing rate of second-grade students, as evidenced by a report issued by the Borrower s Secretariat of Education, in form and substance satisfactory to the Bank; and Received Oficio SubSec-Gab No. 017/2013, dated December 5, 2013, from SEDUC, and relevant documents/reports; Bank expert confirmed the documents are 10

11 (b) (A) disseminated to each school their respective results from the implementation impact of the Pacto pela Educação; (B) identified the 25% least performing Participating Municipalities based on such results; and (C) provided learning materials and additional pedagogical support to the schools located in the 25% least performing Participating Municipalities, as evidenced by an oficio issued by the Borrower s Secretariat of Education, in form and substance satisfactory to the Bank. Health The Borrower has adopted a statewide policy on primary health care within its territory, as evidence by a decree issued by the Borrower, in form and substance satisfactory to the Bank. Crime and Violence Prevention The Borrower has adopted and implemented: (a) a strategic action plan aimed at improving its institutional capacity to target and implement social crime and violence prevention programs in Municipalities prioritized by Pacto pela Vida; and ( ) as evidenced by a copy of each of said plans and a report on the implementation of said plans issued by the Borrower, all in form and substance satisfactory to the Bank. (b) a strategic plan to strengthen its crime and violence data collection, management and analysis system; as evidenced by a copy of each of said plans and a report on the implementation of said plans issued by the Borrower, all in form and substance satisfactory to the Bank. Disaster Risk Management The Borrower has: (a) (A) submitted to its Legislative Assembly, for approval thereby, a draft law, in form and substance satisfactory to the Bank, to adopt; or (B) adopted, in form and substance satisfactory to the Bank, through the Borrower s executive branch, as the case may be, a regulatory framework; for re-structuring its coordinating body for disaster risk management, including the establishment of regional units with trained staff and equipment, as evidenced by a Borrower s letter (mensagem) duly received by the Legislative Assembly or a copy of said regulatory framework established through the Borrower s executive branch, Received Oficio SubSec-Gab No. 017/2013, dated December 5, 2013, from SEDUC, and relevant documents/reports; Bank expert confirmed the documents are Received a copy of the Decree No , dated May 3, 2013, published in the Official Gazette; Bank expert confirmed the content of the decree is Received reports and plan through Oficio OF. GASEC No. 374/2013, dated December 4, 2013; Bank expert confirmed the documents are Received report (which explains the plan) transmitted through Oficio OF. GASEC No. 372/2013, dated November 29, 2013, from SEPLAN; Bank expert confirmed the documents are Received Oficio OF. GASEC No. 368/2013, dated November 21, 2013, with attachments, which include Mensagem No. 52/2013 regarding CORDEC, draft law/bill, and list of municipalities; also received a copy of the Law No , dated November 22, 2013, restructuring CORDEC; Bank expert confirmed the documents are 11

12 as the case may be, all in form and substance satisfactory to the Bank; (b) (A) completed pilot risk-mappings of two (2) sites located in the metropolitan area of the Borrower s capital, as evidenced by a report issued by the Borrower s coordinating body referred to in (i) (A) above, which shall include the maps produced as part of such pilot risk-mapping, all in form and substance satisfactory to the Bank; and (b) ( ) (B) created and implemented a program to support the capacity of volunteer brigades, as evidenced by the necessary measures adopted by the Borrower, all in form and substance satisfactory to the Bank. Transport The Borrower has established a logistics advisory committee aimed at coordinating relevant stakeholders involved in transport and logistics in the Borrower s territory and said committee is operational, as evidenced by a decree issued by the Borrower and a report on the implementation progress of such committee, in form and substance satisfactory to the Bank. Planning and Budgeting The Borrower has: (i) submitted to its Legislative Assembly, for approval thereby, a draft law, in form and substance satisfactory to the Bank, to establish; or (ii) established, in form and substance satisfactory to the Bank, through the Borrower s executive branch, as the case may be, a regulatory framework; for developing the Borrower s annual budget proposals in accordance with procedures aimed at (A) ensuring alignment of the Borrower s annual budget with its strategic priorities in the medium term, and (B) reducing ad hoc modifications to the Borrower s annual budget during execution, as evidenced by a Borrower s letter (mensagem) duly received by the Legislative Assembly or a copy of said regulatory framework established through the Borrower s executive branch, as the case may be, all in form and substance satisfactory to the Bank. Received Oficio OF. GASEC No. 346/2013, dated October 31, 2013, mapping and report (attachment titled Corpo Relat Canal dos Irmaos ); Bank expert confirmed the report is Received Oficio OF. GASEC No. 343/2013, dated October 17, 2013, and attached documents; Bank expert confirmed the documents are Received Oficio Of. GASEC No. 593/2013, dated December 5, 2013, from the Infrastructure Secretariat, together a copy of the Decree No , dated December 12, 2012, published in the Official Gazette; Portaria No. 100, dated November 13, 2013, published in the Official Gazette; committee meeting records; draft regiment for the committee; Report attached to Oficio (Relatorio) also received; Bank expert confirmed that the documents received are sufficient and Received Mensagem 48, dated September 26, 2013 (and protocol); Bank expert confirmed this is 12

13 Financial and Human Resource Management The Borrower has: (i) (A) submitted to its Legislative Assembly, for approval thereby, a draft law, in form and substance satisfactory to the Bank, to adopt; or (B) adopted, in form and substance satisfactory to the Bank, through the Borrower s executive branch, as the case may be; an accrual based International Public Sector Accounting Standards for the Borrower s accounting and reporting purposes, as evidenced by a Borrower s letter (mensagem) duly received by the Legislative Assembly or a copy of said adoption by the Borrower s executive branch, as the case may be, all in form and substance satisfactory to the Bank; and (ii) (A) submitted to its Legislative Assembly, for approval thereby, a draft law, in form and substance satisfactory to the Bank, to adopt; or (B) adopted, in form and substance satisfactory to the Bank, through the Borrower s executive branch, as the case may be, a regulatory framework; for implementing management processes for human resources aimed at allowing workforce planning, career management and extension of merit based promotion performance management systems, as evidenced by a Borrower s letter (mensagem) duly received by the Legislative Assembly or a copy of said regulatory framework established through the Borrower s executive branch, as the case may be, all in form and substance satisfactory to the Bank. Tax Administration The Borrower has enhanced efficiency in tax revenue collection in the Borrower s territory by cross-checking the Borrower's information on taxpayer s donations, inheritances and assets against data on said information from the Guarantor's Ministry of Finance to facilitate the identification of fiscal evasion related to taxes on said donations, inheritances and assets, and has taken action to address fiscal evasion related to said taxes, as evidenced by a report issued by SEFAZ assessing the results of such cross-checking and indicating the impact of the actions taken by the Borrower, in form and substance satisfactory to the Bank. Received a copy of the Decree No , dated November 27, 2012, 2013, published in the Official Gazette; Bank expert confirmed the content of the decree is Received Portaria No , dated November 20, 2013; Bank expert confirmed the content of the Portaria is Received Oficio GASEC No. 359/2013, dated December 5, 2013, from SEFAZ and attached report dated November 2013; Bank expert confirmed the documents are 13

14 5. CONCLUSION 36. In view of the overall performance and progress with the implementation of the program supported by the Loan, and in compliance with the specific conditions of release as described in Section II.D.2 of Schedule 1 to the Loan Agreement, dated December 18, 2012, it is our assessment that: a. The Guarantor has maintained an adequate macroeconomic policy framework; b. The Borrower has maintained: (i) an appropriate expenditure program; (ii) sustainable debt; and (iii) appropriate fiscal arrangements with the Guarantor; c. The progress achieved by the Borrower in carrying out the program is satisfactory; d. The actions described in Part B of Section I of Schedule 1 have been taken. 37. Therefore, the second tranche will be released to the State of Bahia. 14