Tunisia - Urban Sewerage Project

FILE COPYJ DOCUMENT OF INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT Not For Public Use Report No. P-1557-TUN REPORT AND RECOMMENDATION. OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE REPUBLIC OF TUNISIA FOR THE FIRST URBAN SEWERAGE PROJECT January 16, 1975 | This report was prepared for official use only by the Bank Group. It may not be published, quoted or cited without Bank Group authorization. The Bank Group does not accept responsibility for the accuracy or completeness of the report.  Currency Unit Tunisian Dinar(D) The exchange rate of the Tunisian Dinar is floating. The rate used in the appraisal report, which approximates the current rate, is: US$ 1 - 0.425 D ' - $2.35 D 1,000 = $235,000 D 1,000,9000 $2,350,000 Fiscal Year January 1 to December 31 Abbreviations BDET Banque de D6veloppement Economique de Tunisie COFITOUR Compagnie Financiere et Touristique DEGTH Directorate of Studies and Major Water Works (Ministry of Agriculture) KfW Kreditanstalt fUr Wiederaufbau ONAS Office National d'Assainissement ONTT Office National du Tourisme et du Thermalisme SONEDE Societe Nationale d'Exploitation et de Distributinn des Eaux  INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE REPUBLIC OF TUNISIA FOR THE FIRST URBAN SEWERAGE PROJECT 1. I submit the following report and recommendation on a proposed loan to the Republic of Tunisia for the equivalent of US$28 million to help finance the first urban sewerage project. The loan would have a term of 25 years, in- cluding 4 years of grace, with interest at 8-1/2 percent per annum. Of the proceeds of the loan, $27.7 million would be relent to the National Sewerage Authority, on the same terms as the Bank loan. PART I - THE ECONOMY 2. A report entitled "The Economic Development of Tunisia - A Basic Report" is being distributed to the Executive Directors simultaneously. An updating economic mission visited Tunisia in November, 1974; its report is now in preparation. The main conclusions of the basic economic and the up- dating mission are reflected below. Country data sheets are attached (Annex I). 3. Tunisia's development has been hampered by scarcity of natural re- sources. Much of the country is arid or semi-arid, and agriculture is highly dependent on rainfall. Minerals are mostly of low quality and, apart from phosphates, limited in quantity. In the mid-1960's, petroleum was discovered and has since become an increasingly valuable source of revenue and export earnings. Industrial development has been handicapped by the small size of the domestic market, as well as a lack of skills and experience. Tourism has developed rapidly and workers' remittances have become a significant item in the balance of payments. Per capita income increased by 4.4 percent annually from 1961, and reached a level of $380 in 1972. Tunisia has enjoyed a large amount of external aid and used it to expand economic and social infrastruc- ture, broaden the industrial base, increase the rate of growth, and make available a wide range of social and welfare services to a large part of the population. Like most developing countries, however, it has not yet found adequate ways to eliminate unemployment and poverty and to achieve a balanced distribution of consumption among income groups, between urban and rural areas, and among regions. 4. Government strategy in the 1960's relied heavily on central plan- ning of investment and resource allocation, with the public sector playing a major role in production as well as providing infrastructure and services. Foreign exchange shortages and concern with inflation led to recourse to a pervasive system of price determination and controls. An unusually long series of poor crop years due to shortage of rainfall slowed down growth of output.  - 2 - Many of the investments in public enterprises proved to be uneconomic and private initiative in most sectors except tourism and petroleum was weak. 5. The Government's present development strategy was introduced after 1969. Its principal objectives are (a) accelerating growth based on export- oriented industries, by encouraging private initiative, reducing direct Govern- ment involvement in production and relaxing administrative regulations; (b) creating jobs, primarily in the expanding industrial sector, encouraging worker emigration, reducing population growth and improving education and training; and (c) maintaining internal and external financial stability. The 1973-76 Plan set a target rate of GDP growth of 7.1 percent, providing for a 5.4 percent growth rate in per capita private consumption. Investment is projected to increase by 70 percent above the Third Plan. National savings are to finance three-quarters of investment. Exports of goods and services are projected to grow at 8.8 percent per year at constant prices and imports at 12.2 percent. The Plan foresees an increase in net external capital inflows of almost 100 percent over 1969-1972 average levels with external capital providing 23.5 percent of total investment; the debt service ratio would be held to below 20 percent. The original Plan targets are conservative in terms of both growth and savings potential, and have been significantly affected by the impact of the changed petroleum and phosphates prices on the Tunisian economy (paras. 9 and 10). 6. The real growth rate of GDP in the 1970's has been almost twice that of the previous decade, averaging 8.6 percent per annum during 1970-1973 and an estimated 11 percent in 1974. It can be attributed in part to fortuitous factors such as good weather, leading to record cereal and olive crops, in part to important growth in tourism, petroleum revenues and workers' remittances as well as to the general re-orientation of Government policy since 1969, which renewed self-confidence and initiative in the private sector. Expansion of manufacturing and phosphate production has been significant. By 1973 GNP per capita had reached $403 at current prices. The investment rate, which aver- aged 24 percent of GDP in the 1960's, dropped to 21.4 percent in 1973 but re- gained its previous level in 1974. National savings, on the other hand, rose sharply, from an average of 13.5 percent of GDP during the 1960's to 18 percent in 1973 and an estimated 22 percent in 1974. Consequently, the share of ex- ternal borrowing in financing investment dropped from 44 percent in the 1960's to 17 percent in 1973. 7. The balance of payments has improved steadily since 1967, with the current account deficit declining from an average of $115 million per year in 1961-1967 to $90 million in 1973 and an estimated $55 million in 1974. The effects of improved terms of trade on the 1974 balance of payments have been significant. Commodity export prices (mainly petroleum, olive oil and phosphates) rose on average by 66 percent over 1973, but were accompanied by a rise in import prices of more than 30 percent. In addition, receipts from services were affected by the decline of tourist activity and the slow- down in the migration of workers to Europe. With estimated gross disbursements on external borrowing totalling $147 million (instead of $203 million as fore- seen in the Plan), net reserves stood at $406 million at the end of 1974, equivalent to 4.5 months of imports.  8. Because of price controls and Government subsidization of basic consumer goods, and prudent fiscal and monetary policies, Tunisia has main- tained relative price stability. Domestic price increases averaged 4.2 per- cent between 1969 and 1973. In 1974 the official GDP deflator rose to an estimated at 8.5 percent. However average investment costs increased by 10 percent in 1973 and by about 17 percent in 1974. 9. In the medium-term, Tunisia is likely to be on balance a beneficiary of the changed world economic situation. Petroleum and phosphate prices in- creased about threefold since 1973; olive oil prices also increased substantial- ly in 1973 and 1974. As a result, commodity export earnings are expected to rise from $406 million in 1973 to about $930 million in 1976. On the other hand, increases in import prices in 1974 and further increases in coming years, combined with higher domestic demand, will cause payments on commodity imports to grow rapidly from $594 million in 1973 to a projected $1,130 million in 1976. Thus Tunisia's gains in terms of trade are expected to disappear by 1978. Tourism earnings and workers remittances may further decline as a re- sult of the depressed economic situation of Western Europe. The level of net reserves is expected to stay at about 4.3 months of imports through 1976 and subsequently to decrease to about 3 months of imports in 1980. At that time, the balance of payments may re-emerge as a constraint on Tunisian's develop- ment. 10. The temporary increase in foreign exchange reserves and Government savings, resulting from higher export prices and consequent increases in tax revenue, does not call for a substantial revision in development strategy. However, Tunisia should step up its efforts to achieve the investment rate projected in the original Fourth Plan, and to realize higher growth rates and employment creation. Since worker emigration to Europe is now limited, an effort to increase investment, particularly in labor-intensive industry and agriculture should be made. With an adequate savings level, the Tunisian economy has the financial resources that should enable it to attain growth rates ranging from 8 to 9.5 percent per annum until 1977 and thereafter from 7 to 8.5 percent. However, in the longer term, higher rates of growth would require substantially higher external aid than in the past. The level of future growth would also depend on Tunisia's ability to stimulate private investment, and to plan and implement public investments. 11. Tunisia has made impressive social gains. By 1971, primary school enrollment had reached 73 percent and secondary enrollment 42 percent of the relevant age-groups. Public health services have been greatly expanded with many provided free, and a family planning program introduced. Social expendi- tures, both current and capital, have increased by over 9 percent per annum; in 1974 they accounted for 11 percent of GDP and for 40 percent of total public expenditures. Nonetheless, major social issues remain. Further progress is needed in land reform. The unemployment rate was estimated at 18 percent in the non-agricultural sectors in 1973, and underemployment in the rural sector is high. There has been a growing concentration of productive activities in a few urban areas.  -4- 12. So far as can be judged from available data, the position of agri- cultural workers in Tunisia worsened relative to that of other workers during the 1960s, partly due to the series of poor harvests. However, the proportion of the population with insufficient incomes was substantially reduced, thanks in particular to the income re-distribution effects of free social services. Since 1970, remarkable increases in agricultural output, a rise in workers' remittances and a 30 percent increase in the agricultural minimum wage in 1974 have improved the absolute and possibly also the relative position of the poorest groups. 13. Agriculture, the dominant sector in the economy, provides nearly half of total employment, 32 percent of merchandise exports and 19 percent of GDP (1972-1974). Food processing industries account for another 4 percent of GDP and over a third of value added in manufacturing. Agricultural production jumped in recent years, largely as a result of favorable weather, and the potential for further growth is clear. While large infrastructure investments were made during the last decade, current policy emphasizes projects that make a rapid and direct contribution to production and recognizes various con- straints on agricultural development: absentee ownership and insecurity of tenure, inadequate access to agricultural credit, the need to devote more re- sources to extension services and agricultural education, and underutilization of irrigation investments. Under the Fourth Plan, more than $100 million has been allocated to a rural development program to be executed by the provincial administrations. 14. During the 1960's manufacturing production in Tunisia increased by 8 percent annually. There was a remarkable acceleration of growth in the 1970's due in part to a record year for the olive oil processing industry and to the development of textile and chemical industries. The early thrust of industrial- ization was supplied by large import substitution projects in the state sector. These suffered, however, from the limited domestic market and shortages of experienced staff and management. Under the Fourth Plan, private manufacturing investment, particularly in textiles, fertilizers and metals transformation, is expected to average D 25 million per year between 1973 and 1976, compared with D 12 million in 1972, and to account for two-thirds of total investment in manufacturing; these targets are likely to be exceeded. Foreign and do- mestic private investment is now stimulated by a comprehensive incentive frame- work, and the streamlined approval procedures of the investment promotion agency. Foreign investors are expected to contribute know-how and overseas marketing. Tunisia's preferential trade agreement with the EEC, currently being renegotiated, also gives it some trade advantages. Preinvestment work, and preparation of programs for re-equipment and modernization in priority subsectors have been started. Tunisia aims to develop petroleum-based indus- tries and production of phosphoric acid and other phosphate derivatives for export, while possibilities in metal manufacturing for export are being ex- plored. The Government has recently established a special fund to encourage growth of small industries and industrial decentralization, and has started a program to establish industrial estates.  -5- 15. The development of tourism is relatively recent. Foreign-visitor arrivals in Tunisia reached a record level of 780,000 in 1972, with an annual rate of growth over the period 1961-1972 of 30 percent -- higher than any other Mediterranean country. Since 1970 earnings from tourism have been a major source of foreign exchange, having reached US$154 million in 1973. While 1973 saw a drop in the number of visitor nights, and 1974 registered another overall drop, increased activity in the last few months of 1974 provides some basis for optimism in the medium-term. The decline in tourist inflow resulted from both external and domestic factors, the former being mainly the effect of the energy crisis on the European tourist flow and adverse currency move- ments, the latter inadequate development of infrastructure (particularly re- creational facilities), shortages of trained manpower and the inadequacy of services. The government is aware of these shortcomings and is endeavoring to alleviate their effects through a variety of measures including the issuance of revised investment incentives, increased efforts in marketing, and the pre- paration of codes to enforce quality standards and more stringent zoning laws. These efforts are supported by the Bank Group and IFC projects in hotel training and tourism infrastructure. 16. Since the early 1960's Tunisia has received relatively large amounts of external capital. Official aid amounted to an average of US$19 per capita per annum, almost half from the United States, mostly in the form of program loans and PL 480 commodity aid. Other major lenders were France, the Federal Republic of Germany, Italy, Kuwait and the Bank Group. In recent years there has been a steady shift away from program lending to project lending. Project loans accounted for 58 percent of total disbusements in 1969-1972 and over 70 percent in 1974. Most aid has been obtained on concessionary terms: from 1969-1972, the average terms of borrowing from bilateral sources were 2.3 percent interest and 27 years to maturity, including 9 years of grace; from multilateral sources 5.4 percent interest and 28 years to maturity, including 6 years of grace. For private borrowing (about $40 million annually), average terns were 6.0 percent interest and 9 years to maturity. Direct foreign pri- vate investment in Tunisia has been limited. However, mainly as a result of increasing outlays on petroleum exploration and development, and, recently, of some foreign investment in export oriented manufacturing industries, it has risen from an average of $19 million per annum in the late 1960's to $32 mil- lion in 1972 and $59 million in 1974. 17. Tunisia's total external public debt was $1,296 million (of which $836 million were disbursed) at the end of 1973. Debt service is estimated to have fallen from 16.2 percent in 1972 to 9.4 percent in 1974 of exports of goods, non-factor services and workers' remittances. The ratio is project- ed to fall to 8 percent by 1976, following recent increases in commodity ex- port earnings, but to rise rapidly after 1980. While Tunisia is capable of servicing substantial additional debt on less concessionary terms than in the past, it should continue to seek part of its external needs on concessionary terms so as to prevent the debt service ratio from rising unduly in the long- term.  - 6 - PART II - BANK GROUP OPERATIONS IN TUNISIA 18. Starting in 1962, Tunisia has received a total of twenty Bank loans and ten IDA credits amounting respectively to $230.7 million and $65.7 million, net of cancellations and refundings. Annex II contains a summary statement of Barnk loans, IDA credits and IFC investments as of November 30, 1974, and notes on the execution of ongoing projects. 19. While there have been some problems in project execution, as in the railways, agricultural credit and family planning projects, on the whole proj- ect implementation has been satisfactory. Important institutional improve- ments have been achieved. In both the transport and public utilities sectors, independent agencies have been created or strengthened. 20. In accordance with Tunisian priorities, past Bank Group lending has emphasized support for long-term investments in infrastructure and social de- velopment. Lending for transport, power and tourism infrastructure accounts for 34 percent of Bank/IDA commitments in Tunisia. Lending for urban and social development, including water supply, education, family planning and the Tunis urban planning and public transport project, accounts for a further 31 percent. Industrial and hotel financing through Banque de Developpement Economique de Tunisie (BDET) comes third with 16 percent. Agriculture and fisheries have received 13 percent of total commitments, and the Gafsa phosphate development project accounts for 8 percent of total commitments. 21. Future lending is expected to support the Government's policies aiming at rapid growth in a more open, export-oriented economy, measures to create employment and to achieve a more equitable income distribution, and institu- tional reform. The proposed lending program emphasizes investment in agri- culture with a substantial rural development component. This would require substantial Government inputs of manpower and technical assistance to support increased production and the creation of new institutions which can reach the rural poor. Over the next several years, it is expected that a number of proj- ects will be presented which address the problems of land reform, organiza- tion for agricultural and rural development, and integration of agricultural with other aspects of rural development. 22. Lending for industry has so far been through the main Tunisian devel- opment finance company, BDET, and has mostly benefited medium-size companies. Such lending will continue, but at a declining rate as BDET diversifies its sources of funds. It has recently been supplemented by direct industrial lending for the phosphate mining project, and further loans are planned for industrial states and priority industrial subsectors, now being studied with Bank assistance, in which Tunisia has a comparative advantage. 23. The Bank Group accounted for almost 20 percent of disbursements of official aid to Tunisia between 1969 and 1972 and is expected to maintain its share, with that of the US declining and that of other, particularly Arab, sources of funds rising. The Bank Group's shares in total debt outstanding  -7- at the end of 1972 and in debt services during 1972 were 18 percent and 7 per- cent respectively. Over the rest of the decade, the Bank Group's share in total external debt is not expected to vary much; its share in debt service will probably rise to approach the share of debt outstanding. 24. IFC has invested in a fertilizer plant, in BDET, in COFITOUR (a company to promote and invest in tourism projects), in RYM (a large hotel de- velopment) and in a promotional company, Sousse Nord, which is to prepare plans for an integrated tourism resort development in one of the areas in which tour- ism infrastructure is being financed jointly by the Bank, IDA and Kreditanstalt fur Wiederaufbau (KfW). IFC's most recent investment, in May 1974, was in Industries Chimiques du Fluor, which will produce aluminium fluoride from local fluorspar for export. With the inclusion of this investment IFC's net commit- ments in Tunisia total $14.0 million. PART III - WATER SUPPLY AND SEWERAGE IN TUNISIA 25. The water resources of Tunisia are exceedingly limited. Surface waters of any importance are only found in the northern part of the country. Yet, even there, the rivers have irregular flows, and the water is generally brackish and unfit for human consumption. The most important single source -- the only stream running continuously throughout the year -- is the Medjerda River. Groundwater recharge is important, but the quality of the water is reduced by salinity, which often makes the water unfit even for irrigation. In future years, Tunisia may have to consider recycling of treated sewage as an economic alternative to desalination of brackish or sea water. 26. The demand for irrigation and for potable water could exceed the total available supply of fresh water in the southern part of the country as early as 1980. Studies are presently underway on the possibilities of irriga- tion with brackish waters, on the possibility of mixing brackish water with water of better quality to produce greater quantities of water with higher but still acceptable salinity, and on irrigation with raw or treated sewage. The Directorate of Studies and Major Water Works (DEGTH), in the Ministry of Agri- culture, is responsible for over-all management of the country's water re- sources. 27. The production and distribution of potable water are the responsi- bility of Societe National d'Exploitation et de Distribution des Eaux (SONEDE), an autonomous public utility established in 1968. The creation of SONEDE has accelerated the provision of water to individual houses, particularly in the smaller urban centers and semi-rural areas. By 1978, SONEDE is expected to be supplying all settlements having a populations of 500 or more; the remain- ing rural population, constituting 28% of the country's population, live in isolated dwellings which cannot readily be served by public water distribution systems and may ultimately by supplied by systems of public wells and fountains. SONEDE has been the immediate beneficiary of two Bank loans and one IDA credit. It also has responsibilities for water supply under the tourism infrastructure project financed jointly by the Bank, IDA and KfW.  - 8 - 28. While the supply of potable water has been a matter of active con- cern to both the Government and the Bank for some time, sewerage services have received little attention. Until the adoption of legislation creating a national sewerage authority in August, 1974, responsibility for sewerage serv- ices rested largely with the individual municipalities. Even in those muni- cipalities with some form of sewerage, the systems are incomplete, overloaded and badly maintained, if at all. From 1960 to 1974 the number of municipali- ties with some form of sewer system rose from 9 to 20, but their total depre- ciated value has only been estimated at $32 million, compared to a depreciated value of $127 million for water supply systems. 29. The lack of a clear division of responsibilities among the interested ministries, municipalities, and state agencies has resulted in the weaknesses in decision-making on policies relating to sewerage. To meet this situation, the Government has created the new national sewerage authority, ONAS. ONAS is charged by law with the planning, operation, maintenance, renewal and con- struction of all sewerage works located within the limits of the communes and within tourism or industrial development areas. It is expected that the cen- tralization of responsibilities and clarification of authority represented in the establishment of ONAS will facilitate the greatly accelerated investments in the sector foreseen by the current Fourth Plan. Water Supply and Sewerage in the Tunis Area 30. Greater Tunis is well-served by public water supply. About 84% of the population is presently connected to the system, and SONEDE expects that this will rise to 90% by 1980. Present sources of supply are expected to be able to meet the needs of the Tunis area until 1981. Per capita water con- sumption in Greater Tunis is 38 cubic meters per year, compared to an average of 23 cubic meters throughout the country. The relatively better water quality is among the principal factors accounting for the fact that the incidence of reported typhoid and paratyphoid (and presumably other water-borne diseases) is only half of the average rate throughout the country. 31. The sewerage of Tunis is far from adequate, despite the existence of a fairly complete system which serves about 90% of those connected to the public water supply system. The deficiencies of the sewerage system are felt particularly in summer, when strong unpleasant odors are produced by the Lake of Tunis and some of the older parts of the city, and in winter during the rainy season when the sewers overflow and sewage stagnates on the streets in the low-lying central area of the city. The Lake of Tunis, a body of salt water approximately seven kilometers wide and one meter deep, is highly eutrophic and is rapidly filling with septic solids. The absence of oxygen leads to substantial fish-kills each summer.  -.9 - PART IV - THE PROJECT 32. The need for nation-wide measures to deal with Tunisia's sewerage problems became apparent in connection with the preparation of the tourism infrastructure project, which includes both water and sewerage components. Funds were included in the infrastructure project for studies by consultants leading to an urban sewerage project. Following a pre-appraisal mission in September, 1973, the project was appraised in May-June, 1974. Negotiations were held in December, 1974. The Borrower was represented by Mr. T. Ennaifar of the Ministry of Planning. A report entitled "Appraisal of the First Urban Sewerage Project -- Tunisia" (No. 58Ia-TUN), dated January 15, 1975, is being distributed separately to the Executive Directors. A loan and project summary is attached as Annex III. The National Sewerage Authority (ONAS) 33. The national sewerage authority, ONAS, is fully owned by the State. While it is financially autonomous, state supervision will be exercised by the Ministry of Equipment. It is expected that, following normal Tunisian practice, the Board of Directors will delegate managerial responsibilities to the President-Director-General. The Bank was consulted on the selection of the President-Director-General, and will be consulted during project execution on any change in this position (Loan Agreement, Section 3.03). The Bank will also be consulted on the nominees to the posts -- still to be established -- of Deputy Director-General and Director of Finance and Administration, as well as or. any changes in these positions during project execution (ONAS Project Agreement, Section 3.02). ONAS' initial staff will be selected largely from the existing staff of the Division of Urban Hydraulics in the Ministry of Equipment, and from the sewerage staffs of the municipalities of Tunis and Sfax. A spe- cial personnel statute will be adopted, which is expected to be similar to that of SONEDE, to facilitate recruitment by providing more advantageous working conditions and salaries than obtainable in normal government departments (Loan Agreement, Section 3.04(a)(i)). In any case, since the labor market is unable to provide all the necessary skills in sufficient number, ONAS will establish a training division, and will exchange views with the Bank on a detailed training program within a year of the date of the Loan Agreement (ONAS Project Agreement, Section 3.01(c)). 34. The transfer of existing sewerage systems to ONAS, starting with those in the Tunis District and in official tourism zones, will be made in accordance with a time-table acceptable to the Bank (Loan Agreement, Section 3.04(b)); the transfer will be effected by decree. An inventory of all in- stallations transferred to ONAS will be prepared, and the assets valued, with- in two years of the transfer (ONAS Project Agreement, Section 4.06(a)). To aid in starting up operations, ONAS has retained the consultants who prepared the organization and operational aspects of the project, to advise on hiring, training, personnel administration, accounting, and standard engineering prac- tices. Additional supporting assistance is expected to be provided by the Governments of the United States (through the Environmental Protection Agency),  - 10 - Sweden (through WHO) and the Federal Republic of Germany. An agreement bet- ween SONEDE and ONAS, acceptable to the Bank, covering joint billing and col- lection arrangements, will be adopted (ONAS Project Agreement, Section 4.03). 35. ONAS' investment program, 1975-1981, would provide a complete na- tional urban sewerage service, which would reach 64% of the population, com- pared with only 48% now receiving the existing inadequate service. The mone- tary value of the program, D 77 million, may be compared with the D 19 mil- lion estimated value of the existing installations. The Prolect 36. The major purposes of the project are to support the establishment of ONAS as an effective operating agency, and to improve the sewerage facili- ties of the Greater Tunis District. Project works in the Tunis area include additions to the trunk sewer system; renovation of one treatment plant and the construction of two new treatment plants; renovation and renewal of existing sewers and extensions to serve built-up areas presently without service; and construction of storm-water evacuation channels, with associated pumping sta- tions, in the Lake of Tunis. Technical assistance and equipment will also be provided for ONAS. In addition, studies of sewerage projects for the Fifth Plan (1977-1980), of the construction industry, and of future land use in the Lake of Tunis area will be financed under the loan. 37. The studies by the consultants who prepared the project showed that treatment of sewage in stabilization ponds would be the least-cost solution, but the performance of these ponds varies with local conditions. Both the Government and the consultants are concerned that the ponds might become septic and give off odors such as those now emanating from the Lake of Tunis. Under the tourism infrastructure project, a pilot plant based on stabilization pond treatment is presently under construction, and the final decision will be postponed until results demonstrate the applicability of the technique on a large scale in Tunisia; in order to permit construction to begin as soon as possible, the consultants are being asked to prepare plant designs for alter- native treatment systems. Prolect Execution 38. With the assistance of consultants, ONAS will be responsible for execution of all aspects of the project but the construction industry study and the land use studies. Bidding documents for the major collectors will soon be completed, and construction should begin in 1975. The project is expected to be completed by the middle of 1979. ONAS will carry out a program, agreed with the Bank, to monitor selected physical, public health and finan- cial indicators (ONAS Project Agreement, Section 2.07(b)). The Government will make credit available, through ONAS, for the construction of house con- nections and extensions for low-income customers (Loan Agreement, Section 3.01 (c) (iii)).  39. The Tunisian construction industry lacks the capacity to carry out the program of public works investments foreseen in the Fourth Plan, especial- ly in regard to irrigation, water supply and sewerage. The Government has requested Bank assistance to deal with this problem, the most important aspect of which is a shortage of skilled construction workers. Thus, the project provides for an analysis of ways to augment the capacity of the Tunisian con- struction industry, as well as a follow-up training program. 40. Execution of the project will make it possible to plan the future development of the land surrounding the Lake of Tunis, and of the Lake itself. To ensure that the benefits of cleaning up the Lake accrue to the country as a whole, rather than to private speculators, the Government will acquire the remaining privately owned, un-built land within twelve months of the date of the loan (Loan Agreement, Section 3.04(c)(ii)). Expropriation procedures will be applied by the Government for the benefit of ONAS, where necessary, for the acquisition of the land necessary for the project (Loan Agreement, Section 3.04 (c)(i)). Role of the Tunis District 41. The Tunis District, the Government investment plannirng, programming and supervision agency for metropolitan Tunis established with Bank Group as- sistance under the Tunis District Urban Planning and Public Transport Project (Loan No. 937, Credit No. 432), had been consulted on the sewerage project be- fore negotiations and given its approval. Under a Project Agreement with the Bank, the District will carry out the land use studies foreseen under the proj- ect; the studies will be submitted to the Bank for review, along with the District's proposals for zoning the Tunis Lake area for future development, within three years of the date of the loan (District Project Agreement, Sec- tion 2.04). The Government will take the legal zoning decisions within fivea years of the loan and ensure that the Lake area is developed in accordance with the approved land development plans (Loan Agreement, Section 3.05). 42. The District has not yet become the effective operating agency desired by the Government and the Bank. As the sewerage project involves some of the most important public investments in the Tunis area for a considerable period of time, with particular relevance to metropolitan-wide development, the proj- ect provides an occasion to strengthen the District and to establish in prac- tice policies the Bank has encouraged the Government and the District to follow. 43. The factors inhibiting the District's effectiveness were discussed during negotiations on the sewerage project, and the Government has undertaken to promulgate administrative circulars acceptable to the Bank setting out the District's working procedures and relations with agencies active in the Tunis area (Loan Agreement, Section 6.01(g)), and to adopt a personnel statute ac- ceptable to the Bank (Loan Agreement, Section 3.04(a)(ii) and 6.01(e)). With- in four months of the date of the Loan, ONAS and the District will conclude an agreement acceptable to the Bank, defining their mutual relationship and responsibilities in the execution of the project and in the planning and ex- ecution of ONAS investment program in the District (District Project Agreement,  - 12 - Section 2.05, ONAS Project Agreement, Section 2.09); this agreement is expect- ed to constitute a model for future agreements between the District and other public authorities active in the Tunis area. Cost Estimates and Financing Plan 44. Total project cost is estimated at $86 million, including allow- ances for contingencies and expected price increases. The foreign exchange component is estimated at $56 million, 65% of total project cost. Because of the weaknesses in the Tunisian contracting industry, it is virtually certain that all major construction contracts will be won by foreign firms. The cost estimates also assume that the sewage treatment process ultimately selected will be that employing the most mechanical equipment; if the pilot plant demonstrates the acceptability of stabilization ponds, the foreign exchange costs might be reduced. 45. The Bank loan of $28 million would finance 33% of total project costs, and 50% of the foreign exchange cost. The Republic of Tunisia would be the Borrower of the Bank loan. It would make available to ONAS, under a sub- sidiary loan agreement, all the foreign exchange required (including the bulk of the Bank loan and about $28 million from its own resources) to carry out the components of the project for which ONAS is responsible (Loan Agreement, Section 3.01(c)(i)). The local currency requirements would be provided by internal cash generation, customer contributions to sewerage investments, and Government contributions to ONAS' equity (Loan Agreement, Section 3.01(c)(ii)). The $0.3 million of the Bank loan not relent to ONAS would, in part, finance the construction industry study (to be carried out by consultants to the Ministry of Equipment) and in part finance the land use studies of the Tunis District. UNDP funds were not available to finance the technical assistance components of the project. Procurement and Disbursement 46. All major contracts for the supply of equipment, pipes, and civil works, would be awarded after international competitive bidding in accordance with the Bank's procurement guidelines. A margin of preference of 15% or the applicable customs duty, whichever is lower, would be granted to local equip- ment manufacturers. The contract covering the renovation and increase in capacity of the existing sewage treatment plant costing about D 1,500,000, would be negotiated with the original supplier, from whom a firm quotation, considerably lower than consultants' estimates, has been received. Subject to an aggregate maximum of D 250,000 ($590,000) minor contracts for mainte- nance and the supply of equipment costing less than D 25,000 ($59,000) would be awarded on the basis of competitive bidding advertised locally, and in accord- ance with ONAS' bidding procedures, which are satisfactory to the Bank. Tender documents for the supply of equipment and pipes whose value exceeds D 20,000 ($47,000) and for civil works whose value exceeds D 100,000 ($235,000) would be submitted to the Bank for approval before bids are invited.  -13 - 47. The Bank loan would be disbursed, over about five years, against 50% of the cost of imported equipment and pipes and of the ex-factory cost of locally manufactured equipment and pipes; against 35% of the cost of civil works contracts, representing 50% of the estimated foreign exchange cost; and against 50% of the foreign exchange costs of consultants. Retroactive financing of up to $400,000 is proposed for the costs of consultants, minor civil works contracts and the purchase of sewer maintenance equipment, since June 30, 1974. ONAS' Financial Position 48. While ONAS is financially autonomous, financial policy decisions will be subject to Government approval, and the authority will depend signifi- cantly upon the Government for financial support. ONAS basic capital require- ments, 4ncluding initial working capital, will be met by the Government, either directly or through on-lending of foreign loans. Under the relevant Tunisian legislation fronting proprietors will pay part of the cost of sewer extensions directly to ONAS, and the Government will assume responsibility for servicing the debt on existing sewerage installations transferred to ONAS by the mu- r.icipalities. 49. ONAS' tariffs will be based on water consumption. Domestic customers consuming less than 40 cubic meters quarterly would not be charged by ONAS but would contribute to ONAS through municipal taxes, including a special sewerage tax. Tariffs are expected to be established for domestic customers, in rela- tion to water consumption, at a rate of 8 millimes per cubic meter, for indus- try zt 23 millimes per cubic meter and for tourist establishments at 15.5 millimes per cubic meter. The implementation of a tariff structure satisfac- tory to the Bank w-ould-be a condition of effectiveness of the loan (Loan Agree- ment, Section 6.01 (c)). 50. Since the revenues from tariffs, from services and sales of by- products a;Ld from muni-ipal levies will cover ONAS' operating expenses, but only part of depreciation, the Government has decided to support the operation- al needs of ONAS by subsidies, which w.ll balance the annual operating account. The subsidies will amount to D980,000, equivalent to 16 millimes per cubic meter of water ($0.14/1,000 gallons), in 1975, 25 millimes per cubic meter ($0.22/1,000 gallons) in 1976 and 40 millimes per cubic meter ($0.36/1,000 gallons) in 1977 and thereafter (Loan Agreement, Section 4.02(a)). The sub- sidies are justified by the fact that the proposed project will benefit a wider section of the community than the population actually connected to the system, and their cost is covered by the increases in the value of the land surrounding the Lake. Improved sewage collection and disposal and extended connection of urban dwellings to the systems will provide health benefits to the country. The investment in trunk collectors, treatment and disposal works serves the protection of the whole envirorment. Such facilities make up a substantial part of the project, represent about half the value of existing installations, and moreover, account for the bulk of operating expenses of ONAS.  - 14 - 51. The financial benefits accruing to the Government and local authori- ties from the increase in value of the land surrounding the Lake are expected to be more than sufficient to cover the subsidies transferred to ONAS through the Government budget. The average annual amount of the subsidy foreseen during the initial years of ONAS' operations will be approximately equal to 9% interest on the present value of the benefit from the increases in land values discounted at 10%. The form of the subsidy will be a fixed rate per cubic meter of water consumed. This will encourage better financial manage- ment than would a fixed annual amount and would, if so desired, facilitate the gradual abolition of the subsidy without affecting financial forecasts and budgetary requirements. Starting in 1980, the Government will review the subsidy level every five years and submit the revised level to the Bank for approval (Loan Agreement, Section 4.02(b)). 52. ONAS' expected revenues, from proposed tariffs, sewerage levies and from Government subsidies are shown below, expressed as an average per cubic meter of water during the periods indicated. 1975-1978 As from 1979 Mill/m3 ($/1000 gall) Mill/i3 ($/1000 gall) Domestic customers, less than 40 m3/quarter 13 12 13 12 Domestic customers, more than 40 m3/quarter 21 19 25 22 Tourism 28.5 25 36 32 Industry 36 32 47.5 42 Government Subsidy 30.3 27 40.0 46 53. ONAS is expected to have a relatively good operating ratio (operating expenses including depreciation, in relation to revenues), averaging 69 percent over the period 1975-1981. Except for one year, its rate of return on net fixed assets is projected to be higher than 3%. During negotiations, it was agreed that ONAS would maintain an internal cash ratio of not less than 4.0 percent of net fixed assets plus work in progress, and that no debt would be incurred, without the Bank's agreement, unless net revenue, before depreciation, is at least 1.5 times the annual service on the proposed loan and existing debt (ONAS Project Agreement, Sections 4.04, 4.05). ONAS' accounts will be certified by an independent auditor acceptable to the Bank (ONAS Project Agreement, Section 4.02). Project Justification 54. The economic rate of return on the trunk sewers and sewage treat- ment plants -- the pollution control componeat of the project -- is estimated at 24.9 percent; it would exceed 10 percent under adverse assumptions. The return derives principally from the increases in the value of the land sur- rounding the Lake of Tunis. Other benefits of the project will include in- creased fishing revenues and revenues from the sale of treated waste water  - 15 - for irrigation and digested sludge for use as fertilizer, but these benefits are not significant in their impact on the economic rate of return. The bene- fits are understated to the extent that they ignore tourism benefits from protecting beaches adjacent to the Gulf of Tunis, as well as improvements in public health, and, as a result of the elimination of the unpleasant odor of the Lake of Tunis, in the quality of life for residents of the Tunisian national capital. PART V - LEGAL INSTRUMENTS AND AUTHORITY 55. The draft Loan Agreement between the Bank and the Republic of Tunisia, the draft Project Agreement between the Bank and ONAS, the draft Project Agree- ment between the Bank and the Tunis District, the report of the Committee pro- vided for in Article III, Section 4 (iii) of the Articles of Agreement and the text of a draft resolution approving the proposed Loan are being distributed .o the Executive Directors separately. 56. Special conditions of effectiveness include the execution and delivery of the subsidiary loan agreement (para 45) and of the ONAS-SONEDE joint billing and tariff collection agreement (para 34); and the promulgation of the tariff schedule of ONAS (para 49), the personnel statute of the Tunis District (para 43), the decree or decrees enabling ONAS to carry out its operations in the District and the tourism zones (para 34) and the administra- tive circulars relating to the District (para 43). 57. The draft agreements conform to the normal pattern of loans for sewerage projects. Features of the Agreements of special interest are re- ferred to in paragraphs 33 through 53 of this Report. 58. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank. PART VI - RECOMMENDATION 59. I recommend that the Executive Directors approve the proposed loan. Robert S. McNamara President Attachments January 16, 1975   ANNEX I Page 1 of 3 pages SOUNTRT DATA - TUNISIA ANEA POPULATION DENSITY ,161,50 k.2 '.L13 i oc (nid-1974 98 /a Per km2of arable hod SOCIAL INDICATORS Refernc Crutrine Tanisia Ecado, eao res L960 Iwo of197 190 97 OW PER CAPITA US$ (ATIAS BASIS) /1 220 Ib.c 380 /d 360 /d 700 Id 1,1460 /d Cr00. birth ret. (per thousad) 4.6 38 145 la 141 16~ Crude death rate ('or thousand) 19 114 n7;f 13 8 Infant crtality rate (per thoauacd lire birth.) ..106 77 t .27 7-r Life xpeote...y at birth (yeare) 5. 6 57 58 70 roee reprodu-tion rate .2 3.14 3.3 1.9 1.0 Populatioo gr.wtA rate Q2. 2.1 As5 3.4Al 2.6 A 0.6 A PopulatLon growth. rate - urban ..3