Compact of Free Association:

Implementation Activities Have Progressed, but the Marshall Islands Faces Challenges to Achieving Long-Term Compact Goals

GAO-07-1115T: Published: Jul 24, 2007. Publicly Released: Jul 24, 2007.

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David B. Gootnick
(202) 512-3000


Office of Public Affairs
(202) 512-4800

From 1987 through 2003, the United States provided more than $2 billion in economic assistance to the Federated States of Micronesia (FSM) and the RMI under a Compact of Free Association; approximately $579 million of this economic assistance went to the RMI. In 2003, the U.S. government approved an amended compact with the RMI that provides an additional 20 years of assistance, totaling about $1.5 billion from 2004 through 2023. The Department of the Interior's Office of Insular Affairs (OIA) is responsible for administering and monitoring this U.S. assistance. The amended compact with the RMI identifies the additional 20 years of grant assistance as intended to assist the RMI government in its efforts to promote the economic advancement and budgetary self-reliance of its people. The assistance is provided in the form of annually decreasing grants that prioritize health and education, paired with annually increasing contributions to trust funds intended as a source of revenue for the country after the grants end in 2023. The amended compact also contains several new funding and accountability provisions that strengthen reporting and bilateral interaction. These provisions include requiring the establishment of a joint economic management committee and a trust fund committee to, respectively, among other things, review the RMI's progress toward compact objectives and to assess the trust fund's effectiveness in contributing to the country's long-term economic advancement and budgetary self-reliance. In 2003, we testified that these provisions could improve accountability over assistance but that successful implementation will require appropriate resources and sustained commitment from both the United States and the RMI. Drawing on several reports that we have published since 2005, I will discuss the RMI's economic prospects, implementation of its amended compact to meet long-term goals, and potential trust fund earnings.

The RMI has limited prospects for achieving its long-term development objectives and has not enacted policy reforms needed to enable economic growth. The RMI depends on public sector spending of foreign assistance rather than on private sector or remittance income; public sector expenditure accounts for more than half of its gross domestic product (GDP). The RMI government budget largely depends on foreign assistance and, despite annual decrements in compact funding to support budgetary expenditures, is characterized by a growing wage bill. Meanwhile, the two private sector industries identified as having growth potential--fisheries and tourism--face significant barriers to expansion because of the RMI's remote geographic locations, inadequate infrastructure, and poor business environment. In addition, RMI emigrants lack marketable skills that are needed to increased revenue from remittances. Moreover, progress in implementing key policy reforms necessary to improve the private sector environment has been slow. Foreign investment regulations remain burdensome, and RMI government involvement in commercial activities continues to hinder private sector development. The RMI has made progress in implementing compact assistance, but it faces several challenges in allocating and using this assistance to support its long-term development goals. RMI grant allocations have reflected compact priorities by targeting health, education, and infrastructure--for example, funding construction of nine new schools. The RMI also has not planned for long-term sustainability of services that takes into account the annual funding decrement. Capacity limitations have further affected its ability to ensure the effective use of grant funds. The RMI currently lacks the capacity to adequately measure progress, owing to inadequate baseline data and incomplete performance reports. Moreover, although accountability--as measured by timeliness in single audit reporting and corrective action plans to single audit findings--has improved, insufficient staff and skills have limited the RMI's ability to monitor day-to-day sector grant operations as the compacts require. Inadequate communication about grant implementation may further hinder the U.S. and RMI governments from ensuring the grants' effective use. The RMI trust fund may not provide sustainable income for the country after compact grants end, potential sources for supplementing trust fund income have limitations, and the trust fund committee has experienced management challenges. Market volatility and the choice of investment strategy could cause the RMI trust fund balance to vary widely, and there is increasing probability that in some years the trust fund will not reach the maximum disbursement level allowed--an amount equal to the inflation-adjusted compact grants in 2023--or be able to disburse any income. The trust fund committee's reporting has not analyzed the fund's potential effectiveness in helping the RMI achieve its long-term economic goals. Although the RMI has supplemented its trust fund income with a contribution from Taiwan, other sources of income are uncertain or entail risk. As of June 2007, for example, the RMI trust fund committee had not appointed an independent auditor or a money manager to invest the fund according to the proposed investment strategy.

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