Ecuador - Agricultural Credit Project

Report No. 1499-EC Appraisal of Agricultural C Credit Project Ecuador May 25, 1977 Projects Department Latin America and Caribbean Regional Office FOR OFFICIAL USE ONLY Document of the World Bank This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS Sucre = S/ US$1 = S/ 25 S/ I = US$0.40 S/ 1,000 = US$40 S/ 1,000,000 = US$40,000 WEIGHTS AND MEASURES 1 quintal (qq) 45.5 kg = 100 lb. 1 ton = 22 qq = 1,000 kg2= 2,200 lb. 1 hectare (ha) = 10,000 m = 2.47 ac. I liter (1) = 0.2642 gal. GLOSSARY OF ABBREVIATIONS MAG - Ministry of Agriculture and Livestock BNF - National Development Bank INIAP - National Agricultural Research Institute CENAPIA - National Center for the Promotion of Small and Artisan Industry GOVERNMENT FISCAL YEAR January 1 to December 31  FOR OFFICIAL USE ONLY ECUADOR AGRICULTURAL CREDIT PROJECT TABLE OF CONTENTS Page No. SUMMARY AND CONCLUSIONS .............................. i-v I. INTRODUCTION ..................................... ................. I II. BACKGROUND ....................................................... 1 A. General ........ ... ..*.... ................................ I B. The Agricultural Sector .... ct ..................... 2 C. Small Industries ..# . ....... .... .* ............. . 4 D. Banking and Credit ....................... ...... 5 E. Government Objectives and Policies ....... 7 F. Performance Under Previous Livestock Credit Projects ................................ ..*. 8 III. THE PROJECT ........................................................ 9 A. Brief Description ... ................. . .......... . 9 B. Detailed Features o .........* ....... ........... 11 C. Cost Estimates ............ 17 D. Financing . ........ .. ..................... ...... 18 E. Procurement . ................................. ... 19 F. Disbursements ................... ..... . 19 G. Organization and Management ...................... 19 H. Lending Operations ...* ........ . ............. o... . 22 I. Accounts, Auditing and Monitoring ................ 24 IV. PRODUCTION, MARKETS AND MARKETING, PRICES AND PRODUCER BENEFITS ........................... .. ............. 24 A. Production ...... ....................... ......... 24 B. Markets and Marketing . ....................... ... 25 C. Prices ...... ............. ................................... 25 D. Producer Benefits ................................ 26 V. ECONOMIC BENEFITS AND JUSTIFICATION .................. 27 VI. AGREEMENTS REACHED AND RECOMMENDATION ................ 27 This appraisal report is based on the findings of a mission which visited Ecuador in September/October 1976, composed of Messrs. F. Michael Crowe, Delbert Fitchett, Renato Rossi and Thakoor Persaud (Bank) and C. Percival (Consultant). This document has a retricted distribution and may be usd by recipients only in the performance of their offial dutie. Its contents may not otherwise be disclosed without World Bank authorization.  Table of Contents (continued) ANNEXES 1. Performance Under Previous Agricultural Projects 2. The Agricultural Sector Table 1 - Gross Domestic Product by Economic Sectors 1970-1975 Table 2 - Crop Areas, Yields and Production 3. The Banking System and Agricultural Credit Table 1 - Interest and Rediscount Rates 4. Livestock and Crop Models (a) Beef Ranch (50 ha) Tables 1 - 4: Investment Costs, Herd Development Projection, Sales and Operating Costs and Cash Flow Pro- jection (b) Sierra Dairy Farm (50 ha) Tables 1 - 4: Investment Costs, Herd Development Projection, Sales and Operating Costs and Cash Flow Pro- jection (c) Small Dairy Farm (10 ha) Tables 1 - 4: Investment Costs, Herd Development Projection, Sales and Operating Costs and Cash Flow Pro- jection (d) Sheep Farm (40 ha) Tables I - 4: Investment Costs, Flock Development Projection, Sales and Operating Costs and Cash Flow Pro- jection (e) Small Cropping Farm (4 ha) Tables 1 - 3: Investment Costs, Production Costs and Incremental Net Production Value, Cash Flow Projection  Table of Contents (continued) ANNEXES 5. Applied Research - Terms of Reference Table 1: Technical Assistance and Training Costs 6. Farm Investment Costs by Category 7. Project Cash Flow: Central Bank 8. Project Cash Flow: Participating Banks 9. Estimated Schedule of Disbursements 10. Economic Rate of Return Table 1: Incremental Project Output Table 2: Producers' Prices Used in the Economic and Financial Analysis Table 3: Economic Rate of Return Calculation BAP IBRD No. 12618   ECUADOR AGRICULTURAL CREDIT PROJECT SUMMSARY AND CONCLUSIONS i. This report appraises an agricultural credit project in Ecuador, for which a Bank loan of US$15.5 million is proposed. The project would help continue a successful program of livestock development initiated under earlier projects; in addition it would help to increase crop production by small farmers and to develop small industries in rural areas. ii. Since 1972, petroleum production and exports have had a dramatic effect on Ecuador's finances and rate of economic growth. The country, however, continues to be one of the poorest in Latin America, with a 1975 per capita income equivalent to about US$550. At the same time, its population-- of 7.1 million in 1975--has been rising rapidly at an annual rate of 3.4% in recent years. Only by expanding, diversifying and raising the productivity of the non-petroleum sector can Ecuador create employment for its rapidly growing labor force and raise the living standards of the broad mass of the population. iii. The Government's objectives in the agricultural sector are to increase output and improve economic and social conditions in rural areas. Some of its policies, however, have been inadequate: price controls of agri- cultural products have rarely been effective, but usually costly; high support prices for rice have led to over-production and exports at heavy losses; Government involvement in the marketing of agricultural products and farm inputs has been generally unsuccessful and inefficient--particularly heavy losses were incurred on the import and distribution of fertilizer. Moreover, there is at present no effective planning, programming and control of sectorial activities. iv. Government is generally aware of the inadequacies described above; it is equally aware of the difficulty of removing many of them. Some actions have already been taken or are in process. The supply of credit to the sector has increased from about US$60 million in 1971 to US$186 million in 1975. Official milk (and some other) prices have been brought more in line with market conditions. There are plans for the reorganization of the extension services. v. The strategy for the future development of agriculture and the rural areas should now be directed to: (a) formulating clear priorities for rural development and strengthening project preparation capabilities, as already initiated under the Technical Assistance Project (Loan 1230-EC); (b) improving marketing systems, including standardization and enforcement of weights and measures, credit for small traders to increase competition, and the expansion of storage and marketing facilities; (c) improving government price policies to reflect market forces; (d) reorganizing the extension services to provide an integrated approach to the farm as an enterprise and improve the diffusion  - ii - and adoption of agricultural research results; and (e) creating additional employment opportunities in rural areas through investment in small local industries. The proposed project, taken together with on-going and likely future projects financed by the Bank Group, would contribute to achieving these goals, and to striking a reasonable balance in meeting the needs for increased production and for improved income distribution. vi. The project would be carried out over a five year investment period. It would provide credit for: (a) livestock development, including pasture improvement and renewal, fencing and other infrastructure, machinery and equipment and breeding stock, for beef cattle principally in the Costa and Oriente and for dairy and sheep principally in the Sierra; (b) the development of crop farms in selected areas covering a variety of on-farm investments, such as: irrigation canals and pumps; land clearing and development; building (including home) improvements; storage facilities; rehabil- itation of permanent crops, such as cocoa and fruit trees; incremental inputs for annual crops; (c) small local industries, involving for example, processing of meat, poultry, vegetables and vegetable oil, balanced feeds and wood products; and (d) the development of consulting services to commercial agriculture. The loans for sheep farms, crop farms and some dairies are expected to benefit a significant number of small farmers; those for beef cattle, and some of those for dairies, would help raise the output and productivity of larger farmers. vii. In addition to credit, other components of the project would be: applied research, with particular emphasis on farm development in the Oriente and Paramo region of the Sierra and on pasture development; technical assis- tance to improve the administration and accounts of the Cooperative Bank and of selected cooperatives; and equipment and technical assistance for the Project Executive Unit, CENAPIA and participating MAG extension services. viii. The existing Project Executive Unit would be responsible for the management of the project, under arrangements similar to those that have proved successful for earlier projects. The staffing of the Unit would be diversified and strengthened, in line with the expansion of activities. ix. As under previous projects, credit would be channelled through participating banks. The minimum interest rates for medium- and long-term credit under this project would be 11% for small farmers and 14% for other borrowers. These rates would be adequate and represent substantial improve- ments over the arrangement under Credit 222 (9% for subloans up to US$25,000;  - iii - 12% for other subloans). Individual livestock and agricultural subloans would be made only to those whose principal source of income was the property to be improved by the subloan. Moreover, 30% of the livestock and agricultural credit would be earmarked for small farmers. x. The total project cost is estimated at US$36.0 million, including price contingencies of US$9.8 million, with a foreign exchange component of US$15.5 million. The financing would be provided as follows: Bank, US$15.5 million; Government, US$8.7 million; the participating banks, US$5.7 million; and subborrowers US$6.1 million. xi. The Bank loan would be at 8.2% for a term of 14 years, including five years of grace on principal repayments and would cover the estimated foreign exchange cost, or 43% of total project costs. It would cover 41% of the investment costs of subprojects and 90% of the costs of the applied research and technical assistance components. Government and the participating banks would meet 40% of project costs; this would cover 41% of the cost of sub- projects and 10% of the cost of technical assistance and applied research. Sub-borrowers would contribute the balance of the cost of subprojects. xii. In view of the fact that the credit program would be implemented over a five-year period, be widely distributed geographically, and cover a variety of investment plans (and thus items to be procured), bulk purchasing would not be feasible. Capital items would therefore be purchased locally from commercial suppliers, who maintain adequate stocks and whose margins are in an acceptable range. Vehicles and equipment (US$125,000) for project administration would be procured through local competitive bidding, according to procedures acceptable to the Bank. The services of expatriate personnel and consultants would be arranged according to procedures acceptable to the Bank. xiii. The Bank would disburse, over a five-year period, 50% of the amount of the subloans disbursed by participating banks and 90% of the total cost of the technical services, research and training component. xiv. At full development, annual incremental output of crops and live- stock products farms is expected to be as follows: 1,300 m tons of maize; 2,000 m tons of oilseeds; 8,000 m tons of vegetables; 2,000 m tons of rice; about 31 million liters of milk and 7,800 m tons of beef; about 140 m tons of mutton and 35,000 kg of wool. It is not possible at this stage to estimate incremental production from the small industries component, since this is essentially a line of credit. Detailed projections would be included in the feasibility studies that would be prepared for each individual subproject. xv. Project-induced production of milk and beef are not anticipated to encounter marketing difficulties. In the past year and a half, there have been substantial imports of powdered milk to meet the rapidly expanding domestic demand. More than adequate processing capacity exists in the local pasteurizing industry to absorb the projected expansion of output. There  - iv - exists a similarly strong and expanding demand for beef. Although there is much room for improvement in the marketing of other agricultural products, the incremental volumes of crop production are modest relative to overall national totals and are not expected to encounter marketing difficulties. The marketing prospects for production from the small industries component would be individually assessed in the feasibility studies for each subproject. xvi. Milk prices are now highly attractive to producers. The official prices on beef are not vigorously policed and appear adequate and relatively stable at the producer level. The government's policy with respect to the other crops to be financed under the project is restrained to merely setting guidelines or referential prices and is not expected to act as a disincentive to producers. xvii. The financial rates of return on the models range from 18% to 26%. Net operating incomes are expected to increase as follows: 50-ha beef ranches from about US$800 equivalent to about US$3,500; 50-ha dairies from about US$6,800 to about $18,000; small dairies (taking only the income from 6 ha of pasture on a 10-ha farm) from US$80 to US$700; small 40-ha sheep farms from US$260 to US$2,100; and small crop farms from US$400 to US$1,300. Except in the case of the crop farm, the net income is after charging incremental labor, some or all of which may be previously unemployed family labor, so that the increase in family income could be substantially more than the increase in the farm operating income. Producer benefits cannot be quantified at this stage for the small industries components, although preliminary estimates show financial rates of return in the neighborhood of 20% for typical small indus- tries. xviii. While the project would be basically production oriented, it would also raise the living standards of a significant number of small farmers and pave the way for future increases in the volume of lending to this group. At full development, the project would generate some 4,000 man-years of em- ployment annually. The total value of incremental output would be US$12 million a year, plus herd increments valued at US$16 million. xix. The economic rate of return of the agricultural and livestock components of the project is estimated at 20%. The results of sensitivity analysis may be summarized as follows: Investment Operating Shadow Wage Costs Costs Output Rate 80% +10% +15% +10% +15% -10% -15% Rate of Return 19% 18% 17% 15% 15% 13% 21%  xx. Because the small industries component is in the nature of a line of credit, no calculation of the economic rate of return has been possible. Tentative estimates of the financial results indicate rates of return of the order of 20%. xxi. The experience of previous projects and the known demand for credit suggest a relatively low level of risk for the livestock components of the project. The more limited experience in Ecuador of lending to small farmers and small industries indicates an acceptable level of risk, given the insti- tutional strengthening and safeguards incorporated in the project. xxii. The proposed project is suitable for a Bank loan of US$15.,5 million for 14 years, including a five-year grace period. May 25, 1977   ECUADOR AGRICULTURAL CREDIT PROJECT I. INTRODUCTION 1.01 The Government of Ecuador has requested a Bank loan of US$15.5 million for a credit project to help continue a successful program of live- stock development, to strengthen crop production by small farmers and coopera- tives, to develop small industries in rural areas, and to encourage local consulting services. 1.02 Bank Group lending for agricultural credit in Ecuador has so far been limited to three livestock development projects. Other Bank Group activities in the agricultural sector are the Fisheries, Milagro Irrigation, Seeds, and Technical Assistance Projects. The performance of the credit projects is discussed in paragraphs 2.28 to 2.33; all are reviewed in Annex 1. 1.03 The proposed Agricultural Credit Project was prepared by techni- cians of the Ministry of Agriculture and Livestock, with support from professional staff of the Third Livestock Development Project and three Bank preparation missions. II. BACKGROUND A. General 2.01 Since 1972, petroleum production and exports have had a dramatic effect on Ecuador's finances and rate of economic growth. In real terms, the Gross Domestic Product (GDP) increased by about 5% annually from 1969 to 1971, by 6% in 1972, 18% in 1973, 12% in 1974 and 5% in 1975. This rapid growth has been accompanied by price inflation, particularly in 1974 (23%), although the rate of inflation declined from 14.5% in 1975 to 10.6% in 1976. 2.02 Ecuador continues, however, to be one of the poorest countries in Latin America, with a 1975 per capita income equivalent to about US$550, and with many of its people living in poverty. At the same time, its popula- tion - 7.1 million in 1975 - has been rising at an annual rate of 3.4% in recent years. The question now is how fully the country will be able to utilize its new financial resources to strengthen its economic structure, particularly in view of present uncertainties about oil exploitation and, in consequence, the level of future output and revenues. Only by expanding, diversifying and raising the productivity of the non-petroleum sector can Ecuador create employment for its rapidly growing labor force and raise the living standards of the broad mass of the population. Particular attention  - 2 - needs to be given to the rural areas, where 58% of the people (and most of the poorest) live, and where agricultural production has lagged behind the general rate of growth and the needs of the population. B. The Agricultural Sector (Annex 2) Agriculture in the Economy 2.03 Although its contribution to GDP declined from 29% in 1965 to 21% in 1975, agriculture remains a most important sector of the economy. It employs over 54% of the labor force and, even with the sharp expansion in petroleum exports in recent years, still accounts for about 30% of merchandise exports. The sector has, however, been unable to expand its production fast enough to meet rising demand, especially for livestock and dairy products, feed grains and edible oils. In 1975, imports of wheat were valued at US$33.5 million, edible oils at US$12.3 million, and dairy products at US$3.0 million. There is a substantial, but unrecorded, border trade in live cattle. 2.04 According to the 1968 agricultural survey, there were 633,200 farm holdings in the country, some 74% being less than 5 ha in size and occupying no more than 10% of the total farm land. Since most farmers produce only for family subsistence, they remain outside the market economy. By Bank defini- tion, 1/ between 50% and 66% of the rural population in 1974 were "absolutely poor" and 75%, "relatively poor." Nutritional surveys indicate that 47% of the rural population suffer from calorie and protein deficiencies. According to the 1974 census, about 90% of rural dwellings have no electricity or plumbing. A special program of land tenure reform and settlement was started in 1964 and continues under the provision of the 1973 Agrarian Reform Law, but so far only some 55,000 recipients have benefitted, mostly through settlement on new land. 2.05 The rural population is divided almost equally between the Pacific coastal region--Costa--and the central Andean highlands--Sierra--with very few people living in the lowlands of the Amazon basin--Oriente. Temperate climate crops and dairy production are concentrated in the Sierra where there are both medium and small sized farms. Tropical crops, including the main export items--bananas, cocoa, coffee and sugar--are raised mainly in the Costa, and, to a limited extent, in the Oriente. The Costa has the most potential for increasing the cropped area as well as pastures and it is probable that large areas of the Oriente, close to the Andes, could be devel- oped as grassland; there is only limited additional land in the Sierra for crops and livestock production. 1/ Report No. 588, Rural Development and Bank Policies: A Progress Report, dated December 2, 1974.  - 3 - 2.06 Of the total cropped area of about 1.6 million ha, some 175,000 ha are irrigated, but many of these are served by systems which are incomplete or in a poor state of repair, so that their output falls appreciably short of potential. The potentially irrigable area is estimated at some 900,000 ha and an additional substantial area, largely in the lower Guayas Basin, is suitable for large-scale drainage. 2.07 Yields are generally low and although improved seed varieties and management systems have been developed for the main crops, their adoption has by and large so far been restricted to a small number of larger commercial producers. Shortages and poor distribution of improved seeds and fertilizer supplies, poor pest control, improper land and water management practices, inadequate credit and technical assistance, deficient pricing policies and inadequate storage and marketing facilities have delayed improvements in productivity. Ministry of Agriculture and Livestock 2.08 The Ministry of Agriculture and Livestock (MAG) comprises planning and administrative bureaus and five operating bureaus: Crops, Livestock, Rural Development, Forestry, and Marketing. The Ministry's budget rose a modest 9% in 1976, from S/ 640 million to S| 690 million. In 1976, the total budgeted staff, unchanged from 1975, was 1,840 of whom 1,021 were pro- fessional and technical. There are a number of autonomous agencies attached to MAG dealing with: agricultural research (paragraph 2.10), land reform, irrigation, storage and marketing, and retail marketing, and several regional development agencies. 2.09 Extension services in MAG have hitherto been organized along specific crop lines, for example, bananas, rice, cotton and so forth; similarly, the practical training of extension personnel is generally limited to a single "technological package" which they promote. This narrow focus is at odds with the diversity typical of farming in Ecuador. In view of this, MAG is planning a reorganization, under which extension personnel would focus on the farm as an integral operation. This reorganization is to be accompanied by the reloca- tion of MAG professional and technical staff in rural areas (rather than largely in provincial capitals as at present) and the establishment of local service centers, including badly needed marketing and storage facilities. A first-phase trial program is being implemented in the Provinces of Imbabura and Carchi. The reorganization of the extension services would be coordi- nated with the provision under the project of credit to small farmers. Agricultural Research 2.10 Official agricultural research in Ecuador is the responsibility of the National Agricultural Research Institute (INIAP), which started operations in 1962. INIAP has evolved as an institution of major importance in Ecuador and has attracted the support of the Rockefeller Foundation and bilateral and international aid agencies. Bank Group credits and loans for agriculture have  - 4 - supported it and an extensive agricultural research loan has recently been provided by the Inter-American Development Bank. INIAP's professional staff, totalling some 300, engage in research into plant breeding, agronomic and plant protection, pastures and livestock nutrition and farm management. 2.11 Fourteen years of research have provided a sound technical basis for increasing agricultural productivity. INIAP has developed and tested improved varieties of most of the major crops in Ecuador, although research should be intensified to produce improved varieties of soft corn, beans, and pasture and expanded to include grain sorghum, pulses, fruits, vegetables and poultry. There is also a need to improve the dissemination of research results and to develop cheaper technical packages for low-income farmers. C. Small Industries 2.12 Total employment in industry amounts to less than 12% of the eco- nomically active population. Small enterprises account for about 75% of employment in the sector but for only about 30% of value added. Nonetheless, small enterprises should have a useful role in Ecuador's future development, particularly outside the main cities. The size of local markets and their fragmentation due to transport problems favor such enterprises, which in addition tend to be labor intensive and provide a good training ground for managers and entrepreneurs. 2.13 Government is concerned to promote and assist these small or artisan industries. In the 1963-73 Development Plan, emphasis was put on building industrial estates, particularly in areas other than Quito and Guayaquil. Implementation of these proposals, however, has been notably slow. Other measures have included the creation of numerous training centers and tech- nical assistance programs, partly financed by Bank Loan 1157-EC of 1975. 2.14 A major step was taken in 1973 with the promulgation of a special law for the promotion of small and artisan industries, which provides for extensive tax exemptions. These incentives and the general improvement in economic perspectives have led to a rapid expansion in the number of enter- prises applying for these benefits. In 1973, 131 new enterprises were classi- fied to receive benefits under the law, involving investment estimated at S/ 128, million (about US$5 million equivalent); in 1974 there were 217 enter- prises with investment of S/ 289 million (about US$12 million equivalent). The revision in August 1975, raising the size limit to S/ 5 million (US$200,000) invested in machinery and equipment, has brought a further increase in appli- cations. In addition, special funds and credit facilities have been provided for small and medium industry (paragraph 2.23). 2.15 In November 1975 the Minister of Industry announced the creation of the National Center for the Promotion of Small and Artisan Industry (CENAPIA) to succeed an AID-financed program. CENAPIA carries out prefeasibility  - 5 - studies for small industrial undertakings, assists in seeking out finance and supervises the progress of projects. It also provides training in the areas of finance, accounting, production and marketing. CENAPIA has a head office in Quito and branches in Guayaquil, Cuenca, Portoviejo and Tulcan with considerable administrative decentralization. A Board of Directors decides on policy isues; administration is in the hands of an Executive Director. In October 1976 CENAPIA's professional staff numbered 32 and included economists, an agronomist, industrial and chemical engineers, lawyers, and financial analysts. Present plans call for the recruitment over the next three years of 30 more well-qualified professionals. CENAPIA's policies and management appear to be sound. 2.16 During 1976 CENAPIA prepared feasibility studies for small-scale enterprises calling for fixed investments of almost US$5 million equivalent; during the same year it supervised credit totalling about US$1 million equiva- lent. The volume of investment by small industries and their requirements for credit are expected to grow rapidly in coming years. D. Banking and Credit (Annex 3) General 2.17 Ecuador has a well developed banking system, consisting of the Monetary Board, the Central Bank, the Government-owned National Development Bank (BNF), 25 private commercial banks, several development finance companies (DFC) (one government-owned and the others private) and a Cooperative Bank. The Monetary Board fixes monetary policy and regulates the volume and distri- bution of money and credit. The Central Bank performs the traditional func- tions of such an institution and provides re-discounting facilities within a relatively conservative policy fraaework. The commercial banks are on the whole soundly run, but the BNF has encountered serious financial and organi- zational problems (para 2.32). 2.18 The most striking change in the financing of gross domestic invest- ment between 1970 and 1974 is the increase in the participation of the Central Government in net savings from less than 1% to 9%, due largely to oil revenues. In addition, BNF's share rose from 1% in 1970 to 10% in 1974, with nearly all of the increase channelled to the agricultural sector. The share provided by commercial banks and DFCs increased from 9% to 16% in the same period (a seven-fold increase in absolute terms). 2.19 More recently the petroleum boom has created severe inflationary pressures, but by early 1976 these had been brought under control, mainly by changes in legal reserve requirements, rediscount facilities and import deposit requirements.  - 6 - 2.20 The Central Bank operates a rediscounting mechanism for short- and long-term loans made by the BNF, commercial banks and DFCs. The great majority of loans made by commercial banks and over half those of the BNF are for less than two years. Banks pay 6% to 7% on passbook savings accounts and 7% to 10% on term deposits. Mortgage certificates and government bonds yield up to 12% (tax free for the latter). Until recently, the maximum lending rates permitted by law encouraged short-term lending at the expense of medium and long-term operations. 2.21 Ecuadorian monetary authorities have recognized the need for changes in the interest rate structure which would make medium- and long-term lending at least as attractive as short-term lending. In November 1976 the Monetary Board introduced a graduated structure of allowable commission charges on medium and long-term lending. According to new regulations, both the banking system and DFCs are allowed to charge, in addition to the unchanged maximum interest rates (9% for agriculture--except under Credit 222-EC for subloans over US$25,000 at 12%--and 12% for other sectors), the following maximum commissions on new loans: On Balances Outstanding: Commission for more than three years and less than five years 2% for more than five years and less than eight years 3% for more than eight years 4% The new interest and commission structure provides both the public and private banks with a reasonable interest rate spread and introduces an interest rate differential between short- and long-term lending; it should help mobilize domestic resources for investment and stimulate the interest of private banks in agricultural credit. Credit for Agriculture and Small Industries 2.22 In 1973 Government created the "Fondos Financieros" (Financial Funds) to channel petroleum and some aid money to development and particularly into agriculture. These funds are used to finance credits extended by both private and public banks. In addition, the monetary authorities require that private banks maintain 20% of their portfolio as loans to the agricultural sector (25% in the case of foreign-owned private banks) or else hold 4% interest-bearing national bonds. Loans to agriculture in 1975, amounting to US$186 million, represented about 17% of total bank credit, well above the 13% average for 1971-73. This 1975 figure represents a tripling from the US$60 million reported in 1971. During this period, credit for livestock approximately quintupled while crop lending slightly more than doubled; by 1975, lending was almost evenly split between crops and livestock. However, only a minority of farmers have access to (and as few as 7% actually use) institutional credit. Many others utilize a considerable but unquantified volume of non-institutional credit from suppliers or money-lenders, at interest rates which range upwards of 20% p.a. to as high as 100% p.a.--and usually for relatively short periods.  - 7 - In this way farmers can avoid mortgaging land or having to submit to the formalities generally required by banks. 2.23 Special finance and credit facilities have also been provided for small and medium industry. Two of the eight Financial Funds have aimed at assisting small-scale and artisan industries, namely, the Industrial Financial Fund and the USAID Technical and Credit Assistance to Small Industry Program. In 1975, the Government increased the resources of the former to US$16 million equivalent; the latter program closed toward the end of that year. E. Government Objectives and Policies 2.24 The Government's objectives, as outlined in the National Development Plan for 1973-77, are to increase output by expansion into new areas, by irri- gation, and by increases in productivity, and to improve economic and social conditions in rural areas. With the exception of the relatively small increase of 3.8% in sectorial output in 1973, Plan targets for both 1974 and 1975 have been exceeded, although, since the Plan was formulated before the increase in financial resources made available by petroleum exports, it is difficult to assess performance against it. 2.25 Other actions taken or planned by Government, and already noted above, include: the reorganization of the extension services; the increased supply of credit for agriculture; the increase of some producer prices (parti- cularly for milk) to better reflect market conditions; and, financial and other incentives for small industries. 2.26 Although much has been and is being done, some of the policies followed by Government in the pursuit of its objectives have been inadequate. Price controls on agricultural products have rarely been effective, but usually costly. On the other hand, high support prices for rice have led to over-production and exports at heavy Government losses. Government involve- ment in the marketing of agricultural products and farm inputs, through its marketing agencies and the BNF has been generally unsuccessful and inefficient-- particularly heavy losses were incurred on the import and distribution of fertilizer. Moreover, there is at present no effective planning, programming and control of sectorial activities in either the National Planning Office or in MAG's planning bureau. 2.27 The strategy for the future development of agriculture and the rural areas should now be directed to: (a) formulating clear priorities for rural development and strengthening project preparation capabilities, as already initiated under the Bank loan for Agricultural and Rural Development Technical Assistance (Loan 1230-EC). For this purpose, clear lines of authority and responsibility must be established within the public sector agencies concerned;  - 8 - (b) improving marketing systems, including standardization and enforcement of weights and measures, credit for small traders to increase competition, and expansion of storage and marketing facilities; (c) continuing improvement of government price control and support policies to reflect market forces; (d) further expansion of the availability of credit for agriculture; (e) reorganizing the extension services to provide an integrated approach to farm enterprise management and to improve the diffusion and adoption of agricultural research results; and (f) creating additional employment opportunities in rural areas through investment in small local industries. F. Performance Under Previous Livestock Credit Projects 2.28 The First Livestock Development Project financed on-farm investments for beef production in the coastal region. Loan 501-EC, for US$4.0 million, became effective in December 1967 and was fully committed by June 30, 1969, some six months ahead of schedule. The program was administered by a Project Executive Unit, under an expatriate Director and a specially created auton- omous Project Committee. One hundred thirty-two subloans were made, averaging US$37,000 each. 2.29 The Second Livestock Development Project was of an interim nature and designed, in view of the rapid advance of the first project, to continue financing coastal livestock activities until a third, more comprehensive project could be prepared and approved. Under Credit 173-EC for US$1.5 million, 90 subloans, averaging about US$25,000 each, were made. 2.30 The Third Livestock Development Project (Credit 222-EC for US$10 million) continued to finance beef cattle development in the Costa and was expanded to include dairy farm development in the Sierra highlands and a smaller volume of lending for beef cattle in the Oriente. It also covered research, technical assistance, and a seed improvement program. Under the Project, 356 subloans have been approved by the Project Unit, averaging US$31,000 each. The livestock credit funds are nearly fully committed, and it is likely that the credit will be fully disbursed by end-1977. 2.31 The performance of the first two projects (Loan 501-EC and Credit 173-EC) was assessed in the Project Performance Audit Report dated October 21, 1975. The Report found that the projects had been well managed, had improved  - 9 - productivity and output on participating ranches and had jointly resulted in an increase of roughly 10% (worth about US$4 million a year) in national beef production. The economic rate of return, however, was estimated to have fallen sharply (to about 12%, compared with 27% at appraisal) because of higher investment costs and lower beef prices relative to input costs. The financial rates of return to ranchers, on the other hand, were estimated to have been about equal to the 27% forecast at appraisal, because rapid inflation eroded the real value of subloan repayments, offsetting the unfavor- able price movements. The Report also noted: the low sanitary standards of slaughterhouses processing project output; the regressive impact on income distribution resulting from subsidized interest rates to medium-sized and large producers (granting that commercial production was the project's main objec- tive); the capital intensive nature of the developments financed; and the lack of a monitoring system. 2.32 The performance of the third project has been basically similar to that of the first two. Two issues have arisen, however: first, the account- ing and audit arrangements have been inadequate and, second, there have been serious deficiencies in the accounts and internal controls of BNF, the princi- pal participating bank. 2.33 The proposed project would continue the livestock program estab- lished under the first three projects. Producer prices for milk have just been substantially increased. At the same time, the investment models have been designed to reduce capital costs in the light of the experience already gained. Assurances on health standards in slaughterhouses were obtained (paragraph 4.04). A substantial share of the benefits would accrue to small farmers and the new interest rate structure would not favor the larger pro- ducers. Following a recent supervision mission, work has already begun on the collection of actual operating results from participating farms and ranches; this would be continued. Agreement has been reached on the actions being, and to be, taken to remedy the accounting and auditing deficiencies noted above. Summary project accounts for 1975, certified by the Superintendent of Banks, were submitted to the Bank in February 1977, and similar statements for 1976 are expected to be received in June 1977. Moreover, the Central Bank and the Superintendent of Banks are now proceeding with a review of Credit 222 accounts of BNF and other participating banks during the final stage of execution of that project. For the proposed project, the auditing and accounting safeguards have been strengthened (paragraphs 3.55 and 3.56). III. THE PROJECT A. Brief Description 3.01 While continuing the type of successful livestock lending estab- lished under earlier projects financed by the Bank Group, the new project would place greater emphasis on lending to small producers and cooperatives, and would diversify by providing credit for crops and for the development of small industries in rural areas. It would be carried out over a five-year investment period, as follows:  - 10 - Average Investment Project Year: 1 2 3 Total per Subproject (Estimated Number of Loans) (US$) Beef Ranches 100 150 150 400 15,600 Dairies 50 75 75 200 39,000 Small Dairies 50 100 150 300 6,000 Sheep Ranches 10 15 25 50 5,500 Crop Farms 150 300 550 1,000 2,200 Small Industries 10 15 25 50 128,000 Professional Loans 5 5 - 10 20,000 Total 375 660 975 2,010 3.02 The project would provide credit for: (a) livestock development, including pasture improvement and renewal, fencing and other infrastructure, machinery and equipment and breeding stock, for beef cattle ranches primarily in the Costa and Oriente and dairy and sheep farms and ranches primarily in the Sierra; (b) the development of crop farms in selected areas covering a variety of on-farm investments, depending on the area, such as: irrigation canals and pumps; land clearing and development; building (including home) improvements; storage facilities; rehabilitation of permanent crops, incremental inputs for annual crops; (c) small local industries, principally in the areas covered by (b) above, involving, for example, processing of meat, poultry, vegetables and vegetable oil, balanced feeds and wood products; and (d) the development of agricultural consulting services to commercial agriculture. 3.03 In addition to credit, other components of the project would be: applied research, with particular emphasis on farm development in the Oriente and paramo and on pasture development; technical assistance to improve the administration and accounts of the Cooperative Bank and of selected coopera- tives; equipment and technical assistance for the Project Executive Unit, CENAPIA and participating MAG extension services. 3.04 The existing Project Executive Unit would be responsible for the management of the project, under arrangements similar to those that have proved successful for earlier projects. The staffing of the Unit would be diversified and strengthened, in line with the expansion of activities.  - 11 - 3.05 As under previous projects, credit would be channelled through par- ticipating banks. The minimum interest rates for medium- and long-term credit under this project would be 11% for small farmers and 14% for others. These rates would represent substantial improvements over the arrangement under Credit 222 (9% for low-income farmers; 12% for higher-income farmers). Indi- vidual livestock and agricultural subloans would be made only to those whose principal source of income was from the property to be improved by the sub- loan. Moreover, 30% of such credit would be earmarked for small farmers. B. Detailed Features Location and Phasing 3.06 The project would be countrywide. The dairy and sheep ranches would be concentrated in the Sierra; the beef ranches would be mostly in the Costa, with a few in the Oriente. The small cropping and mixed farms would be in selected pilot areas in order to enable the credit operation to be coordinated with the reorganization of the extension services (paragraphs 2.09 and 3.42). The small industries subprojects would be mainly in the Costa and Sierra, but away from Quito and Guayaquil. Some 2,000 loans are expected to be committed over a three-year period, and to be fully disbursed over five years. 3.07 The credit program reflects the experience gained from earlier projects and the assessment of local banks and other institutions of the demand for the different types of credit. The farm and ranch models described in the following paragraphs also reflect the experience of previous projects and have been designed to illustrate the financial and economic viability of the types of investment proposed. In practice, however, there would likely be considerable variation, not only in the size of the subloans, but also in the investments financed in individual cases. For example, the small dairy and beef ranch models represent units of minimum economic size; average investments are likely to be about double. Also, it is possible (and desir- able) that farmers with mixed operations would borrow to increase their crop production and also to improve or introduce beef or dairy operations. Again, the small crop farm model includes provision for irrigation improvements that would be unnecessary in rainfed conditions. The numbers of subloans shown against each model are, therefore, only intended to give a broad indication of the volume of lending. The small industries component is essentially a line of credit although detailed profiles have been prepared of representative enterprises. For the purposes of the financial projections, it has been assumed that the recipients of loans for small dairies, sheep farms and small crop farms--and these only--would qualify for the reduced interest rates and borrowers' contributions applicable to small farmers, as defined in para 3.47. Ranches, Dairies and Farms 3.08 Beef Ranch. For ranches specializing in beef production, a minimum economic unit is between 50 and 100 ha; smaller units would include a crop- ping component. The model ranch of 50 ha represents a breeding and fattening  - 12 - operation based on grazing unfertilized improved or renovated pastures. It provides a guide to the level of investment per hectare which would be eco- nomical for beef production over a considerable range of ranch size, produc- tion systems and environments. Total beef output (liveweight) is estimated to increase from around 70 kg per ha before development to about 220 kg per ha in the ninth year under a program of renovating pasture and developing new pasture areas, increasing weaning rates from 55% up to 70%, reducing fattening time from over three years to about two years, and reducing herd mortality. The total investment of about US$15,600 equivalent (US$156 per ha) would include pasture improvement, 28%; fencing, 12%; watering, 3%; and breeding stock, 37%. The detailed model appears in Annex 4(a). 3.09 Sierra Dairy Farm. This model of 50 ha is representative of com- mercial dairy farms which are usually specialized enterprises with around 75% of sales from milk and the remainder from surplus and cull animals. Male calves are sold at one week of age and heifer calves usually as weaners or two year heifers. Under a five-year pasture renewal and annual pasture fertiliza- tion program, carrying capacity is expected to increase from 1.2 to over 2.0 AU per ha, daily milk production to increase from a level of 7.5 up to 10.5 liters per cow and from 1,600 liters per ha to 3,800 liters per ha in seven years. The total investment of around US$39,000 represents US$780 per ha, and com- prises pasture development, 21%; fencing, 5%; stock watering facilities, 3%; farm structures, 24%; machinery and equipment, 9%; and breeding stock, 37%. The detailed model appears in Annex 4(b). 3.10 Small Dairy Farm. These farms are typically family enterprises in the Sierra. In the model, 6 ha of pasture is renewed over a five-year cropping program, in conjunction with subdivisional fencing, the purchase of better quality cows and improved management. Carrying capacity rises from 1.0 to 1.8 AU per ha while milk production per cow increases from 5 up to 8 liters and annual milk production from 600 to 2,400 liters per ha. Surplus calves are sold at about one year of age--steers at about 160 kg liveweight for slaughter or fattening. Total investment costs are estimated at about US$3,000, compris- ing pasture renewal, 36%; subdivisional fencing, 6%; stock watering facilities, 4%; building improvements, 12%; and purchase of breeding cattle, 41%. The total investment equals about US$500 per ha of pasture land. The detailed model appears in Annex 4(c). 3.11 Sheep Farm. The 40 ha sheep model is designed to promote the devel- opment of more accessible areas of the paramo and to change the present low output, free range farming system to a higher yielding enclosed system by the use of improved legume-based pastures. Local crossbred sheep would be up- graded through the purchase of proven rams from MAG. Increases in productivity over a five-year period would result from the weaning rate rising from 50% to 80% and the carrying capacity from 2 sheep units up to 5.5 sheep units per ha with an increase in wool production from 1.0 kg to 3.5 kg per sheep unit. Male progeny would be sold for slaughter at over one year of age and surplus ewes at about the same age for breeding purposes. The investment cost would be about US$5,300 equivalent (US$130 per ha), comprising new pastures, 27%; fencing, 17%; stock watering facilities, 8%; construction, 26%; and breeding stock, 19%. The detailed model appears in Annex 4(d).  - 13 - 3.12 Small Cropping Farm. Participants would be small farmers cultivating irrigated or rainfed crops. The 5 ha model includes investments estimated to cost about US$2,200 equivalent for: on-farm irrigation works, 22%; incre- mental production inputs, 36%; building improvements, 19%; and land clearing and preparation, 13%. Farm output and income would increase as a result of more intensive land use (double cropping), expanded cropped area, changes in cropping patterns and the use of improved techniques and inputs. The detailed farm plan appears in Annex 4(e). Small Industries 3.13 This component of the project would finance small industries in rural areas, utilizing local products and providing local employment. Most of these enterprises would fall into the following main groups: (a) livestock products - slaughterhouses and cold storage facilities; sausage manufacture; hides and skins processing; spinning and weaving; and chicken packing plants; (b) vegetable products - canneries; peanut packaging plants; oil mills for peanuts, cottonseed, sesame seed and oil palm; flour mills; and the produc- tion of balanced animal feed stuffs; and (c) wood products - factories for the production of parquet flooring and furniture. 3.14 Preliminary subsector studies, covering market prospects and the availability of raw materials in different localities, have already been prepared or are in course of preparation by CENAPIA (para 2.15). CENAPIA has also prepared profiles of 15 small enterprises typical of those referred to in the preceding paragraph. These profiles cover: building, machinery and equipment requirements and layout; raw materials, labor and staffing; out- put; sales; and operating and investment costs and working capital requirements. Total investments for each enterprise range from about US$50,000 equivalent to about US$200,000 and average about US$125,000; the number of persons employed in each enterprise ranges from about 10 to 30 and averages about 20; the invest- ment cost per job created averages about US$6,000. 3.15 This component of the project would be in the nature of a line of credit since, although the main types of enterprise have been identified, assistance to individual enterprise would be based on specific and detailed feasibility studies prepared in the course of the project and submitted to the Bank (paragraphs 3.40 and 3.50). Over the period of the project, it is expected that some 50 enterprises, providing employment for about 1,000 people, would be financed. There is ample demand for this type of credit and the number of operations is considered to be within CENAPIA's capacity to handle. Professional Loans 3.16 This small component is designed, as a pilot scheme involving about 10 subloans, to assist the development of local consulting services for com- mercial agriculture, and to complement Government's policy of attracting graduates in the agricultural sciences into the rural areas. Under the project,  - 14 - suitably qualified agricultural graduates operating their own farms, or in full-time professional practice would be eligible for finance for the purchase of professional equipment. Subloans would not exceed US$15,000 equivalent to any single beneficiary, and would be presented to the Bank for approval. Investments to be financed by such subloans would generally be restricted to (a) topographical, soil laboratory, and veterinary equipment; (b) four-wheel drive motor vehicles; and (c) office equipment. Assurances on these matters were obtained. 3.17 This development of local consulting services would be further encouraged under the project by the provision of finance to the larger ranches and farms to help meet the cost of professional fees for the preparation of the farm plans supporting credit applications. In addition, the larger borrowers would, at the discretion of the participating banks, be required to engage professional services (costing around US$500 equivalent a year) to review regularly the implementation of their ranch or farm plans during the investment period. 3.18 These arrangements would enable Government extension services to concentrate on smaller farmers, oblige those who could afford it to pay for technical advice, reduce the burden of work on the Project Executive Unit and reduce the costs of the participating banks. Applied Research 3.19 The project would support applied research programs of INIAP in the tropical and temperate regions of the Oriente and Sierra respectively. 3.20 A demonstration research unit would be established in the Oriente, based on Limonoche. The program would be production oriented to assist the farm holdings presently being established by IERAC in this tropical forest area. The area has been traditionally farmed under a slash, burn, shifting cultivation system, but, with increasing colonization, the resting phase under regenerated bush is so shortened that soil fertility rapidly deteriorates and seriously reduces crop yields. 3.21 An agronomist with at least five years of experience under similar conditions, including livestock production, would be internationally recruited for about three years. He would conduct applied research toward developing a mixed farming system giving sustained yields through the better integration of crops, animals and forestry. He would train local staff to continue the pro- gram, and provide extension to local farmers. He would also spend up to one- third of his time in assisting the pasture/animal production research and training programs at the Pichilingue Experimental Station in the Costa, in- cluding the development of the dual purpose system of beef and milk production in the coastal region. 3.22 The program for the Sierra region would be essentially a broadening and strengthening of the pasture research begun under Credit EC-222. This has shown that, in the phosphate deficient inter-Andean zones, the low ability of  - 15 - indigenous white clover to fix nitrogen is due to a deficiency of sulphur in the soil. Formerly the main phosphate fertilizer imports into the country have been in the form of triple superphosphate which is devoid of sulphur whereas single superphosphate contains 10% sulphur. With adequate sulphur and phosphate, white clover can supply about 100 kg of nitrogen per hectare per year, and thereby significantly reduce nitrogenous fertilizer costs. In addi- tion, there are still major problems with improved pastures which have to be replaced at high cost after five years, and, in the Paramo region, satisfac- tory pasture improvement methods have yet to be developed. 3.23 A plant nutrition specialist would be internationally recruited and be employed for about three years to cover this pasture improvement research. He would train two teams in trial techniques for the two different zones as it is essential that field trials continue for at least five years. He would be based on the Santa Catalina Experiment Station. 3.24 For all project-oriented research, INIAP would continue with the present Research Planning Committee, with the Project Director as one of the members. INIAP would also provide local costs and facilities for the programs. The two specialists to be financed by the project would have appropriate qualif- ications and experience and would be recruited by February 1, 1978 on terms and conditions acceptable to the Bank; draft terms of reference are in Annex 5. Assurances on the above matters were obtained. Technical Assistance and Training 3.25 An internationally recruited financial specialist would be appointed to the Project Executive Unit to assist the Unit as Financial Advisor and, in the case of small industries, CENAPIA. This specialist would review existing procedures and, in the light of experience, establish new procedures for the preparation of financial projections and actual results for the farms, ranches and other enterprises financed under the project. In addition, an interna- tionally recruited Agricultural Advisor would be appointed to supervise, under the Project Director, the credit program to small farmers and to coordi- nate with MAG the organization and provision of extension services to these farmers. 3.26 The project would help finance consulting services for the Cooperative Bank and up to 10 selected cooperatives. The consultants would review the accounting and credit procedures of the bank and the management, administrative and accounting procedures of the cooperatives. In addition to recommending and helping to implement improvements in the procedures generally, the consultants would particularly concern themselves with devising mechanisms to enable the cooperatives to act, not only as retailers of credit to members from the Bank (to try to reduce the cost of such credit), but also as mobilizers of savings and sources of deposits for the bank. The coop- eratives would be selected on the basis of the soundness of their management and financial position and their willingness to participate in the project.  - 16 - Selection would be on the recommendation of the Cooperative Bank, subject to the final approval of the Project Director; in addition, the information on which the selection was based, including recent accounts of the cooperatives selected, would be submitted to the Bank for comment before any final decision was made. Assurances were obtained that the consultants employed, the terms and conditions of their employment, and the cooperatives selected for such assistance would be acceptable to the Bank. 3.27 In addition, the project would finance a small discretionary fund which would enable the Project Director to engage consultants for special short- term assignments - for example to advise on particular crops or on the market- ing or engineering problems of particular small industries. The appointment of such consultants would, in each case, be made with the prior approval of the Bank; appropriate assurances were obtained.  - 17 - C. Cost Estimates 3.28 The total cost of the project is estimated to be US$36.0 million, of which US$15.5 million, or 43%, represents foreign exchange requirements. Baseline costs were estimated at early 1977 prices. The amount of taxes and duties in project costs would be negligible. Price contingencies were applied on estimated expenditures during the years 1978 through 1982 on the basis of 8% per annum, which reflects the expected rate of inflation in Ecuador. Cost estimates are summarized below: Total Project Costs Foreign Local Foreign Total Local Foreign Total Exchange -----S/ million ------ --- (US$ million) ---- (%) Beef Ranches 114.3 40.1 154.4 4.6 1.6 6.2 26 Dairies 115.9 77.3 193.2 4.6 3.1 7.7 40 Small Dairies 28.1 16.5 44.6 1.1 0.7 1.8 37 Sheep Farms 3.9 2.7 6.6 0.2 0.1 0.3 41 Small Crop Farms 34.1 20.9 55.0 1.4 0.8 2.2 38 Small Industries 72.0 88.0 160.0 2.9 3.5 6.4 55 Professional Loans 2.5 2.5 5.0 0.1 0.1 0.2 50 Total Credit 370.8 248.0 618.8 14.9 9.9 24.8 40 Applied Research 1.1 10.3 11.4 - 0.5 0.5 90 Technical Ass't'ce Project Unit 1.8 16.6 18.4 0.1 0.6 0.7 90 Cooperatives 0.6 5.7 6.3 - 0.2 0.2 90 Baseline Costs 374.3 280.6 654.9 15.0 11.2 26.2 42 Price Contingencies 138.2 106.9 245.1 5.5 4.3 9.8 44 Total Project Cost 512.5 387.5 900.0 20.5 15.5 36.0 43 A summary of investment costs by category is shown in Annex 6, in respect of the ranches, dairies and farms. 3.29 The costs of the Project Executive Unit cover the additional senior staff, and associated equipment, and consulting services required for the project. Other costs of the Unit (estimated at about US$200,000 equivalent a year initially and rising to about US$250,000) would be covered by transfers from a special account maintained by the Central Bank from which MAG is entitled to withdraw funds for the purpose of financing technical services. Cost of staff of the participating banks working on the subprojects would be covered by the interest charges from subloans.  - 18 - D. Financing 3.30 Financing would be shared in the following amounts and proportions: Participat- Sub- IBRD Government ing Banks borrowers Total US$ US$ US$ US$ US$ million % million % million % million % million Beef Ranches and Dairies 5.2 40 2.7 20 2.6 20 2.6 20 13.1 Small Dairies, Sheep Ranches and Crop Farms 2.3 45 1.8 36 0.5 9 0.5 10 5.1 Small Industries 2.6 40 1.5 24 1.0 16 1.3 20 6.4 Professional Loans 0.1 40 * 24 * 16 * 20 0.2 Total Credit 10.2 41 6.0 24 4.1 17 4.4 18 24.8 Technical Assist- ance, Training and Applied Research 1.3 90 0.1 10 - - - - 1.4 Price Contingencies 4.0 2.5 _ 1.6 _ 1.7 9.8 Total Project Cost 15.5 43 8.7 24 5.7 16 6.1 17 36.0 * Less than US$0.05 million equivalent. Columns do not total because of rounding. 3.31 The project would be financed by a Bank loan of US$15.5 million, or 43% of total project cost, which would cover the estimated foreign exchange cost. The Government of Ecuador and the participating banks would finance, respectively, US$8.7 million and US$5.7 million (24% and 16% of total cost); the balance of US$6.1 million (or 18% of project cost) would be contributed by the sub-borrowers. Small farmers would contribute not less than 10% of the investment costs in their subprojects, and other sub-borrowers would contri- bute not less than 20% of the investment cost. The technical assistance to the Cooperative Bank and selected cooperatives (US$200,000) would be passed on under terms and conditions acceptable to the Bank. Assurances were obtained that the participating banks would provide adequate short-term loans and working capital to cover the needs of beneficiaries. Government would bear the foreign exchange risk. The Bank loan would be at 8.2% for a term of 14 years, including five years grace on principal repayments. Government funds would be provided through the Central Bank; in addition, the Central Bank would charge 1/2% for its services. This charge would be covered by the rediscounting rate (paragraph 3.52). Project cash flows for the Central Bank and the participating banks are shown in Annexes 7 and 8. Conclusion of a contractual arrangement between Government and the Central Bank, to the satisfaction of the Bank, is a condition of effectiveness.  - 19 - E. Procurement 3.32 Bulk purchasing would not be feasible in view of the fact that the farm and ranch development sublending program would be implemented over a five year period, be widely distributed geographically, and cover a variety of invest- ment plans. Capital items would therefore be purchased locally from commercial suppliers, who maintain adequate stocks and whose margins are in an acceptable range. Vehicles and equipment for project administration (US$125,000) would be procured through local competitive bidding, according to procedures accep- table to the Bank. The services of expatriate personnel and consultants would be arranged according to procedures also acceptable to the Bank. F. Disbursements 3.33 The Bank would disburse over five years: (a) 50% of amounts dis- bursed by participating banks for small farmer subloans; (b) 50% of the amounts disbursed for agricultural, livestock, small industries, and professional subloans; and (c) 90% of technical services, research and training costs. 3.34 Disbursements for technical services, research, training, the purchase of vehicles and for other project-related equipment would be made against normal documentation. Disbursements for subloans would be based on certificates of expenditure submitted by the participating banks and by the Project Executive Unit to the Central Bank after approval by the Project Director. The supporting documentation for such expenditures, which would not be submitted for review, would be retained by the borrower and made available for inspection by Bank supervision missions. Investments financed by the project would be subject to regular physical inspection by staff, both of the participating banks and of the Project Executive Unit. These arrange- ments, together with the audit requirements set out in paragraph 3.57, would provide reasonable safeguards for the proper use of project funds. An esti- mated schedule of disbursements is set out in Annex 9. G. Organization and Management 3.35 The Government of Ecuador would be the borrower. Responsibility for the execution of the project would be with the Technical Executive Committee and its Project Executive Unit, which were established under earlier livestock credit projects and which continue to function satisfactorily. Other organiza- tions involved in the implementation of the project would be CENAPIA, the participating banks, and the extension services of MAG.  - 20 - Technica'l Executive Committee and Project Executive Unit 3.36 The Technical Executive Committee, under the chairmanship of the undersecretary of MAC, would comprise its present membership 1/ and, in addition, a representative of the Ministry of Industries. The Committee would continue to formulate general policies and be responsible for the appointment of the Project Director. 3.37 The Project Director, who would continue to act as secretary to the Committee, would be the chief executive of the project. He would be assisted by two Regional Technical Directors, as at present, and in addition by an Agricultural Advisor and a Financial Advisor (para 3.25). The other staffing arrangements of the Project Executive Unit would continue as at present. The Project Director, or his delegate, would approve development plans supporting requests for credit under the project and disbursement requests before the latter were forwarded to the Central Bank. He would lay down the technical guidelines and standards to be followed by the staff of the Unit and by other organizations and consultants in the preparation of investment proposals, the supervision of sub-borrowers and the collection and analysis of the results of subprojects. He would also be responsible for supervising the application of such guidelines by the participating banks. During the execution of the project, the delegation to participating banks of the authority to approve subloans would be reviewed in consultation with the Bank. The Project Director would submit quarterly reports to the Bank, prepared according to guidelines mutually agreed with the Bank, not later than three months after the end of each quarter. Suitable assurances were obtained. 3.38 The Project and Regional Directors, and the Financial and Agricultural Advisors would have appropriate qualifications and experience and, in the case of expatriates, be appointed on terms and conditions acceptable to the Bank; all the above positions would be filled by December 31, 1977, or, in the case of the Financial Advisor, by such later date as may be agreed. Suitable assurances were obtained. 3.39 The Project Executive Unit was originally attached to the Central Bank and subsequently transferred to MAC. Any future change, if made, would be after consultation with the Bank and on conditions acceptable to the Bank. The operational autonomy of the Unit would be adequate and acceptable to the Bank. Suitable assurances were obtained. 1/ Presently, the Technical Executive Committee comprises, under the chair- manship of the Undersecretary of MAG, the General Coordinator of MAG, the General Director for Livestock of MAG, the Deputy Manager of Credit from the Central Bank, and the Project Director as Secretary of the Committee (with voice but without voting power).  - 21 - CENAPIA 3.40 CENAPIA would be responsible, under the general supervision of the Project Director, for the execution of the small industries component of the project. It would identify suitable subprojects and sub-borrowers and assist the sub-borrowers in the preparation of feasibility studies, investment plans and requests for finance; these would include cash flows and other financial projections, output and productivity estimates, management and personnel budgets and accounting and audit arrangements. CENAPIA would approve subloans based on the investment plans. It would also supervise the maintenance of statistical and accounting records by sub-borrowers, and it would collect and analyze information on the results of subprojects as compared with projections. The present management and staffing of CENAPIA are satisfactory. Prior to making any change in the position of the Executive Director of CENAPIA, the Borrower would notify the Bank concerning the qualifications and experience of the person to be appointed to such position and would allow the Bank a reason- able opportunity to comment thereon; suitable assurances were obtained. Participating Banks 3.41 The arrangements for participating banks would be similar to those under the previous and on-going project. Any legally established bank or financial institution carrying on business in Ecuador, and acceptable to the Bank, would be eligible to participate. Each participating bank would conclude a subsidiary loan agreement with the Central Bank under terms and conditions acceptable to the Bank. Conclusion of a subsidiary loan agreement with at least one participating bank, to the satisfaction of the Bank, is a condition of effectiveness. Suitable assurances were obtained. The technical standards and procedures employed by the participating banks for preparation and supervision of subloans financed under the project, would be acceptable to the Project Director. Extension Services 3.42 Implementation of the small farm component of the project would be coordinated with the reorganization of the extension services in selected zones and the establishment of local service centers (paragraph 2.09). The work of the extension agents would be limited to extension work, to the exclusion of other matters such as marketing, input distribution and statis- tical and administrative work, for which specialized staff would be employed as required. Extension agents would concentrate on (a) the development of small farms as integrated operations; (b) the most important crops in the locality; (c) the basic improvements in husbandry practices and application of research findings likely to yield quick and substantial economic returns; and, (d) selected demonstration farmers, who would also be likely to be the earliest recipients of credit under the project. Assurances were obtained on these matters. 3.43 The new extension arrangements would be gradually introduced in the areas covered by the nine general delegations or offices of MAG. The Agricultural Advisor of the Project Executive Unit would collaborate with the MAG Directors handling extension matters and the heads of zonal offices in identifying main crops and key husbandry practices, in preparing and  - 22 - carrying out training programs and timetables, in selecting demonstration farmers and in preparing simple development plans for small farms. 3.44 Assurances were obtained that: the zones selected for the reorgan- ization of the extension services and the implementation of the small farms credit component would be coordinated; and the extension services would collaborate fully with the Agricultural Advisor of the Project Executive Unit. H. Lending Operations 3.45 Credit would be made available through the participating banks, who would employ their normal criteria of creditworthiness in approving pros- pective sub-borrowers. The eligibility of subloans for rediscounting through the Central Bank and drawing down project funds would be determined by the Project Director on the basis of the technical, financial and economic soundness of the investment plans and projection. 3.46 The minimum annual interest rates on subloans, including commissions allowed to be charged by Regulation 927-76 of the Monetary Board of the Borrower, would be 11% for small farmers (paragraph 3.47) and 14% for others. Terms of subloans are expected to vary between eight and 12 years, with three to five years of grace on the repayment of principal. The proposed interest charges are considered adequate. Inflation rates in Ecuador have fallen substantially from the levels of 23% and 15% registered in 1974 and 1975, respectively, to about 10.6% in 1976, responding to the Government's vigorous control policy. The rate projected for future years is about 8%. On this basis, all catego- ries of sub-borrowers would be paying positive real interest rates. These rates represent a significant improvement over those applied in previous projects. In these circumstances, the project would retain the differential in the rates for small and larger farmers, which reflects Government policy and the arrangements under the on-going project. Assurances were obtained that any changes in the terms and conditions of subloans would only be made with the concurrence of the Bank. 3.47 For the purpose of determining the rate of interest, a small farmer would be defined as one with net assets of less than S/ 500,000 (US$20,000), including land but excluding housing. Cooperatives composed entirely of small farmers would qualify for the same terms and conditions as individual small farmers. 3.48 Subloans to small farmers would be to eligible individuals whose principal source of income was the farm for which the subloan was sought. These subloans would cover up to 90% of investment costs, with the remaining 10% contributed by the beneficiary. The maximum subloan to any beneficiary would be US$12,000 equivalent. Of the total lending for livestock and agri- cultural operations, 30% would be earmarked for small farmers.  - 23 - 3.49 Other subloans for livestock and agricultural operations would be to (a) individuals whose principal source of income was the ranch or farm to be improved; and (b) cooperatives, whose soundness of management, operations and financial position were judged suitable by the participating bank and by the Project Director. Subloans would cover up to 80% of investment costs. The free limit of US$100,000 equivalent, cumulative, to any sub-borrower, established under Credit 222-EC, would continue to apply; subloans above the free limit would continue to be submitted to the Bank for approval and would not together exceed 20% of the total lending under this category. 3.50 Subloans to small industries would cover up to 80% of investment costs. The maximum subloan amount (cumulative) to any single enterprise would be US$200,000 equivalent. The first three subloans to small industries, and all subsequent subloans to small industries of more than US$150,000 equivalent (cumulative to the same beneficiary), would be presented to the Bank for approval, together with supporting studies, investment plans and financial projections. Suitable assurances were obtained. 3.51 The very small number of professional subloans would be made to agricultural science graduates, with qualifications acceptable to the Project Director, to assist them in establishing or expanding consulting practices in rural areas. Residence in the area of the practice would be a condition of lending; the practice could be carried on full time or in conjunction with farming or livestock or dairy production. The maximum subloan amount would be US$15,000 equivalent. The subloan would finance up to 80% of the total investment costs; the participating bank would be able to rediscount up to 80% of the subloan. 3.52 Participating banks would be able to rediscount with the Central Bank up to 90% of the subloans made to small farmers. Other subloans made and disbursed by the participating banks could be rediscounted as follows: 80% for small agro-industry subloans and other subloans of up to US$50,000 equivalent; 75% for other subloans of between US$50,000 and US$100,000 equivalent; and 70% for other subloans of over US$100,000 equivalent. Rediscounting requests to the Central Bank would be made within three months of the date of disbursements of the participating banks. 3.53 Interest rates charged to participating banks under subsidiary loans (including the administrative services charge of 0.5% of the Central Bank) would yield a minimum spread of 3%, and a maximum spread of 6%, below the interest rates charged by participating banks for subloans. In the case of subloans to beneficiaries other than small farmers, the rediscount rate charged participating banks would be no less than the sum of the interest rate on the Bank loan plus the administrative services charge of the Central Bank. Repayment schedules to the Central Bank would be in line with those of the sub-borrowers.  - 24 - 3.54 The above arrangements are considered to provide adequate incentives to the participating banks and, in addition, to encourage both lending to small farmers and also the use of the participating banks' own funds for agricultural lending. Projected cash flows for the Central Bank and for the participating banks are in Annex 7 and 8, respectively. I. Accounts, Auditing and Monitoring 3.55 The Central Bank and the participating banks would maintain separate project accounts in accordance with generally accepted accounting principles. The project account in the Central Bank would be audited by the Interventor General (the representative of the Superintendency of Banks), whose report thereon would be of such scope and in such detail as the Bank may reasonably request. The project accounts in the participating banks would be audited by independent professional auditors acceptable to the Bank. In the case of those participating banks which had requested, or to which authority had been delegated for the approval of subloans, their annual accounts would be audited by independent auditors acceptable to the Bank, whose reports would be of such scope and in such detail as the Bank may reasonably request. The project account of the Central Bank and the accounts of the participating banks referred to above, together with the relevant audit reports, would be submitted to the Bank not later than three months after the end of each financial year. Assurances on the above were obtained. 3.56 The results of the agricultural and small industries lending would be monitored by the Project Executive Unit and CENAPIA, which would arrange for the collection of financial and statistical information in a form directly comparable with the original development plans and projections of the enter- prises financed. These results would be collected: (a) for all small industry loans and for those agricultural and livestock loans above the free limit (para- graph 3.49); (b) for 10% of the number of small farmer loans; and (c) for 20% of the number of other agricultural and livestock loans. The detailed informa- tion would be retained by the Project Director and available for inspection by Bank supervision missions; summaries and analyses of the information would be included in the Project Director's quarterly reports, as the information became available. Suitable assurances were obtained. IV. PRODUCTION, MARKETS AND MARKETING, PRICES, AND PRODUCER BENEFITS A. Production 4.01 At full development, annual incremental output from 1,000 small crop farms is expected to be as follows: 1,300 m tons maize (less than 1% of 1974 national output); 2,000 m tons oilseeds (6%); 8,000 m tons vegetables (4%) and 2,000 m tons rice (1%). Incremental annual output from 600 small dairy farms (6-ha) is expected to be about 9 million liters of milk (0.8%) and 500 m tons  - 25 - of beef (0.5%), while for the 200 commercial dairying operations annual incre- mental output is expected to be 22 million liters of milk (3%) and 800 m tons of beef (1%). For the 800 beef farms (50-ha modules), annual incremental output of beef at full development is expected to be 6,500 m tons (6%). Incre- mental output from 50 sheep farms (40-ha modules) is expected to be 139 m tons mutton (2%) and 35,000 kg wool (2%). 4.02 It is not possible at this stage to estimate incremental production from the small industries component. Detailed projections would be included in the feasibility studies that would be prepared for each individual subproject. B. Markets and Marketing 4.03 Agricultural marketing is largely in the hands of the private sector, with some Government intervention. Inadequate roads and storage facilities tend to create thin markets with wide handling and distribution margins. 4.04 Nonetheless, project-induced production of milk and beef is not anticipated to encounter marketing difficulties. In the past year and a half there have been substantial imports of powdered milk to meet the rapidly expanding domestic demand. More than adequate processing capacity exists in the local pasturizing industry to absorb the projected expansion of output. There exists a similarly strong and expanding demand for beef. Ranchers are to some extent at a disadvantage in selling beef on the hoof (S/15/kg or US$0.60 per kg liveweight) to local traders, although implementation of proposals for regional auction yards could improve their bargaining position. In several of the main producing areas, slaughter facilities are poorly organized and unhygienic, and assurances were obtained that the health and hygiene standards required by Ecuadorian law would be strictly enforced in project areas. Although there is much room for improvement in the market- ing of other agricultural products, the incremental volumes of crop production are modest relative to overall national totals and are not expected to encoun- ter marketing difficulties. Moreover, the service centers to be established in conjunction with the reorganization of the extension services (para 2.09) should improve marketing and storage facilities in the project areas. 4.05 The marketing prospects for production from the small industries component would be individually assessed in the feasibility studies for each subproject. C. Prices 4.06 The Government has frequently intervened in the establishment of prices for basic food consumption items in Ecuador, setting them at relatively low levels. However, a willingness recently to implement price policies which promote production expansion is evident. The recent (September, 1976) 50% increase in the cash price to producers for fluid milk delivered to processors (US$0.17 per liter) is a case in point. Milk prices are now highly attractive to producers. The official prices on beef are not vigorously policed and  - 26 - appear adequate and relatively stable at the producer level. The Government's policy with respect to the other crops to be financed under the project is restrained to merely setting guidelines or referential prices and is not expected to act as a disincentive to producers. D. Producer Benefits 4.07 The following table summarizes the producer benefits from the live- stock and agricultural lending, as shown by the models in Annex 4: Beef Dairy Small Sheep Crop Model Models Farm Dairy Farm Farm 50 ha 50 ha 10 ha total 40 ha 4 ha 6 ha pasture Financial rate of return: overall 19% 22% 20% 18% 26% on owner's investment 26% 40% >50% 41% 47% Net operating income ------------------ US$ -------------------- with project 3,520 18,220 708 2,088 1,334 without project 836 6,796 76 264 428 Debt service 1,440 6,248 572 1,008 536 The figures for net operating income with project shown above are at full development before charging debt service. Except in the case of the crop farm, the net income is after charging incremental labor, some or all of which may be previously unemployed family labor, so that the increase in family income could be substantially more than the increase in the farm operating income--for example, about US$1,300 equivalent in the case of the small dairy. It is expected that the project would reach some 1,500 rural families classified as small farmers, most of whom have income levels well below the national average. 4.08 Producer benefits cannot be quantified at this stage for the small industries component, although preliminary estimates show financial rates of return in the neighborhood of 20% for typical enterprises.  - 27 - V. ECONOMIC BENEFITS AND JUSTIFICATION 5.01 The project would lead to substantial increases in the output of agricultural products and derivatives, improve the country's food supply and reduce the need to utilize foreign exchange for food imports. Whilst the project would be basically production oriented, it would also raise the living standards of a significant number of small farmers and pave the way for future increases in the volume of lending to this group. At full development, the project would generate some 4,000 man-years of employment annually. The value of incremental output would be US$12 million a year; the value of incremental herds would total US$16 million. 5.02 The economic rate of return of the agricultural and livestock components of the project is estimated at 20% (Annex 10). This estimate is based on current financial wages, with fertilizer and project output priced according to the Bank's projections and an allocation of technical and admin- istrative costs. The results of sensitivity analysis may be summarized as follows: Investment Operating Shadow Wage Costs Costs Output Rate 80% +10% +15% +10% +15% -10% -15% Rate of Return 19% 18% 17% 15% 15% 13% 21% 5.03 Because the small industries component is in the nature of a line of credit, no calculation of the economic rate of return has been possible. Tentative estimates of the financial results of enterprises of the type to be financed indicate rates of return of the order of 20%. 5.04 The experience of previous projects, and the known demand for credit suggest a relatively low level of risk for the livestock components of the project. The more limited experience in Ecuador of lending to small farmers and small industries indicates an acceptable level of risk, given the institutional strengthening and safeguards incorporated in the project. VI. AGREEMENTS REACHED AND RECOMMENDATION 6.01 During loan negotiations, agreement was reached on the following principal points: (a) participating banks would provide adequate short- term subloans and working capital to project benefi- ciaries and the Central Bank would provide the rediscount facilities outlined in paragraphs 3.52 and 3.53 (paragraph 3.31);  - 28 - (b) During the second year of the project, the delegation to the participating banks of the authority to approve subloans would be reviewed in consultation with the Bank (paragraplh 3.37); (c) the Project Executive Unit would have adequate operational autonomy and any change in its loca- tion within the public service would be made after consultation withi the Bank and on terms and conditions acceptable to the Bank (paragraph 3.39); (d) the terms and conditions of the subsidiary loan agreements between the Central Bank and participating banks would be acceptable to the Bank (paragraph 3.41); and (e) the arrangements for the provision of MAG extension services would be as specified in paragraphs 3.42- 3.44. 6.02 Conditions of effectiveness are that: (a) a contractual arrangement has been executed and delivered by the Government and the Central Bank (paragraph 3.31); and (b) a subsidiary loan agreement with at least one participating bank has been made to the satisfaction of the Bank (paragraph 3.41). 6.03 The proposed project is suitable for a Bank loan of US$15.5 million for a terni of 14 years, including a 5-year grace period. May 25, 977  ANNEX 1 Page 1 ECUADOR Agricultural Credit Project Performance Under Previous Agricultural Projects 1. Previous Bank Group lending for the agricultural sector in Ecuador has comprised three livestock development projects and four other projects for fisheries, irrigation, seed production and technical assistance. The three livestock development projects are treated separately below because of their special relevance to the proposed project. The Livestock Development Projects 2. The First Livestock Development Project financed on-farm investments for beef production in the coastal region. Loan 501-EC for US$4.0 million became effective in December 1967 and was fully committed by June 30, 1969, some six months ahead of schedule. The program was administered by the Proj- ect Executive Unit, under an expatriate Director and a specially created autonomous Project Commission. One hundred thirty-two subloans were made, averaging US$37,000 each, larger than had been anticipated during appraisal. 3. The Second Livestock Development Project was of an interim nature and designed, in view of the rapid advance of the first project, to continue fi- nancing coastal livestock activities until a third, more comprehensive project could be prepared and approved. Credit 173-EC for US$1.5 million became effec- tive in June, 1970 and was closed in February, 1974. Under the project, 90 subloans, averaging about US$25,000 each, were made. 4. The Third Livestock Development Project has continued to finance beef cattle development in the tropical coastal region and also expanded to include dairy farm development in the temperate Sierra highlands (plus a smaller volume of lending for beef cattle in the tropical Oriente). The project also covered: (a) pasture and beef cattle research; (b) technical assistance; and (c) a pasture seed certification and multiplication service. Credit 222-EC for US$10 million became effective in September 1971. The project has pro- ceeded smoothly except for a hiatus from late 1973 to late 1974 during which the goverment renegotiated the credit conditions regarding project organiza- tion and the interest rates on subloans. Under the project, some 356 subloans have been approved by the Project Unit, averaging US$31,000 each. The live- stock credit funds are nearly fully committed, and it is likely that the credit will be fully disbursed by end-1977. end-1977. 5. The performance of the first two projects (Loan 501-EC and Credit 173-EC) was assessed in the Project Performance Audit Report dated October 21, 1975. The Report found that the projects had been well managed and smoothly  ANNEX 1 Page 2 implemented; they had improved productivity and output on participating ranches and jointly resulted in an increase of roughly 10% (worth about US$4 million a year) in national beef production. The economic rate of return, however, was estimated to have fallen sharply (to about 12%, compared with 27% at appraisal) because of higher investment costs and lower cattle and beef prices relative to input costs. The financial rates of return to ranchers on the other hand, were estimated to have been about equal to the 27% forecast at appraisal, because rapid inflation eroded the real value of loan repayments, offsetting the unfavorable price movements. The Report also noted: the low standards of slaughterhouses processing project output; the regressive impact on income distribution resulting from subsidized interest rates to medium-sized and large producers (granting that commercial production was the project's main objective); the capital-intensive nature of the developments financed; and the lack of a monitoring system. 6. The performance of the third project has been basically similar to that of the first two. Since the Audit Report was written, however, two issues have arisen: first, the accounting and audit arrangements have been inadequate and, second, there have been serious deficiencies in the accounts and internal controls of BNF, the principal participating bank. 7. The proposed project would continue the successful livestock lend- ing program established under the first three projects. Producer prices for milk have just been substantially increased. At the same time, the investment models have been designed to reduce capital costs in the light of the experience already gained. Assurances on health standards in slaughterhouses were obtained. Any regressive impact on income distribution would be countered by the new interest rate structure and by the introduction of credit for small crop and mixed farms. Following a recent supervision mission, work has already begun on the collection of actual results from participating farms and ranches; this would be continued. The Bank and BNF have agreed on the accounting and auditing arrangements which need to be made to enable BNF to participate in the proposed project. Other Agricultural Projects 8. The Fisheries Project Loan of US$4.6 million was approved on 3 September 1968 and became effective on 4 September, 1969. Its components are: (a) provision of physical facilities and implementation of a training program for fishing crews; (b) design and construction of tuna purse seiners; and, (c) feasibility and detailed engineering studies for improved fishing harbor facilities. The training facilities are completed and training operations commenced in September 1976. As the demand for tuna purse seiners was less than originally anticipated, only four have been constructed and the remaining loan funds reallocated. After prolonged conversations with the Government on the scope of the port studies (owing to differing interpretations of the  ANNEX 1 Page 3 preliminary feasibility studies), it has been agreed to proceed with detailed engineering studies for a phased upgrading of the Manta fishing port facil- ities. The loan's closing date, originally October 1974, is May 1977, but may very likely be further extended. 9. The Milagro Irrigation Credit for US$5.5 million was approved on July 5, 1973 and became effective on January 17, 1974. The project will provide irrigation and drainage systems, roads and on-farm development on about 7,000 ha. It includes establishment of an agricultural production unit, a seed multiplication program, and applied research, as well as studies to extend a second-stage project over an additional 12,000 to 15,000 ha. Con- struction is progressing well but the on-farm development phase is about one year behind schedule, owing to the delay in procuring equipment and extremely slow progress in preparing land titles through the land reform agency (IERAC). 10. The Seed Production Loan (US$3 million) was approved on May 24, 1976 and became effective on October 20, 1976. Under it a National Seeds Council will be established as a policy formulation body, improved seed pro- duction increased, three large-scale seed processing and storage plants set up, the Agricultural Ministry's Seed Certification Department strengthened and some 25 seed distribution centers upgraded or constructed. 11. The Agricultural and Rural Development Technical Assistance Loan for US$4 million was approved on March 30, 1976 and became effective on Octo- ber 20, 1976. It provides technical assistance and associated equipment for (a) setting up a national rural development planning group (UNDER) in the Planning Ministry (JUNAPLA), (b) preparation of a rural development project in the Sierra (Tungurahua), (c) preparation of rural and agricultural devel- opment projects in the lower Guayas Basin and a framework plan for water control and agricultural development in this region, and (d) pre-investment studies of rural development possibilities in the Esmeraldas River Basin. There has been little progress made until recently in contracting the expatriate experts provided for under the various loan components.  ANNEX 2 Page 1 ECUADOR Agricultural Credit Project The Agricultural Sector Introduction 1. Since 1972 the development of petroleum production and exports has had a dramatic effect on Ecuador's internal and external financial position and has accelerated the rate of economic growth. In constant terms, the Gross Domestic Product (GDP) increased on average by about 5% annually from 1969 to 1971, 6% in 1972, 18% in 1973, 12% in 1974 and 5% in 1975. This rapid growth has been accompanied by price inflation, particularly in 1974 (23%); however, the rate of inflation declined from 14.5% in 1975 to 10.6% in 1976. 2. A basic question now is how fully will the country be able to uti- lize its considerably increased financial resources to strengthen its economic structure, particularly in view of uncertainties about oil exploration and the level of output and revenues in the 1980s. Only by expanding, diversifying and raising the productivity of the non-petroleum sector can Ecuador create employment for its rapidly growing labor force and raise the living standards of the broad mass of the population. Agriculture in the Economy 3. Agriculture is a major source of output, income and employment (Table 1). In 1975, it accounted for 21% of GDP. The rural population is about 58% of the national total and some 54% of the working population is in agriculture. Until 1972, the sector accounted for more than 85% of total export earnings; its share has dropped to about 33% since then as a result of the rapid expansion of petroleum exports. Still, the sector accounted for 10% of the increase in GDP between 1970 and 1975, compared to the petroleum sector's 9%. Natural Resources 4. There are three broad natural resource regions in Ecuador: Costa, Sierra and Oriente. The Coastal Zone, typically humid tropical, having mostly medium-sized and large farms, specializes in the production of rice, hard corn, yuca, bananas and plantains, citrus, oilseeds (annual and peren- nial), fibers, coffee, cacao, sugarcane and beef. The Sierra highland val- leys, with most of the country's small to medium-sized farms and considerable amount of subsistence farming, produce temperate climate foodgrains, pulses, potatoes, vegetables, and deciduous fruits and contain most of the dairy ranches. Sheep herds are maintained on the paramo pastures at altitudes of 3,000 m and  ANNEX 2 Page 2 above. The Oriente still suffers from limited access, though this is improv- ing, especially in the Northeast where most of the oil fields are located. As yet it contributes relatively little to sectorial output; it may have consid- erable potential for such products as oilseeds, beef and rice, but much more investigation is needed. Substantial investment in infrastructure would be required to open the area to settlement. 5. Most of the farming areas receive annually between 1,000 and 2,000 mm of rain, which is generally concentrated in the early part of the year. The northern part of the Costa and the piedmont section of the Oriente are high rainfall areas, receiving over 5,000 mm a year. In the Costa and parts of the Sierra, second crops are occasionally grown with irrigation during the 2nd semester. The wide range of altitudes and broken terrain--espe- cially in the Sierra--produce a multitude of climatic conditions. Soils also vary widely, from young volcanic ash to deep well-developed soils of high potential. The Ministry of Agriculture is undertaking a comprehensive resource and environment study of the various regions. Except in the Oriente, the area of arable land per rural inhabitant is low in Ecuador, averaging about 0.4 ha per capita (1974). This is particularly the case in the Sierra, where the ratio is 0.34 ha per capita; physical constraints limit further expansion of the cropped area, although there is considerable room for in- creasing yields and cropping intensity. The situation is less severe on the coast, where the present figure is 0.5 ha per capita. Rural Standards of Living 6. The average rural income per capita was estimated to be US$132 in 1973 (IBRD, Report of a Rural Development Mission,, May 30, 1975). Of the 1974 rural population of 3.8 million persons, 1.5 million have been classi- fied as "absolutely poor," i.e., per capita income less than US$50; 2.5 mil- lion had income less than the cost of basic nutritional needs and 2.8 million were classified as "relatively poor" as their per capita income was less than one-third the national average. While rural poverty is nation-wide, it is generally more serious in the Sierra than on the Costa. Although few if any reliable data are available on such questions as the number of landless laborers, rural wages, seasonal/migratory farm labor, and off-farm work by farmer operators, rural unemployment and underemployment are thought to be high. A study of rural employment estimated an unemployment rate (comparing ing man-day requirements to the total available labor force) of 41% in 1968, projected to rise to 49% in 1973. While the methodology applied in the study probably overstates the severity of the problem, it suggests its magnitude. 7. Nutritional information is incomplete, but surveys indicate that 47% of the rural population suffers from calory and protein deficiencies. Estimates for 1968 indicate that the national daily average intake was 2,100 calories per capita, while the protein availability was 48 grams per capita (20 grams from animal sources); these averages compare unfavorably with FAO- suggested daily norms of 2,600 calories and 75 grams of protein. There can  ANNEX 2 Page 3 be no doubt that such averages mask more severe nutritional deficiencies for lower income groups in both rural and urban areas. Also illustrative of rural living conditions is the fact that (according to the 1974 census) almost 90% of rural dwellings have no indoor plumbing or electrical service. Land Distribution and Use 8. The basic resource of the agricultural sector--land--is distributed in a very skewed fashion. Of the 633,200 farm holdings estimated by the 1968 Agricultural Survey, 32.6% were less than 1-ha and 41.7% were in the I to 5-ha range. These two strata accounted for 10.2% of the area in farms. Of the total number of farms, 76% were owner-operated (accounting for 83% of the area in farms). While the first land reform law dates from the mid-1960s, less than vigorous enforcement of it and the successor law of 1973 has re- sulted in little effective change in the situation in presently settled areas. 9. Ecuador's farms cover some 8 million ha, or about one-third of its geographic area (27.1 million ha). About 3.5 million ha, are devoted to crops (annuals, perrenials, fallow and artificial pastures): 3.3 million ha are rainfed and about 0.2 million ha irrigated. The remaining 4.2 million ha are devoted mainly to livestock. Some natural and man-made forest covers part of the total land in farms. Average farm size is about 11 ha; however, three-quarters of total number of farms account for only about 26% of the cropped area and about 17% of the total value of crop production. Only about 7% of the farms are served by institutional credit. Crops for Domestic Consumption 10. Production figures for crops are set out in Table 2. The major domestically produced grains for human consumption are soft corn and rice. Corn production has fallen drastically since 1972; rice output, however, ex- panded vigorously in 1974 and 1975, covering domestic demand and providing a small surplus (25,000 m tons) for export in 1976. Another major domestic food- grain is wheat, whose output in the 1970s has stagnated and given rise to considerable imports (US$33.5 million in 1975). Among root crops, potatoes, and, to lesser extent, cassava, and sweetpotatoes are basic consumption items. During 1971-75 production of potatoes was about 20% above that for the preceding five years. Regarding pulses (mainly beans, lima beans, peas and lentils), production during the 1971-75 period averaged below that for the preceding five years. Production of oilseeds has expanded rapidly in the last five years, especially for soybeans and African palm. Nevertheless, vegetable oil imports amounted to over US$12 million in 1975. Cotton production has recovered from the decline in the early 1970s to about double the 1966-70 average. Forestry 11. There are some 15 million ha of forest, but the vast majority are in the Oriente and remain largely inexploitable because of their inaccessi- bility. In the Costa most of the forest resources are in the high rainfall  ANNEX 2 Page 4 areas of the north, where government efforts to promote private or mixed- enterprise exploitation have had little success. In the Sierra, there are about 2 million ha suitable for forestry. The area in eucalyptus may be expanded in the proposed rural development programs for the region. FAO/CP also prepared (in mid-1976) a prefeasibility report for a forestry project including a eucalyptus planting program (25,000 ha), establishing a pinus radiata plantation in Cotopaxi Province, growth trials for long-fiber pulp- wood species, and institutional reinforcement of the Forestry Bureau in the Ministry of Agriculture and Livestock. Export Crops 12. Banana continues to be the sector's most important export crop, earning US$156.9 million from about 1,300,000 tons exported during 1975. The main production area has moved progressively from the northern and central parts of the Costa to the eastern parts of the Provinces of Guayas and Los Rios as the Gros Michel variety has been replaced by the Panama disease- resistant Cavendish variety. Cocoa exports in 1975 amounted to US$38 million, down from the record US$102.9 million in 1974 when an unusually large crop of about 70,000 tons coincided with exceptionally high world market prices. More attention is required to rehabilitate and replant cocoa trees in suitable areas of the Costa and to improve on-farm processing and the internal market- ing system. Coffee export value in 1975 was US$64.6 million (US$67.4 million in 1974). This crop is grown in parts of most provinces, but principally in the Costa. As in the case of cocoa, attention is required to improve the productivity of coffee, which also is a crop of importance to many small-scale farmers. 13. Sugarcane production is estimated to total 5 to 6 million tons a year, but much of this is used for the production of unrefined sugar and alcohol. For the May 1974 to April 1975 season, refined sugar production from the seven main mills totalled about 305,000 tons (270,000 tons in 1973/74). The value of exports during 1974 was US$42.6 million but this declined to US$15.7 million in 1975. In 1974, Ecuador was able to fill only about two-thirds of the sugar-import quota assigned by the United States (about 60,000 tons out of 96,754 tons). Castor beans are produced almost exclusively in Manabi Province of the Costa in association with corn, pea- nuts, cotton, cassava and coffee. In 1974, exports totalled 19,331 tons valued at US$5.8 million, while production was 45,000 tons. Abaca (Manila hemp) production rose from 9,500 tons in 1974 to 10,000 tons in 1975. Ex- ports of vegetable fibers, principally 7,000 tons of abaca, brought in US$5.7 million in 1974. Pyrethrum production in the Sierra has declined from 612 tons of dry flowers in 1973 to only 338 tons in 1974 and 183 tons in 1975. Production in 1968 amounted to about 3,000 tons of dry flowers, but since then production has fallen rapidly, although world demand for pyrethrins has recently recovered. Other export items from the agricultural sector in 1974 brought in an additional US$4.3 million. Livestock 14. About 230,000 farmers, representing about 40% of all farmers, own cattle, but over 60% of livestock owners have less than five animals and own  ANNEX 2 Page 5 about 13% of the national herd. Nearly 80% of the livestock farmers are located in the Sierra and are predominantly dairy farmers. Beef ranching is located predominantly in the tropical zones with nearly 90% of ranches lo- cated in the Costa region. 15. Beef cattle are predominantly criollo (native) Brahman crosses with about a 55% weaning rate and slaughtered at three to four years. The total herd is estimated at 2.5 million animals. About 320,000 head are slaughtered annually, representing a low offtake of around 13%. With improved husbandry practices and basic capital investments, producers could readily attain offtake rates of over 20%, as well as doubling carrying capacity. Annual beef output can range from 50 kg to 500 kg liveweight per hectare. Based on an average carcass weight, including offal of 175 kg, annual beef production is about 64,000 tons, representing a per capita consumption around 9 kg (there is, however, a substantial border trade in live animals which goes unreported and is not reflected in these figures.) Milk Production Milk Production Annual Cattle Cow Cows in Per cow Total Population Population milk per day (million m '000 '000 (liters) liters) Sierra 1.2 509 280 6 613 Costa 1.1 398 159 2.2 128 Total 2.3 907 439 4.6 741 Over 80% of the milk is produced in the temperate Sierra zone. Commercial dairy farms (these with more than 30 animals) are generally confined to the interandean valleys. Cattle are predominantly Holstein or Holstein crillo crosses with a high production potential. Milk cattle predominantly feed on pastures, with low levels of concentrate feeding. Milk production per cow and carrying capacity in the Sierra vary widely with the quality of herd management and pasture. Daily production per cow in milk can vary from 5 to 13 liters and ranges from 500 to 7,000 liters of milk per ha per year. In the Costa region, up to 40% of the beef cows mothering calves are milked once daily for about 120 days and produce around two liters of milk per day; although improved management with Brown Swiss Brahman crossbreds can produce 4 liters of milk per day. Total annual milk production, which is around 740 million liters, or about 0.3 liters per capita per day, is increasing, but less than the growth in fluid milk consumption and industrial utilization. As a result, there has been an increasing volume of imports of whole milk powder.  ANNEX 2 Page 6 16. Poor management associated with poor nutrition are the main factors responsible for the low weaning rates and retarded slaughter age on coastal beef ranches and the high calf mortality and low milk production on Sierra dairy farms. Animal health is not a major problem provided preventive mea- sures are taken to control foot and mouth disease (FMD), tick infestation and internal parasites. Tick infestation, particularly in the Coastal re- gion, can cause serious losses unless frequent dipping is practiced. Im- proved grazing management and adoption of prophylactic measures to control internal parasites could contribute significantly to reducing the calf mortality rate. There is testing for eradication of tuberculosis in dairy cows, and heifers are vaccinated against brucellosis, using vaccine produced locally. 17. The national sheep flock has remained around 1.1 million head for the last decade. The majority of flocks are of less than 100 sheep and are generally located in the Sierra region at an altitude between 3,000 and 4,000 meters known as the paramos. This area of about half a million hectares is predominantly in stipa pastures currently carrying around two sheep per hectare under extensive grazing conditions. Improved pastures, based on legumes and use of phosphatic fertilizer, are capable of trebling carrying capacity. The sheep breed is a mixture of criollo, rambouillet and corriedale crosses, with about a 60% weaning rate. Productivity is low mainly because of poor quality pastures. Mlale lambs are sold for slaughter at about one year of age and wool production averages less than 2 kg per head. Most of the wool is uti- lized by the local cottage industry for the manufacture of clothing (ponchos) and carpets. Marketing, Distribution and Prices 18. The present system for collecting, storing, distributing and market- ing most agricultural products exhibits serious deficiencies. Rural roads (where they exist) typically become impassible during heavy rainfalls. Pro- ducer organization is generally lacking in the marketing field. Access to local market facilities is restricted and is typically controlled by munici- pal authorities; the license fees represent an important local revenue source. Losses in perishable products appear very high. Shortages of storage facili- ties are particularly acute in producing areas (especially on farms) and at commodity assembly points. Products for which the greatest inadequacies in storage exist, in both the public and private sectors, include rice, pota- toes, corn, wheat, oilseeds and cotton. In these conditions, markets tend to be thin and the marketing and distribution system inhibits the transmis- sion of price signals between final consumers and producers. 19. The Government's response to this situation, in addition to its price regulation and price support activities (which have generally tended to further complicate rather than resolve product marketing problems, as pointed out in paragraph 27) has been the creation of the Empresa Nacional de Almacenamiento y Comercializacion (ENAC) to stabilize the prices of prin- cipal agricultural products by intervening in the market. Thus far, its lack  ANNEX 2 Page 7 of storage facilities and operating experience has hampered its effective- ness. Moreover, its operational capacity have been increasingly strained as it has taken over from the Banco Nacional de Fomento the latter's activities in purchasing and processing the rice crop (which has expanded substantially in recent years). A serious effort should be made for strengthening the pri- vate sector in storage and distribution activities, rather than relying pre- dominantly on an increasing public sector involvement in this area. 20. In the case of livestock, a small number of traders exercises con- siderable control over the marketing of live animals, operation of abattoirs and sale of carcass meat to retail outlets and processors. In practice, they have opposed changes to improve the meat marketing system such as improved slaughtering facilities, introduction of beef grading and the establishment of local saleyards. Apart from three modern abattoirs, two of which are expanding their activities, most livestock are still processed in municipally owned and country slaughterhouses. There are some 53 milk plants nearby all located in the Sierra, of which only 10 receive more than 10,000 liters daily. In the Sierra about 70% of the milk is sold as raw milk, about 20% pasteur- ized and 10% manufactured into cheese, butter and milk powder. On average, milk plants are operating at only about 40% of capacity. In the Costa, nearly all milk is sold as raw milk or cheese. 21. Government fixes prices for such key food items as meat, sugar, rice and wheat flour in some cases at both producer and consumer levels. More numerous are the products (largely perishable) covered by indicative prices which are intended to serve as guidelines, as they are not policed as closely as fixed prices. The indicative list includes fruits, vegetables, pulses, potatoes, and eggs. Official milk prices to producers were increased in September 1976 to S/ 4.2 liter. There have been increases in the price of milk each year since 1972 which have increased 220% since that year. Over the same period 1972-76 meat prices peaked in 1975 (S/ 15.4 kg on the hoof) and have receded only slightly although representing a 50% increase over the five year period. The Government only sets meat prices at the consumer level for certain low quality cuts. To some extent, consumer prices (and prices to producers) are regulated by the extent to which the Government tolerates the volume of live cattle crossing the borders (from Colombia and into Peru). In general, current milk and beef prices provide sufficient incentives to farmers to invest in milk and beef production. Ministry of Agriculture and Livestock 22. MAG comprises a Planning Bureau (Direccion), several administrative bureaus and five operating bureaus: Crops, Livestock, Rural Development, Forestry, and Marketing. The Ministry's budget rose a modest 9% in 1976, from S/ 638.9 million to S/ 693.4 million. In 1976, the total budgeted staff of the Ministry was 1,840 of whom 1,021 were professional and technical, 25 management, 469 administrative and 325 service personnel. These numbers were unchanged from 1975. There are a number of autonomous agencies attached to MAG: agricultural  ANNEX 2 Page 8 research (INIAP) (para 24), land reform (IERAC), irrigation (INERHI), storage and marketing (ENAC), retail market (EMPROVIT) and several regional develop- ment agencies (PREDESUR, CEDEGE, CRM, CREA). 23. Extension services in MAG have hitherto been organized along spe- cific crop lines, e.g., banana and tropical fruits, rice and (hard) corn, cotton and other fibers, temperate-climate grains and pastures, sugar and derivatives, and coffee. The practical training of extension personnel is generally limited to one "technological package" which they promote. This narrow focus is at odds with the diversity typical of farming in Ecuador. In view of this, a reorganization plan is presently being prepared in MAG. Rather than the narrow commodity orientation, it is proposed that extension personnel focus on the farm as an integral operation, providing advice on the various activities taking place thereon. This organization will be accompanied by the relocation of MAG professional and technical staff to rural areas (rather than largely in provincial capitals as at present) and the establishment of local service centers, including badly needed market- ing and storage facilities. As a first-phase trial, the 4th Agrarian Zone (Provinces of Imbabura and Carchi) is designing a program which will be im- plemented in CY 1977. This re-organization of the extension services would be coordinated with the provision under the proposed project of credit to small farmers. Agricultural Research 24. Official agricultural research in Ecuador is the responsibility of the Instituto Nacional de Investigaciones Agropecuarias (INIAP), which started operations in 1962. INIAP has evolved as an institution of major importance in Ecuador and has attracted the support of the Rockefeller Foun- dation and bilateral and international aid agencies. Bank Group credits and loans for agriculture have supported its activity, and an extensive agri- cultural research loan has been provided by the Inter-American Development Bank (IDB). In 1974, INIAP's professional staff, totalling 299, was engaged in research into plant breeding, agronomic and plant protection, pastures and livestock nutrition and farm management. 25. Fourteen years of research have provided a technical basis for practical advice on increasing agricultural productivity. During this period, INIAP has developed and tested improved varieties of most of the major crops in Ecuador, although research should be intensified to produce improved varieties of soft corn, beans, and pasture and expanded to include grain sorghum, pulses, fruits, vegetables and poultry. However, the dis- semination of research results to farmers through the extension service is inadequate. Another factor inhibiting the application of the research re- sults has been the tendency to concentrate on relatively sophisticated, high- cost production techniques rather than developing cheaper packages more ap- propriate to low-income farmers.  ANNEX 2 Page 9 Government Objectives and Policies 26. Very broadly, the Government's objectives in the agriculture sec- tor, as outlined in the National Development Plan for 1973-77, are to in- crease output and improve economic and social conditions in rural areas. In that plan, investment in the sector was projected to total US$554 million. Agricultural output would grow 5.3% p.a. and exports 3.9% p.a. Labor produc- tivity would increase 3.3% p.a. and employment by 2% p.a. However, the Plan was formulated prior to the significant increase in the volume and value of petroleum exports. In this new context, it is difficult to assess perform- ance in the light of the proposals of the original plan. Still, with the ex- ception of the relatively low increase of 3.8% in sectorial output in 1973, both 1974 and 1975 have exceeded the plan target. 27. Many of the policies followed by Government in the pursuit of its objectives have, however, been inadequate. Price controls of agricultural products have rarely been effective, but usually costly. Producer price sup- ports for wheat have not brought about national self-sufficiency, which is in any case a dubious goal since conditions in Ecuador are not particularly favorable; at the same time, subsidies on imported wheat have stimulated demand and increased the cost to Government (about US$8.7 million in 1975). Price controls on fluid milk have diverted output into other dairy products and resulted in shortages of fluid milk and imports of powdered milk. High support prices for rice have led to over-production and exports at heavy losses by the Government's marketing organization. Heavy Government involve- ment in the marketing of agricultural products and farm inputs, through its marketing agencies and the Banco Nacional de Fomento, have been generally unsuccessful and inefficient - particularly heavy losses were incurred on the import and distribution of fertilizer. 28. At present, there is no effective planning, programming and control of sectorial activities in either the National Planning Office (JUNAPLA) or in MAG's planning office. The disarticulated administrative structure, with the proliferation of public agencies, lack of overall effective control and re- sponsibility lodged in a given office, plus the absence of a comprehensive public sector budget (preferably on a multiannual basis, which could be a very powerful tool for both resource allocation and program monitoring) impede efforts to prepare and execute projects of economic priority within the framework of sound national plans and policies. 29. Government is generally aware of the inadequacies described above; it is equally aware of the political difficulties of removing many of them. Some actions have already been taken or are in process. The supply of credit to the sector has increased from about US$60 million in 1971 to US$186 mil- lion in 1975. Official milk (and some other) prices have been brought more in line with market conditions. Plans are being prepared for the re- organization of the extension services.  ANNEX 2 Page 10 30. The strategy for the future development of agriculture and the rural areas should now be directed to: (a) reorganizing the extension services to provide an integrated ap- proach to farm enterprise management and improved diffusion and adoption of agricultural research results; (b) improving marketing systems, including standardization and en- forcement of weights and measures, credit for small traders to increase competition, and the expansion of storage and marketing facilities; (c) improving Government price policies to reflect market forces; (d) creating additional employment opportunities in rural areas through investment in small local industries; and (e) formulating clear priorities for rural development and strengthen- ing project preparation capabilities, as already initiated under the Bank loan for Agricultural and Rural Development Technical Assistance (Loan 1230-EC). For this purpose clear lines of au- thority and responsibility must be established within the public sector agencies concerned. The proposed project, taken together with on-going and likely future projects financed by the Bank Group, will contribute to achieving these goals and to striking a reasonable balance in meeting the needs for increased production and improved income distribution.  ANNEX 2 Table 1 ECUADOR AGRICULTURAL CREDIT PROJECT GROSS DOMESTIC PRODUCT BY ECONOMIC SECTORS, 1970 THROUGH 1975 (S/ million at constant 1970 prices) Economic Sector 1970 1971 1972 1973 1974 1975 Agriculture, forestry, fisheries 9,087 9,252 9,052 9,394 10,388 11,088 Mining 268 315 275 332 416 533 Petroleum 33 30 671 2,179 1,923 1,732 Manufacturing 5,671 6,125 6,546 7,058 7,910 9,017 Electricity, gas, water 396 413 449 478 599 670 Construction 1,440 2,152 1,642 1,942 2,240 2,862 Trace 4,763 5,207 5,817 8,335 11,985 11,191 Transport and communications 2,158 2,427 2,628 2,810 2,386 2,487 Financial institutions 1,356 1,380 1,549 1,577 1,627 1 880 Housing 1,948 2,047 2,224 2,536 2,947 3,321 Public administration 3,275 3,133 3,461 3,646 4,166 4,365 Other services 3,575 3,445 3,672 4,657 4,449 4,573 Totals 33,970 35,926 37,986 44,944 51,036 53, 719 Source: Banco Central del Ecuador. January, 1977  ECUADOR AGRICULTURAL CREDIT PROJECT Crop_Areas, Yields and Production Ave rage Average PRODUCTS UNITS _ 1966 1967 1968 1969 1970 1966-70 1971 1972 1973 1974 1975 1971-75 CFREALS 1. Barley Area/'000 ha 143 144 135 126 134 136 120 119 93 61 72 93 Yield kg/ha - - - - - 618 - - - - - 708 Production '000 t. 77 81 76 73 110 84 69 73 79 56 63 68 2a. Corn (soft) Area/'000 ha - - - 215 211 213 241 250 124 90 109 163 Yield kg/ha - - - - - 728 - - - - - 690 Production '000 t. - - - 141 168 155 140 171 100 61 90 112 2b. Corn (lhard) Area/'000 ha - - - 77 80 79 111 102 141 120 166 128 Yield kg/ha - - - - - 1,165 - - - - - 1,108 Production '000 t. - - - 81 102 92 121 101 153 131 203 142 2. Corn (total) Area/'000 ha 267 364 255 292 291 294 352 352 265 210 - Yield kg/ha - - - - - 697 - Production '000 t. 175 228 129 222 270 205 261 272 253 192 - 3. Rice (milled) Area/'000 ha 111 114 112 92 87 103 57 91 85 93 122 90 Yield kg/ha - - - - - 942 - - - - - 1,522 Production '000 t. 111 111 65 83 117 97 82 105 134 157 207 137 4. Wheat Area/'000 ha 65 80 79 100 76 80 76 56 47 56 70 61 Yield kg/ha - - - - - 1,000 - - - - - 931 Productiolns '000 t. 63 79 83 94 81 80 68 51 45 55 65 57 FIBRES 5. Abaca Area/'OOO ha - - - 2 2 2 2 3 7 7 8 5 Yield kg/ha - - - - - 2,000 - - - - - 1,260 Production '000 t. - - - 4 4 4 5 4 7 8 10 7 6. Cotton (seed Area/'000 ha 24 24 21 22 9 20 8 14 23 43 37 25 cotton) Yield kg/ha - - - - - 800 - - - - - 848 Production '000 t. 18 16 14 24 8 16 11 12 20 33 30 21 SOURCE: Ministry of Agricultute and Livestock, Quito. January, 1977 m >c 0 -h,  ECUADOR AGRICULTURAL CREDIT PROJECT Crop Areas, Yields and Production Average Average PRODUCTS UNITS 1966 1967 1968 1969 1970 1966-70 1971 1972 1973 1974 1975 1971-75 TUBERS AND ROOTS 7. Cassava Area/'000 ha 28 27 27 35 35 30 37 41 54 54 43 46 Yield kg/ha - - - - - 10,633 - - - - - 11,910 Production '000 t. 276 323 234 390 371 319 383 277 741 741 597 548 8. Potatos Area/'OOO ha 44 48 49 41 47 '46 53 38 44 48 39 44 Yield kg/ha - - - - - 9,804 - - - - - 11,955 Production '000 t. 347 399 511 457 542 451 681 473 539 438 499 526 9. Sweet Potatoes Area/'OOO ha 3 2 2 3 3 3 2 3 2 2 3 2 Yield kg/ha - - - - - 3,000 - - - - - 5,000 Production '000 t. 8 8 7 11 10 9 7 9 8 8 14 10 PULSES 10. Beans Area/'OOO ha 82 79 86 85 82 83 67 62 66 50 63 62 Yield kg/ha - - - - - 458 - - - - - 445 Production '000 t. 36 38 35 38 41 38 30 26 32 24 26 28 11. Broad Beans Area/'000 ha 35 34 34 21 24 29 23 13 17 17 19 18 Yield kg/ha - - - - - 586 - - - - - 771 Production '000 t. 21 20 20 11 15 17 15 -9 12 12 16 13 12. Lentils Area/'OOO ha 3 3 2 2 2 2 3 2 4 4 4 3 Yield kg/ha - - - - - 383 - - - - - 480 Production '000 t. 1 1 1 1 1 1 1 1 2 2 2 2 13. Iupins (edible) Area/'000 ba 3 3 3 3 4 3 3 3 2 2 1 2 Yield - - - - - 845 - - - - - 700 Production '000 t. 3 2 3 1 3 3 2 2 1 1 1 1 14. Peas Area/'000 ha 31 31 41 23 30 31 23 17 16 13 17 17 Yield kg/ha - - - - - 581 - - - - - 588 Production 18 18 22 11 21 18 14 9 9 7 10 10 SOURCE: Hinistry of Agriculture and Livestock, Quito. January, 1977 M 0  ECUADOR AGRICULTURAL CREDIT PROJECT Crop Areas, Yields and Production Average Average PRODUCTS UNITS 1966 1967 1968 1969 1970 1966-70 1971 1972 1973 1974 1975 1971-75 OIL SEEDS 15. African Palm Area/'OOO ha - - - - - - 7 8 9 9 11 9 Yield kg/ha - - - - - - - - - - 1,489 Production '000 t. - - - - - - 12 15 13 13 14 13 16. Castor Beans Area/'000 ha 24 22 16 23 16 20 31 26 46 40 3 29 Yield kg/ha - - - - - 1,000 - - - - - 1,090 Production '000 t. 25 23 9 24 17 20 35 23 52 45 3 32 17. Peanuts Area/'000 ha 15 12 14 6 6 11 10 12 15 15 16 14 Yield kg/ha - - - - - 711 - - - - - 776 Production '000 t. 12 9 6 5 5 7 10 11 13 13 11 12 18. Sesame Area/'OOO ha 2 2 3 2 3 2 2 3 1 1 3 2 Yield kg/ha - - - - - 771 - - - - - 900 Production '000 t. 2 1 2 2 2 2 2 2 1 1 3 2 19. Soybeauis Area/'OOO ha - - I I I 1 1 1 1 2 9 3 Yield kg/ha - - - - - 948 - - - - - 1,333 Production '000 t. - - 1 1 1 1 1 1 2 3 12 4 OTIIER 20. Pyrethrum Area/'OOO ha 8 9 9 4 3 7 3 2 1 1 1 2 Yield kg/ha - - - - - 394 - - - - - 500 Production '000 t. 3 4 4 2 1 3 1 1 1 1 1 1 21. Tea Area/'OOO ha - - - 1 1 1 2 2 2 2 1 2 Yield kg/ha - - - - - 684 - - - - - 4,300 Production '000 t. - - - 1 1 1 4 8 9 14 8 9 22. Tobacco Area/'OOO ha 1 2 3 2 2 2 2 1 1 2 1 1 Yield kg/ha - - - - - 818 - - - - - 1,000 Production '000 t. 2 1 1 1 2 2 2 1 1 2 1 1 SOURCE: Ministry of Agriculture and Livestock, Quito. 0 b January, 1977 0 >c 0  ECUADOR AGRICULTURAL CREDIT PROJECT Crop Areas, Yields and Production Average Average PRODUCTS UNITS 1966 1967 1968 1969 1970 1966-70 1971 1972 1973 1974 1975 1971-75 RAIN EXPORT CROPS 23a. Banana (Total)Area/'O0O ha 187 203 195 190 190 194 181 171 162 160 125 160 Yield kg/ha - - - - - 17,691 - - - - - 19,225 Production '000 t. 2,744 2,937 3,920 3,870 3,688 3,432 3,512 3,296 3,203 2,800 2,569 3,076 23b. Banana (Export type)'/ Area/'OO0 ha 164 160 157 148 124 151 I1I 101 93 92 23 84 Yield kg/ha - - - - - 13,517 - - - - - Production '000 t. 1,965 1,812 2,068 2,260 2,098 2,041 2,093 2,088 2,070 2,315 - 24. Cacao Area/'O0O n.a. n.a. n.a. 228 228 228 21.9 218 213 213 230 217 Yield kg/ha - - - - - 224 - - - - - 297 Production '000 t. n.a. n.a. n.a. 48 54 51 49 67 62 70 74 64 25. Coffee Area/'OOO ha 218 208 191 215 215 209 215 221 227 212 231 221 Yield kg/ha - - - - - 306 - - - - - Production '000 t. 74 66 63 56 60 64 59 58 52 61 76 61 26. Cania de Azucar Area/'000 ha 113 108 122 n.a. n.a. 114 n.a. 88 89 94 115 97 Yield kg/ha - - - - - 76,202 - - - - - 63,30' Production '000 t. 9,004 7,528 9,529 n.a. n.a. 8,687 - 5,576 5,477 5,786 7,723 6,141 I/ National Banana Program, Cuayaquil. SOURCE: Ministry of Agriculture and Livestock, Quito. m January, 1977 m iX 0  ANNEX 3 Page 1 ECUADOR Agricultural Credit Project The Banking System and Agricultural Credit The Monetary Board 1. The Monetary Board is the highest monetary policy body in Ecuador and, in this capacity, it regulates the volume and distribution of credit in the supervised market. The President of the Monetary Board is a representative of the President of the Republic; members are the Ministers of Finance; of Industry, Commerce and Integration; and of Agriculture. The President of the National Planning Board, the Bank Superintendent and the Manager of the Central Bank act as advisors, and three representatives of the private sector participate in discussions, but have no vote in the decisions of the Board. The Central Bank 2. The Central Bank is principally responsible for the issue of money and the exercise of some of the measures of monetary control. As of December 31, 1974, its total assets amounted S/ 21,595 million, including S/ 6,986 million of claims on the public sector (Central Government and offi- cial financial institutions). The volume of credit extended by the Central Bank in the period 1970-74 is estimated below. The figures do not include rediscount operations; the "other" category includes the public sector. Central Bank-Volume of Credit (in S/ million) Year Commerce Agriculture Industry Other Total 1970 797 215 905 661 2,578 1971 728 159 970 507 2,363 1972 1159 109 789 489 2,546 1973 1111 124 627 367 2,229 1974 1492 89 1,090 642 3,313 Source: Banco Central del Ecuador. 3. The Central Bank administers the Fondos Financieros, which consist of six funds with local resources and two with foreign resources from USAID and IBRD loans. The resources of these funds are used by the Central Bank to rediscount loans made by commercial and development banks to eligible  ANNEX 3 Page 2 borrowers under the provisions of each fund. Normally, the intermediary lends up to 90% of the cost of the project at 9% and rediscounts 80% of the value of the loan at 3%; exceptionally, under IDA Credit 222-EC, the intermediary lends at 12% for loans above SI 625,000 and rediscounts at 7% the equivalent of 70% and 75% of the value of the loan for milk cattle and meat cattle projects, respectively. To bridge the period between the full commitment of Credit 222-EC resources and the availability of resources under the proposed project, the Government provided up to US$4 million (equivalent) to be avail- able for sublending under the same terms and conditions as Credit 222-EC. 4. Two of the eight funds of the Fondos Financieros are aimed at assist- ing small-scale and artisan industries, namely the Fondo Financiero Industrial and the USAID Technical and Credit Assistance to Small Industry Program. The former has worked relatively well; during 1975, the Ecuadorian Government increased its resources from SI 200 million to St 400 million. The latter has not worked too well because of administrative complexities and at the end of December 1975 was terminated. In November 1975 the Minister of Industry announced the creation of the National Center for the Promotion of Small and Artisan Industry (CENAPIA) which, among other things, will supervise the use of the resources of the Fondos Financieros and provide technical assistance in the areas of accounting, industrial engineering, and product design and marketing. The Commercial Banks 5. There are 20 national and four foreign commercial banks operating in Ecuador (May 1976). As of December 31, 1974, their combined liabilities stood at S/ 22,904 million, classified as follows: 1/ Amount (in S/ million) % of Total Deposits 12,239 54 Bonds 2,738 12 Letters of Credit 3,469 15 Other Obligations 3,039 13 Equity 1,419 6 Source: Banco Central del Ecuador, 1974-No. XLVIII-560. 6. The percentage distribution of credit extended by the commercial banks in the period 1970-74 according to main sectors is given below. Recent measures of commercial portfolio ceiling and directed investment are expected to change the traditional mix of beneficiaries. 1/ The data refer to the 18 national and four foreign commercial banks operating at that date.  ANNEX 3 Page 3 Percentage of Distribution of Credit Supplied by Banking System by Economic Activity, 1970 through 1975 /1 Activity 1970 1971 1972 1973 1974 1975 Commerce 56.6 59.7 59.9 59.4 52.4 50.4 Industry 18.9 19.4 18.5 18.4 19.9 19.5 Agriculture 14.1 12.3 12.5 14.2 17.6 16.6 Other 10.4 8.6 9.1 8.0 10.1 13.5 Total 100.0 100.0 100.0 100.0 100.0 100.0 /1 Exclusive of credit supplied by the Central Bank of Ecuador to other banks. The source does not indicate the content of the "other" category, which has shown considerable growth; this may include, however, construc- tion activities. Source: Central Bank of Ecuador. 7. The total volume of credit (defined as the value of credit ope- rations in each year) extended by the banking system and by CV-CFN and COFIEC in the period 1970-74 is shown in the following table. Except for CV-CFN, available statistics make no distinction between short and long-term credit, although it may be reasonably assumed that Banco Nacional de Fomento (BNF), CV-CFN and COFIEC are the major sources of the long-term financing. It is estimated that during 1974, only about 15% of total credit extended by the banking system, CV-CFN and COFIEC had terms over one year. This no doubt reflects the predominantly commercial orientation of the business sector in Ecuador. Overall, the commercial banks dominated the scene. Their share of total credit went from about 68% in 1970 to 72% in 1973. However, during 1974 it dropped to about 62%, due partly to the restrictions placed on overall portfolio growth and partly to the emerging importance of Banco Nacional de Fomento and CV-CFN. The unfreezing during 1975 of certain portions of the portfolio of the commercial banks combined with incentives under the Fondo Financieros mechanism may again change their relative position in the future.  ANNEX 3 Page 4 Volume of Credit Extended by Source (in S/ million) Non-Bank Banking System Intermediaries Total Central Commercial Banco Nacional Year Bank /1 Banks de Fomento CV-CFN COFIEC 1970 2,578 8,054 678 145 359 11,814 1971 2,363 9,079 763 410 444 13,059 1972 2,546 10,542 808 302 633 14,831 1973 2,229 12,888 1,508 363 831 17,819 1974 3,313 15,668 3,640 1,266 1,306 25,193 /1 Credit to commercial banks and BNF excluded. Source: Memoria del Gerente General del Banco Central del Ecuador, 1973-1974; operating reports of CV-CFN and COFIEC. 8. As shown in paragraph 6, the volume of bank credit which flowed to the agricultural sector between 1970 and 1975 has expanded relatively rapidly. The channels of institutional credit to the sector are the Government's BNF and the commercial banks. Loans to the agricultural sector in 1975, amounting to US$186 million, represented about 17% of total bank credit, well above the 13% average for 1971-73. This 1975 figure represents a tripling from the US$60 million reported in 1971 (an expansion rate of over 30% p.a.). During this period, credit for livestock approximately quintupled while crop lending slightly more than doubled; by 1975, lending was almost evenly split between the crop and livestock sectors. As institutional credit is available to only about 7% of the farms, in addition to or in lieu of tapping such sources, many farmers utilize a considerable but unquantified volume of non- institutional credit available from suppliers or money-lenders. While con- siderably more expensive than institutional credit--rates charged range upwards of 18 to 20% p.a. and usually for relatively short periods--farmers can avoid mortgaging land or having to submit to the procedures generally adopted by banks for the granting of credit. 9. The monetary authorities require that private banks maintain 20% of their portfolio as loans to the agricultural sector (25% in the case of foreign-owned private banks) or else the banks must hold 4% interest-bearing national bonds (paragraph 26 below). In view of the legal maximum interest rate for lending in the sector (9%), compared to 12% for industrial and commercial loans, low profitability of such operations has given rise to such a sectorial portfolio requirement. The recently approved regulation assigning progressive commissions for medium- and long-term lending, raising the maximum effective rate to as high as 13.5%, is a salutory move (see para 27 for a more detailed discussion).  ANNEX 3 Page 5 Banco Nacional de Fomento (BNF) 10. The leading supplier of agricultural credit is the BNF. As of the end of 1975, the BNF had a net worth of S/ 1,990 million (US$79.6 million). Its total assets amounted to S/ 9,730 million (US$389.2 million), including a loan portfolio of S/ 5,990 million (US$239.6 million) and an investment portfolio of S/ 535 million (US$21.4 million). The Bank has its head office in Quito and 53 agencies throughout the country. It has a staff of 2,051 of whom 20% work at the head office, 9% in the Guayaquil branch and 6% in the Quito branch office. Inspectors (credit technicians) number 248, of which 122 have university level training. The excessive ratio of loans per technician hampers providing adequate farm planning, credit analysis and technical assistance. In 1975, loans made by the BNF represented nearly 69% of the total institutional credit extended to the agricultural sector. This represents a considerable increase over the average of 36% during the 1970- 72 period. In 1975, crop loans - largely in rice and cotton - represented 58% of the total; livestock loans, 33%; and the remainder was for machinery and in- frastructure. 11. Major problems for BNF agricultural lending operations derive from the inadequate preparation of farm loan requests. This failing has become especially severe with the large expansion in the number of loan requests pro- cessed in recent years. Furthermore, the BNF has been seriously debilitated, both financially and administratively, by its involvement in recent years in such activities as purchasing (and milling) of rice, fertilizer and tractors. It is now in the process of divesting itself of these activities and of reor- ganizing and reforming its procedures. 12. These reforms are all the more urgent, since BNF's accounting and internal control procedures have been inadequate. BNF is presently restructuring its organization and improving its procedures with the assistance of consultants employed under an Inter-American Development Bank loan. Cooperative Bank 13. The Cooperative Bank (Banco de Cooperativas - BC) was formed in 1964 by a group of cooperatives and presently has 320 shareholders, all cooper- atives. The principal objective of the bank is to promote the development of its shareholders through the provision of short-, medium- and long-term loans. In 1975, it was empowered to carry on all banking activities, and it now provides credit to non-cooperative borrowers as well. It can make equity investments, but only in coperative organizations. BC's operations are governed by its charter of 1975, the general banking laws, and regulations of the Central Bank. 14. The head office of BC is in Quito. It has a branch in Guayaquil and an office in Sucua, in the Oriente. Of the total staff of 47, 27 are in Quito,  ANNEX 3 Page 6 18 are in Guayaquil, and two are in Sucua. There are five technicians who evaluate loan applications: three in Quito, one in Guayaquil, and one in Sucua. 15. Loans committed increased from 90 for S/ 41 million in 1971 to 184 for SI 94 million in 1975, or about 100% in number and 130% in amount. Thus, the average loan size increased from S/ 455,000 in 1971 to SI 510,000 in 1975, or somewhat more than 10%. In terms of 1975 sucres, loan commitments rose about 35% from S/ 69 million to S/. 94 milion, but average loan size decreased about 35%, from SI 770,000 to SI 510,000. The proportion of loans renewed to total loans committed is less than 5%. 16. About 5% of commitment was short term (less than one year) in 1975, 63% was medium term (one to five years) and 32% was long term (over five years). In terms of loan size, about 3% of loans was under S| 100,000, 11% was S/ 100,000 to S/ 500,000, 16% was SI 500,000 to S/ I million, and 70% was over SI 1 million. 1/ 17. The regional distribution of loan commitments in 1975 was 57% for the Sierra, 30% for the Costa, and 13% for the Oriente. According to purpose, 34 loans (18%) for S/ 39 million (42%) were granted for agriculture; 39 (21%), amounting to S/ 28 million (30%), for consumption; 9 (5%), amounting to SI 7 million (7%), for services; 85 (46%), amounting to S/ 3 million (3%), for commerce; and 17 (10%), amounting to S/ 17 million (18%), for miscellaneous. 18. The loan portfolio at the end of 1975 represented 81% of total assets. From the end of 1971 to the end of 1975, it increased from S/ 40 million to S/ 132 million, or 230%. In terms of 1975 sucres, it increased about 95%, from S/ 68 million to SI 132 million. The portfolio not yet due was distributed among production (47%), consumption (29%), services (22%), and commerce (2%). 19. Arrears amounted to 8% of the loan portfolio at the end of 1975, about the same level as during the previous four years. This figure is about half that of BNF, for example, but it is still too high. At the end of 1975, somewhat more than 40% of arrears were less than 90 days overdue, 30% were 90 days to one year overdue, and less than 30% were more than one year over- due. Arrears overdue by more than a year represented about 2% of the loan portfolio. Write-offs of bad debts against reserves amounted to S/ 261,000 in 1973, S/ 49,000 in 1974, and S/ 290,000 in 1975. BC follows the Central Bank regulation of writing off accounts overdue by more than five years. 1/ The figures in this paragraph are estimates.  ANNEX 3 Page 7 Results of Operation 20. Net income is low but it increased from 0.7% of loan portfolio in 1971 to 2.3% in 1973 before falling again to 1.3% in 1975. It also varied in relation to equity, rising from 2.1% in 1971 to 7.0% in 1973, then declining to 4.9% in 1975. Nevertheless, if appropriate provision for bad debts had been properly charged against income, BC's income may well have been negative over the entire period. 21. Interest and commissions received and paid showed parallel rising trends, with the result that the gross spread was about the same, at five percentage points, at the beginning and end of the period. Administrative expenses decreased from 5.8% in 1971 to 4.0% in 1975, although the latter figure is still quite high. 22. BC can make an important contribution to the small farmer component of the proposed project. However, it will need strong assistance from the Project Unit in order to continue its improvement of subproject appraisal and supervision. In addition, the project could support BC's efforts to raise the efficiency of its operations by financing items such as vehicles, accounting equipment, and technical assistance. Perhaps an appropriate initial study would focus on the accounting, auditing and statistics systems. It would result in the production of information which would give a more accurate indication of BC's operations and position, and would provide a basis for further organization and management studies. COFIEC 23. The private development finance corporation - Compania Financiera Ecuatoriana de Desarrollo (COFIEC) - was created in 1966 and, like its public counterpart (CV-CFN), one of its principal functions in its initial stages was to channel external resources to private sector investment. Among its original shareholders was the IFC. COFIEC mainly invests in and lends to large and medium-sized industry. Its portfolio at the end of 1974 amounted to S| 1,248 million, with equity investments representing a mere 2%; project loans, 49%; and combined short-term operations, mostly guarantees and letters of credit, 49%.  ANNEX 3 Page 8 24. The structure of COFIEC lending is as follows: COFIEC - Volume of Credit (in SI million) Year Manufacturing Agriculture /1 Construction Others Total 1966 47.8 /2 /2 10.0 57.8 1967 111.3 5.8 11.1 12.9 141.0 1968 137.6 29.8 3.3 47.6 218.3 1969 209.0 55.4 48.3 57.7 370.4 1970 198.5 38.4 49.4 72.5 358.9 1971 229.0 30.5 63.7 121.3 444.4 1972 366.7 44.5 108.8 113.4 633.4 1973 439.1 51.5 202.7 137.2 830.5 1974 752.1 99.6 268.9 184.9 1,305.5 /1 Includes livestock and fishing. /2 Included under "others". Source: COFIEC. Fondo Nacional de Desarrollo 25. Although kept in an account of the Central Bank, the resources of the Fondo Nacional de Desarrollo (FONADE) are not administered by the Central Bank. Allocation of available funds is made by an inter-ministerial com- mission. The resources of FONADE come from that portion of the Government's tax receipts on oil exports in excess of US$7.42 per barrel. By the end of 1974, the fund had been given S/ 3,342 million and had disbursed S/ 2,313 million. In order of importance, SI 536 million was allocated for the construction of the state petroleum refinery, S/ 505 million for emergency works, SI 502 million for project financing at BNF, SI 250 million for project financing at CV-CFN, S/ 200 million for discounting purposes at the Central Bank under the Fondos Financieros' mechanism and the remaining S/ 320 million for projects of various ministries and other development agencies. Measures Affecting the Flow of Resources in Ecuador 26. The principal monetary instruments which directly or indirectly affect the flow of resources are legal reserve requirements, minimum capital requirements, portfolio ceilings, directed investments, open market operations, advance import deposit requirements, and interest and rediscount rates. To assist certain sectors, in particular the small entrepreneurs, farmers and  ANNEX 3 Page 9 artisans, the local and foreign commercial banks are required to invest 20% and 25%, respectively, of their portfolio in loans which qualify under the Fondos Financieros mechanism. Banks which fail to reach the prescribed levels must make up the difference by purchasing 4% Government Development Bonds, a rather unattractive alternative. Effective January 1975, another measure obliges the banks to relend the minimum of 80% of their deposits in the provinces where they originate. In 1974, about 80% of the banks' deposits had originated in the Quito/Guayaquil areas whereas 87.6% of their portfolio covered loans to Quito/Guayaquil accounts. 27. The future interest of the banking system in medium- and long-term lending for crop and livestock activities will depend on changes in the interest rate structure which would make those loans at least as attractive as short-term lending. Ecuadorian monetary authorities have recognized this situation and on November 9, 1976 the Monetary Board issued Resolution No. 927-76, which introduced a graduated structure of allowable commission charges on medium- and long-term lending. According to the new regulations, both the banking system and DFCs are allowed to charge, in addition to the (unchanged) interest rate for agricultural lending, the following maximum commissions on new contracts: Commission on: Loans financed Loans financed with Original final maturity with bonds other resouces More than 3 years and up to 5 years 2.5% 2.0% More than 5 years and up to 8 years 3.5% 3.0% More than 8 years 4.5% 4.0% The new interest and commission structure represents a major step toward pro- viding both the public and private lending institutions with a reasonable effective interest rate spread, especially with its differentiation between short, medium- and long-term operations. Most lending is anticipated to be at the maximum maturity period (more than eight years) under this project.  ANNEX 3 ECUADOR Table 1 Page 1 AGRICULTURAL CREDIT PROJECT Interest and Rediscount Rates (nominal annual rates in percent) Before Before Since Jan.'75 Aug.'76 Aug.'76 I. CREDIT RATES A. Central Bank 1. To Commercial Banks a. Discount rate 8 8 8 b. Agricultural, fisheries and artisan credits (redisc.) 8 6 6 c. Industrial credits (redisc.) 8 7 7 d. Commercial credits (redisc.) 8 10 10 e. Special advances 5 7 7 f. Advances to cover reserve requirements 10 12 12 2. To National Development Bank (BNF) and Cooperative Banks for Rediscounts and advances 1/ a. Agricultural, fisheries and artisan credits 4 3 3 b. Small-scale industry 2/ 7 3 3 c. Commercial credits 8 10 10 3. To Public Sector Finance Corporation a. Industrial rediscounts and advances - 7 7 b. Rediscounts FOPEX 3/ - 4 4 4. To Private Sector Finance Corporation ,a. Rediscounts and advances 9 8 8 5. To Financial Institutions through Fondos Financieros a. General rediscounts - 3 3 b. Rediscounts under Livestock Development Program 4/ - 7 7 6. To Private Individuals a. Direct credits and discounts 12 12 12 1/ Including rediscounts of credits to Empresa Nacional de Almacenamiento y Comercializacion (ENAC). 2/ Regulation 755 of January 1975 set this rate at 4%; however, regulation 781 of July 1975 set it at 3% and extended it to commercial banks. 3/ Fondo de Promocion de Exportaciones. 4/ Including private Financieras.  ANNEX 3 Table 1 Page 2 Before Before Since Jan.'75 Aug.'76 Aug.'76 7. To Private Individuals through Fondos Financieros a. Agricultural, fisheries, artisans - 7 7 b. Industry for purchase of agricultural raw materials - 7 7 c. Other industrial credit - 8 8 d. Advance for future exports 6 6 6 e. Reliquidation after export failure 12 12 12 8. To Public Sector a. Central Government 3 3 3 b. Others 5 5 5 B. Commercial Banks 1/ 1. Ordinary loans 12 12 12 2. World Bank DFC loans 2/ 13 13 13 3. Bond financial loans 3/ 14 14 14 4. Overdue loans 14 14 14 5. CV-CFN through FOPEX 8 8 6. CV-CFN on rediscount of credits to small-scale and artisan industries: Commercial Banks - 5 5 BNF - 3 3 7. Letters of Credit and guarantee of foreign loans (commission) 4 4 4 C. National Development Bank and Cooperative Banks 1. Agricultural credit (max.) 8 9 9 2. Small-scale and artisan industries (max.) 10 9 9 3. Commercial credits (max.) 12 12 12 4. ENAC - 4 4 D. Fondos Financieros 4/ 1. Credits under Livestock Development Program 5/ - 12 12 2. Other lending operations - 9 9 1/ Including private Financieras. 2/ Including 1% inspection commission. 3/ Including 2% commission on bond issue. 4/ Commercial and Development Banks have access to this mechanism. 5/ For credits of more than S/ 625,000 (222-EC).  ANNEX 3 Table 1 Page 3 Before Before Since Jan.'75 Aug.'76 Aug.'76 E. Commissions 1. On foreign guarantees and letters of credit 4 4 4 2. On loans (on balance outstanding for the indicated period) (a) Less than 3 years - - 0 (b) More than 3 years but less than 5 years - - 2 (c) More than 5 years but less than 8 years - - 3 (d) More than 8 years - - 4 II. DEPOSIT RATES A. Pass book savings 1. Commercial banks 6 6 6 2. Savings and Mortgage banks B. Deposits with Commercial Banks 1. 31-180 days, maximum interest 7 7 7 2. 181-360 days, maximum interest 8 8 8 3. Over 360 days, maximum interest 9 9 9 C. Deposits with Savings and Mortgage banks 1. 31-180 days, maximum interest 8 8 8 2. 181-360 days, maximum interest 9 9 9 3. Over 360 days, maximum interest 10 10 10 D. Government Bonds, Cedulas Hipotecarias, and securities issued by stock companies 1/ 12 12 12 Source: Monetary Board Resolutions. 1/ May be sold at discount for higher effective yield. January, 1977  ANNEX 3 Table I Page 4 ECUADOR AGRICULTURAL CREDIT PROJECT Effective Interest Rates, Resulting from New Commissions Loan maturity, Loans financed Loans financed with Years with bonds 1/ other resources 1 14 12.0 2 14 12.0 3 14 12.0 4 15.7 13.7 5 15.7 13.7 6 15.8 13.8 7 15.8 13.8 8 15.9 13.9 9 16.0 14.0 10 16.0 14.0 11 16.1 14.1 12 16.1 14.1 13 16.2 14.2 1/ No bonds of less than 5 years have been issued. January, 1977.  ECUADOR AGRICULTURAL CREDIT PROJECT Beef Ranch, 50 ha Investment Costs Units Unit Total Cost Investment by Year Total Cost Foreign per Cost Per Farm 1 2 3 per farm Exchange Farm --------------------- S/ 000 ------------------------ US$ x % US$ Pasture New (ha) 9 4.0 36.0 - 12.0 24.0 1,140 19 - - Renovated (ha) 18 0.7 12.6 4.2 4.2 4.2 504 7 - - Fencing New (km) 1.2 15.0 18.0 6.0 6.0 6.0 720 9 40 288 Renovated 0.5 6.0 3.0 3.0 - - 120 2 40 96 Water Supply Trough and pipe 1 6.0 6.0 6.0 - - 240 3 20 48 Farm Structures Corral 0.5 10.0 5.0 5.0 - - 200 3 20 40 Building improvements 1 25.0 25.0 25.0 - - 1,000 13 30 400 Equipment Sundry (Veterinary & tools) 5.0 5.0 - - 200 3 85 170 Breeding Stock Bulls 1 25.0 25.0 - 25.0 - 1,000 13 30 300 Heifers 5 8.0 40.0 24.0 16.0 - 1,600 21 30 480 175.6 78.2 6=77 IW2 6,724 87 26 1,822 Other Physical Contingencies 17.4 7.8 5.8 3.8 996 13 26 182 Total 193.0 86.0 69.0 38.0 _7720 100 26 2,004 January, 1977 |  ANNEX 4(a) ECUADOR Table 2 AGRICULTURAL CREDIT PROJECT Beef Ranch, 50 ha Herd Development Projection Before -