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entitled 'Compacts of Free Association: Development Prospects Remain 
Limited for Micronesia and Marshall Islands' which was released on June 
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Report to Congressional Committees: 

United States Government Accountability Office: 

GAO: 

June 2006: 

Compacts Of Free Association: 

Development Prospects Remain Limited for Micronesia and Marshall 
Islands: 

GAO-06-590: 

GAO Highlights: 

Highlights of GAO-06-590, a report to congressional committees. 

Why GAO Did This Study: 

In 1987, the United States began providing economic aid to the 
Federated States of Micronesia (FSM) and the Republic of the Marshall 
Islands (RMI) through a Compact of Free Association. In 2004, through 
amended compacts with the FSM and the RMI, the United States committed 
to provide more than $3.5 billion until 2023. Joint U.S-FSM and U.S.-
RMI compact management committees are required, among other things, to 
monitor progress toward specified development goals and address 
implementation of policy reforms to stimulate investment. The 
legislation implementing the amended compacts (P.L. 108-188) requires 
that GAO periodically report on political, social, and economic 
conditions in the FSM and the RMI. In compliance with this requirement, 
GAO examined each country’s (1) political and social environment, (2) 
economic environment, and (3) status of economic policy reforms. 

What GAO Found: 

FSM and RMI political and social conditions challenge, respectively, 
effective compact grant implementation and health and education 
progress. Regarding political conditions, for example, the FSM states 
and national government have been unable to agree on implementation of 
the compact infrastructure grant, while the RMI government has had 
difficulty securing agreement from land owners regarding its use of 
leased land for compact-related projects. Social challenges in both 
countries include persistent health and education problems despite 
substantial expenditures. For instance, the FSM and the RMI have low 
immunization rates relative to other countries with similar income 
levels. 

The FSM and the RMI economies show limited potential for achieving long-
term development objectives. Both economies depend on public sector 
expenditures—funded largely by external assistance—and government 
budgets have growing wage expenditures, heightening the negative fiscal 
impacts they will face as compact grants decline (see figure). As a 
result, long-term economic growth must come from the private sector and 
increased income sent home from FSM and RMI emigrants (“remittances”). 
However, poor business environments hamper private industry in both 
countries, and FSM and RMI emigrants’ lack of marketable skills hinders 
increasing revenue from remittances. Compact management committees have 
not discussed the countries’ progress toward budgetary self-reliance 
and long-term economic advancement at their annual meetings. 

FSM and RMI progress in key policy reforms has been slow. Country 
officials reported passing some new mortgage and bankruptcy laws, but 
other needed reforms have not been implemented. For example, according 
to economic experts, tax systems remain inequitable and inefficient and 
foreign investment regulations remain confusing and relatively 
burdensome. FSM and RMI development plans include reform objectives in 
each of these areas; 
however, compact management committees have not addressed the nations’ 
slow progress in implementing reforms. 

Figure: Estimated Per Capita Compact Grant Assistance for Fiscal Years 
1987-2023: 

[See PDF for Image] 

[End of Figure] 

What GAO Recommends: 

GAO recommends that the Secretary of the Interior direct the Deputy 
Assistant Secretary for Insular Affairs, as Chairman of the compact 
management committees, to ensure they meet requirements to address the 
lack of FSM and RMI progress in implementing reforms to increase 
investment and tax income. Interior, Health and Human Services, the FSM 
and the RMI generally agreed with the recommendation and the need to 
find development opportunities. 

[Hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-06-590]. 

To view the full product, including the scope and methodology, click on 
the link above. For more information, contact David B. Gootnick at 
(202) 512-3149 or gootnickd@gao.gov. 

[End of Section] 

Contents: 

Letter: 

Results in Brief: 

Background: 

FSM and RMI Face Key Political and Social Challenges: 

FSM and RMI Economies Show Limited Potential for Self-reliance and Long-
term Advancement: 

FSM and RMI Progress on Key Economic Policy Reforms Has Been Slow: 

Conclusions: 

Recommendations: 

Agency Comments: 

Appendix I: Objectives, Scope, and Methodology: 

Appendix II: Some Regional Socioeconomic Data for the Pacific: 

Appendix III: The FSM and RMI Private Sector Environment: 

Appendix IV: Comments from the Department of the Interior: 

GAO Comments: 

Appendix V: Comments from the Department of Health and Human Services: 

GAO Comment: 

Appendix VI: Comments from the Federated States of Micronesia: 

GAO Comment: 

Appendix VII: Comments from the Republic of the Marshall Islands: 

GAO Comments: 

Appendix VIII: GAO Contact and Staff Acknowledgments: 

Tables: 

Table 1: Annual U.S. Assistance for the FSM and the RMI under the 
Amended Compacts, Fiscal Years 2004 to 2023: 

Table 2: Estimated Levels of Economic Assistance by Major Donors to the 
FSM and the RMI, Average from Fiscal Years 2002 to 2004: 

Table 3: FSM and RMI Emigrants in Hawaii, Guam, and the CNMI, 2003: 

Table 4: FSM and RMI Government Commercial Enterprises: 

Table 5: Some Estimated Socioeconomic Indicators for Select Pacific 
Island Nations: 

Figures: 

Figure 1: Annual Compact Assistance to the FSM and the RMI, Fiscal 
Years 1987-2003: 

Figure 2: Estimated FSM and RMI Real Per Capita GDP: 

Figure 3: Estimated FSM and RMI per Capita Compact Grant Assistance for 
Fiscal Years 1987-2023: 

Figure 4: FSM and RMI External Grants and Estimated Real GDP: 

Figure 5: Structure of FSM Revenues and Expenditures, Fiscal Years 2000-
2005: 

Figure 6: Structure of RMI Revenues and Expenditures, Fiscal Years 2000-
2005: 

Figure 7: Some Noted Problems with the FSM and the RMI Private Sector 
Environment: 

Abbreviations: 

ADB: Asian Development Bank: 

CNMI: Commonwealth of the Northern Marianas Islands: 

FSM: Federated States of Micronesia: 

GDP: gross domestic product: 

HHS: Department of Health and Human Services: 

IMF: International Monetary Fund: 

JEMCO: Joint Economic Management Committee (FSM): 

JEMFAC: Joint Economic Management and Financial Accountability 
Committee (RMI): 

MCC: Millennium Challenge Corporation: 

NGO: nongovernmental organization: 

RMI: Republic of the Marshall Islands: 

WDI: World Development Indicators: 

United States Government Accountability Office: 

Washington, DC 20548: 

June 27, 2006: 

Congressional Committees: 

From 1987 to 2003, the United States provided about $2.1 billion in 
economic assistance to the Federated States of Micronesia 
(FSM)[Footnote 1] and the Republic of the Marshall Islands (RMI) 
through a Compact of Free Association.[Footnote 2] In 2003, the U.S. 
government negotiated new compact provisions with the FSM and the RMI 
that established an estimated $3.6 billion in continued U.S. assistance 
from fiscal year 2004 through fiscal year 2023.[Footnote 3] These 
"amended" compacts provide for decreasing annual grant assistance over 
the 20-year period, paired with increasing contributions to trust funds 
that are to provide income for each country after compact grants cease. 
The amended compacts identify the twenty years of grant assistance as 
intended to assist the FSM and the RMI governments in their efforts to 
promote the economic advancement and budgetary self-reliance of their 
people. To this end, the amended compacts provide for continued 
economic assistance in the form of grants to sector-specific areas, 
such as education, health, public infrastructure, and private sector 
development, prioritizing education and health. 

The amended compacts and their subsidiary agreements include 
requirements that the FSM and the RMI submit development plans and 
provide regular financial and performance reports. The amended compacts 
also require that the U.S. and the FSM Joint Economic Management 
Committee (JEMCO) and the U.S. and the RMI Joint Economic Management 
and Financial Accountability Committee (JEMFAC) meet at least once 
annually to evaluate FSM and RMI progress in achieving the objectives 
specified within their development plans,[Footnote 4] to identify 
problems encountered, and to recommend ways to increase the 
effectiveness of compact grant assistance.[Footnote 5] 

Regarding specific objectives within the development plans, the 
legislation implementing the amended compacts [Footnote 6]directs JEMCO 
and JEMFAC to address objectives related to the implementation of 
policy reforms to encourage investment and to improve tax 
income.[Footnote 7] The fiscal procedures agreements direct JEMCO and 
JEMFAC to monitor FSM and RMI progress toward budgetary self-reliance 
and long-term economic advancement.[Footnote 8] The legislation 
implementing the amended compacts also requires that the United States 
and GAO periodically report on political, social, and economic 
conditions in the FSM and the RMI as well as on the use and oversight 
of U.S. assistance to those nations. In compliance with the 
legislation's requirement, this report[Footnote 9] examines each 
country's (1) political and social environment regarding, respectively, 
compact grant implementation and health and education conditions; 
(2) economic environment, particularly respecting potential for 
achieving budgetary self-reliance and long-term economic advancement; 
and (3) status of economic policy reforms. 

To address our reporting objectives, we reviewed U.S., FSM, and RMI 
annual compact reports for 2004; FSM and RMI development plans; 
FSM and RMI economic reports and statistics; political assessments by 
the U.S. Department of State (State) and Transparency 
International;[Footnote 10] and Asian Development Bank (ADB), World 
Bank, and International Monetary Fund (IMF) reports on both economies. 
We interviewed officials from State and the U.S. Department of the 
Interior (Interior) as well as country experts at the ADB, the IMF, the 
World Bank, and the Pacific Islands Development Program at the East-
West Center.[Footnote 11] We also interviewed relevant officials, 
banks, and numerous representatives from private industry (including 
local chambers of commerce) in the four FSM states and in the RMI. We 
determined that the social and economic data presented in this report 
are sufficiently reliable for our purposes. We conducted our review 
from August 2005 through March 2006 in accordance with generally 
accepted government auditing standards. A detailed description of our 
scope and methodology is included in appendix I of this report. 

Results in Brief: 

Although the FSM and the RMI are stable democracies, each country's 
political and social environments present significant challenges 
regarding, respectively, effective compact grant implementation and 
health and education conditions. Although reports by State and Interior 
emphasize that both countries are established democracies with free and 
peaceful elections, interviews with U.S. and country officials revealed 
that, in each country, political factors have hindered compact 
implementation. For example, in the FSM, the states and national 
government have been unable to agree on implementation of the compact 
infrastructure grant. In the RMI, the national government has had 
difficulty securing agreement from Kwajalein Atoll land owners 
regarding management of public entities and the RMI governments' use of 
leased land for compact-related development projects. With regard to 
the social environment, both countries face challenging health and 
education conditions despite substantial expenditures. For example, 
both countries have relatively low rates of immunization and 
significant percentages of teachers who lack basic qualifications. 

The economic environments in the FSM and the RMI have not improved 
significantly in recent years, and both countries show limited 
potential for development objectives of budgetary self-reliance and 
long-term economic advancement. As in the original compact period, both 
countries' economies are dependent on public sector expenditures; 
government spending, which accounts for about 60 percent of the gross 
domestic product (GDP) in each country, is funded largely by external 
assistance rather than domestic production. Both governments' budgets 
are also characterized by growing wage expenditures, exacerbating the 
substantial negative fiscal impacts they are likely to face with the 
decline of compact grants through fiscal year 2023. Increased economic 
assistance from other countries could support FSM and RMI budget needs 
and standards of living, but the degree to which such opportunities 
could annually offset decreased compact moneys is uncertain. Over the 
long term, economic growth will likely have to originate from the 
private sector and increased income sent home from Micronesians living 
abroad ("remittances"). However, the two private sector industries that 
the United States, the FSM, and the RMI have identified as having 
growth potential--fisheries and tourism--face significant barriers to 
expansion because of the FSM's and the RMI's remote geographic 
location, inadequate infrastructure, and poor business environments. At 
the same time, FSM and RMI emigrants' current lack of marketable 
skills, due to insufficient education and vocational training, is an 
obstacle to increased revenue from remittances. To date, JEMCO and 
JEMFAC have not discussed the countries' limited progress in creating 
conditions for budgetary self-reliance and long-term economic 
advancement at their annual meetings. 

FSM and RMI progress in key policy reforms has been slow. Country 
officials reported that each of the FSM states and the RMI has 
implemented some legislative reforms aimed at improving the private 
sector environment, including bankruptcy and mortgage laws. However, 
according to the IMF, the ADB, and other economic experts, although 
such laws are necessary for an effective private sector environment, 
they are insufficient for stimulating investment and improving tax 
income without key reforms in taxes, land ownership, foreign investment 
regulations, and public sector management. These experts argue that the 
current tax systems in the FSM and the RMI are inequitable and 
inefficient. However, country officials reported that neither country 
has begun implementing fundamental tax reform, although the FSM has 
generally agreed on principles of a new tax system. In addition, 
interviews with economic experts, officials, and private sector 
representatives suggest that land ownership structures provide 
inadequate access to land for public and private investment, a problem 
that has not eased with the establishment of land registration offices. 
Economic experts and private sector representatives further describe 
foreign investment regulations as confusing and relatively burdensome, 
whereas public sector reform efforts have failed to reduce public 
sector competition with the private sector. FSM and RMI development 
plans include objectives for reforms in each of these areas, yet JEMCO 
and JEMFAC have not addressed these nations' slow progress in 
implementing reforms. 

In this report, we recommend that the Secretary of the Interior direct 
the Deputy Assistant Secretary for Insular Affairs, as Chairman of 
JEMCO and JEMFAC, to ensure that they meet requirements to address the 
lack of FSM and RMI progress in implementing their specified reforms to 
improve the business environment and encourage increased investment and 
tax income. 

We provided a draft of this report to the Departments of the Interior, 
State, HHS, and Treasury, as well as to the FSM and the RMI 
governments. We received comments from Interior, HHS, the FSM and the 
RMI. Reproductions of these letters, as well as our responses to the 
letters, can be found in appendixes IV through VII. Interior concurred 
with our recommendation and expressed its intention to implement it, 
partly through pursuing additional information on the FSM and the RMI 
economies. We agree with the importance of further economic 
information, but we believe that sufficient information is available 
for the committees to meet their requirement to address FSM and RMI 
progress in implementing policy reform. HHS also agreed with our 
recommendation and requested that it be expanded to include JEMCO and 
JEMFAC requirements for establishing reform implementation timelines. 
While establishing timelines is not a requirement under the amended 
compact or its subsidiary agreements, we encourage the JEMCO and JEMFAC 
to consider this idea as one method to improve U.S. assistance. The FSM 
agreed with our report findings, but disagreed with our conclusion that 
its development prospects remain limited. We assert that the FSM could 
advance its compact goals through an improved business environment and 
actions to maximize its' unique economic opportunities. However, we 
maintain the importance of frank JEMCO discussion of current FSM 
economic realities. Finally, the RMI advocated for further JEMFAC 
support in policy reform implementation--highlighting the particular 
importance of public sector reform--and emphasized that the government 
has met its requirement to contribute an initial $30 million to its 
trust fund. While we agree with the importance of public sector 
reforms, the RMI's trust-fund contribution does not alter the 
characteristic dependence of the RMI economy on external assistance. 

Background: 

After more than 40 years under U.S. administration as part of the 
United Nations Trust Territory of the Pacific Islands,[Footnote 12] the 
FSM and the RMI became sovereign nations in 1978 and 1979, 
respectively. For the last 20 years, the United States' relationship 
with the two countries has been defined by the original Compact of Free 
Association and the subsequent amended Compacts of Free Association. 

Compact of Free Association, 1986 to 2003: 

In 1986, the United States, the FSM, and the RMI entered into the 
original Compact of Free Association. Representing a new phase of the 
unique relationship between the United States and these island areas, 
the compact provided a framework for the United States to work toward 
achieving its three main goals: (1) to secure self-government for the 
FSM and the RMI, (2) to ensure certain national security rights for all 
of the parties, and (3) to assist the FSM and the RMI in their efforts 
to advance economic development and self-sufficiency. The first goal 
was met; the FSM and the RMI are independent nations. The second goal 
has also been achieved with the compact's establishment of several key 
defense rights for all three countries. The defense relationship 
continues with, among other things, U.S. access to military facilities 
on Kwajalein Atoll in the RMI through 2016. The compact's third goal 
was to be accomplished primarily through U.S. direct financial 
assistance to the FSM and the RMI. For the 15-year period covering 1987 
to 2001, funding was provided at levels that decreased every 5 years. 
For 2002 and 2003, during negotiations to renew expiring compact 
provisions, funding levels increased (see fig. 1) to equal an average 
of the funding provided during the previous 15 years plus inflation. 
For 1987 through 2003, compact financial assistance to the FSM and the 
RMI was estimated, on the basis of Interior data, to be about $2.1 
billion.[Footnote 13] 

Figure 1: Annual Compact Assistance to the FSM and the RMI, Fiscal 
Years 1987-2003: 

[See PDF for image] 

[End of figure] 

Economic development and self-sufficiency were not achieved under the 
original compact. Both nations remained dependent on U.S. funds; 
total U.S. assistance accounted for more than 50 percent of government 
revenues throughout the compact period.[Footnote 14] In addition, FSM 
and RMI GDP estimates reveal that per capita GDP at the close of the 
compact had not exceeded, in real terms, early 1990s levels in either 
country (see fig. 2).[Footnote 15] Although U.S. direct assistance 
maintained standards of living that were higher than could be achieved 
without support, we found previously that compact funds spent on 
economic development were largely ineffective in promoting economic 
growth.[Footnote 16] For example, compact funds were used to support 
general government operations that, among other things, maintained high 
levels of public sector employment and wages, creating disincentives to 
private sector growth. Compact funds were also used to support business 
ventures, most of which have failed. In our examination of a wide range 
of projects funded under the compact, we found that many projects 
experienced problems due to poor planning and management, inadequate 
construction and maintenance, or misuse of funds. In 2000, we 
recommended, among other things, that the Secretary of State direct the 
Special Negotiator for the Compact of Free Association to negotiate 
amended compact provisions that include assistance provided through 
grants targeted to priority areas, expanded reporting and consultation 
requirements, and the ability to withhold funds for noncompliance with 
compact terms and conditions.[Footnote 17] 

Figure 2: Estimated FSM and RMI Real Per Capita GDP: 

[See PDF for image] 

Note: For the RMI, real GDP was determined using the U.S. price 
deflator for 1990 to 1995 and the RMI price deflator for 1996 to 2003. 

[End of figure] 

The compact also gave citizens of both nations the rights to live and 
work in the United States as "nonimmigrants" and to stay for long 
periods of time. Further, the compact exempted FSM and RMI citizens 
from meeting U.S. passport, visa, and labor certification requirements 
when entering the United States. In 2001, we reported that during the 
compact, a significant number of FSM and RMI citizens had migrated to 
the United States and U.S. island areas.[Footnote 18] 

Amended Compacts of Free Association: 

The United States negotiated separate amended compacts with the RMI and 
the FSM that went into effect on May 1, 2004, and June 25, 2004, 
respectively.[Footnote 19] The amended compacts continue the defense 
relationship, including a new agreement providing U.S. military access 
to Kwajalein Atoll in the RMI through 2086;[Footnote 20] strengthen 
immigration provisions; and provide direct financial assistance, in the 
form of grants, to the FSM and the RMI for fiscal years 2004 to 2023 
(see table 1). To promote FSM and RMI budgetary self-reliance and 
economic advancement, the amended compacts and their subsidiary 
agreements, along with the countries' development plans, target grant 
assistance to six sectors--education, health, public infrastructure, 
the environment, public sector capacity building, and private sector 
development--prioritizing two sectors, education and health. In 
addition to providing grant assistance, the amended compacts provide 
for the establishment of trust funds for both countries that can 
provide income after annual compact grants cease. The amended compacts, 
their subsidiary agreements, and the U.S. implementing legislation also 
establish numerous reporting and accountability requirements-- 
including the legislation's direction to the JEMCO and JEMFAC to 
specifically address economic policy reforms to encourage investment 
and improve tax income. 

Table 1: Annual U.S. Assistance for the FSM and the RMI under the 
Amended Compacts, Fiscal Years 2004 to 2023: 

Dollars in millions[A]: Fiscal year: 2004; 
Dollars in millions[A]: FSM grants: $76.2; 
Dollars in millions[A]: FSM trust fund: $16.0; 
Dollars in millions[A]: RMI grants: $35.2; 
Dollars in millions[A]: RMI trust fund: $7.0. 

Dollars in millions[A]: Fiscal year: 2005; 
Dollars in millions[A]: FSM grants: 76.2; 
Dollars in millions[A]: FSM trust fund: 16.0; 
Dollars in millions[A]: RMI grants: 34.7; 
Dollars in millions[A]: RMI trust fund: 7.5. 

Dollars in millions[A]: Fiscal year: 2006; 
Dollars in millions[A]: FSM grants: 76.2; 
Dollars in millions[A]: FSM trust fund: 16.0; 
Dollars in millions[A]: RMI grants: 34.2; 
Dollars in millions[A]: RMI trust fund: 8.0. 

Dollars in millions[A]: Fiscal year: 2007; 
Dollars in millions[A]: FSM grants: 75.4; 
Dollars in millions[A]: FSM trust fund: 16.8; 
Dollars in millions[A]: RMI grants: 33.7; 
Dollars in millions[A]: RMI trust fund: 8.5. 

Dollars in millions[A]: Fiscal year: 2008; 
Dollars in millions[A]: FSM grants: 74.6; 
Dollars in millions[A]: FSM trust fund: 17.6; 
Dollars in millions[A]: RMI grants: 33.2; 
Dollars in millions[A]: RMI trust fund: 9.0. 

Dollars in millions[A]: Fiscal year: 2009; 
Dollars in millions[A]: FSM grants: 73.8; 
Dollars in millions[A]: FSM trust fund: 18.4; 
Dollars in millions[A]: RMI grants: 32.7; 
Dollars in millions[A]: RMI trust fund: 9.5. 

Dollars in millions[A]: Fiscal year: 2010; 
Dollars in millions[A]: FSM grants: 73.0; 
Dollars in millions[A]: FSM trust fund: 19.2; 
Dollars in millions[A]: RMI grants: 32.2; 
Dollars in millions[A]: RMI trust fund: 10.0. 

Dollars in millions[A]: Fiscal year: 2011; 
Dollars in millions[A]: FSM grants: 72.2; 
Dollars in millions[A]: FSM trust fund: 20.0; 
Dollars in millions[A]: RMI grants: 31.7; 
Dollars in millions[A]: RMI trust fund: 10.5. 

Dollars in millions[A]: Fiscal year: 2012; 
Dollars in millions[A]: FSM grants: 71.4; 
Dollars in millions[A]: FSM trust fund: 20.8; 
Dollars in millions[A]: RMI grants: 31.2; 
Dollars in millions[A]: RMI trust fund: 11.0. 

Dollars in millions[A]: Fiscal year: 2013; 
Dollars in millions[A]: FSM grants: 70.6; 
Dollars in millions[A]: FSM trust fund: 21.6; 
Dollars in millions[A]: RMI grants: 30.7; 
Dollars in millions[A]: RMI trust fund: 11.5. 

Dollars in millions[A]: Fiscal year: 2014; 
Dollars in millions[A]: FSM grants: 69.8; 
Dollars in millions[A]: FSM trust fund: 22.4; 
Dollars in millions[A]: RMI grants: 32.2[B]; 
Dollars in millions[A]: RMI trust fund: 12.0. 

Dollars in millions[A]: Fiscal year: 2015; 
Dollars in millions[A]: FSM grants: 69.0; 
Dollars in millions[A]: FSM trust fund: 23.2; 
Dollars in millions[A]: RMI grants: 31.7; 
Dollars in millions[A]: RMI trust fund: 12.5. 

Dollars in millions[A]: Fiscal year: 2016; 
Dollars in millions[A]: FSM grants: 68.2; 
Dollars in millions[A]: FSM trust fund: 24.0; 
Dollars in millions[A]: RMI grants: 31.2; 
Dollars in millions[A]: RMI trust fund: 13.0. 

Dollars in millions[A]: Fiscal year: 2017; 
Dollars in millions[A]: FSM grants: 67.4; 
Dollars in millions[A]: FSM trust fund: 24.8; 
Dollars in millions[A]: RMI grants: 30.7; 
Dollars in millions[A]: RMI trust fund: 13.5. 

Dollars in millions[A]: Fiscal year: 2018; 
Dollars in millions[A]: FSM grants: 66.6; 
Dollars in millions[A]: FSM trust fund: 25.6; 
Dollars in millions[A]: RMI grants: 30.2; 
Dollars in millions[A]: RMI trust fund: 14.0. 

Dollars in millions[A]: Fiscal year: 2019; 
Dollars in millions[A]: FSM grants: 65.8; 
Dollars in millions[A]: FSM trust fund: 26.4; 
Dollars in millions[A]: RMI grants: 29.7; 
Dollars in millions[A]: RMI trust fund: 14.5. 

Dollars in millions[A]: Fiscal year: 2020; 
Dollars in millions[A]: FSM grants: 65.0; 
Dollars in millions[A]: FSM trust fund: 27.2; 
Dollars in millions[A]: RMI grants: 29.2; 
Dollars in millions[A]: RMI trust fund: 15.0. 

Dollars in millions[A]: Fiscal year: 2021; 
Dollars in millions[A]: FSM grants: 64.2; 
Dollars in millions[A]: FSM trust fund: 28.0; 
Dollars in millions[A]: RMI grants: 28.7; 
Dollars in millions[A]: RMI trust fund: 15.5. 

Dollars in millions[A]: Fiscal year: 2022; 
Dollars in millions[A]: FSM grants: 63.4; 
Dollars in millions[A]: FSM trust fund: 28.8; 
Dollars in millions[A]: RMI grants: 28.2; 
Dollars in millions[A]: RMI trust fund: 16.0. 

Dollars in millions[A]: Fiscal year: 2023; 
Dollars in millions[A]: FSM grants: 62.6; 
Dollars in millions[A]: FSM trust fund: 29.6; 
Dollars in millions[A]: RMI grants: 27.7; 
Dollars in millions[A]: RMI trust fund: 16.5. 

Source: Compact of Free Association as Amended, Between the Government 
of the United States of America and the Government of the Federated 
States of Micronesia and the Government of the Republic of the Marshall 
Islands, P.L. 108-188. 

Note: These figures do not include funding for Kwajalein Atoll 
landowners in the RMI or the $500,000 annual audit grant that will be 
provided to both countries. 

[A] The amounts shown in table 1 will be partially adjusted for 
inflation, with fiscal year 2004 as the base year. Grant funding can be 
fully adjusted for inflation after fiscal year 2014 under certain 
economic conditions. 

[B] Beginning in 2014, an additional $2 million will be added to RMI 
annual grants to address the special needs of Kwajalein Atoll. 

[End of table] 

Including estimated inflation adjustments, total combined compact grant 
assistance to the two countries is projected at an estimated $3.6 
billion over the 20-year assistance period. However, to provide 
increasing U.S. contributions to the FSM's and the RMI's trust funds, 
grant funding will decrease annually. Assuming current population 
growth estimates from the U.S. Census Bureau, this decrease in grant 
funding will result in falling per capita grant assistance over the 
funding period and relative to the original compact (see fig. 3). 

Figure 3: Estimated FSM and RMI per Capita Compact Grant Assistance for 
Fiscal Years 1987-2023: 

[See PDF for image] 

Note: Compact grant assistance was decreased in 1991, 1996, and 2001, 
then increased in 2002 and 2003 to equal an average of the funding 
provided during the previous 15 years. Compact grant assistance under 
the amended compacts (2004 to 2024) is decreased annually. Funding for 
compact-authorized federal services, trust-fund contributions, and U.S. 
military use of Kwajalein Atoll land is not included. 

[End of figure] 

While the level of annual grant assistance to both countries decreases 
each year, contributions to trust funds--meant to provide an ongoing 
source of revenue after fiscal year 2023--increase annually by a 
comparable amount. In comparing projected trust fund revenue with the 
fiscal year 2023 grant level, we reported earlier that, under certain 
conditions, the trust fund revenue available in 2024 may be less than 
even the lower level of grant funding in 2024.[Footnote 21] For 
example, at an assumed annual 6 percent rate of return, earnings from 
the FSM's trust fund would be lower than expiring grant assistance in 
2024, while earnings from the RMI's trust fund would encounter the same 
problem by 2040.[Footnote 22] If the trust funds consistently earn a 
higher rate of return, or if additional contributions to the funds are 
provided, the probability rises that the trust funds could provide a 
sustainable income source at the level of fiscal year 2024 grants. 
However, if the trust funds experience market volatility with years 
that have negative returns, the probability that these funds would 
yield income sufficient to replace expiring grant assistance declines. 

FSM and RMI Face Key Political and Social Challenges: 

Although the FSM and the RMI are stable democracies, both countries 
face political and social challenges with regard to improving grant 
implementation and health and education conditions. U.S. and country 
officials told us that political conditions, including a weak 
federation in the FSM; disputes over public institutions' and 
government use of land on Kwajalein Atoll in the RMI; and both 
governments' lack of communication with their constituencies have 
hindered compact implementation and service delivery. At the same time, 
despite relatively high health and education expenditures, both 
countries face development challenges in these sectors. For example, 
although the Millennium Challenge Corporation (MCC)--which evaluates 
indicators with a relationship to growth and poverty reduction--ranks 
the FSM and the RMI in the top 20 percent for health expenditures 
relative to other lower-middle-income countries, it ranks both 
countries in the bottom third for a key health indicator, 
immunizations.[Footnote 23] 

Despite Stable Democratic Systems, Political Factors in the FSM and the 
RMI Challenge Compact Implementation: 

The FSM and the RMI are established democracies with free and peaceful 
elections. According to State and Interior, each democracy is stable 
despite the challenges of having hierarchical traditional structures; 
islands with scattered populations; and a citizenry of distinct 
cultures, languages, and histories. Each country also has a vocal civil 
society evidenced by religious organizations and nongovernmental 
organizations (NGO) that have been active on some political issues. 
Internationally, both countries also participate in various regional 
organizations, many of which address trade, energy, and environmental 
challenges faced by island nations. For example, the FSM and the RMI 
are members of the Forum Fisheries Agency--which promotes sustainable 
management of fisheries in the Pacific--and the South Pacific Applied 
Geoscience Commission, which promotes sustainable development of 
offshore resources for member countries. 

Despite the two countries' stable democratic systems, interviews with 
U.S., FSM, and RMI officials and civil society representatives 
indicated that key aspects of the FSM's and the RMI's political 
environments hinder effective compact grant implementation. 

* Lack of government consensus. State and Interior officials reported 
that the FSM's weak federal structure inhibits compact grant 
implementation. Because each state has its own constitution and 
authority over budgetary policies, the central government that is 
represented on JEMCO does not control the majority of compact funds and 
have been unable to secure agreement from the state governments 
regarding compact needs.[Footnote 24] As a result, FSM access to the 
compact infrastructure grant, for example, has been delayed for more 
than 2 years owing to national and state disagreements over 
infrastructure priorities. Similarly, the RMI government and landowners 
on Kwajalein Atoll have been disputing government use of leased land 
and management of public entities on the atoll. Such tensions have 
negatively affected the construction of schools funded by compact 
grants and the management of the Kwajalein utility company and the 
Kwajalein development authority, two entities that also receive compact 
funds.[Footnote 25] 

* Lack of government communication. Interviews with U.S., FSM and RMI 
departmental officials, private sector representatives, NGOs, and 
external economic experts revealed a lack of communication and 
dissemination of information by each government on wide-ranging issues, 
including JEMCO and JEMFAC decisions, departmental budgets, economic 
reforms, legislative decisions, fiscal positions of public enterprises, 
and economic statistics. Additionally, private sector representatives 
in several FSM states reported that the public radio station serves as 
the government's primary means of disseminating information but is 
often nonoperational or censored--a complaint confirmed by the U.S. 
State Department's 2004 Report on Human Rights Practices in the FSM. In 
the RMI, a State official and an official from the RMI Council of NGO's 
reported that the government had been criticized--most strongly by 
environmental NGO's and a leading women's NGO (Women United Together 
Marshall Islands)--for not holding public hearings or disseminating 
sufficient information regarding a proposed dry dock.[Footnote 26] 
According to the World Bank, Transparency International, and other 
development experts, lack of information about government activities 
creates uncertainty for public, private, and community leaders, which 
can inhibit grant performance and improvement of social and economic 
conditions. 

Despite High Expenditures, Both Countries Remain Challenged in 
Improving Health and Education Conditions: 

Although FSM and RMI health and education expenditures are relatively 
high, certain conditions in both countries' health and education 
sectors are poor. According to the World Bank, among 171 countries for 
which it reports aid per capita, the RMI and the FSM ranked 5th and 6th 
highest, respectively, with per capita aid greater than $900 in 
2003.[Footnote 27] Much of this aid is directed toward health and 
education.[Footnote 28] MCC provides economic assistance to developing 
countries, with eligibility determined partially by evaluating a 
country's performance--relative to other countries within its income 
group--on select indicators associated with economic growth and poverty 
reduction. MCC ranks the FSM in the top 35 percent (in the 81st and 
67th percentile, respectively) for expenditures on health and primary 
education, and it ranks the RMI in the top 1 percent for both 
indicators, relative to other lower-middle income countries that 
qualify for MCC assistance. However, for another health-related 
indicator--immunizations--MCC ranks both countries in the bottom third: 
the FSM in the 33rd percentile and the RMI in the 13th 
percentile.[Footnote 29] According to the World Bank's World 
Development Indicators (WDI), the FSM also performs relatively poorly 
in provision of safe water or sanitation--a service necessary for 
improved health outcomes. According to WDI, only 28 percent of FSM 
citizens have access to improved sanitation, compared with an average 
of 57 percent in all lower-middle income countries. In the RMI, the 
1999 census suggests that 85 percent of the population has access to 
safe water, although the RMI 2003 statistical yearbook reports that 
recent tests in urban and rural areas indicate that a significant 
number of potable water sources, such as groundwater wells and water 
catchments--30 percent or more in some cases--are contaminated and 
deemed unsafe for human consumption. (For further information on 
socioeconomic conditions in the FSM and the RMI, particularly in 
relation to regional averages, refer to app. II.) 

Country studies and health and education officials in the FSM and the 
RMI also highlight other challenges--for example, the increasing 
prevalence of lifestyle diseases such as diabetes or hypertension; 
youth health issues; and poor teaching skills. According to the FSM 
Department of Health, 80 percent of 35 to 64 year-olds are overweight, 
and the number of cases involving diabetes, hypertension, heart 
disease, and cancer increased in the late nineties. Likewise, the RMI 
Ministry of Health reports that diabetes figured as the leading cause 
of adult morbidity in 2000 and 2001. Although the RMI has made progress 
in reducing overseas referrals since 2001, the rising prevalence of 
lifestyle diseases poses challenges for delivery of health services in 
both nations. The care and treatment of such diseases often involves 
expensive referrals abroad, lowered funding for public health programs 
that serve impoverished populations, and burdens on household and 
national budgets. Future health outlays will also be affected by health 
challenges facing FSM and RMI youths.[Footnote 30] FSM and RMI health 
officials indicated concern about growing youth problems such as 
suicides, sexually transmitted diseases, and teen pregnancy. With 
regard to teacher qualifications, the FSM Department of Education 
reports that 90 percent of teachers need to upgrade skills to meet new 
certification standards (a bachelor's degree with courses in child 
development). In the RMI, a 2004 Ministry of Education assessment 
reported that more than 50 percent of teachers had failed basic English 
literacy tests.[Footnote 31] 

FSM and RMI Economies Show Limited Potential for Self-reliance and Long-
term Advancement: 

In the past 2 years, the FSM and the RMI economies have performed 
modestly and have been characterized by continued dependence on 
external assistance, suggesting limited prospects for achieving 
development goals of budgetary self-reliance and long-term economic 
advancement. Private sector employment has largely stagnated in both 
countries, whereas public sector expenditures continue to account for 
almost two-thirds of GDP. Despite the amended compacts' structure of 
declining grant assistance, the FSM and the RMI public sectors have 
grown while tax revenues remain relatively small. Unless each nation 
can secure other donor assistance, maintenance of living standards over 
the long term will likely require private sector expansion or increased 
remittances.[Footnote 32] The FSM and the RMI private sectors face 
significant constraints to growth, however, and FSM and RMI emigrants' 
current lack of marketable skills is a hurdle to increased remittance 
revenue. Although the amended compacts' fiscal procedures agreements 
require JEMCO and JEMFAC to monitor FSM and RMI progress toward 
budgetary self-reliance and long-term economic advancement, neither 
organization has discussed these issues at its annual meeting or 
defined what actions they will undertake to meet this requirement. 

FSM and RMI Economies Depend on Government Spending of Foreign 
Assistance Instead of Private Sector Production: 

As in the original compact period, FSM and RMI economic conditions in 
2004 and 2005 were characterized by dependence on foreign assistance. 
In the FSM, 2004 and 2005 GDP fell owing to compact delays and a lower 
level of assistance relative to 2003.[Footnote 33] For the RMI, the IMF 
estimates that GDP expanded moderately owing to increased public sector 
expenditure (see fig. 4).[Footnote 34] While the RMI also experienced 
compact delays in 2004, RMI public expenditure increased in both 2004 
and 2005, reflecting expected compact funding at levels roughly 
equivalent to fiscal years 2002 and 2003, when compact funds were 
temporarily increased. Both countries' 2005 public sector expenditure-
-about two-thirds of which is funded by external grants--remained at 
about 60 percent of GDP. 

Figure 4: FSM and RMI External Grants and Estimated Real GDP: 

[See PDF for image] 

[End of figure] 

In both the FSM and the RMI, however, private sector activity has 
remained relatively stagnant and exists largely to provide services to 
the public sector. Since 2000, the estimated private sector share of 
GDP has fallen in both countries and only Pohnpei state in the FSM has 
had modest growth in private sector employment, principally in 
wholesale and retail operations.[Footnote 35] Institutions such as the 
IMF and the ADB characterize the private sector in both the FSM and the 
RMI as isolated from international opportunities, given each economy's 
high dependence on imports and negligible foreign investment.[Footnote 
36] 

FSM and RMI Will Likely Face Significant Budgetary Pressure with 
Declining Compact Assistance. 

Given the recent performance and structure of FSM and RMI government 
budgets, both nations are likely to face significant budgetary pressure 
as compact grants decline through 2023. Apart from 2002 and 2003, when 
compact assistance was temporarily increased, FSM national and state 
budgets have varied widely from year to year; however, each has had 
recent budget deficits. RMI government finance statistics reported by 
the IMF suggest that the RMI fiscal balance deteriorated after 2003 as 
well, with an estimated deficit equivalent to 2 percent of GDP in 2005. 
Economic experts emphasize that, structurally, both country's budgets 
are characterized by a small local revenue base and recent increases in 
government payroll. As a result, unless other donors provide additional 
assistance, expenditure reductions will be required as compact grants 
decline.[Footnote 37] 

* FSM budget structure. Although tax revenue in the FSM increased 
slightly in 2005, the FSM tax base is small and the growing wage bill 
is high relative to regional standards. In 2005, FSM taxes provided an 
estimated $29 million in revenue, or 23 percent of total revenue 
(compared with an average of 17 percent from 2000 to 2004).[Footnote 
38] In addition, the FSM government receives fishing access fees from 
foreign vessels that fish in its exclusive economic zone. However, the 
largest income source is external grants, which, at $76 million, 
accounted for 60 percent of revenues in 2005 (see fig. 5). In terms of 
expenditure, the largest FSM expenditure component is public sector 
wages and salaries at an estimated $60 million.[Footnote 39] This 
component grew from 36 percent of total expenditures in 2000 to 2004 to 
42 percent of total expenditures in 2005.[Footnote 40] 

Figure 5: Structure of FSM Revenues and Expenditures, Fiscal Years 2000-
2005: 

[See PDF for image] 

Note: Transfers include subsidies and represent payments for which no 
goods or services are received. "Other" revenues comprise dividend and 
interest income, service charges, and fees. "Other" expenditures 
consist primarily of current expenditures on goods and services. 

[End of figure] 

* RMI budget structure. As a percentage of total revenue, the RMI's tax 
base is slightly larger than the FSM's. As a percentage of total 
expenditure, the RMI's public sector wage bill is also relatively 
smaller, although its wage bill increases have exceeded the FSM's. 
Taxes in the RMI provide about $22 million in revenue to the 
government, or roughly 26 percent of total revenues (see fig. 6). The 
RMI also receives fishing access fees. At 64 percent of total revenues, 
external grants are the largest income component, providing $54 million 
in 2005. The structure of RMI revenues remained roughly the same over 
the past 5 years. However, RMI payroll expenditures increased. In 2005, 
the RMI's wage bill comprised 34 percent of total expenditures, 
compared with the 2000 to 2004 wage bill of 31 percent. In actual 
value, the RMI's wage bill increased from around $17 million in 2000 to 
around $30 million in 2005. 

Figure 6: Structure of RMI Revenues and Expenditures, Fiscal Years 2000-
2005: 

[See PDF for image] 

Note: Transfers include subsidies and represent payments for which no 
goods or services are received. "Other" revenues are comprised of 
dividend and interest income, service charges, and fees. "Other" 
expenditures are comprised primarily of current expenditures on goods 
and services. 

[End of figure] 

In addition to receiving compact grant assistance, the FSM and the RMI 
receive substantial U.S. program assistance from agencies such as the 
U.S. Departments of Agriculture, Education, and Health and Human 
Services. The RMI also receives large grants from Japan and Taiwan and 
the FSM receives large grants from Japan (see table 2) and reports 
having received grants from China. As compact grants decline through 
2023, government fiscal balances and GDP could be supported, at least 
partially, by increased noncompact assistance. However, such increases 
in assistance are not guaranteed, may vary from year to year, and may 
not be flexible enough to meet FSM and RMI budget needs.[Footnote 41] 

Table 2: Estimated Levels of Economic Assistance by Major Donors to the 
FSM and the RMI, Average from Fiscal Years 2002 to 2004: 

U.S. dollars in millions: FSM; 
U.S. dollars in millions: Compact grants: $83[B]; 
U.S. dollars in millions: U.S. programs[A]: $45; 
U.S. dollars in millions: Japan: $8; 
U.S. dollars in millions: Taiwan: n/a. 

U.S. dollars in millions: RMI; 
U.S. dollars in millions: Compact grants: 29[B]; 
U.S. dollars in millions: U.S. programs[A]: 20; 
U.S. dollars in millions: Japan: 5; 
U.S. dollars in millions: Taiwan: $10. 

Source: The U.S. Department of the Interior, FSM and RMI government 
finance statistics, the IMF, and the Organization for Economic 
Cooperation and Development (OECD). 

Note: Some of the noncompact assistance, such as development assistance 
from Japan, is not included in FSM and RMI government budgets as grant 
assistance. In addition, China provides assistance to the FSM, although 
we were unable to determine the estimated amount. 

[A] These figures do not include occasional emergency assistance 
provided by Federal Emergency Management Agency. 

[B] The FSM and the RMI received less compact grant assistance than the 
amended compact provides, owing to delays in compact grant 
implementation. 

[End of table] 

Tax reform may provide opportunities for increasing annual government 
revenue in the FSM and the RMI. For example, business tax schemes in 
both nations are considered to be inefficient by the IMF, the ADB, and 
other economic experts owing to a poor incentive structure and weak tax 
collection. Various expert and country studies have concluded that 
substantial tax reform could bring revenue growth by broadening the tax 
base, altering the structure to be more equitable and business 
friendly, and improving administration.[Footnote 42] However, although 
the FSM and the RMI governments have made some improvement in tax 
administration, tax revenues have largely stagnated. Revenue potential 
from further tax reform will also vary by government (national and 
state) and will require factors such as a sound design; adequate 
resources and capacity for tax enforcement; government commitment for 
reform; and, ultimately, private sector growth. 

Key FSM and RMI Industries Face Multiple Constraints to Growth: 

FSM and RMI development plans identify fishing and tourism as key 
potential growth industries. However, in both nations, fishing 
enterprises have shown poor performance, and the number of tourists has 
been small relative to other Pacific islands.[Footnote 43] In the FSM, 
the fisheries and tourism sectors together provide about 6 percent of 
employment; commercial fishing has been plagued by poor government 
investments in vessels and infrastructure that have resulted in high 
debt levels, according to ADB experts; and visitor arrivals have 
remained flat over the past 10 years despite growth in Pacific island 
tourism. In the RMI, the fisheries and tourism sectors together provide 
less than 5 percent of employment; commercial fishing within the RMI's 
exclusive economic zone has been declining, and although visitor 
arrivals have increased modestly, they remain small in number relative 
to other Pacific island nations.[Footnote 44] Economic experts suggest 
that the FSM and the RMI fishing and tourism industries could grow 
within specialized niche markets such as high-end tourism or dock 
services. Such opportunities remain limited in scale, however, and the 
IMF, the ADB and other economic experts suggest that growth in these 
industries in both countries may be limited by current structural 
barriers such as the following: 

* geographic isolation and small fragmented markets; 

* high airfares and poor flight connections; 

* lack of adequate hotel and airport infrastructure; 

* low freight capacities and poor interisland shipping; 

* inadequate transshipment facilities in some areas; 

* a growing threat of overfishing; 

* limited pool of skilled labor; 
and: 

* high production costs in terms of labor, fuel, and other supplies. 

In addition to facing structural barriers to growth, private industry 
in general faces a costly business environment in both the FSM and the 
RMI according to economic experts and U.S. and country officials. In 
interviews, private sector representatives also expressed concern with 
poor government provision of power, water, and infrastructure services 
and government failures to pay bills owed to the private sector for 
services rendered--a complaint confirmed by several government 
officials including those from the Chuuk State legislature, the RMI 
Ministry of Resources and Development, and the FSM Department of 
Economic Affairs (see app. III for further information). 

Prospects for Increased Remittance Income to the FSM and RMI Require 
More Skilled Migrants: 

FSM and RMI emigrants could provide increasing monetary support to 
their home nations in the future, although evidence suggests that they 
are currently limited in their income-earning opportunities abroad. 
World Bank data show that remittances, or the personal funds that the 
foreign born voluntarily send to their home countries, have become an 
important source of financial flows to developing countries--in some 
cases exceeding official development assistance and foreign direct 
investment.[Footnote 45] For the FSM and the RMI, many citizens have 
taken advantage of U.S. migration rights established by the original 
compact and extended by the amended compacts.[Footnote 46] As of 2005, 
RMI data suggest that about 15,000 Marshallese have immigrated to the 
United States. FSM data suggests that almost twice as many Micronesians 
live overseas.[Footnote 47] However, the current level of remittance 
income provided by these emigrants is unknown. In the RMI, the 2002 
household survey suggests that RMI citizens send more money out to RMI 
emigrants than they receive in remittances, owing to the emigrants' 
lack of high-paying jobs and inability to afford repatriation of funds. 
Our previous work has shown that RMI and FSM emigrant populations have 
limited income-earning opportunities abroad, largely because of 
inadequate education and vocational skills.[Footnote 48] The 2003 U.S. 
census of FSM and RMI migrants in Hawaii, Guam, and the Commonwealth of 
the Northern Marianas Islands (CNMI) confirms this characterization, 
showing that almost half of the emigrants live below the poverty line 
(see table 3).[Footnote 49] Nonetheless, economic experts emphasize 
that with an upgrading of skills, the FSM's and the RMI's free access 
and strong historical links to the U.S. market create potential for the 
two nations to achieve an expansion in remittance income that could 
contribute to long-term economic advancement.[Footnote 50] 

Table 3: FSM and RMI Emigrants in Hawaii, Guam, and the CNMI, 2003: 

Population; 
FSM: 17,286; 
RMI: 3,304. 

Percentage that migrated for employment (includes dependents); 
FSM: 47; 
RMI: 25. 

Percentage of labor-force participants that were unemployed; 
FSM: 21; 
RMI: 18. 

Percentage of persons 25 years and older with college degree; 
FSM: 6; 
RMI: 7. 

Percentage of individuals with income below poverty level; 
FSM: 45; 
RMI: 49. 

Source: U.S. Census Bureau. 

[End of table] 

Compact Management Committees Have Not Discussed Progress toward Self- 
reliance and Long-term Advancement: 

To date, JEMCO and JEMFAC have not discussed FSM and RMI progress 
toward budgetary self-reliance and long-term economic advancement or 
the role for compact grants in attaining these development goals. FSM 
and the RMI development plans specify the objectives of increased 
private sector development, strengthened education and training, and 
improved public sector management as means of achieving the goals of 
budgetary self-reliance and long-term economic growth. The amended 
compacts' fiscal procedures agreements requires the JEMCO and JEMFAC to 
monitor FSM and RMI progress toward their long-term development 
objectives, however the oversight committees have not defined what 
actions they will undertake to meet this requirement.[Footnote 51] At 
the fiscal year 2004 and 2005 annual JEMCO and JEMFAC meetings, as well 
as at a March 2006 JEMCO meeting, compact management committees focused 
on approving sector grants and discussing grant administration issues. 
For example, to approve the FSM health and education sector grants, 
JEMCO has required supplementary information on health insurance 
programs and that a certain amount of the FSM's education grant is 
spent on textbooks. The JEMCO meetings have not included discussion of 
FSM progress toward its long-term development goals. At the 2005 JEMFAC 
meeting, the RMI government provided a brief overview of GDP and 
employment data, yet the presenting official reported that there was no 
meaningful JEMFAC discussion of RMI long-term growth issues resulting 
from the presentation. For example, while the RMI government presented 
data on migration to the United States, JEMFAC did not discuss the 
linkage between compact education spending and improving RMI emigrant's 
skills to encourage increased remittance income over the long-term. 
Through agency comments, HHS emphasized that an annualized schedule for 
committee meetings does not provide enough frequency for addressing 
both grant administration issues and long-term growth issues, 
particularly given the relative lack of communication between JEMCO and 
JEMFAC members in between meetings. HHS suggested that communication be 
improved through periodic teleconference and videoconference updates. 

FSM and RMI Progress on Key Economic Policy Reforms Has Been Slow: 

FSM and RMI officials report that they have implemented a few 
legislation actions to improve the private sector environment, such as 
bankruptcy and mortgage laws, yet progress on key policy reforms 
required to stimulate investment has been slow. According to FSM and 
RMI private sector representatives as well as various U.S., IMF, ADB, 
and country reports, an enabling business environment in either country 
requires substantial reforms in taxes, land ownership, and foreign 
investment regulations as well as a reduction in public sector 
competition with the private sector. Despite several years of policy 
dialogue on taxes, the FSM has agreed on elements of tax reform but has 
no plan for implementation and the RMI has not agreed on structural 
change to its tax system. In attempts to modernize complex, traditional 
land tenure systems, land registration offices have been established in 
both countries; however, in both countries, inadequate access to land 
and uncertainties over land ownership and land values continue to 
create costly disputes, disincentives for investment, and problems 
regarding the use of land as an asset. Further, despite amendments to 
foreign investment regulations, the regulations in both countries 
continue to be confusing and relatively burdensome, according to 
economic experts and private sector representatives. Finally, several 
years of public sector reform efforts have also failed to reduce 
government involvement in private sector activities. Thus far, the 
JEMCO and JEMFAC committees have not evaluated the lack of FSM and RMI 
progress in implementing economic reforms to stimulate investment and 
improve tax income, identified problems encountered or recommended ways 
to improve assistance for these objectives. 

FSM and RMI Have Implemented Some Legislative Reforms: 

Both the FSM and the RMI identified the need for economic reform within 
their national development plans, and both countries have implemented 
or are pursuing some legislative actions. For example, FSM officials 
report that newly enacted legislation, although varying by state and 
national government, include laws for bankruptcy, mortgages, long-term 
leases, and secured transactions to allow movable assets to serve as 
collateral. Some governments have also tried to improve foreign 
investment processes or created small business development centers. 

To create continued and strengthened demand for reform, the ADB has 
also recently assisted both countries in holding several "Dialogue for 
Action" retreats that enable public and private sector representatives 
to develop a common vision for sustainable development through economic 
reform. Our interviews with ADB and country participants suggested that 
these retreats can be helpful for improving the public sector/private 
sector dialogue on economic challenges facing each society. However, 
ADB experts also emphasized that, in developing country commitment to 
reform, the FSM and the RMI will need to overcome the "aid curse"--or 
the distorted incentives for effective public sector management 
through, e.g., public sector downsizing, which result from dependency 
on large external aid flows.[Footnote 52] 

Key Policy Reforms to Stimulate Investment Have Not Been Implemented: 

Despite several years of commitment to, and recommendations for, policy 
reforms to stimulate investment in the FSM and the RMI, key reforms 
have not yet been implemented. According to FSM and RMI private sector 
representatives and a number of economic and country experts, policy 
reforms are needed in the areas of tax, land, foreign investment, and 
the public sector to improve business incentives and create an enabling 
environment for domestic and foreign investment. 

Tax Reform: 

Tax structures in the FSM and the RMI remain complex and unequal and 
engender business disincentives. 

* The FSM tax system has been criticized by economic experts, the FSM 
government, and the FSM private sector for (1) multiple taxation of the 
same products (2) weak administrative collection, audit, and 
enforcement capacity (3) taxation on a gross rather than net 
basis,[Footnote 53] and (4) duplicative national and state tax 
administrations. Since 1994, the IMF and other experts have 
recommended, among other tax reforms, implementing a value-added tax 
(VAT), a simplified net profit tax, and a single modernized independent 
tax authority. In 2005, the FSM Task Force on Tax Reform developed a 
tax reform proposal, endorsed by the FSM President, that included these 
principles. Nonetheless, despite the fact that such reforms are 
estimated to require 2 to 3 years for implementation, the FSM 
government has neither begun to implement the proposal nor specified an 
implementation plan.[Footnote 54] Although the FSM government has made 
some efforts to improve tax administration, actions by existing tax 
authorities in the national government and each state government 
continue to exhibit duplication and inefficiency. 

* The RMI government and economic experts have recognized for several 
years that the RMI tax system is complex and regressive, taxing on a 
gross rather than net basis and having weak collection and 
administration capacity. The RMI stated in its comments to this report 
that their private sector representatives' most common complaint on the 
RMI tax system is the need for better and tighter enforcement. The RMI 
Office of Tax and Revenue reported that it has focused on improving tax 
administration and has raised some penalties and tax levels. However, 
legislation for income tax reform has failed and needed changes in 
government import tax exemptions have not yet been addressed. 

Land Reform: 

Inadequate access to land and uncertainties over land ownership and 
land values continue to create costly land disputes, disincentives for 
investment, and problems regarding the use of land as an asset in both 
the FSM and the RMI. 

* Land tenure systems in each nation are complex and based on 
traditional and customary rights, often for multiple individuals, such 
that most parcels do not have a registered, legal title. Our interviews 
with FSM and RMI officials and private sector representatives suggested 
that costly boundary disputes are common. 

* Land values are also uncertain owing to the lack of a developed land 
market or price data on lease transactions, such that banks are unable 
to effectively conduct mortgage secured lending. Given that a major 
proportion of FSM and RMI wealth lies in property, the inability to use 
it to secure financing for development is problematic. 

* Using land for foreign investment in the FSM and the RMI is even more 
difficult. Economic experts report that foreigners are prohibited from 
owning land in both nations and are also unable to secure a valid lease 
when land values or ownership is uncertain.[Footnote 55] 

Land reform issues have been discussed in the FSM and the RMI for 
several years, and land registration offices have been established. 
However, such offices have lacked a systematic method for registering 
parcels, instead waiting for landowners to voluntarily initiate the 
process. Both the FSM and the RMI land registration offices reported 
that landowners have shown little interest in land registration, partly 
owing to the cultural issues associated with traditional land ownership 
structures. In the RMI, for example, only 5 parcels have been, or are 
currently being, registered by the land registration office. The 
functionality of land registration offices in both the FSM and the RMI 
has also been limited by a lack of registered surveyors and trained 
staff. 

Foreign Investment Regulations: 

Although the FSM and the RMI have amended various aspects of their 
foreign investment laws to streamline the process, the overall climate 
for foreign investment remains complex and nontransparent, according to 
economic experts and private sector representatives. In the FSM, 
experts report that foreign investment regulations vary between states, 
creating confusion and additional requirements for investors who want 
to invest in several states. In both the FSM and the RMI, foreign 
investment regulations remain relatively burdensome, with reported 
administrative delays and difficulties in obtaining permits for foreign 
workers. According to an Interior official, a shipping company with 
service from the U.S. West Coast to Guam has for years been seeking 
permission to provide shipping service to the FSM and the RMI but has 
consistently been refused entry by those nations. The climate for 
foreign investment is also reportedly affected by private and public 
interests' protecting local businesses from foreign competition. For 
example, experts report that foreign investment is restricted from some 
industries in both the FSM and the RMI, and some FSM states require a 
certain percentage of local ownership in foreign investment. Pohnpei 
state, for instance, requires 30 percent local ownership for foreign 
investment and prohibits foreign activity in retail, according to its 
Foreign Investment Board. Interviews with country officials, private 
sector representatives, and an ADB expert also suggest that local 
businesses sometimes lobby the foreign investment boards against 
approval of certain applications. 

Public Sector Reform: 

Extensive FSM and RMI government involvement in commercial activities 
continues to hinder private sector development, owing to high public 
sector wages and government enterprises that directly compete with 
private industry. The FSM's and the RMI's public sector reform efforts 
since the 1990s have been based on restructuring government operations 
to (1) reduce the size and cost of the civil service, (2) reduce 
government involvement in market-oriented enterprises that could be 
more efficiently operated by the private sector, and (3) improve 
government provision of critical support services. One example of a 
reform success highlighted by economic experts is the RMI's 
restructuring of its Social Security Administration to reduce operating 
costs and improve service provision.[Footnote 56] However, despite 
government endorsement of public sector reform principles, early 
efforts to reduce public sector employment have generally failed in 
both the FSM and the RMI, and the share of public sector employment has 
increased over the past few years. FSM and RMI public sector wages also 
remain about twice the level of private sector wages, contributing to 
the large government wage bill and effectively drawing the most skilled 
employees out of the private sector into public sector jobs. In 
addition, the FSM and the RMI governments continue to conduct a wide 
array of commercial enterprises that compete with private enterprises, 
although the share of employment accounted for by these enterprises, as 
well as estimated direct public enterprise subsidies, has declined in 
recent years (see table 4). 

Table 4: FSM and RMI Government Commercial Enterprises: 

Share of employment 1997-2002 average 2003-2005 average[A]; 
FSM enterprises: 6.2% 5.2%; 
RMI enterprises: 7.4% 7.0%. 

Annual direct subsidies 1997-2002 average 2003-2005 average[A]; 
FSM enterprises: $4.3 million $1.9 million; 
RMI enterprises: $2.4 million $1.8 million. 

Estimated number of existing enterprises[B]; 
FSM enterprises: 45; 
RMI enterprises: 16. 

Examples of existing enterprises with financial losses or receiving 
subsidies[C]; 
FSM enterprises: Micronesian Petroleum Corporation (2001 subsidy = 
$500,000); 
RMI enterprises: Copra Production Scheme (2004 subsidy = $900,000). 

FSM enterprises:: Pohnpei Fisheries Corporation (2003 loss = $517,000); 
RMI enterprises:: Marshalls Energy Company (2004 loss = $2 million). 

FSM enterprises:: Kosrae Utility Authority (2004 loss = $427,000); 
RMI enterprises:: National Telecom Authority (2004 loss = $980,000). 

FSM enterprises: FSM enterprises: Chuuk Public Utilities Corporation 
(2001 loss = $1 million); 
RMI enterprises: RMI enterprises: Majuro Water and Sewer Company (2004 
subsidy = $100,000). 

Source: GAO analysis of FSM and RMI government finance statistics and 
government audit data. 

[A] RMI data are available only through 2004. 

[B] The FSM estimate is from a 2001 report on public enterprise reform 
prepared for the ADB by the Aires Group Ltd., in association with 
Deloitte & Touche. The list represents entities either fully owned or 
jointly owned by the state or national governments in 2000. The RMI 
estimate is derived from the 2004 RMI Statistical Yearbook. 

[C] Financial losses represent expenditures minus revenues or the net 
change in assets. Economic experts highlighted several public 
enterprises with large financial losses (such as the FSM National 
Fisheries Corporation and Air Marshall Islands). These examples are not 
included in the table because their audit reports were qualified or 
contained material weaknesses. 

[End of table] 

Nonetheless, IMF and ADB officials expressed concern that the FSM and 
the RMI governments are not committed to reducing their participation 
in commercial activities, despite the fact that most of the enterprises 
have drained public finances through poor financial performance, 
requiring subsidization or entailing debt (see examples in table 4). In 
conjunction with the ADB, the FSM prepared a comprehensive program for 
public sector enterprise reform in 1999 that identified two enterprises 
per state and national government for privatization (such 
privatizations later became a condition for receiving ADB loan 
assistance) and entailed plans for the creation of a Public Sector 
Enterprise Unit.[Footnote 57] This unit has not yet been fully staffed, 
and the ADB loan requirement was reduced to one enterprise per state 
and national government, a condition that has not yet been met. The RMI 
has yet to prepare a comprehensive policy for public enterprise reform. 
Our interviews with economic experts and FSM and RMI officials 
suggested that although they plan to privatize some public enterprises, 
they intend to expand others. 

Compact Management Committees Have Not Addressed Slow FSM and RMI 
Progress in Implementing Reforms: 

To date, JEMCO and JEMFAC have not addressed the lack of FSM and RMI 
progress in implementing reforms that their development plans specify 
are needed to stimulate investment and improve tax income. Different 
from the original compact, the legislation implementing the amended 
compacts specifically directs the JEMCO and JEMFAC to address FSM and 
RMI policy reforms by (1) evaluating progress in implementing these 
policy reforms, (2) identifying problems encountered, and (3) 
recommending ways to increase the effectiveness of U.S. 
assistance.[Footnote 58] In the 2004 and 2005 JEMCO and JEMFAC 
meetings, as well as in a 2006 JEMCO meeting, compact management 
committees focused on grant approval and administration and did not 
address the status of reforms or include discussions of how compact 
grant assistance could be leveraged to improve the policy environment 
for private sector growth and investment.[Footnote 59] Specifically, 
compact management committees did not discuss the lack of FSM and RMI 
progress in tax, land, foreign investment, or public sector reform; 
factors that contributed to this lack of progress; or the 
interdependence of policy reform implementation with effective compact 
grant implementation. Opportunities exist to create linkages between 
grant administration and economic reforms. For example, sector grants 
in public sector capacity building could be used to address capacity 
constraints that have been identified as an obstacle to reform 
implementation (e.g., the lack of certified land surveyors for land 
reform). Further, compact management committees could establish 
linkages between, for example, grants to tourism promotion agencies and 
progress in reforming foreign investment regulations to improve the 
private sector environment for investment or grants to private sector 
development offices and progress in reforming public enterprises that 
compete with private industry. 

Conclusions: 

The FSM and the RMI face notable challenges to achieving budgetary self-
reliance and long-term economic advancement, given their current health 
and education hardships; dependence on grant assistance; and need to 
effect reforms that are often politically, culturally, and technically 
difficult to implement. Tax, land, foreign investment regulation and 
public-sector reforms, when implemented, will improve the business 
environment, in turn facilitating the private sector expansion that may 
help the countries advance their compact goals. However, even with the 
needed reforms, growth in the FSM's and the RMI's private sectors may 
be limited by structural constraints such as geographic isolation and 
high transport costs. As a result, the FSM and the RMI may need to 
expand economic activities beyond their borders-- including, as some 
experts suggest, expanding remittance income by equipping emigrants 
with better skills and, therefore, stronger income- earning 
opportunities abroad. 

Because the amended compacts have been in place for only a few years, 
it is difficult to determine whether the assistance they provide will 
contribute to the fundamental changes in FSM and RMI economic 
structures and institutions necessary to achieve budgetary self- 
reliance and economic advancement. Expanding FSM and RMI private sector 
activity and remittance income will require effective compact grant 
implementation, just as successful compact grant implementation will 
require FSM and RMI commitment to policy reform. The scheduled coming 
reductions in U.S. grants to both countries create urgency for the 
implementation of policy reforms if they require fiscal resources and 
for capitalizing on opportunities to leverage compact assistance to 
improve social and economic conditions through reform. 

Recommendations: 

To maximize FSM and RMI potential for budgetary self-reliance and long- 
term economic advancement, we recommend that the Secretary of the 
Interior direct the Deputy Assistant Secretary for Insular Affairs, as 
Chairman of JEMCO and JEMFAC, to ensure--in coordination with other 
U.S. agencies participating in these committees--that they fulfill 
their requirements in the following three areas: 

* evaluate FSM and RMI progress in implementing policy reforms needed 
to improve the business environment and encourage increased investment 
and tax income, 

* identify problems encountered with policy reform implementation, and: 

* recommend ways to improve U.S. assistance for these objectives. 

Agency Comments: 

We received comments from the Departments of the Interior and HHS, as 
well as from the FSM and the RMI. A more detailed presentation and 
response to the comments can be found in appendixes IV through VII. We 
also received technical comments from Interior, State, Treasury, HHS 
and the RMI. We incorporated technical comments into our report, as 
appropriate. 

The Department of Interior concurred with our recommendation and stated 
that it is pursuing additional information on the FSM and the RMI 
economies to support its implementation of the recommendation. The RMI 
advocated for JEMFAC support in policy reform implementation and 
emphasized that public sector reforms are particularly vital. HHS also 
agreed with our recommendation and requested that it be expanded to 
include JEMCO and JEMFAC requirements for establishing timelines for 
policy reform implementation. While establishing timelines is not a 
requirement under the amended compact or its subsidiary agreements, we 
encourage the JEMCO and JEMFAC to consider this idea as one method to 
improve U.S. assistance in support of an improved FSM and RMI 
environment for investment and tax income. Further, Interior, HHS, and 
the FSM emphasized that the JEMCO and JEMFAC have thus far focused 
their attention on accountability issues and problems that have arisen 
within the various sector grants. HHS suggested that, in order to 
ensure the JEMCO and JEMFAC can address all pertinent short-term and 
long-term issues, mechanisms to improve communication and information 
between annual meetings--such as periodic teleconferences and 
videoconferences--should be pursued. The FSM viewed the report as a 
potentially constructive contribution to ongoing efforts to pursue 
budgetary self-reliance and economic advancement, yet disagreed with 
our conclusion that FSM development prospects remain limited. 

In addition to providing copies of this report to your offices, we will 
send copies of this report to other appropriate committees. We will 
also provide copies to the Secretaries of the Interior, State, and 
Health and Human Services, as well as the President of the Federated 
States of Micronesia and the President of the Republic of the Marshall 
Islands. We will make copies available to other interested parties upon 
request. 

If you or your staff have any questions regarding this report, please 
contact me at (202) 512-3149 or gootnickd@gao.gov. Contact points for 
our Offices of Congressional Relations and Public Affairs may be found 
on the last page of this report. GAO staff who made major contributions 
to this report are listed in appendix VIII. 

Signed by: 

David Gootnick: 
Director, International Affairs and Trade: 

List of Committees: 

The Honorable Pete V. Domenici: 
Chairman: 
The Honorable Jeff Bingaman: 
Ranking Minority Member: 
Committee on Energy and Natural Resources: 
United States Senate: 

The Honorable Richard G. Lugar: 
Chairman: 
The Honorable Joseph R. Biden, Jr. 
Ranking Minority Member: 
Committee on Foreign Relations: 
United States Senate: 

The Honorable Richard W. Pombo: 
Chairman: 
The Honorable Nick J. Rahall, II: 
Ranking Minority Member: 
Committee on Resources: 
House of Representatives: 

The Honorable Henry J. Hyde: 
Chairman: 
The Honorable Tom Lantos: 
Ranking Minority Member: 
Committee on International Relations: 
House of Representatives: 

[End of section] 

Appendix I: Objectives, Scope, and Methodology: 

The amended compacts implementing legislation requires that we report 
on political, social, and economic conditions in the Federated States 
of Micronesia (FSM) and the Republic of the Marshall Islands (RMI) as 
well as the use and oversight of U.S. assistance to those nations. In 
compliance with the legislation's requirement, this report[Footnote 60] 
examines each country's (1) political and social environment for 
compact grant implementation; (2) economic conditions, including 
overall growth, fiscal balances, and private investment; and (3) status 
of economic policy reforms. 

To identify key aspects of the FSM and the RMI political and social 
environment for compact grant implementation, we reviewed the U.S., 
FSM, and RMI annual compact reports for 2004; 
U.S. Department of State reports on FSM and RMI political systems and 
human rights practices; political assessments by nongovernmental 
organizations such as Transparency International and the University of 
Hawaii; and information from the Pacific Islands Forum regarding FSM 
and RMI participation in regional agreements and 
organizations.[Footnote 61] We identified key areas of concern in 
delivery of health and education services by reviewing FSM and RMI 
development plans, and reports prepared in conjunction with the Asian 
Development Bank (ADB), the World Bank, or the United Nations 
Development Program.[Footnote 62] We obtained FSM and RMI socioeconomic 
statistics on noncommunicable diseases, access to safe water and 
sanitation, teacher certifications and literacy skills, and Pacific 
Island Literacy Level student test scores from the FSM Departments of 
Health and Education and the RMI Ministries of Health and 
Education.[Footnote 63] We obtained regional socioeconomic statistics 
on population trends, teenage fertility, child mortality rates, 
immunizations, human poverty, and GDP and aid per capita from the World 
Bank's World Development Indicators, the U.S. Census International 
Database, and the 2005 United Nations Human Development Report. 

To assess FSM and RMI economic conditions, we reviewed the U.S., FSM, 
and RMI annual compact reports for 2004; FSM and RMI development plans; 
recent International Monetary Fund (IMF) Article IV documents for each 
nation;[Footnote 64] ADB Country Strategies and Program Updates; 
2005 FSM and RMI Pacific Island Economic Reports (PIER) prepared in 
conjunction with the ADB; and expert reviews of FSM and RMI fiscal 
structures and tax systems.[Footnote 65] We obtained data on FSM and 
RMI economic indicators such as gross domestic product (GDP), 
employment, government finances, migration, and private sector 
development from the IMF; the FSM's 2005 Statistical Tables; the RMI's 
2004 Annual Yearbook and 2005 Employment Statistics; the OECD's 
international development statistics; the U.S. Department of Census; 
and the World Bank's World Development Indicators. 

To describe the status of economic policy reforms in the FSM and the 
RMI, we reviewed the documents mentioned above; the FSM Tax Reform Task 
Force 2005 Report to the President; the RMI 2005 Budget Statement; ADB 
progress reports on the RMI Private Sector Development Project and the 
FSM Private Sector Development Loan; and RMI Final Reports from the 
2005 Dialogue For Action Retreats sponsored by the ADB. We obtained 
data on FSM and RMI public sector enterprises from the FSM's 2005 
Statistical Tables; the RMI's 2004 Annual Yearbook; and the most recent 
available public enterprise audit reports. 

In addition, we held extensive interviews with officials from the U.S. 
Department of the Interior (Washington, D.C; Honolulu; the FSM; and the 
RMI) and the Department of State (Washington, D.C; 
the FSM; and the RMI). We also interviewed officials from the U.S. 
Departments of Treasury and Health and Human Services (Washington, 
D.C., and Honolulu) and experts from the ADB (Manila, the Philippines), 
the IMF (Washington, D.C.), the World Bank (Washington, D.C.) and the 
Pacific Islands Development Program at the East-West Center (Honolulu). 
We traveled to all four states in the FSM and to the RMI (Majuro). We 
met with the governor's and legislature's offices in each of the FSM 
states and the President's office in the RMI. We had detailed 
discussions with FSM (national and state governments) and RMI officials 
from foreign affairs, finance and budget, economic affairs, health, 
education, land management, tourism and fisheries, environmental 
protection, and audit agencies. In each location, we also met with 
numerous representatives from private sector businesses, banks, and 
community organizations. 

To ensure accuracy in our report, we asked experts at the ADB, the IMF, 
the World Bank, the Boston Institute of Development Economics, and the 
University of Hawaii's East-West Center with knowledge of the FSM and 
the RMI economies, as well as former members of the FSM's Economic 
Management and Policy Advisory Team, to provide a technical review of 
our findings and information on the reliability of data used to support 
those findings. In conjunction with our own assessment, we determined 
that trade data, remittance data, and data on the private sector 
profits contained weaknesses. Exact data for these elements were not 
presented in the report and related findings were corroborated with 
other reliable data. For other social and economic data included in the 
report, we determined they are sufficiently reliable for our purposes. 

Nonetheless, our interviews with U.S., country, and international 
officials revealed important constraints to the FSM's and the RMI's 
capacity to prepare regular, reliable, and complete data that would 
allow for a more thorough analysis of social and economic trends, 
particularly in the future. Trend data on a variety of social 
indicators, such as teacher qualifications and student drop-outs, could 
assist in evaluation of the effectiveness of compact education 
assistance. However, much of this data are just now being collected in 
a systematic way. Also, given that both nations have weak domestic 
capacity to produce statistics, they rely heavily on external 
consultants for this purpose. In the FSM, the contract for statistical 
assistance from external consultants has now expired. As such, both FSM 
and Interior officials have expressed concern for that nations' 
capacity to produce future statistics. 

We conducted our review from August 2005 through March 2006 in 
accordance with generally accepted U.S. government auditing standards. 
We requested written comments on a draft of this report from the 
Departments of the Interior, State, Health and Human Services, and 
Treasury, as well as the governments of the FSM and the RMI. All 
comments are discussed in the report and are reprinted in appendixes IV 
through VII. Further, we considered all comments and made changes to 
the report, as appropriate. 

[End of section] 

Appendix II: Some Regional Socioeconomic Data for the Pacific: 

Economic studies of small island economies suggest common challenges 
for socioeconomic development. According to international development 
organizations, developing nations in the Pacific have exhibited 
relatively poor economic performance and face common constraints to 
growth such as geographic isolation and high transport costs. Such 
nations have also exhibited the need for improvements in delivery of 
health and education services, a challenge heightened when youths 
account for a large share of the population. Environmental challenges 
from climate change and increasing population density are also common 
threats to ensuring sustainable livelihoods in the Pacific. Table 5 
provides estimated socioeconomic data on various Pacific island nations 
in order to illustrate some of these commonalities as well as areas 
where the FSM and the RMI characteristically differ. For example: 

* The RMI has a relatively small population, but both the RMI and the 
FSM have a relatively large population density at 331 and 181 people 
per square kilometer, respectively. The RMI also has a very high 
teenage fertility rate. 

* Except for Palau--also a nation with a Compact of Free Association 
with the United States--the FSM and the RMI have the highest levels of 
aid per capita. 

* The FSM's child mortality rates are significantly lower than the 
RMI's, and its immunization rates are significantly higher. The RMI 
provides a significantly higher proportion of the population access to 
improved sanitation. 

Table 5: Some Estimated Socioeconomic Indicators for Select Pacific 
Island Nations: 

Population, total; 
Year: 2005; 
RMI: 59,071; 
FSM: 108,105; 
Fiji: 893,354; 
Kiribati: 103,092; 
Palau: 20,303; 
Papua New Guinea: 5,545,268; 
Samoa: 177,287; 
Solomon Islands: 538,032; 
Tonga: 112,422; 
Vanuatu: 205,754. 

Population ages 0-20 (% of total); 
Year: 2005; 
RMI: 50.1; 
FSM: 48.9; 
Fiji: 41.5; 
Kiribati: 49.9; 
Palau: 33.5; 
Papua New Guinea: 48.0; 
Samoa: 39.8; 
Solomon Islands: 53.1; 
Tonga: 49.1; 
Vanuatu: 44.6. 

Population density (people per sq km); 
Year: 2004; 
RMI: 331; 
FSM: 181; 
Fiji: 46; 
Kiribati: 134; 
Palau: 43; 
Papua New Guinea: 12; 
Samoa: 63; 
Solomon Islands: 17; 
Tonga: 141; 
Vanuatu: 18. 

Population growth (annual %); 
Year: 2005; 
RMI: 2.3; 
FSM: 0.0; 
Fiji: 1.4; 
Kiribati: 2.3; 
Palau: 1.4; 
Papua New Guinea: 2.3; 
Samoa: -0.2; 
Solomon Islands: 2.8; 
Tonga: 2.0; 
Vanuatu: 1.6. 

Life expectancy at birth, total (years); 
Year: 2005; 
RMI: 70; 
FSM: 70; 
Fiji: 67; 
Kiribati: 62; 
Palau: 70; 
Papua New Guinea: 65; 
Samoa: 71; 
Solomon Islands: 73; 
Tonga: 70; 
Vanuatu: 63. 

Teenage fertility rate (ages 15-19); 
Year: 2005; 
RMI: 87; 
FSM: 36; 
Fiji: 42; 
Kiribati: 56; 
Palau: 62; 
Papua New Guinea: 58; 
Samoa: 21; 
Solomon Islands: 59; 
Tonga: 42; 
Vanuatu: 32. 

Mortality rate,under age 5 (per 1,000); 
Year: 2003; 
RMI: 61; 
FSM: 23; 
Fiji: 20; 
Kiribati: 66; 
Palau: 28; 
Papua New Guinea: 93; 
Samoa: 24; 
Solomon Islands: 22; 
Tonga: 19; 
Vanuatu: 38. 

Immunization, DPT(% children ages12-23 months); 
Year: 2003; 
RMI: 68; 
FSM: 92; 
Fiji: 94; 
Kiribati: 99; 
Palau: 99; 
Papua New Guinea: 54; 
Samoa: 94; 
Solomon Islands: 71; 
Tonga: 98; 
Vanuatu: 49. 

Access to improved sanitation facilities (% of population with access); 
Year: 2002; 
RMI: 82; 
FSM: 28; 
Fiji: 98; 
Kiribati: 39; 
Palau: 83; 
Papua New Guinea: 45; 
Samoa: 100; 
Solomon Islands: 31; 
Tonga: 97; 
Vanuatu: 50. 

Aid per capita (current U.S.$); 
Year: 2003; 
RMI: 991; 
FSM: 923; 
Fiji: 61; 
Kiribati: 191; 
Palau: 1,295; 
Papua New Guinea: 40; 
Samoa: 186; 
Solomon Islands: 132; 
Tonga: 270; 
Vanuatu: 154. 

GDP per capita (constant 2000 U.S.$); 
Year: 2004; 
RMI: 1,738; 
FSM: 1,745; 
Fiji: 2,232; 
Kiribati: 532; 
Palau: 6,360; 
Papua New Guinea: 622; 
Samoa: 1,417; 
Solomon Islands: 621; 
Tonga: 1,638; 
Vanuatu: 1,110. 

Sources: Population, population growth, life expectancy, and teenage 
fertility rates are from the U.S. Census international database. All 
other data are from the World Bank's World Development Indicators. 

[End of table] 

[End of section] 

Appendix III: The FSM and RMI Private Sector Environment: 

Private sector representatives in the FSM and the RMI characterized the 
business environment in their nation as obstructive and costly. They 
attribute this characterization to elements of the political 
environment (e.g., poor information), lack of progress in economic 
reforms (both legal and financial), and poor government performance in 
providing services. World Bank national business environment surveys 
suggest that a high cost of doing business is a common problem for 
small island states. However, the survey results show that FSM and RMI 
business environments are particularly costly in several 
areas.[Footnote 66] For example, of 155 countries surveyed, the FSM and 
the RMI are among the worst 10 to 20 countries in terms of the cost of 
enforcing contracts and the degree of investor protection. In 
interviews with private sector representatives, problems were noted 
with FSM and RMI business environments (see fig. 7). 

Figure 7: Some Noted Problems with the FSM and the RMI Private Sector 
Environment: 

[See PDF for image] 

[End of figure] 

[End of section] 

Appendix IV: Comments from the Department of the Interior: 

Note: GAO comments supplementing those in the report text appear at the 
end of this appendix. 

United States Department of the Interior: 
Office Of The Assistant Secretary Policy, Management And Budget: 
Washington, DC 20240: 

May 16 2006: 

David Gootnick: 
Director, International Affairs and Trade: 
U.S. Government Accountability Office: 
441 G Street, N.W. 
Washington, DC 20548: 

Dear Mr. Gootnick: 

Thank you for the opportunity to respond to the U.S. Office of 
Government Accountability (GAO) draft report entitled, "Compacts of 
Free Association: Development Prospects Remain Limited for Micronesia 
and Marshall Islands" (Report). 

The Report fairly states the challenges facing the Republic of the 
Marshall Islands (RMI) and the Federated States of Micronesia (FSM) as 
the two countries attempt to effect systemic reforms required to 
achieve budgetary self-reliance and long-term economic advancement. The 
description of the political, cultural and technical obstacles to such 
reform is accurate, as is the listing of necessary reforms, including 
land, tax, and foreign investment policy. The Report's point of view is 
shared by the Department of the Interior and, we believe, by the Asian 
Development Bank, the International Monetary Fund, and other interested 
United States agencies, and underpins the policies of these 
organizations toward the freely associated states (FAS). 

To maximize the FSM and RMI potential for budgetary self-reliance and 
long-term economic advancement, the Report recommends that the 
Secretary of the Interior direct the Deputy Assistant Secretary for 
Insular Affairs, as Chairman of JEMCO and JEMFAC, to ensure, in 
coordination with other U.S. agencies participation in these 
committees, that they fulfill their requirements to: 

* evaluate FSM and RMI progress in implementing policy reforms needed 
to improve investment and tax income; 

* identify problems encountered with policy reform implementation; 
and: 

* recommend ways to improve U.S. assistance for these objectives. 

We concur with the Report's recommendations. The long-tern issues 
identified in the Report are a prime concern of the JEMCO and JEMFAC, 
and we assert that the actions of the committees to date have been made 
in cognizance of the need for reforms and have been preconditions for 
meaningful evaluation of FAS policies. We would respectfully disagree 
with the Report's assertions that "JEMCO and JEMFAC have not discussed 
the countries' limited progress in creating conditions for budgetary 
self-reliance and long-term economic advancement at their annual 
meetings." For example, these issues were addressed extensively in the 
enclosed statement that the Deputy Assistant Secretary submitted for 
the record at the opening of the 2005 JEMCO meeting. 

In its earlier report, Compacts of Free Association: Implementation of 
New Funding and Accountability Requirements Underway, but Planning 
Challenges Remain, GAO found that certain obstacles and problems have 
been encountered in Compact implementation. GAO identified oversight 
issues, gaps in planning, and compliance matters. JEMCO and JEMFAC have 
by necessity focused attention on addressing these concerns, which have 
included directing capacity building funds in the FSM to address basic 
financial management issues. While the committees may in the future 
direct funds to obtain certified surveyors to assist in land management 
reform, as the draft report suggests, the need to assure basic control 
of resources is a higher priority today. 

A current priority of the Department's Office of Insular Affairs is 
working with both nations in establishing elemental information needed 
to evaluate FAS budget and economic policies. At the direction of the 
Deputy Assistant Secretary for Insular Affairs, consultants provided 
through the U.S. Department of Agriculture Graduate School are helping 
the FAS prepare economic statistical data sets for the RMI and FSM. 
This will include an update of. gross domestic product (GDP), GDP per 
capita, demographic trends, income distribution and poverty data; 
employment statistics, wages and inflation; a monetary survey and 
banking indicators; balance of payments and external debt; and 
government finance statistics. 

The consultants will also assist in the preparation of two economic 
reports on the progress of the FSM and RMI in attaining the economic 
goals stated in the strategic development plans and annual budgets. The 
reports will contain an analysis of economic performance of the two 
economies including: a review of the growth in GDP and GDP per capita 
(including state levels in the case of the FSM); an analysis of changes 
in the structure of the economies and sectoral developments; an 
analysis of poverty and income distribution, employment and wages; 
monetary developments and prices; the balance of payments and external 
debt; and fiscal developments. The consultants will also prepare a 
review of those policies enacted by the FSM national and state 
governments and RMI government designed to assist and promote the 
development of the economy and attainment of the goals of the amended 
Compact. 

This information will be broadly applicable and will be of particular 
use for JEMCO and JEMFAC to evaluate progress in policy reforms. As a 
cautionary note, we would like to point out that JEMCO and JEMFAC do 
not, and should not, have the authority to control FAS policy choices 
and speed of implementation of FAS policy reform. Although called upon 
to monitor progress, the committees are not legislatures, nor may they 
impose solutions upon the governments. The committees' influence is 
limited to the authorities created by the Compact and the Fiscal 
Procedures Agreement. 

Thank you for this opportunity to comment. 

Sincerely, 

Signed by: 

R. Thomas Weimer: 
Assistant Secretary: 

Enclosure: 

Statement By Deputy Assistant Secretary: 
David B. Cohen Before The Joint Economic Management Committee Meeting 
In Pohnpei August 13, 2005: 

Good morning, and thank you for the opportunity to address this 
Committee. Before I begin, let me clarify that I am delivering this 
message not in my capacity as Chairman of JEMCO but in my capacity as 
head of the Office of Insular Affairs, manager of the Compact grants. I 
address this message both to JEMCO and to all of the FSM officials who 
are my colleagues in the administration of the Compact. I realize that 
this distinction of roles can be confusing, but my role of grants 
manager gives me some unique perspectives that JEMCO and my colleagues 
from the FSM may find helpful. I hope that no one gets confused when I 
refer to the members of JEMCO as "you", even though one of the "yous" 
is "me". 

Members of JEMCO, we are at a crossroads, and the ultimate success or 
failure of this grand experiment that we call "Compact II" will depend 
upon the results of today's meeting. As the U.S. Government 
Accountability Office has pointed out, and as we all already know, we 
face real challenges. Both the U.S. and the FSM have done their best to 
rise up to the level of performance that Compact II demands of us. But 
to date, our best-I'm referring to both countries here-has not been 
good enough to put the FSM firmly on the path to a secure and 
prosperous future. For the sake of all of the people of the FSM who are 
depending on the Compact implementation teams from both countries, our 
best will simply have to get better. 

Some of my fellow Pacific Islanders have observed that while we used to 
be able to just live for today, times have changed and we need to focus 
more on the future. If we don't worry about the future, we may not have 
a future to worry about. Eighteen years may seem like a long time for 
the FSM economy to grow sufficiently to survive without Compact grants. 
It is actually an alarmingly short period of time, given the distance 
that we have to travel and the institutions and policies that would 
have to change in order to make the journey possible. 

The FSM's economy, which is based largely upon government jobs and 
other government expenditures funded by outside grants, is 
unsustainable. In order to build a stronger, more secure future, 
Compact grants should be used to help generate private sector economic 
development and local tax revenue, rather than as a substitute for 
private sector development and local tax revenue. Public sector 
expenditures, including payroll, should be used to ensure that the 
people as a whole have a better life tomorrow, rather than merely to 
provide a livelihood for some today. What this really means is that in 
order for Compact II to succeed, attitudes and institutions that were 
shaped by the Trust Territory economy will have to be retooled for the 
future. Some have claimed that Compact 11 is a step back towards the 
days of the Trust Territory. I believe that the opposite is true: 
Compact II creates an urgent need to for both the U.S. and the FSM to 
leave all vestiges of the Trust Territory mentality behind once and for 
all. 

We commend the FSM for recognizing the need to embrace a high-growth 
scenario. Choosing a scenario of high growth is easy. What's difficult 
is making the hard decisions and short-term sacrifices that will 
actually lead to economic growth. We stand ready to help in any way 
that we can, especially through our partnership with you in the 
stewardship of Compact funds. 

The initial years of Compact II have been a learning experience for all 
of us, with successes and disappointments. I am pleased that OIA's 
grants management team has developed an excellent relationship with our 
FSM colleagues. If I may say so, I think that we've assembled a great 
team at OIA. Many people on this team have devoted their entire careers 
to Micronesia. We have members of this team who have literally married 
into Micronesian culture, and who have children who are at least as 
Micronesian as they are American. Each and every member of our team 
knows these islands quite well and cares deeply about them. For what 
it's worth, I care deeply about these islands. 

Every member of this team deeply values the special relationship 
between the U.S. and the FSM. Every member of this team deeply 
appreciates the service of Staff Sgt. Steven Bayow of Yap and Sgt. 
Skipper Soram of Pohnpei, who made the ultimate sacrifice in Iraq, and 
of Sgt. Hilario Bermanis and all of the other sons and daughters of 
Micronesia who are putting their lives on the line to defend freedom. 
Every member of this team deeply respects the sovereignty of the 
Federated States of Micronesia. 

We have tried to be frank about the problems that we have found, 
because every strong partnership requires frankness. But we have never 
pointed fingers or laid blame. Our criticisms have been directed at 
problems, not people. 

In that spirit, let me highlight an issue that, from my perspective as 
grants manager, can have a profound impact on the workings of JEMCO and 
the implementation of the Compact. I commend JEMCO for its ability to 
reach consensus most of the time. But why has JEMCO sometimes failed to 
reach consensus when both nations want good schools, good health and a 
strong economy? The reasons are complex, but I offer this for your 
consideration. It takes time to reach a consensus, and the process as 
it is currently managed gives us very little time. When OIA doesn't get 
required materials in a timely fashion, we can't spot important issues 
until the last minute. We then can't alert JEMCO members about 
important issues until the last minute, which may leave JEMCO members 
with insufficient time to resolve any differences that may arise among 
them. While it is very important for JEMCO to reach consensus, JEMCO 
cannot afford to be paralyzed when it fails to do so. Since JEMCO is 
responsible for allocating the annual Compact grants, its failure to 
act in a timely fashion could interrupt the flow of grant funds. 

So who is to blame for JEMCO's occasional failure to reach consensus? 
Is the FSM guilty of being dilatory? Are the U.S. members guilty of 
railroading? In both cases, I say the answer is "no". The true culprit 
here is a lack of capacity. The GAO identified insufficient capacity on 
the U.S. side as a major challenge, and insufficient capacity on the 
FSM side is a major challenge as well. On the U.S. side, we are going 
to make an effort to improve our capacity. For the FSM, the Compact 
gives us the tools to make necessary investments in capacity. In my 
view, JEMCO has an absolute obligation to ensure that the FSM has the 
capacity to generate good information so that we can measure the 
success of our Compact expenditures. The FSM also needs to bolster its 
capacity to monitor Compact spending, to ensure that funds are reaching 
their intended beneficiaries. By developing the capacity to generate 
necessary information in a timely fashion, we will all have enough time 
to spot issues early on and, more importantly, JEMCO members will have 
enough time to thoroughly discuss and resolve any differences that may 
arise. I realize that it is painful in the short run to divert funds 
from programs to capacity building, but without the capacity to measure 
the results of our expenditures, we will have no way to determine which 
of our expenditures are wise and which are a waste of precious 
resources. If we allocate a little less money to programs and a little 
more money to true capacity building for performance measurement and 
oversight, we will be able to accomplish much more with a little less. 

After this meeting, we must come together to find ways to improve the 
process so that it can more effectively serve the needs of the 
Micronesian people. We cannot allow process to become the enemy of 
progress. 

Another issue that challenged us this year was the situation that we 
found in Chuuk, resulting in OIA's decision to withhold funds for the 
school nutrition program. OIA took this action in order to protect and 
preserve precious resources so that they could eventually be used for 
the benefit of the people of Micronesia. It became clear to us that 
money intended to feed the schoolchildren of Chuuk was not reaching 
those children. Investigations which have been going on for several 
months now hopefully will eventually determine where the money was 
actually going. But for OIA to keep releasing funds, month after month, 
when we knew that money wasn't reaching the children, would have been a 
dereliction of our duty as grants manager. 

If we let money out the door and it gets improperly diverted, that 
money would probably be gone forever and would never be available to 
help schoolchildren. The money we withhold, on the other hand, will be 
available to benefit the people of the FSM as soon as we can establish 
reasonable safeguards to protect Compact funds there. Establishing 
those safeguards is one of the most important tasks that JEMCO faces 
today. The people of the FSM are waiting for you, and they deserve 
nothing less than your prompt action. 

Finally, it has been brought to my attention that some of our 
Micronesian colleagues take offense when I speak about the U.S. need to 
protect the U.S. taxpayer investment in the FSM. Perhaps an explanation 
would be helpful. I noted before that the members of the U.S. grants 
management team care very much about the wellbeing of the FSM and its 
people. In my view, however, it would be very condescending of us to 
suggest that we care more about the FSM than its official leaders do, 
or that we have a better grasp of what's good for the FSM. It is the 
job of the FSM's official leaders to protect the interests of the FSM. 
We respect the fact that this is your role, and would never presume to 
usurp it from you. I therefore prefer to express my role not as the 
guardian of the FSM's interests, which would be presumptuous, but as 
the protector of the U.S. taxpayer investment. Those are the interests 
that I'm paid to protect, and I hope you can respect that. The good 
news is that we all want the same things: good schools, good health and 
good opportunity for the people of the FSM. It is the job of FSM 
officials to measure the success of the Compact on behalf of the people 
of the FSM, and it is the job of their U.S. colleagues to measure that 
success from the perspective of the U.S. taxpayer. Each side has to use 
its own judgment in making these determinations, although the Americans 
and Micronesians involved in this process must of course consult one 
another extensively as partners to try to get onto the same page. 
Hopefully, if the process allows enough time, JEMCO will always reach 
consensus. The bottom line, however, is that we all must recognize and 
respect each one another's roles in this partnership. 

It has been suggested that the phrase "U.S. taxpayer investment" 
somehow suggests that the FSM is receiving welfare, rather than a quid 
pro quo in a partnership. That is not what it means at all. We 
recognize full well all of the benefits that the U.S. has received, and 
continues to receive, under the Compact. The bargain of Compact II, 
however, is that what the U.S. gives in exchange for these benefits is 
not free money for no particular purpose, but rather funds that are 
expected to have tangible and measurable results in terms of improved 
health, education and economic opportunity for the people of the FSM. 
Compact II requires the U.S. to share responsibility for ensuring that 
Compact funds actually reach their intended recipients and achieve 
their intended results. 

We believe that Compact II's accountability requirements greatly 
benefit the people of the FSM. It would be very difficult for the FSM, 
which is still developing its public sector capacity, to shoulder the 
entire burden of ensuring that the people of the FSM receive all of the 
benefits that they are supposed to receive under the Compact. Under 
Compact II, the FSM doesn't have to assume this burden on its own: It 
is the joint responsibility of the FSM and the U.S. Our active 
involvement can only increase the likelihood that Compact funds will 
achieve strong, positive results for the people of Micronesia. 

I understand that some have concerns about the term "investment". 
Perhaps this is because people associate this word with the private 
sector and, unfortunately, there is deep suspicion of the private 
sector throughout the Pacific. Let me be clear: An investment is simply 
an expenditure that we expect to generate a positive result. 
"Investment" is a very important word because when one invests, one is 
giving up something now so that the future will be better. The result 
that we're expecting from our investment-and by "we" I will presume to 
speak for both countries-is a good, sustainable quality of life for the 
people of Micronesia. The benefits of the investment go to the people 
of Micronesia. We call it an "investment" because we're not simply 
writing a check and walking away. We're sticking around to help ensure 
that life actually improves for Micronesians in the way our two nations 
intend. 

Some have complained that Compact II's accountability requirements 
violate the FSM's sovereignty. I would argue that the FSM's ability to 
use outside grant funds without accountability is not a measure of its 
national sovereignty. That is a false sovereignty. The FSM's true 
sovereignty will be enhanced by its ability to develop its private 
sector economy and generate local tax revenue, and hence reduce its 
reliance on outside grants. Compact II, if implemented properly, will 
help the FSM to achieve a much greater level of sovereignty over its 
affairs. 

Although Compact II contemplates the active involvement of the U.S. in 
managing these grants, the U.S. role should be limited. As a general 
rule, the U.S. should not usurp the prerogative of the FSM's leaders to 
decide priorities for the FSM. In my view, there are two important 
exceptions where the U.S. should assert its view, even if it's contrary 
to that of the FSM's leaders: First, we must oppose investments of 
Compact funds that we believe are outside the letter and spirit of the 
Compact, and second, we must act to protect Compact investments and 
maximize their chances of success. We recognize that the FSM's leaders 
also are responsible for pursuing these objectives. In cases where we 
have a difference of opinion, we must work to bridge the gap. If we are 
unable to come to agreement in a timely fashion, however, then we are 
bound to act according to our best judgment just as you are bound to 
act according to yours. 

The record will show that every time the U.S. has asserted its will 
under Compact II, it has been triggered by a necessity, in our best 
judgment, to defend the letter and spirit of the Compact or to protect 
Compact investments. It is not surprising that some differences of 
opinion have surfaced in the early years of Compact II. We need time to 
work through some difficult issues. The process will get better, and we 
all will get better at it, over time. 

And we had better get better, because the people of Micronesia may one 
day demand of us the accountability to which they are entitled. It is 
fitting that JEMCO is meeting today, on the first day of school. When I 
rode in from my hotel this morning, it was wonderful to see all of the 
schoolchildren in Kapinga Village walking to school in their bright 
green uniforms. But when parents who are sending their children off to 
school today learn that Compact education grants to FSM state 
governments have more than doubled since 2000, and that the U. S. is 
spending over $1,000 per year for each student in Micronesia, some 
parents on some islands may demand to know why their children's schools 
are in decrepit condition, why their children don't have proper 
textbooks, why their children's schools are not properly staffed, why 
their children are not receiving anything close to $1,000 worth of 
education. When they learn that Compact health grants to the FSM state 
governments have more than doubled since 2000, some people may demand 
to know why their dispensaries aren't properly staffed or stocked. If 
the people of Micronesia start asking these questions, if they demand 
to know where all that money went, what will we tell them? We should 
welcome the day when the Micronesian people demand that we answer 
difficult questions. It will help us all to become better stewards of 
Compact funds. Those difficult questions need to be directed to all of 
us and the governments that we represent. We are in this together. 

So let us continue to work together as partners to make our working 
relationship even stronger. But let us remember that while our working 
relationship is very important, at the end of the day it will not be 
the strength or weakness of our personal relationships with one another 
that ultimately could cause the FSM to shortchange its future and fail 
to capitalize on the great promise of Compact II. It will be our 
collective failure to protect our common investment in the future of 
the FSM, our failure to recognize that time is our enemy, and that we 
have a very narrow window to rescue the future. It will be our 
collective failure to act with vision and courage, to stand up to 
political pressure, to stand up for change, to stand up for the people. 
Long after we all have moved on from our current positions, future 
generations of Micronesians will live with the consequences of our 
actions and of our failures to act. The obligation of accountability 
under the Compact runs not from one government to another, but from 
those of us from both governments who are responsible for administering 
the Compact to the people whose future depends on our wisdom and on our 
will to do the right thing. Members of JEMCO, as you do your work today 
inside of this room, never forget your solemn obligations to the people 
outside of this room, especially the young people who will inherit the 
future that you will help to create for them through your actions 
today. And let us take comfort in the fact that everyone in the room 
today has a common vision of that future: a future for the FSM in which 
the people enjoy good health, good education and abundant economic 
opportunity. 

Members of JEMCO, you have much to accomplish today. I wish you the 
best of luck. 

The following are GAO's comments on the Department of the Interior 
letter dated May 16, 2006. 

GAO Comments: 

1. Regarding our finding that compact management committees have not 
discussed FSM and RMI progress toward budgetary self-reliance and long- 
term economic advancement at their annual meetings, we recognize that 
the Deputy Assistant Secretary submitted a statement for the record at 
the opening of the 2005 JEMCO meeting that mentioned the lack of 
sustainability in the FSM's economic dependence on government 
expenditures. However, the Deputy Assistant Secretary did not read his 
statement to the committee and the issue of FSM progress toward their 
long-term development goals was not discussed by the JEMCO. 

2. We recognize that Interior has contracted with the U.S. Department 
of Agriculture's Graduate School to obtain further economic information 
on the FSM and the RMI. While we agree with the importance of gaining 
this further information, we believe that sufficient information is 
available for the committees to begin meeting their requirement to 
evaluate FSM and RMI progress in implementing reforms, identify 
problems encountered, and recommend ways to improve U.S. assistance for 
these objectives. For example, multiple expert studies as well as FSM 
and RMI commitment to, and recommendations for policy reforms in the 
areas of tax, land, foreign investment, and the public sector have 
existed since the 1990s.1: 

[1] Documents discussing these issues include, for example, IMF Article 
IV documents for both the FSM and RMI, dating back to 1998; ADB country 
assistance plans, country economic reports, and Public Sector Reform 
Program loan documentation, dating back to 1997 for the FSM and 1996 
for the RMI; the RMI's 2000 Statement of Development Strategies 
entitled Meto 2000; the FSM's 2000 Economic Review; and the documents 
and information sources listed in appendix I. 

[End of section] 

Appendix V: Comments from the Department of Health and Human Services: 

Note: GAO comment supplementing those in the report text appear at the 
end of this appendix. 

Department Of Health & Human Services: 
Office of Inspector General: 

Washington, D.C. 20201: 

May 23 2006: 

Mr. David Gootnick: 
Director, International Affairs and Trade: 
U.S. Government Accountability Office: 
Washington, DC 20548: 

Dear Mr. Gootnick: 

Enclosed are the Department's comments on the U.S. Government 
Accountability Office's (GAO) draft report entitled, "COMPACTS OF FREE 
ASSOCIATION: Development Prospects Remain Limited for Micronesia and 
Marshall Islands" (GAO-06-590). These comments represent the tentative 
position of the Department and are subject to reevaluation when the 
final version of this report is received. 

The Department appreciates the opportunity to comment on this draft 
report before its publication. 

Sincerely, 

Signed by: 

Daniel R. Levinson: 
Inspector General: 

Enclosure: 

The Office of Inspector General (OIG) is transmitting the Department's 
response to this draft report in our capacity as the Department's 
designated focal point and coordinator for U.S. Government 
Accountability Office reports. OIG has not conducted an independent 
assessment of these comments and therefore expresses no opinion on 
them. 

Comments Of The U.S. Department Of Health And Human Services On The 
U.S. Government Accountability Office's Draft Report Entitled 
"Development Prospects Remain Limited For Micronesia And Marshall 
Islands" (GAO-06-590): 

The U.S. Department of Health and Human Services (HHS) appreciates the 
opportunity to comment on the draft report. We look forward to working 
with the Government Accountability Office (GAO) on this and other 
pertinent issues addressed in this report. 

General Comments: 

HHS agrees with the overall conclusions of the report. However, we 
believe there are some points within the report that need to be placed 
in context to accurately reflect the situation of these two countries. 

First, the draft report provides a thorough description of the 
political and social conditions that inhibit the implementation of 
compact development plans for the Federated States of Micronesia (FSM) 
and the Republic of Marshall Islands (RMI). The articulated problems 
are significant, and in large part reflect the inertia and the lack of 
political will of these two Governments to make hard decisions to 
revamp basic policies and structures that impede change. Some changes 
(e.g. laws to govern the title and use of land) will be very difficult 
to achieve, given the cultural practices of the two countries. 

Second, we agree with the GAO's recommendation that the "Secretary of 
the Interior direct the Deputy Assistant Secretary for Insular Affairs, 
as Chairman of the compact management committees, to ensure that they 
meet requirements to address the lack of FSM and RMI progress in 
implementing reforms to improve investment and tax income." However, it 
would be helpful for GAO to include specific recommendations to 
establish timelines to address policy reforms in these areas. This is 
especially critical given that these Governments are more than 2 years 
into their second amended compacts, and many of the critical changes 
dealing with property and tax laws could take years to implement. In 
other sectors, such as health and education, the necessary changes can 
probably be made more rapidly. 

The report also mentions that considering the amount of funding 
invested in FSM and RMI, the health and education indicators in both 
nations remain relatively poor. More specifically, the report cites low 
immunization rates as an example of a poor health indicator. In 2003 
after a large measles outbreak in the Marshall Islands, HHS initiated 
steps to address this longstanding problem. These steps included: (1) 
the 2005 assignment of a public health advisor to the Pacific Islands 
Health Officers Association (PIHOA) to help manage supplies of vaccines 
for the Flag Territories and Freely Associated States in the Region; 
(2) an ongoing commitment to fund a regional epidemiology position, to 
be based in the FSM; (3) the January 2006 placement of a regional 
immunization epidemiologist in the Commonwealth of the Northern 
Marianas Islands; and (4) a commitment to place a public health advisor 
in Chunk State, FSM, to improve immunization coverage. Through these 
efforts, the islands should see continuing improvement in vaccine 
coverage, even given the tremendous geographic obstacles to delivery of 
vaccines among the many scattered islands. 

Finally, the report mentions the poor educational backgrounds of both 
the teachers and students in both nations, which leave young people 
inadequately prepared to obtain skilled jobs at home or abroad to 
support the local economies. Yet, because of a lack of support, the 
Ponape Agriculture and Trade School (PATS), founded in 1965 as a 
regional high school to provide vocational education to students in 
agriculture, construction, mechanics, and computer technology, recently 
closed. There appears to be no plan by the FSM government to fill this 
void. 

Recommendations: 

To maximize the potential of both the FSM and RMI for budgetary self- 
reliance and long-term economic advancement, we recommend that the 
Secretary of the Interior direct the Deputy Assistant Secretary for 
Insular Affairs, as Chairman of the JEMCO and JEMFAC, to ensure, in 
coordination with other U.S. agencies that participate in these 
committees, that they fulfill their requirements. 

GAO Recommendation One: 

Evaluate FSM and RMI progress in implementing policy reforms needed to 
improve investment and tax income. 

HHS Response: 

This draft places very high expectations on the JEMCO and JEMFAC. If 
this is the case, GAO should have considered the frequency of committee 
meetings and the current committee process. The compact law and the 
Fiscal Procedures Agreement only require these committees to meet at 
least once a year. So far, JEMFAC meetings have occurred only with that 
frequency. JEMCO has been meeting twice a year in recognition of the 
additional complexities of the political, social, and economic 
situation in the FSM. In between these meetings, there has been a 
relative lack of communication between the JEMCO and JEMFAC members, 
and there is no established secretariat for either body. 

GAO Recommendation Two: 

Identify problems encountered with policy reform implementation. 

HHS Response: 

Given the relative newness of the amended compacts in both countries, 
it has taken some time to establish the roles and responsibilities of 
the various structures, including JEMCO and JEMFAC, established to 
implement the compacts. During this transition period, much of the 
focus has been on systematizing the budget process and dealing with 
specific issues and problems that have arisen within the various sector 
grants. These needs have come at the expense of addressing longer-term 
development. There were also delays in completion, submission, and 
review of the national development plans required under the amended 
compacts. It was difficult to address long- term planning in the 
absence of these plans. Now that the amended compact process has 
stabilized and the national development plans are available, JEMCO and 
JEMFAC should be able to devote more time during and between meetings 
to the issues raised by GAO. 

GAO Recommendation Three: 

Recommend ways to improve U.S. assistance for these objectives. 

HHS Response: 

HHS would be pleased to help support the mechanisms that keep the JEMCO 
and JEMFAC members better informed between meetings, through periodic 
teleconference updates, or through videoconferencing. The more dialogue 
that occurs, the more likely it is that the parties can address all the 
pertinent short-term and long-term issues. 

The following is GAO's comment on the Department of Health and Human 
Services letter dated May 23, 2006. 

GAO Comment: 

HHS agreed with our recommendation and requested that it be expanded to 
include JEMCO and JEMFAC requirements for establishing policy reform 
implementation timelines. The amended compacts' U.S. implementing 
legislation does not include establishing timelines for policy as a 
specific required action for the JEMCO and JEMFAC. Nonetheless, in 
fulfilling their requirement to identify problems encountered with 
policy reform implementation and recommend ways to improve U.S. 
assistance, the JEMCO and JEMFAC should consider this suggestion. As 
noted in our conclusions and by HHS, the urgency of pursuing policy 
reform suggests that establishing timelines for such reforms could be a 
useful method to improve U.S. assistance. We also appreciate HHS's 
suggestion to improve communication and information between annual 
meetings through periodic teleconferences and videoconferences and have 
added language to the report to reflect this suggestion. We have also 
added language to the report recognizing HHS's efforts to improve 
vaccine coverage. 

[End of section] 

Appendix VI: Comments from the Federated States of Micronesia: 

GAO comment supplementing those in the report text appear at the end of 
this appendix. 

Embassy Of The Federated States Of Micronesia: 
1725 N Street, N. W. Washington, D.C. 20036: 

Office of the Ambassador: 

May 30, 2006: 

Telephone: (202) 223-4383: 
Facsimile: (202) 223-4391: 
Email: FSMAMB@aol.com: 

Mr. David Gootnick: 
Director, International Affairs and Trade: 
United States Government Accountability Office: 
441 G Street, NW: 
Washington, D.D. 20548: 

RE: Comments by the Government of the Federated States of Micronesia on 
the GAO draft Report: "Development Prospects Remain Limited for 
Micronesia and Marshall Islands" 

Dear Mr. Gootnick: 

The Government of the Federated States of Micronesia (FSM) has no 
specific comment on the manner in which its current state of economic 
development is described in GAO's lengthy Draft Report. In fact, if 
these observations are viewed in the proper light and acted upon 
accordingly, the Report could become a very constructive contribution 
to the ongoing joint effort between the U.S. Government and the FSM 
Government to address and eventually achieve the critical Amended 
Compact goals of budgetary self-reliance and economic advancement in 
the FSM. 

We do not deny that economic development in the FSM slowed during the 
latter phase of the original Compact period, and that this trend has 
continued during the early years of the Amended Compact. This trend 
simply must be reversed if the other goal, budgetary self-reliance, is 
to be attained by the year 2023. 

You are correct that budgetary self-reliance cannot be attained without 
the economic development in the FSM that was envisioned by the U.S. and 
FSM negotiators of the Amended Compact. It will not be attained simply 
by a Drakonian application of the Amended Compact's broad new 
accountability provisions, which has been the sole focus of the U. S. 
Government thus far. It is true that those provisions are an essential 
component in achieving maximum effectiveness of U.S. Compact 
assistance, but accountability alone will not, by itself, lead to the 
economic future of the FSM that we all desire. 

Before going further, I would like to say that the Draft Report, as 
presently written, could lead a reader unfairly to conclude that the 
obstacles to economic development in the FSM are so daunting and 
pervasive that economic development cannot be attained. Even the 
present title of the Report, "...Prospects Remain Limited...," suggests 
that not only has the pace of development been slow, but the very 
prospect for development has been and remains limited. We strongly 
disagree with any such assertion. It is our belief that, with the right 
kind of partnering by the US in our efforts to develop our economy, and 
with the opportunities presented by the prospective submarine fiber 
optic cable, the development prospects of the FSM are not limited, but 
rather very bright. What may look to some like a Mission Impossible is 
in fact achievable, but, just as we see on television, only with the 
application of the right equipment and expertise. 

I do not mean to suggest that the constraints to FSM economic growth 
are any less than the draft Report lists on pages 24 and 25. Several UN 
Summit conferences have been held to examine ways and means of 
overcoming these constraints, faced generally by Small Island 
Developing States worldwide. Nor does the FSM Government take issue 
with the need for the key economic policy reforms discussed in pages 28 
through 36. It is incorrect, however, to suggest that the slow progress 
in implementing these reforms reflects a lack of commitment by the FSM. 
Our nation, at all levels, is trying very hard to live up to the formal 
commitments we made under the Amended Compact, given the resources and 
capacities we can bring to bear. 

The main point I would like to make is that even the full 
implementation of these reforms will not, in and of itself, produce 
economic development. They may, and hopefully will to some extent, 
relieve some of the FSM's budgetary distress and establish a more 
rational setting for private investment. They will not, without more, 
magically establish an upward trend of private sector development and 
economic progress. 

I mean no disrespect to our long-standing friends and supporters in the 
United States, but it is a fact that throughout the period of the 
original Compact many if not most on the U.S. side adhered to the, "If 
you build it they will come" philosophy of development in our islands. 
That had only limited success then, and even strict accountability 
coupled with best efforts by the FSM Government will not make it any 
more successful between now and 2023. 

It is regrettable, but true, that the FSM continues to have serious 
capacity limitations on the government side that hinder our efforts to 
cope promptly and effectively with the new Compact requirements. To the 
extent that the Draft Report seems to take account of this reality it 
is helpful. But limitations of capacity have an even more serious 
effect on the necessary growth of the FSM's private sector. Governments 
can assist with resources and programs, but neither governments nor 
multilateral agencies alone can be engines of private sector 
development. 

We would hope that in the years to come our discussions with the US 
JEMCO Members and other U.S. officials will include finding ways for 
the U.S. actively to assist FSM in promoting private sector business 
opportunities and to establish connections with the U.S. business 
community, aimed at building a flourishing FSM private sector. This 
side of the US/FSM partnership must no longer be neglected. 

On behalf of the FSM Government, I thank you for the opportunity to 
make these comments and will appreciate your consideration of them. In 
addition, I would like to express appreciation for the diligent and 
long-standing efforts of your Office and staff to ensure the success of 
the Compact of Free Association by shedding constructive light on the 
implementation of this complex treaty and related agreements. 

Sincerely yours, 

Signed by: 

Jesse B. Marehalau: 
Ambassador to the US: 

The following is GAO's comment on the Federated States of Micronesia 
letter dated May 30, 2006. 

GAO Comment: 

Regarding the FSM's disagreement with our conclusion that its 
development prospects remain limited--the FSM confirms the accuracy of 
our description of its recent economic performance, its constraints to 
growth, and its need for economic policy reforms. Given these current 
realities, we maintain that prospects for long-term economic growth in 
the FSM remain limited. We do not assert, however, that economic 
development cannot be attained. If key policy reforms were implemented, 
the business environment would likely improve and facilitate private 
sector expansion that may help the FSM advance its compact goals. 
Further, we agree that implementation of policy reforms will not, in of 
itself, produce economic development. As such, the FSM will also likely 
need to identify and capitalize on niche market opportunities as well 
as to create conditions to maximize remittance income, particularly 
through improving the education and health of its citizens. 
Establishing connections with the overseas business community may be 
one way to pursue such opportunities and should be included in 
meaningful JEMCO discussions of FSM progress toward their economic 
goals. As we emphasized earlier, the scheduled coming reductions in 
U.S. grants creates urgency for implementation of policy reforms and 
for capitalizing on opportunities to leverage compact assistance. The 
coming reductions in U.S. grants, paired with current economic 
realities, also suggests the need for JEMCO discussions to be based on 
frank assessments of current limited prospects for economic growth in 
the FSM and what actions need to be pursued to improve those options. 

[End of section] 

Appendix VII: Comments from the Republic of the Marshall Islands: 

Note: GAO comments supplementing those in the report text appear at the 
end of this appendix. 

Embassy Of The Republic Of The Marshall Islands: 
2433 Massachusetts Avenue, N.W., 
Washington, D.C. 20008: 
Tel. # (202) 234-5414: 
Fax # (202) 232-3236: 

June 1, 2006: 

Mr. David Gootnick: 
Director: 
International Affairs and Trade: 
United States Government Accountability Office: 
Washington, D.C. 20548: 

Dear Mr. Gootnick: 

Thank you for providing the GAO Report (GAO-06-590) "Compact of Free 
Association Development Prospects Remain Limited for Micronesia and 
Marshall Islands (Draft)" to the Government of the Republic of the 
Marshall Islands (RMI), and for allowing my Government the opportunity 
to provide our comments (please see attached.) 

The RMI welcomes the GAO's input and looks forward to continuing to 
work with the GAO to identify and address issues under the Compact of 
Free Association, as amended. 

Sincerely, 

Signed by: 

Banny deBrum: 
Ambassador: 

Government of the Republic of the Marshall Islands Comments on the GAO 
Report (GAO-06-590) "Compact of Free Association Development Prospects 
Remain Limited for Micronesia and Marshall Islands (Draft)" 

The following comments are based on a review of the draft document. We 
would hope that the changes stated and observations made are clarified 
and reflected in the final report. 

One overall comment is that the while the report focuses on economic 
development prospects, the study does not take into account some 
salient factors regarding the transition from the first Compact of Free 
Association term (1987-2003) and the Amended Compact's term. First, the 
RMI consciously set aside most of the Compact 'bump-up' funds in 2002 
and 2003 into the Marshall Intergenerational Trust Fund. The majority 
of these funds were used as the RMI's required contribution to start 
Amended Compact Trust Fund. The important point is that this funding 
could have acted as a social and economic fiscal stimulus during those 
two years but, instead, was set aside with future generations in mind. 

The second major point was that there were delays in the initiation of 
the Amended Compact term which was not officially implemented until May 
2004. The delays and the transition to totally new delivery, 
accountability and reporting mechanisms as set forth in the Fiscal 
Procedures Agreement, the incomplete implementation of the Supplemental 
Education Grant and the delay in Trust Fund start-up did have negative 
repercussions on public finances as well as caused uncertainty in the 
domestic and foreign private sector. Finally, the delay in Trust Fund 
start-up will impact performance of the Trust Fund in the long run. 
These issues were beyond the control of the RMI government. 

One of the major challenges regarding social and economic stability 
remains the size of the annual decrement of the Compact Title Two 
Section 211 sector grant funding ($500,000) and the only partial 
inflation adjustment. The resulting significant annual decline in the 
nominal and real value of this funding will place pressure on providing 
adequate social services and fiscal stability as well as impact private 
sector performance. This is despite the changes the RMI is making in 
focusing amended Compact funding mainly on health, education and 
infrastructure development and maintenance. 

Finally, the draft report fails to take into account the status of the 
Section 177 Settlement Agreement regarding the U.S. nuclear testing 
program in the Marshall Islands including the fact that the RMI has 
petitioned the U.S. Congress for additional measures to address the 
ongoing consequences of the nuclear testing under the terms of that 
Agreement. Section 177 and its subsidiary agreement continue in effect 
under the Compact, as amended, however, the U.S. has to date failed to 
address the long term radiological health and other burdens that the 
Marshallese people continue to face. 

Comments to the report: 

1. Economic Assistance and Military Use Payments - The report 
references $3.6 billion in U.S. economic assistance on page 2 and the 
RMI chart (Figure 1, page 8) shows Annual Compact Assistance trends. 
While the figure used on page 7 (Compact of Free Association, 1986- 
2003), $2.1 billion for 1987-2003, is footnoted and states that it does 
not include federal services or U.S. military use of Kwajalein atoll 
land. We are wondering if the other figures do contain U.S. military 
use funding? Payments related to land-use and contained in the Military 
Use and Operating Rights Agreement (MUORA) are not considered 'economic 
assistance' in the Compact or by the RMI. We would appreciate if the 
figures used are specifically classified and identified properly. 

2. Amended Compact Security and Defense Commitments - The Compact of 
Free Association 1986-2003 section states that the "second goal was 
achieved" concerning the Compact's establishment of key defense rights 
for all three countries. The statement mentions this in the past tense 
and no reference early on in the report (except in a footnote) to the 
mutual security relationship, including the use of Kwajalein atoll, in 
the amended Compact which are further maintained and, in fact, in place 
longer than the grant-related economic assistance. The economic 
assistance discussion in the Results in Brief section should mention 
the unique security and defense relationship provide for in the amended 
Compact. This is important for report readers to understand, especially 
those who may not be familiar with the previous and current Compacts. 

3. Focus on Health and Education - The report mentions in various 
places that the amended Compact funding is to make health and education 
a mandated priority. While we are not aware of such a requirement in 
Title Two or the Fiscal Procedures Agreement amongst the six sectors, 
the RMI has made health and education its own priority in its Medium 
Term Budget and Investment Framework, associated sector portfolios and 
other strategy and policy documents. This approach has been agreed by 
the JEMFAC as most sector grant and Infrastructure Development and 
Maintenance Program funding are for the health and education sectors. 
The RMI will continue this health and education emphasis for FY07. 

4. Footnote 7 "address" - It is not clear what this reference means. 

5. Growing Wage Expenditure and Tax Regime Reform - The RMI government 
has studied and is aware that its public sector wage costs have risen 
and that this has created a 'crowding out' effect vis-a-vis the private 
sector. We are also aware of the need for tax regime reform. We are 
attempting to respond to these major reform items. However, U.S. 
technical assistance and ADB technical assistance have not been 
supportive of assisting in such efforts in a way to make consistent 
change. The Government's focus has been on improving tax administration 
since in consultations with the private sector the most often repeated 
complaint is not about the structure of taxes but about the need for 
better and tighter enforcement. The Government is keen to improve the 
tax regime and will continue its efforts but its priority is currently 
on better enforcement of existing taxes. 

6. Reliance on Remittances -The report highlights two possible 
responses to help economic growth: private sector growth and an 
increase in Marshallese remittances. We are concerned that GAO is 
emphasizing remittances as a possible economic development component. 
It is not the policy of the RMI government to promote emigration to the 
United States or the repatriation of citizen salaries and wages. Such 
an approach may take away from what the government's role should be- 
creating the enabling environment for private sector led economic 
growth, and thus employment growth, within the RMI. In fact providing a 
better environment for the development of the private sector is likely 
to ensure that less money is sent overseas if the private sector can 
receive a better return for their money domestically. The issue at the 
moment is largely academic since the relevant data is not available, 
apart from the limited data available from the Household Income and 
Expenditure Survey in 2003. The production of Balance of Payments and 
remittance data will help to quantify these flows and provide a basis 
for any specific policy. 

7. Overall Recommendation - The report's overall recommendation (page 
6) is to guide JEMFAC "to ensure that they meet requirements to address 
the lack of FSM and RMI progress in implementing their specified 
reforms to improve investment and tax income." While we understand that 
the italicized part of the statement mirrors some of the amended 
Compact's implementing language, we are concerned about how such a 
statement may be interpreted by the U.S. members of the JEMFAC. Le., we 
realize we must increase domestic and foreign private sector investment 
but the challenge is how since we have had much experience on this 
issue. And, regarding tax income, we realize we need tax reform but not 
necessarily to increase tax income. 

The recommendations made in the previous paragraph of the report are 
more important, namely as mentioned, reforms in taxes, land ownership, 
foreign investment regulations, and public sector management. We have 
elaborated on each of these issues and have sought assistance or using 
our own capacities to address these issues. We require the U.S., ADB 
and JEMFAC support to address these major reform areas. This would 
involve practical assistance to help the Government implement reforms 
rather than further recommendations on restructuring. The Government is 
keen to reform but is uncertain of how to implement changes and this 
has been incorrectly interpreted as reluctance to reform. 

8. Per Capita Grant Assistance - The same comment per item 1, above, 
applies to Figure 3. MUORA related funds should not be included or, if 
included, should be stated as such and noted that these are payments to 
Kwajalein land owners for land use. Also, it is difficult to determine 
if the RMI figures include the "bump-up" amounts in 2002-03. Per the 
introductory comment, it should be noted that the RMI set aside its 
'bump-up' funding to meet its funding obligations for the Amended 
Compact Trust Fund. Such an effort not only showed fiscal prudence but 
also helped to implement the government's intent to save for future 
generations. This comment also relates to the initial para under 'FSM 
and RMI Economies Depend on Government Spending on Foreign Assistance 
Instead of Private Sector Production.': 

9. Tax Collections - One aspect that the report doesn't touch on when 
discussing tax collections and amounts is the vulnerability of certain 
tax income streams. For instance, fisheries license income does provide 
a significant amount in income to the government ($1.3-2.5 million 
annually) as well as associated private sector income from supporting 
ships. However, this figure is volatile year-to-year and the government 
has little control over the amounts generated since it depends on 
fishing patterns. Such volatility is symptomatic of other thin income 
streams to the government. And such volatility relates to private 
sector activity such as: tourism declines due to 9/11 and SARS outbreak 
in the early part of this decade; and increased fuel prices which have 
an instant negative impact on economic activity and human development 
indicators. 

10. Tourist Visits - Under 'Key FSM and RMI Industries Face Multiple 
Constraints to Growth' (page 24) the comment that tourism flows remain 
small in number relative to the RMI's neighbors may be misleading. What 
neighbors are being referred to? The footnote mentions Fiji, Samoa, 
Palau, PNG and Vanuatu which are not really neighbors. The RMI's 
neighbors are the FSM, Kiribati and Nauru. There are various reasons, 
such as air connections, relative proximity to originating countries, 
etc. that have to be looked at from the supply side as well as internal 
issues such as infrastructure and support services can be determined. 

11. Footnote 50 ADB Comment - This statement relates to the 1987-2001 
period. It does not relate to the 'bump-up' years (2002-03) and the 
current amended Compact period. This should be noted. 

12. Public Sector Reform (page 33) - The statement that "early efforts 
to reduce public sector employment have generally failed" is incorrect 
for the RMI. The RMI has had several public sector reform efforts in 
the 1990s to include: 1) efforts at enterprise commercialization and 
privatization; 2) reducing the size of government by eliminating or 
spinning-off government departments and entities; and 3) civil service 
reform to include staff reductions. The problem is making continuous 
and consistent efforts. 

13. Policy Reforms - The section, 'Compact Management Committees Have 
Not Addressed Slow FSM and RMI Progress in Implementing Reforms' 
provides some suggestions for public sector capacity building. The RMI 
has applied amended Compact funds to the Marshall Islands Investment 
Authority for tourism promotion and has provided support for the Land 
Registration Office. 

14. Conclusion - While tax, land and foreign investment regulation 
reforms are mentioned in this section, the need for public sector 
reform (specifically civil service reform) is not mentioned yet remains 
vital. This is important for the RMI's development so that the public 
sector becomes less of an economic actor, does not 'crowd out' the 
private sector for employees and capital, and provides the enabling 
environment for private sector-led development. 

The following are GAO's comments on the Republic of the Marshall 
Islands letter dated June 1, 2006. 

GAO Comments: 

1. Regarding our recommendation, we believe that economic reforms in 
each of the areas discussed (e.g., tax, land, foreign investment, and 
public sector) are needed to improve the RMI's prospects for long-term 
economic growth and have clarified the report language. We also agree 
that the annual decrement in compact grant funding is a major challenge 
to achieving this objective, particularly if implementation of key 
policy reforms requires fiscal resources. 

2. We recognize that the FSM and the RMI were required under the 
amended compacts to contribute an initial $30 million to their trust 
funds. Recent RMI GDP performance may have differed if this funding 
were used to provide current goods and services rather than for 
savings. Nonetheless, the RMI's contribution to their trust fund does 
not alter the extent of RMI economic dependence on external assistance. 
Our description of RMI economic performance was also based on broad 
trends from 2000 to 2005, rather than exclusively on the 2 years of 
bump-up assistance in 2002 and 2003. 

3. We will address amended compact implementation issues and trust-fund 
issues in two separate reports, forthcoming. We have also added 
language to this report indicating the RMI's concern over delays in 
setting up its trust fund. 

4. We have clarified our estimates and figures with regards to funding 
streams they include and exclude. Section 177 funds are not included in 
our analysis.[Footnote 67] 

5. Section 211 of Title Two of the Amended Compact with the RMI states 
that compact grants shall be used for assistance in education, health 
care, the environment, public sector capacity building, and private 
sector development, or for other areas as mutually agreed, with 
priorities in the education and health sectors. 

6. We have added language regarding RMI consultations with the private 
sector and their desire for improved tax enforcement. The effectiveness 
of U.S. and ADB technical assistance to the RMI is outside the scope of 
this report. We note, however, that the RMI allocated no compact 
funding to a public sector capacity building grant in fiscal year 2004 
and less than 1 percent of compact sector grant funding to such a grant 
in fiscal year 2005. 

7. We discuss remittances in our report as one option that the RMI may 
consider in pursuing the economic goals under the amended compact and 
that the JEMFAC may consider when discussing compact grant 
implementation. In the RMI's METO 2000 Statement of Development 
Strategies and its 2001 Strategic Development Plan entitled "Vision 
2018," the RMI estimates that between 500 to 800 new job entrants will 
need to find employment each year from 1999 to 2009. To meet this 
objective, the ready access provided under the compact for Marshallese 
to live and work in the U.S. must be preserved. These documents also 
emphasize that the education system needs to equip Marshallese to 
succeed both in the RMI and abroad. Economic experts have emphasized 
that the RMI's free access and strong historical links to the U.S. 
market provide the RMI with relatively good opportunities to expand 
remittance income, particularly if migrants had upgraded skills. 
Improved skill provision should benefit both RMI emigrants as well as 
domestic economic prospects. 

8. We have clarified our reference that 2003 data on international 
visitor arrivals are for other Pacific island nations. Such data are 
not available for Kiribati and Nauru. The World Bank has estimated 
that, in 2002, Kiribati had 5,000 international visitors. However, 
Kiribati also has a per capita GDP that is less than one-third of the 
RMI's. 

9. RMI employment data indicate that the RMI did succeed in reducing 
public sector employment from about 3,760 jobs in 1997 to about 3,530 
jobs in 2001.[Footnote 68] However, since then, public sector 
employment has risen to about 4,320 jobs in 2005. 

10. We have modified language in the report to clarify each of these 
points. We have added language to the report to include the volatility 
in tax income from the fisheries and tourism sectors and the fact that 
RMI offices related to reform efforts, such as land registration 
offices, have been funded with compact grants. 

[End of section] 

Appendix VIII: GAO Contact and Staff Acknowledgments: 

GAO Contact: 

David Gootnick, (202) 512-3149: 

Staff Acknowledgments: 

In addition to the persons named above, Emil Friberg, Assistant 
Director; Leslie Holen; Reid Lowe; Mary Moutsos; Kendall Schaefer; and 
Seyda Wentworth made key contributions to this report. 

FOOTNOTES 

[1] The FSM comprises the four states of Chuuk, Kosrae, Pohnpei, and 
Yap. Each state has its own constitution, elected legislature, and 
governor and maintains considerable power, relative to the central 
government, to implement budgetary policies. 

[2] A key goal for this assistance was to advance economic development 
and self-reliance for both countries. In 2000, we reviewed the impact 
of compact funding and found that U.S. assistance had resulted in 
little economic development for either the FSM or the RMI. See GAO, 
Foreign Assistance: U.S. Funds to Two Micronesian Nations Had Little 
Impact on Economic Development, GAO/NSIAD-00-216 (Washington, D.C.: 
Sept. 22, 2000). 

[3] For the purpose of this report, all annual references refer to the 
fiscal year rather than the calendar year. Note that the $3.6 billion 
in assistance includes (a) compact grants; (b) trust-fund 
contributions; (c) Kwajalein impact funding provided to the RMI 
government, which in turn compensates Kwajalein Atoll landowners, for 
U.S. access to the atoll for military purposes; and (d) estimated 
values of compact-authorized federal services such as weather, 
aviation, and postal services, at around $200 million over the 20-year 
period. Services associated with the Federal Emergency Management 
Agency have been excluded. 

[4] The amended compact with the FSM requires the FSM government to 
prepare an official overall development plan. The RMI amended compact 
requires the RMI government to prepare an official medium-term budget 
and investment framework. The RMI has also prepared two strategic 
development reports entitled "Meto 2000" and "Vision 2018." In our 
report, we refer to the three RMI documents combined, as its 
development plans. 

[5] JEMCO and JEMFAC were created under the amended compacts to 
strengthen management and accountability and to promote the effective 
use of compact funding. Each committee has five members, three from the 
United States and the other two from the FSM for JEMCO and from the RMI 
for JEMFAC. The Departments of the Interior, State, and Health and 
Human Services supply the three U.S. representatives, with the Interior 
representative serving as Chairman. 

[6] P.L. 108-188. 

[7] Specifically, the implementing legislation directs that the scope 
of the JEMCO and JEMFAC annual meeting, as outlined in the amended 
compacts, shall be construed as to read that the JEMCO and JEMFAC 
review required audits and reports, evaluate FSM and RMI progress in 
meeting objectives identified within their development plans, with 
particular focus on priority sectors and implementation of economic 
policy reforms to encourage investment and achieve self-sufficient tax 
rates, identify problems encountered, and recommend ways to increase 
the effectiveness of U.S. assistance. In this report, we use the term 
"address objectives" to refer to these actions. 

[8] The fiscal procedure agreement for the FSM specifically states that 
JEMCO shall monitor FSM progress toward sustainable economic 
development and budgetary self-reliance in relation to its written 
goals and performance measures. The fiscal procedure agreement for the 
RMI specifically states that JEMFAC shall evaluate RMI progress to 
foster economic advancement and budgetary self-reliance in relation to 
its written goals and performance. In this report, we refer to both 
requirements as "monitoring." Also, FSM and RMI development plans 
broadly refer to the terms "sustainable economic development" and 
"economic self-sufficiency" in reference to their goals for long-term 
economic advancement. 

[9] A separate report will examine the use and oversight of U.S. 
assistance to the FSM and the RMI. 

[10] Transparency International is a global nongovernmental 
organization (NGO) devoted to combating corruption. The organization 
consists of more than 90 locally established national chapters and 
chapters in formation that bring together relevant players from 
government, civil society, business and the media to promote 
transparency in elections, in public administration, in procurement and 
in business. 

[11] The East-West center is an education and research organization 
established by the U.S. Congress in 1960 to strengthen relations and 
understanding among the peoples and nations of Asia, the Pacific, and 
the United States. 

[12] The U.S. Department of the Navy began civil administration of 
these islands on July 18, 1947; this responsibility was transferred to 
Interior in July 1951. See GAO, Foreign Assistance: Effectiveness and 
Accountability Problems Common in U.S. Programs to Assist Two 
Micronesian Nations, GAO-02-70 (Washington, D.C.: Jan. 22, 2002). 

[13] This estimate represents total nominal outlays. It does not 
include payments for compact-authorized federal services or U.S. 
military use of Kwajalein Atoll land, nor does it include investment 
development funds provided under section 111 of Public Law 99-239. 

[14] In addition to providing compact grants, the United States gave 
the FSM and the RMI access to programs from various agencies, such as 
the Departments of Education and Health and Human Services. Total U.S. 
assistance, therefore, includes compact grants and U.S. program 
assistance. 

[15] In the FSM, however, state per capita GDP performance varied. For 
example, real per capita GDP declined from 1987 to 2003 in Chuuk and 
Kosrae while it increased in Pohnpei and Yap. 

[16] GAO/NSIAD-00-216. 

[17] GAO/NSIAD-00-216. 

[18] We use the term "U.S. island areas" to refer collectively to Guam, 
Hawaii, and the Commonwealth of the Northern Mariana Islands. See GAO, 
Foreign Relations: Migration from Micronesian Nations Has Had 
Significant Impact on Guam, Hawaii, and the Commonwealth of the 
Northern Mariana Islands, GAO-02-40 (Washington, D.C.: Oct. 5, 2001). 

[19] The amended compacts and related agreements addressed most of the 
recommendations that we had made in past reports. See GAO, Compact of 
Free Association: An Assessment of the Amended Compacts and Related 
Agreements, GAO-03-890T (Washington, D.C.: June 18, 2003). 

[20] Both the original and the amended compacts provide for the United 
States' use of portions of the Kwajalein Atoll for military and defense 
purposes. The new agreement provides U.S. military access to Kwajalein 
Atoll through 2066, with an option to extend access through 2086. See 
GAO, Foreign Relations: Kwajalein Atoll Is the Key U.S. Defense 
Interest in Two Micronesian Nations, GAO-02-119 (Washington, D.C.: Jan. 
22, 2002). 

[21] For our earlier analysis, see GAO-03-890T. Since 2003, the RMI has 
also secured trust-fund contributions from the authorities on Taiwan. 
However, both the FSM and RMI trust-funds experienced delays in getting 
invested. The RMI stated in its comments to this report that such 
delays will impact performance of its trust-fund in the long run. To 
reflect the most recent market and trust-fund information, we will be 
updating our trust-fund analysis in a separate report, forthcoming. 

[22] In designing the trust funds, the Department of State assumed that 
the trust fund would earn a 6 percent rate of return in order to 
reflect a conservative investment strategy. This rate of return can be 
compared with the current average forecasted return for long-term U.S. 
government bonds of 5.2 percent by the Congressional Budget Office. 

[23] The Millennium Challenge Act of 2003 (P.L. 108-199) established 
the Millennium Challenge Corporation (MCC) in January 2004; 
MCC administers the Millennium Challenge Account. Through this account, 
the United States provides development assistance to lower-income and 
lower-middle income countries that demonstrate, among other factors, a 
commitment to just and democratic governance, economic freedom, and 
investing in their people. According to the World Bank's World 
Development Indicators, the FSM and the RMI are lower-middle income 
countries. 

[24] For example, the central government manages less than 10 percent 
of compact sector grants. Further, due to confusion about how the FSM 
consolidated budget translates into specific state resource flows, for 
the fiscal year 2007 budget consultations, the Department of the 
Interior will consult with the state governments directly, rather than 
through the central government. 

[25] In addition to these examples, land issues remain a problem for 
U.S. access to Kwajalein Atoll through the defense provisions of the 
amended compact. The RMI government is bound by an agreement with the 
U.S. government that allows for U.S. access to Kwajalein Atoll until 
2086. To date, the RMI government has not reached an agreement with 
Kwajalein Atoll landowners (who own the land under use by the U.S. 
government) that allows for this long-term access. 

[25] [26] In June 2004, RMI officials announced plans for a Taiwanese- 
funded floating dry dock to be placed in downtown Majuro (the capital 
city of the RMI). Members of the RMI's NGO community opposed this plan 
owing to potential negative impacts on the reef, sea life, and the 
downtown community. 

[27] Countries with higher per capita aid levels include French 
Polynesia, New Caledonia, Mayotte, and Palau, which also has a Compact 
of Free Association with the United States. 

[28] As directed by the amended compacts, the FSM and the RMI have 
placed a priority on the health and education sectors. For example, 
education expenditures amounted to $221 per capita in the RMI and $192 
per capita in the FSM. In the FSM, however, per capita health and 
education expenditures varied widely by state, reflecting variations in 
per capita assistance received. For example, although Chuuk state 
represents an estimated 50 percent of the FSM population, it receives 
only 38 percent of compact funds. 

[29] MCC also examines girls' primary education completion, but data 
for this indicator were not available for either the FSM or the RMI. 
Regarding immunizations, the RMI had a large measles outbreak in 2003. 
In response to this outbreak, HHS initiated steps to improve vaccine 
coverage, including, among other things, assigning a public health 
advisor to the Pacific Islands Health Officers Association in 2005; 
continuing its commitment to fund a regional immunization 
epidemiologist to be based in the FSM; 
and committing to place a public health advisor in Chuuk State. 

[30] A World Bank study highlights suicide as a serious risk for RMI 
youths, with 66 cases of attempted or completed suicides in 2003 (an 
increase of 20 percent from 2002). See World Bank, East Asia and the 
Pacific Region, Opportunities That Change People's Lives: Human 
Development Review of the Pacific Islands - RMI Country Case Study 
(Washington, D.C.: 2005). The RMI has pursued a vigorous outreach 
program to address this problem, however, and reported suicides fell 
significantly in 2005. 

[31] According to the RMI's Economic Policy, Planning, and Statistics 
Office, only 14 percent of Marshallese staff who took the test passed 
both the reading and writing components. 

[32] In this report, we use "remittances" to refer to funds voluntarily 
transferred by emigrants to their home countries. 

[33] Earlier estimates by the IMF and the FSM predicted minimal GDP 
growth in 2005, based on an assumption of increased government 
expenditure; 
however, compact delays continued into 2005. 

[34] IMF and RMI government estimates of GDP growth differ due to 
different inflation assumptions. According to RMI economic consultants, 
RMI estimates will be updated to reflect new inflation assumptions to 
accord more closely to those used by the IMF. 

[35] Both the FSM and the RMI have limited data on private sector 
profits. Employment data and interviews with private sector 
representatives confirm the lack of private sector growth. 

[36] Reliable exact trade data are not available. However, current 
information suggests that imports exceed exports almost sevenfold in 
the FSM and almost fivefold in the RMI. 

[37] Both economies scaled back public sector employment and total wage 
expenditures in the late 1990s as part of an ADB-financed public sector 
restructuring program. FSM public sector employment has varied since 
2000, but the level in 2005 is the highest over the past 5 years. In 
the RMI, public sector employment steadily increased from 2000 to 2005. 

[38] FSM tax revenue accounts for about 11 percent of GDP, compared 
with Fiji, Palau, Papua New Guinea, Solomon Islands, or Kiribati tax 
revenues, each of which accounts for more than 20 percent of GDP. 

[39] The FSM public sector wage bill accounts for about 25 percent of 
GDP. In contrast, the public sector wage bills in Fiji, the Solomon 
Islands, Papua New Guinea, and Samoa account for less than 12 percent 
of GDP. 

[40] However, the FSM fiscal outlook is complicated by varied state 
budget structures that create differences in fiscal vulnerabilities. 
For example, 2005 tax revenues ranged from 28 percent of total revenues 
in Pohnpei to 16 percent of total revenues in Kosrae, while the 2005 
wage bill ranged from 30 percent in Yap to 57 percent in Chuuk. 
Moreover, the FSM will face an additional element of fiscal adjustment 
as it is required to phase out over 5 years its ineligible use of the 
compact capacity building grant for general government operations. 

[41] In addition, the RMI's ADB debt repayments will be increasing in 
the future. The RMI estimates that annual ADB debt repayments will rise 
from approximately $1 million in 2005 to almost $4 million by 2012. 

[42] ADB and IMF studies broadly estimate that the FSM could raise tax 
revenues by 25 to 30 percent by implementing a value-added tax (VAT). 
See Mark Sturton, Strengthening of Public Sector Management and 
Administration: Compact Fiscal Adjustment and Transition, a report 
prepared for ADB TA-4258, 2004 and the 2004 IMF Article IV Staff Report 
and Statistical Appendix for the FSM. For the RMI, estimates of revenue 
potential are less certain. One ADB study estimates that the RMI could 
raise tax revenues by about 20 percent by altering its income tax 
structure and streamlining import taxes. (See Fuat Andic, Tax Policy 
and Administration in the RMI, a report prepared for ADB TA-6245-REG, 
2005.) However, another ADB consultant suggested that revenue gains 
from tax reform would be limited to less than 3 percent. 

[43] The World Bank reports that international visitor arrivals in 2003 
totaled approximately 18,000 in the FSM and 7,000 in the RMI, compared 
with 431,000 in Fiji; 92,000 in Samoa; 68,000 in Palau; 
56,000 in Papua New Guinea; and 50,000 in Vanuatu. 

[44] The RMI stated in its comments to this report that tax income from 
the fisheries and tourism sectors is also volatile. 

[45] Remittances are also an important source of income to maintain 
standards of living for families in home countries since they are 
resilient to economic downturns. We reported that, for several 
countries, including El Salvador and the Philippines, remittances from 
the United States received by households on a monthly basis tend to 
substantially exceed the monthly minimum wage income for these 
countries. See GAO, International Remittances: Different Estimation 
Methodologies Produce Different Results, GAO-06-210 (Washington, D.C.: 
Mar. 28, 2006). 

[46] U.S. Census surveys of Guam, the Commonwealth of the Northern 
Mariana Islands (CNMI), and Hawaii suggest that a large portion of 
Micronesian migrants live in these areas. 

[47] As a result of emigration, FSM population growth has slowed from 
about 2 percent in the early 1990s to virtually zero since 1995. 

[48] GAO-02-40. 

[49] FSM and RMI migrants also live in other areas of the United 
States. A preliminary survey of RMI emigrants in Springdale, Arkansas 
suggests that the emigrant population there has higher education levels 
and lower poverty levels relative to the emigrant population in Hawaii, 
Guam, and the CNMI. 

[50] In addition to income support from remittances, experts also 
suggest that returning emigrants may bring back newly acquired skills 
and capital that could support growth in the home economy. 

[51] Department of the Interior officials reported that their Office of 
Insular Affairs has contracted with the U.S. Department of 
Agriculture's Graduate School to assist them in preparing an economic 
statistics dataset for the FSM and the RMI, economic reviews for the 
FSM and the RMI, and a policy review for both countries. 

[52] According to ADB experts, large aid transfers to the FSM and the 
RMI resulted in an economic development strategy where the public 
sector served as the engine of growth. For example, during the original 
compact period, large investments were made into public sector 
enterprises that were protected through subsidies or tax exemptions. 
These activities created distorted incentives for tax reform, public 
sector downsizing, and creation of a more open foreign investment 
regime. 

[53] The FSM Office of Customs and Tax estimated that it collects 
between 40 to 60 percent of owed taxes. It attributed this low 
collection rate to inadequate collection and enforcement capacity and 
to the inability of businesses with net losses to pay taxes levied on a 
gross basis. 

[54] According to the Task Force on Tax Reform, the FSM will need to 
pass a constitutional amendment to implement the tax reform proposal 
that revises state and national tax authorities or each state will have 
to pass identical tax reform legislation. FSM officials report that 
such an amendment had been previously introduced and failed. Our 
interviews with state governments suggested that they support the 
proposal in principle but are not yet aware of a detailed plan. Our 
interviews with private sector representatives suggested some 
resistance to the tax reform proposal. 

[55] The two commercial banks that operate in the FSM (Bank of Guam and 
Bank of FSM) also have some degree of foreign ownership such that they 
are unable to accept land as collateral. In the RMI, the Bank of Guam 
and the Bank of the Marshall Islands also have foreign-ownership that 
prevents them from owning land. 

[56] In January of 2000, the RMI Cabinet appointed a new board for the 
Marshall Islands Social Security Administration (MISSA) that in turn 
appointed new management. The newly appointed management implemented 
wide ranging reforms including closer justification of expenditures, 
streamlining salaries and wages, elimination of job duplication, and 
improved use of information technology. 

[57] See The Aires Group Ltd., Privatization of Public Enterprises and 
Corporate Governance Reforms, a special report prepared at the request 
of the Asian Development Bank, 2001. 

[58] The implementing legislation, P.L. 108-188, directs that the scope 
of the JEMCO and JEMFAC annual meeting, as outlined in the amended 
compacts, shall be construed as to read that the JEMCO and JEMFAC 
review required audits and reports and (1) evaluate FSM and RMI 
progress in meeting objectives identified within their development 
plans, with particular focus on priority sectors and implementation of 
economic policy reforms to encourage investment and achieve self- 
sufficient tax rates; (2) identify problems encountered; 
and (3) recommend ways to increase the effectiveness of U.S. 
assistance. In this report, we use the term "address objectives" to 
refer to these actions. 

[59] FSM and RMI offices related to reform efforts, such as land 
registration offices, have been funded with compact grants. 

[60] Our forthcoming report on the use and oversight of U.S. assistance 
to the FSM and the RMI will be published by December 17, 2006. 

[61] The Pacific Islands Forum represents the governments of 16 Pacific 
islands and houses a secretariat to perform administrative tasks in 
support of the forum's goal of regional cooperation. 

[62] These reports include: World Bank, East Asia and the Pacific 
Region, Opportunities That Change People's Lives: Human Development 
Review of the Pacific Islands - RMI Country Case Study (Washington, 
D.C.: 2005); Secretariat of the Pacific Community, in cooperation with 
the United Nations Development Program, Pacific Islands Regional 
Millennium Development Goals Report (Noumea, New Caledonia: 2004); 
United Nations Development Program, in joint publication with the RMI, 
RMI Millennium Development Goals National Progress Report (Majuro, RMI: 
2005); and Asian Development Bank, Priorities of the People Series ( 
http://www.adb.org/Documents/Reports/Priorities_Poor/default.asp). 

[63] Safe water and sanitation is defined as access to an improved 
water source and sanitation, which the World Bank defines as access to 
a household water connection, public standpipe, borehole, protected 
well or spring, or rainwater collection and access to sanitation 
facilities (private or shared, but not public) that can effectively 
prevent human, animal, and insect contract with excreta. RMI teacher 
literacy levels were determined from the RMI Ministry of Education's 
2004 administered Marshall Islands English Literacy Test for Teachers 
(MIELTT). The Pacific Islands Literacy Level (PILL) test is a test 
administered by the South Pacific Board for Educational Assessment. 

[64] Under Article IV of the IMF's Articles of Agreement, the IMF holds 
bilateral discussions with members and prepares supporting 
documentation on economic developments and policies. 

[65] These reviews include assessments by the IMF's Pacific Financial 
Technical Assistance Center; Fuat Andic, Tax Policy and Administration 
in the RMI, a report prepared for ADB TA-6245-REG, 2005; Mark Sturton, 
Strengthening of Public Sector Management and Administration: Compact 
Fiscal Adjustment and Transition, a report prepared for ADB TA-4258, 
2004; Enterprise Research Institute, Republic of the Marshall Islands 
Private Sector Assessment: Promoting Growth through Reform, report 
prepared for ADB TA 6037, 2003; and The Aires Group Ltd., Privatization 
of Public Enterprises and Corporate Governance Reforms, a special 
report prepared at the request of the Asian Development Bank, 2001. 

[66] See the World Bank's Doing Business web site at http:// 
www.doingbusiness.org/. 

[67] The compact served as a vehicle to reach a full settlement of all 
compensation claims related to U.S. nuclear tests conducted on 
Marshallese atolls between 1946 and 1958. In a compact-related 
agreement (pursuant to Section 177), the U.S. government agreed to 
provide $150 million to create a trust fund. While the compact and its 
related agreements represented a full settlement of all nuclear claims, 
it provided the RMI with the right to submit a petition of "changed 
circumstance" to the U.S. Congress requesting additional compensation. 
The RMI government submitted such a petition in September 2000. In 
November 2004, the U.S. Department of State issued a report evaluating 
the legal and scientific basis of this petition. The report concludes 
that there is no legal basis for considering additional payments. The 
House Committee on Resources and the Subcommittee on Asia and the 
Pacific of the House Committee on International Relations held a joint 
hearing on the petition on May 25, 2005. The Senate Committee on Energy 
and Natural Resources held an oversight hearing on the effects of the 
U.S. nuclear testing program on the Marshall Islands on July 19, 2005. 

[68] Public sector employment data includes jobs in the RMI national 
and local governments, government agencies, and public-sector 
enterprises. 

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