III. BUDGETARY FRAMEWORK

Overview of Total Resources

Overview of Total Resources Available (Real growth before cost increases)

68. The above table shows the estimated level of resources likely to be available under the Real Growth scenario. Resources come to the Organization by three principle means:

1. assessed contributions;
2. miscellaneous income as defined under Financial Regulation 7.1; and
3. voluntary contributions as defined under Financial Regulation 6.7.

69. The net of the first two equals the amount which would be authorised by the Appropriation Resolution as voted by Conference and in the above table reflects the Director-General's real growth proposal.

70. Voluntary Contributions are split into:

• Voluntary Contributions under Financial Regulation 6.7: To Other Income; and
• Voluntary Contributions under Financial Regulation 6.7: To Trust Funds.

71. The distinction here is that the former represent resources which are managed closely with the resources of the Regular Budget Appropriation. The major part of "Other Income" consists of jointly funded activities and project operational and administrative support services. Within the "Other Income" category a further distinction is made between:

• Other Income credited to the General Fund in the Financial Accounts
• Other Income not credited to the General Fund in the Financial Accounts

72. While both types contribute to the Programme of Work described in this document only the former is accounted in the General Fund. This has some implications for performance reporting.

73. "Voluntary Contributions under Financial Regulation 6.7: To Trust Funds" represents the large majority of extra-budgetary resources and is principally directed to projects in the field.

74. Apart from the real growth proposal for the Regular Budget, which is subject to a detailed explanation throughout the document, there have been some changes in income from voluntary contributions. The key ones of note are:

1. a general decline in the level of extra-budgetary resources and in the related support cost income;
2. an increase in the World Bank jointly-funded investment programme;
3. a decline in the administrative services provided to WFP as their financial systems increasingly come on-line and hence eliminate the need for FAO work; and
4. the culmination of the trend over several biennia leading to the cessation of the UNFPA-funded programme in support for population activities in FAO.

Risk Assessment

75. In the past Members have expressed interest in being informed of the risks to the achievement of the proposed Programme of Work which may underlie the Director-General's proposals. This is a brief list of the major risks that are recognised by the Secretariat:

76. Level of funding - the extent to which Members are prepared to agree to the level of resources sought. On this occasion, the feasibility of a Real Growth Scenario is further threatened by the level of cost increases (US$ 33.6 million) and the amortization of After Service Medical Care (US$ 14.1 million). The result is that the net increase in assessed contributions would be a substantial 13.6% for RG or 6.3% for ZRG. Zero Nominal Growth, even if the Conference decides not to fund the amortization of After Service Medical Care, would amount to a drastic US$ 34 million budget cut in FAO's budget - the equivalent of 230 posts.

77. Split Assessment - the possibility that the Membership will reject the proposal to apply split assessment to the Organization's assessed contributions. At this particular moment in time, the strength of the Euro is such that a rate of between € 1.08 and € 1.10=US$ 1 would result in the need to increase the amount for cost increases by US$ 50 to US$ 56 million. This would increase the impact of ZNG to a catastrophic US$ 90 million cut or 14% of the budget.

78. Field Programme Approvals and Delivery - the likelihood that delivery assumptions can be achieved and therefore that the assumed levels of support cost income will be earned. Here the risk is that over-optimism in delivery forecasts may put us in a position of under budgeting in this area. This phenomenon has been common in recent biennia but is further exacerbated by the volatile nature of large emergency programmes. It is hoped that the further reductions in forecast delivery envisaged in this budget combined with contingency plans for a major decline in emergency delivery will be sufficient to allow income to match the related expenditures.

79. Field Staff Security and Safety - The Director-General is committed to the full implementation of the UN Security Management System endorsed by the Chief Executive Board as applicable to the personnel of FAO. This implies responsibility for their safety and security and a number of explicit actions have been funded in these proposals. The risk is that there may be extensive further actions to be taken with cost implications which are not yet known. This issue will be taken up again in the full PWB.

80. Cost Management - the degree to which costs that are outside the control of the Secretariat can put unplanned strain on the Organization's capacity to deliver its Programme of Work (e.g. ICSC decisions). The Special Reserve Account now has a more substantial balance which would allow us to respond to such an eventuality if necessary.

81. Cost Management - long-term unfunded liabilities and their potential for absorbing an ever larger share of total resources unless a conscious decision is made to fund them. This budget includes a specific proposal to fund the most significant of these long term liabilities.

82. Systems Development Management - an area of risk for all large organizations and one that FAO has had to face in the past. In particular, the major new area of work will be the development of Oracle Phase II which includes the Human Resource Management Systems and the Payroll Module. It is expected that the lessons learned from previous experiences will lower this risk.

83. Inter-disciplinary Management Challenges - an area needing further attention is addressing the management issues related to Priority Areas for Inter-disciplinary Action (PAIAs) and the Strategies to Address Cross-organizational Issues (SACOIs). The risk is that the horizontal management processes and incentives for the inter-disciplinary activities may not be strong enough to overcome the traditional vertical programme management structures. More attention is being given to this matter in the coming months.

84. Change in Demand and Flexibility to Meet it - the Organization seems to face, more than perhaps ever before, increasing and fast changing demand for additional services or new areas of focus. These are often legitimately generated by other inter-governmental Organizations (e.g. CITES, WSSD, NEPAD, CBD, etc.). Increasingly we find ourselves being unable to adequately respond simply because we must operate within a fixed or declining resource envelope. Other forms of demand reflect the increasingly inter-dependent international environment and the growth in demand for global public goods that must be balanced against the need for capacity building. This is clearly evidenced in FAO through the call for increased Support for Standard Setting (e.g. Codex, IPPC, PGFRA, etc.). Apart from the provision of additional resources, current efforts to sharpen priority setting methods may assist in addressing this issue.

Developments under Extra-budgetary Resources

85. Project delivery by funding source is shown below and indicates that the total extra-budgetary field programme has declined somewhat in 2002 after a steady increase from the low level of US$ 199.0 million in 1996. However, this increase mainly reflected a growth in emergency assistance which had expanded from US$ 15.8 million in 1996 to over US$ 160 million in 2000 and 2001 before slipping back to US$ 140 million in 2002.

Extra-Budgetary Field Programme (All amounts in US$ million)

86. UNDP project delivery has declined steadily from US$ 42.8 million in 1996 to US$ 13.9 million in 2002. The decrease since 2000 has mainly been in the area of support for policy and programme development with FAO execution of UNDP projects holding fairly steady at about US$ 12 million. It is anticipated that total UNDP delivery will stabilize at about US$ 12 million per year during 2004-05.

87. Non-emergency assistance, after rebounding from a low of US$ 115.9 million in 2000 to US$ 134.8 million in 2001, declined slightly in 2002 to US$ 129.0 million. Total UNDP and non-emergency Trust Fund project delivery, which had declined steadily from US$ 183.2 million in 1996 to US$ 132.7 million in 2000, recovered well in 2001 to US$ 151.8 million but dipped to US$ 142.9 million in 2002. The turn around in 2001 can partly be attributed to the recovery of delivery following transfer of operating responsibilities from the Field Operations Division (TCO) and Regional Operations Branches to FAO country offices and the inevitable difficulties that arose during the period of transition. Available unspent budgets on current projects and newly confirmed projects continue to be higher than in the past, and there is an expectation that non-emergency Trust Fund delivery will expand from 2002 levels during 2004-05.

88. Trust Fund emergency activities, mainly carried out by TCOR, vary with need. The large increase in emergency programmes since 1997 is related to the Iraq Oil for Food programme. During 2002 delivery on this programme declined to US$ 89.5 million from a high of US$ 127.6 million in 2000. However, delivery of other emergency operations increased from US$ 37.3 million in 2000 to US$ 51.3 million in 2002, keeping overall delivery of emergency assistance above the level of US$ 140 million for the third year. It is assumed that emergency assistance will continue through 2004-05 at close to current levels of activity.

Efficiency Savings and Organizational Changes

89. Since the Director-General assumed office in January 1994, substantial efforts have been made to improve the Organization's efficiency through the implementation of savings defined by the FAO Council as "reductions in the costs of inputs without material negative impact on the outputs". The savings implemented have included:

1. changes designed to take advantage of favourable cost differentials to reduce the costs of inputs;
2. changes in policies, procedures and work methods aimed to streamline operations and administrative functions; and
3. increased recovery of the costs of services provided by the Organization including project technical support services.

90. These savings have enabled the Organization to limit the negative impact on its mandated services of the "zero nominal growth" policy established by the Conference.

Fully Implemented and Operational Efficiency Saving Measures

91. Following is a summary of the main actions taken over the past five biennia. These actions have been reported previously in the 2002-2003 Programme of Work and Budget and in a report to the 119^th session of the FAO Council [CL 119/INF/12].

92. The successful implementation of these efficiency measures has enabled the Organization to continue to provide its mandated services without severely diminishing their quality, notwithstanding the requirement to operate within the US$ 650 million zero nominal growth budget until the 2002-03 biennium which implied a reduction in real terms of US$ 95 million in the biennial budget. It also allowed the Membership to introduce new programmes such as SPFS and EMPRES during a period of declining resources.

93. However, it should be recognised that the rate of savings has certainly declined from that achieved in the period up to the end of the 'nineties. In fact, some of the savings originally planned have not eventuated or have had to be reversed. For example, recent increases in the staffing of AFF and AFI, as recommended by an international accounting firm, may be seen as the reversal of previous reductions, although they have not been counted as such in the above calculations.

On-going Efficiency Measures

94. In addition to the above measures which have been fully implemented, the Organization is continuing the process of streamlining administrative, operations and financial procedures to eliminate unnecessary processes and reduce requirements for staff. The process is being developed based upon the Oracle systems along with new system enhancements and complementary systems which will increase the overall capacity available to the Organization.

Restructuring of Field Programme Operations

95. Beginning in 1994-1995 the Organization began to implement a process designed to reduce project-servicing costs and at the same time improve the delivery and efficiency of operational services. The processes have developed over a period of time on the basis of experience gained at each step. The process first involved the centralization of departmental operational units into a single Field Operations Division within the Technical Cooperation Department. This was followed in the period 1996-1998 by the decentralization of regional and in-country project operational support to operations units within the Regional Offices. The final stage in 2000-2001 involved the further decentralization of management responsibility for in-country projects to the FAOR country offices where practical. Annual savings of US$ 5.0 million had been achieved through the first two phases of restructuring. An additional US$ 4.0 million annual savings was projected for the final phase of decentralization to country offices.

96. Achievement of the additional savings has been complicated by difficulties in realigning procedures to the new operating conditions and because of problems with the expansion of the IT systems for travel, personnel servicing and project finance to country offices. With a global network of 78 country offices, many located in countries without advanced communications capacity, systems implementation has been complex. This has necessitated the restoration of most of the anticipated savings in the 2004-2005 Programme of Work and Budget.

97. An inter-departmental task force has been established to review the operations of Regional Office management support units and regional units responsible for field project operations. The task force will make recommendations on the extension of existing or new IT and communications systems to simplify procedures and eliminate duplicated effort in the processing of field project transactions by Regional Offices, FAOR country offices and Headquarters. It is anticipated that full implementation of the recommendations can be achieved over time, providing an opportunity for eventual realisation of some, if not all, of the planned savings.

New Efficiency Savings Measures

98. As can be seen from the above analysis, the Organization has made massive cuts to its costs and has very much improved its efficiency. Clearly, however, there are limits to the extent to which such savings can be made and certainly it appears, at times, that the Organization may have gone too far and is now having to reverse some of the budgetary reductions which were originally made.

99. That is not to say that the search for further efficiency savings should cease, but rather that a more systematic approach needs to be developed and institutionalised through enhancement of the underlying planning processes. The need to take affirmative action in this regard coincides with the implementation of the new programme model to non-technical programmes. This results-based approach to planning has now been implemented for all of FAO's technical work but needs to be adapted to the rather different needs of service oriented non-technical programmes.

100. This requires some conceptual adaptation of the basic model to take into account the rather different nature of the work as well as the necessary linkages to the Strategies to Address Cross-organizational Issues (SACOIs). Part of the conceptual design will be to build in a periodic analysis of "strengths, weaknesses, opportunities and threats" (SWOT) for each non-technical programme entity aimed specifically at service effectiveness and efficiency.

101. Such efforts, if carried out in depth, require a considerable investment in resources including staff time. In addition, there are also likely to be diminishing returns unless a reasonable period is allowed to elapse between repetition of SWOT exercises. For this reason it is expected that, while the adapted new programme model will be applied to all non-technical programmes during 2004-05, albeit outside the Programme of Work and Budget document, one third of all non-technical programme entities will be subjected to a SWOT analysis. This will then be repeated on a cyclical basis such that all entities are covered over three biennia.

102. This strategy is expected to identify further opportunities for efficiency savings as well as improvements in service delivery. However, given the over-optimistic assumption of certain efficiency savings in the 2002-03 PWB and the consequent under-budgeting, no attempt is made to quantify the extent or timing of the savings which may be captured by this process.

Posts

Evolution of Posts

103. The trend to reduce general service posts and increase professional posts is proposed to continue in the PWB 2004-05, although to a lesser extent. The PWB 2002-03 included a net reduction of 69 general service posts with an increase of 26 professional and 27 NPO posts. Within the Net RG Programme Change column shown in the table on Evolution of Posts, there was a net reduction of 20 general service posts and a net increase of 84 professional and 24 NPO posts. The main RG programme changes include:

1. a net reduction of 8 general service posts in the FAO Representations and creation of 24 NPO and 2 professional posts, primarily linked to the further decentralization of project operations to the country offices and improved information resource management for knowledge and technology transfer in support to decentralized offices;
2. the establishment of additional entry-level professional posts to provide for an increased intake of junior professionals, bearing in mind the forecast levels of retirement of professional staff (a net increase of 47 P-1 to P-3 posts);
3. the use of opportunities arising from staff turnover and post vacancies in both the general service and professional categories to realign and strengthen technical expertise; and
4. the transfer of 46 professional and 44 general service posts from Pools and Other Funds to the Regular Programme category (with no budgetary impact).

104. Moving from the RG proposal, the PWB 2004-05 ZRG scenario proposes a net reduction of 18 general service posts, 28 professional posts and 8 NPO posts. The reductions in the professional category regrettably include 25 posts from high-priority technical programmes.

105. The following table represents changes to the PWB 2004-05 posts by post grade.

Evolution of Posts by Grade

106. Particular emphasis has been placed in the PWB 2004-05 on creating entry level positions, aimed at providing opportunities for attracting young professionals, given the significant staff turnover foreseen in upcoming years due to retirements. As can be seen in the table above, the majority of post changes are introduced in the P-1 to P-3 grade categories, resulting in a reduction in the average grade mix of professional staff. Consequently, the Real Growth grade point average (GPA) for the group of posts funded from the Regular Programme declined from 4.09 to 3.98.

107. The general service category has borne the larger part of post reductions in recent biennia as a result of the declining workload and increased productivity achieved with the help of new technological advances in the Organization. Remaining staff have taken on additional and more demanding tasks and hence a limited number of well-justified general service grade increases are included in the budgetary proposals. This is considered appropriate also in terms of the comparison across the United Nations system, where, for general service posts funded from the Regular Programme, FAO's GPA of 4.08 is below average. It is noted that some further increase may be required for this category as the on-going review of General Service classifications proceeds.

108. Changes in organizational structure are proposed in the Forestry Department where units attached to the office of the ADG have been moved to the technical divisions and some realignment of units between divisions has been undertaken to better balance resources and management responsibility. In the Administration and Finance Department it is proposed to move the travel unit from AFF to the Management Support Service (MSS). Intra-divisional changes have also been proposed in AGS, ESS and GII, and some minor changes, mainly involving post transfers, arise from the final stages of the restructuring of the TC Department, which was largely undertaken in the PWB 2002-03. Where appropriate these changes are discussed in more detail in the Programme Budget section of the document.

Cost Increases

Methodology

109. The methodology for the calculation of cost increases to be provided within the PWB 2004-05 is the same as used for previous biennia and approved by the Finance Committee, Council and Conference. The cost increase calculations included in this document are based on actual data through to the end of 2002 and use, as the base, the Programme of Work for 2002-03. Calculations will be further refined and updated for the full PWB.

Biennialization and Inflation

110. As in previous biennia, cost increases are analysed under the headings of Biennialization and Inflation.

1. Biennialization incorporates the full biennial effect of cost increases that have occurred at some stage during the current biennium (therefore for only part of the 24-month period), but which will be incurred for the full 24 months in 2004-05. Since it reflects the financial impact in 2004-05 of changes that will have occurred before the end of 2003, it is not based on long-term forecasts which may be more prone to forecasting error. It is noted that favourable movements in biennalization can occur when cost increases provided for in the previous budget do not eventuate to the extent foreseen.
2. Inflation, on the other hand, represents the cost impact in 2004-05 of those increases that are expected to take effect at various points in the next biennium (i.e. on or after 1 January 2004 and before 31 December 2005).

Lapse Factor

111.With regard to the application of the lapse factor to staff costs, the methodology approved by the Council at its 111^th Session for application since the 1996-97 budget has been followed. An across-the-board budgetary reduction of 2.77 percent and 1.38 percent continues to be applied to professional and general service costs respectively in arriving at the programme budget estimates for 2004-05. The percentages will be revised in the full PWB 2004-05 to take account of standard retirement lead times and staff turnover rates up to 31 December 2002.

Analysis of Cost Increases

112. The table which follows shows the cost increases summarised by major component, indicating separately the amounts attributable to biennialization of cost increases arising in 2002-03 from cost increases due to inflation in 2004-05. Explanation of the most significant increases and the main assumptions made in forecasting the amounts are described below.

Summary of Cost Increases for 2004-05 (All amounts in US$ 000)

Personnel Services

113.Under Basic Professional Salaries and Post Adjustment, biennialization arises from the General Assembly decision (78^th plenary meeting of the 57^th Session) that approved a new base/floor salary scale for staff in the professional and higher categories effective 1 January 2003. The new salary scale reflects net increases differentiated by grades and was unbudgeted. The provision under inflation includes one cost of living adjustment per year by location where warranted plus provision for expected cost of living surveys. In particular, the assumptions for HQ-based staff are for increases of 2.5 percent in 2003 and 2004 with 3 percent forecast at the end of 2005 following the planned place-to-place survey.

114. The biennialization of General Service Salaries shows a slight decrease as the actual increases closely matched the budgeted increases. HQ general service salaries increased effective November 2002 at a slightly lower than budgeted level (2.88% versus a 3% increase budgeted) offset by a 3.4% increase expected in November 2003 against a 3% increase budgeted. However, small favourable variances were experienced in the decentralized offices. Under inflation, an estimated 4% increase in general service salaries is foreseen effective November 2004 due to a comprehensive salary survey to be undertaken in 2004, and a 3% increase effective November 2005.

115. The substantial biennialization of Pension Fund Contributions is largely attributable to an increase of 3.76% in pensionable remuneration for professional staff, promulgated by the ICSC in October 2002 (compared with a foreseen increment of 3.6% in the PWB 2002-03) compounded by the adverse effect of the new base salary increases described above. In addition, there is the impact on pension contributions of the 2002-03 increase in general service salaries at Headquarters and in the field. Under inflation, the estimated increases are consistent with the estimated increase in professional and general service salaries in 2004-05.

116. Under Social Security, which comprises the Organization's payment to staff medical schemes, biennialization reflects a slight decrease due to the adjustment in premiums at 11 percent being lower than the 15 percent assumption in the budget. At the time of writing the document, Van Breda had not finalised estimating the premiums for 2003. The Organization needs to rebalance the Euro and the Dollar premiums which may lead to an overall increase in premiums of around 8% for 2004 and 12% for 2005, reflected under inflation. This will be subject to further examination and adjustment, if necessary, in the full PWB 2002-03.

117. The decrease in After Service Medical costs under biennialization reflects the results of the latest actuarial valuation as of 31 December 2001, which has determined a reduced provision for current service costs. This provision has varied considerably since the first actuarial valuation in 1996, and it is considered prudent to include a modest inflationary increase for 2004-05 to cover for medical inflation as appropriate.

118. Under Dependency Allowances, the decrease from biennialization fully offsets the forecast increase due to inflation resulting in a net no change.

119. With regard to Education Grant, Travel and Other Allowances, current expenditure patterns indicate that cost increases, which have taken effect during the current biennium, can be absorbed, although appointment travel and related installation allowance cost trends require further review for the full PWB 2002-03. Education Grant provisions are reviewed every two years by the ICSC, and an increase in the education grant ceiling by an average of 2.1% became effective 1 January 2003, for which an appropriate provision has been made under biennialization. The expected increase in 2005 is budgeted under inflation at 5%. Other allowances include hardship and mobility as well as installation allowances. These items are related to either salary increases or to inflation as appropriate.

120. Terminal Payments (comprising repatriation grant, termination indemnities, repatriation travel and removal, death grant and accrued leave) are now covered by accrual accounting principles and are subject to actuarial valuations. The results of the latest actuarial valuation as at 31 December 2001 have been included in the estimates, with a provision to cover for the actual increase of 11.3% in service costs that occurred between the 1999 and the 2001 valuations.

121. The provision for General Service Separation Payments Scheme is in line with the latest actuarial valuation as at 31 December 2001 and reflects the decreasing base of staff in the general service category.

122. The Organization continues to maintain differentiated standard rates for professional positions that take account of distinct cost rates and cost trends in the various locations where FAO staff are posted. A more detailed analysis of cost trends by major location will be completed before the full PWB. While such review is unlikely to have a significant impact on the overall level of cost increase, it might cause some redistribution of costs between organizational units and programmes.

Goods and Services

123. Other Human Resources consists of non-staff human resources in the form of temporary assistance, consultants and contracts. Under inflation, a cost increase of 1.5% per annum effective January 2004 and January 2005 is considered appropriate. It is somewhat less than the overall trends in earnings growth and possibly may fall short of the revision in consultants' rates that is under way in Rome, to bring them up to the level of other UN system organizations.

124. Included under this heading, however, is the increase in FAO's share of the costs of the jointly funded activities of UNSECOORD. This amounts to an additional US$ 2.1 million for the provision of the same outcome; that is a safe and secure environment for field staff. All other additional costs such as new field security posts in OCD have been treated as programme changes in ZRG.

125. Travel costs, have been increased by 1.9% per annum in 2004 and 2005 but need to be further reviewed in the light of developments before the full PWB is completed.

126. Inflation under General Operating Expenses has been based on estimated rates of inflation for Italy which, according to the Economist Intelligence Unit are forecast at 2% in 2004 and 2.1% in 2005. Under pre-existing procedures an amount would also have been added under biennalization to cover the effect of the weakening US dollar on Euro-based expenditures at Headquarters. However, this has been excluded on the presumption that current proposals for the introduction of split assessments will be approved by the Conference in November 2003.

127. Under Furniture, Equipment and Vehicles, it has been assumed that most of the expenditure will be incurred under international tendering provisions for which US rates of inflation are considered more appropriate. Accordingly, an estimated rate of inflation of 2.5% for 2004 and 2.9% for 2005 has been applied.

Amortization of Accrued Liability for After Service Medical Care (ASMC)

128. It may be recalled that this is an area of cost which is not being fully funded. Initially, FAO operated on a "pay-as-you-go" approach to its medical scheme (i.e. enough to cover current claims). However, following actuarial valuations, two problems were recognised:

1. FAO had an outstanding liability for ASMC (e.g. over US$ 200 million at 31 December 2001) which from an accounting viewpoint had to be disclosed in the accounts of the Organization; and
2. a practical implication was that pay-as-you-go payments would grow exponentially in the coming years, as the ratio of the retiree population to active contributors will increase the Organization's share of premiums to proportions which would distort the budget by huge amounts.

129. The response, as endorsed by the Governing Bodies, has been to:

1. budget for current service cost, as well as the pay-as-you-go cost (this prevents the outstanding liability from growing further); and
2. allow surpluses on investments to be set aside in the General Fund to cover the ASMC accrued liability (this has resulted in US$ 97 million being successfully set aside for this purpose).

130. However, apart from the use of investment gains, which are unlikely to be repeated in the next few years at the rate experienced in the 90's, the Governing Bodies have not decided on any funding formula to cover the remaining outstanding liability. It is, therefore, proposed that a provision of US$ 14.1 million per biennium be included under cost increases, being the funding required for the remaining 24-year amortisation, which will be made in the biennial accounts.

Biennial Cost Increase Rates

131. The biennial rate of cost increases is the net effect of applying two annual increases to each year of the biennium. For example, assuming a 2% increase in year 1 and a 3% increase in year 2 on a biennial budget of US$ 100, the calculation of the biennial rate is as follows:

Example data:

Year 1 cost of US$ 50 x 2% =	51.00
Year 2 cost of US$ 51 x 3% =	52.53
Total	103.53

132. The biennial rate in this example is therefore 3.53%. Conversely, this process can be reversed so that a biennial rate can be converted to an annual rate of inflation. In this example, the biennial rate of 3.53% is equivalent to an annual average rate of 2.35%.

133. The biennial rate of cost increases, excluding the accrued liability for After Service Medical Care, for 2004-05 works out at 5.2% of the proposed Programme of Work. The proposed cost increases for 2002-03 are equivalent to an average annual rate of 3.40% which, after taking into account the recent unbudgeted increase in base professional salaries across the system, is well within the recent and forecast levels of inflation.

Budget Level and Funding, including impact of Split Assessments

134. The budget has been prepared in US dollars on the basis of the exchange rate adopted by the 2001 Conference for the 2002-03 budget of € 1 = US$ 0.880. The Director-General's proposal would result in a 13.3% increase in assessed contributions whereas under the ZRG scenario this increase would amount to 7.4%.

135. Under the current methodology for the determination of the effective working budget put before the Conference for its adoption, adjustments are made to the provision for cost increases to reflect either the exchange rate on the day of the vote or a forward rate if a forward contract has already been entered into. If this procedure were to continue for
2004-05, cost increases would have to be augmented substantially depending upon the rate of exchange adopted in the budget.

136. Under split assessment, the Euro requirements would be paid by Members in Euros and hence this exchange rate effect would not come into play. In other words under split assessment, the level of cost increases does not vary because of a change in the exchange rate.