Zambia - Fertilizer Industry Restructuring Project

Docurnent of The World Bank FOR OFFICIL USE ONLY Report No- 5658-ZA STAFF APPRAISAL REPORT ZAMBIA FEKrILIZER INDUSTRY RESTRUCTURING PROJECT February 4, 1986 Industry Department ) This document has a restricted distribution and may be used by recipients only in the performnce of their official duties. Its contents may not otherwise be disclosed without World Baak autborization.  CURRENCY EQUIVALENT Zambian Kwacha (K) K 6 = US$1 WEIGHTS AND MEASURES 1 metric ton (ton, t) = 1,000 kilograms or 1 kilometer (km) = 0.621 miles 2,205 pounds 1 hectare (ha) = 2.47 acres 1 cubic meter (m3) = 35.315 cubic feet (cf) MAJOR ABBREVIATIONS AND ACRYONYMS AN - Ammonium Nitrate AS - Ammonium Sulfate BOZ - Bank of Zambia CIF - Cost, Insurance and Freight CHUs - Cooperative Marketing Unions DAP - Di-ammonium Phosphate ERR - Economic Rate of Return FRG - Federal Republic of Germany FRR - Financial Rate of Return FOB - Free on Board GDP - Gross Domestic Product GRZ - Government of the Republic of Zambia H2S - Hydrogen Sulfide IDA - International Development Association IMF - International Monetary Fund INDECO - Industrial Development Corporation Ltd. K20 - Potassium Oxide Content in Fertilizer K2S04 - Potassium Sulfate KC1 - Potassium Chloride KfW - Kreditanstalt fur Wiederaufbau (of FRG) kWh - kilowatt hour MAWD - Ministry of Agriculture and Water Development MOF - Ministry of Finance MCL - Maamba Collieries Ltd. N - Nitrogen Content in Fertilizer NAMBOARD - National Agricultural Marketing Board NCZ - Nitrogen Chemicals of Zambia Ltd. NH3 - Ammonia NOx - Nitrogen Oxides OECF - Overseas Economic Cooperation Fund (of Japan) OMF - Operations Management Firm p.a. - per annum P205 - Phosphorous Pentoxide Content in Fertilizer ppm - parts per million S - Sulfur Content in Fertilizer SSP - Single Super Phosphate sq km - Square kilometer H2S04 - Sulfuric Acid TSP - Triple Super Pnosphate tpd, tpy - tons per day, year USAID - United States Agency for International Development ZCCM - Zambia Consolidated Copper Mines Ltd. ZIMCO - Zambia Industrial and Mining Corporation Ltd. ZR - Zambia Railways FISCAL YEAR NCZ: April 1 - March 31 GRZ: January 1 - December 31  FOR OFFICIAL USE ONLY ZAMBIA - FERTILIZER INDUSTRY RESTRUCTURING PROJECT TABLE OF CONTENTS Page No. I. INTRODUCTION ......................... ............. 1 II. ZAMBIA'S DEVELOPMENT STRAIEGY ................................. 2 A. Background ...................................... 2 B. Stabilization and Adjustment Efforts .................... 3 C. Industrial Sector Performance and Strategy .............. 4 D. Bank Group Assistance ................................... 5 III. THE FERTILIZER SECTOR ....................................... 6 A. Agricultural Background .... ........................., 6 B. Fertilizer Use, Demand and Supply ....................... 8 C. Fertilizer Distribution and Marketing ... ................ 13 D. Fertilizer Pricing ...................................... 14 IV. THE PROJECT SPONSORS ....... ........................... 16 A. Zambia Industrial and Mining Corporation ..... ............ 16 B. Nitrogen Chemicals of Zambia ............................ 17 V. THE PROJECT ...................24 A. Project Justification ......................... .......... 24 B. Project Objectives ...... .................... ............ 24 C. Project Description ..... ................................ 25 D. Project Management and Implementation Arrangements ...... 31 E. Project Implementation Schedule ........................ . 32 F. Raw Materials, Utilities and Infrastructure ............ . 32 G. Environmental and Safety Aspects ........................ 35 VI. CAPITAL COST, FINANCING PLAN, PROCUREMENT AND DISBURSEMENT ... 35 A. Project Capital Cost ...... .............................. 35 B. Project Financing Plan ... ............................... 37 C. Procurement ............................................. 38 D. Allocation and Disbursement of IDA Credit .... ........... 39 This Report was Prepared by Messrs. Luciano Borin, Vinod K. Goel and Claudio Frischtak of the Industry Department. Mesdames. Adrianne Johnson, Eleanor George, Muriel Greaves, Marguerite Govoni and Imani Haidara provided word processing and secretarial assistance. I This docment has a sried distiution and ay be used by reipiets only in the performance of their offical duties. Its aconants may not othwi be dilosed without World Bank autborizationL  - ii - TABLE OF CONTENTS (Continued) Page No. VII. FINANCIAL ANALYSIS .... ........o. ...................o 39 A. Financial Projections .. ...* .. ..... ... ... ......oo...... 39 Bo Financial Rate of Return ............................. 41 C. Auditing and Reporting Requirements .................. 42 D. Financial Covenants ........ ..... ..................... 42 E. Major Risks ...o ....... ............................... 43 VIII. ECONOMIC ANALYSIS ............4...... ...... * 44 A. Economic Costs and Benefits .......................... 44 Bo Economic Rate of Return . ........ .................... 45 C. Foreign Exchange Savings .... ...... ................... 46 Do Other Benefits .o .............o... ..... 46 IX. AGREEMENTS REACHED AND RECOMMENDATIONS ................. 47 ANNEXES 3-1 Fertilizer Consumption 3-2 Fertilizer Purchases 3-3 Fertilizer Demand Forecasts 3-4 Import of Aid Fertilizers 3-5 Comparison of Fertilizer Landed Cost, NCZ Ex-Factory Prices and Retail Prices 3-6 Comparison of Fertilizer and Crop Prices 4-1 ZIMCO Organization Chart 4-2 NCZ Organization Chart 4-3 NCZ - Historical Financial Statements 5-1 Terms of Reference for the Operations Management Firm 5-2 Terms of Reference for the Inter-Agency Fertilizer Coordination Committee 5-3 Project Implementation Schedule 6-1 Project Capital Costs 6-2 Estimated Disbursement Schedule for IDA Credit 7-1 Assumptions for Financial Analysis 7-2 Projected Balance Sheet 7-3 Projected Income Statement 7-4 Projected Funds Flow Statement 7-5 Cost and Benefit Streams for Financial Rate of Return 8-1 Assumptions for Economic Analysis 8-2 Cost and Benefit Streams for Economic Rate of Return 8-3 Estimated Foreign Exchange Savings Map No. IBRD 18861 Zambia - Fertilizer Industry Restructuring Project  ZAMBIA - FERTILIZER INDUSTRY RESTRUCTURING PROJECT I. INTRODUCTION 1.01 The Government of the Republic of Zambia (the Government, GRZ) has requested and this report recommends an International Development Association (IDA) Credit (the Credit) of US$10 million equivalent to finance the Fertilizer Industry Restructuring Project (the Project). The Project would support the Government's major objective of restructuring the Nitrogen Chemicals of Zambia Ltd. (NCZ, the Company), the sole fertilizer producer in the country, to improve the domestic supply of fertilizers. As part of this objective the Project aims to restore the technical efficiency and economic and financial viability of NCZ through a package of appropriate policy, managerial, organizational, technical and financial measures. 1.02 Zambia's development strategy gives high priority to agricultural and rural development, especially in view of the declining earnings from the copper mines. Within this context, the Government is giving greater attention to achieving self-sufficiency in major foodstuffs and some other commodities and to diversifying the economy to reduce dependence on copper exports. The Project would be consistent with this strategy - improving the efficiency of a key parastatal enterprise and increasing domestic availability of fertilizers based on locally-prodtrced coal. 1.03 The Project complements physical investments in NCZ's facilities with a set of policy and institutional reforms that are needed to improve NCZ's performance. Specifically, the Project includes the following measures/actions: Ci) managerial and organizational restructuring; (ii) financial restructuring; (iii) cost reduction measures; (iv) ex-factory pricing of products based on international prices; (v) operations management services; (vi) technical coordination services; (vii) staff training; and (viii) technical rehabilitation. These measures will be impltemented on the (a) NCZ I plant; (b) NCZ II plant; and (c) off-site and infrastructure facilities. IDA's primary role is to support the policy and institutional reforms and the rehabilitation of off-site, infrastructure and environmental facilities. IDA is particularly well placed to undertake this role because of its involvement in other key sectors of the Zambian economy, e.g. agriculture, mining, industry, transport and power, which are critically linked to NCZ operations. 1.04 The Project is estimated to cost about US$83.75 million equivalent (including working capital and interest during construction), of which US$67.91 million, or 81 percent, will be in foreign exchange. The proposed IDA Credit of US$10 million equivalent will cover about 12% of the total Project cost; US$27.20 million (32%) will be provided by the Federal Republic of Germany (FRG) and US$26.68 million (32%) by the Overseas Economic Cooperation Fund (OECF) of Japan. The remaining US$19.87 million (24%) will be financed by NCZ from internal funds. The Project is technically sound and economically justified; the economic rate of return (ERR) of NCZ's operations after the Project is implemented is estimated at  26.8% and net present value at US$50.1 million. The Project itself will have a higher ERR of 30% (para 8.05). It is expected to save Zambia about US$29 million in foreign exchange annually. 1.05 The Project was appraised in November 1984 by an IDA mission consisting of Messrs. L. Borin (Chief), V. Goel and C. Frischtak of the Industry Department followed by post-appraisal missions in April and August 1985. The appraisal mission was joined by the representatives of FRG. Contacts were also maintalned with OECF, the other cofinancing agency, to ensure an integrated approach to the restructw ing effort. Since then continuous contacts were maintained with the Project authorities and the co-lenders. This report reflects the results of the appraisal and post-appraisal missions as well as the latest situation as prevailing in January 1986. II. ZAMBIA'S DEVELOPMENT STRATEGY A. Background 2.01 During the late 1960s and 1970s, Zambia emphasized the develop- ment of copper mining, giving low priority to other economic opportuni- ties. Alternative foreign exchange sources were not developed, and only when, because of low copper prices, fiscal revenues and foreign exchange earnings from mining declined in the mid-1970s did the authorities look for other alternatives to generate additional revenue sources. Economic poli- cies, including progressive overvaluation of the exchange rate and rising industrial protection, discouraged agricultural growth and export diversi- fication, and promoted the use of imported capital-intensive production methods. Income policies that allowed public and private entities to adopt high wage and benefit standards of the mining industry, together with heavy consumer subsidies, led to overconsumption, while widespread price controls distorted production incentives. 2.02 The shortcomings of the above strategy became fully apparent in the mid-1970s when low copper prices, combined with steadily rising import needs, started to erode Zambia's terms of trade. By 1984, with copper prices down to their lowest levels in four decades, Zambia's terms of trade were 70% below the average for the early 1970s. The initial resoonse was to borrow heavily in the external markets and, later, to allow external arrears to accumulate. By end-1983, Zambia's total external liabilities reached US$4.2 billion; and despite a 50% decline in import volume over the past decade, the current account deficit in the balance of payments reached 20% of the Gross Domestic Product (GDP) in 1981 and 22% in 1982. The financial crisis came to a head in December 1982 when foreign suppliers began requesting advance payments and external credit sources dried up. 2.03 By the early 1980s, the reduced availability of foreign exchange for imports had taken a heavy toll on production and emplovment in Zambia's import-dependent economy. Capacity utilization had fallen sharply, parti- cularly in industry, where by 1982 it averaged about 55x. Agriculture became increasingly strapped for replacement machinery and spare parts and output stagnated. Infrastructure such as the road and railroad network  - 3 - eroded due to inadequate maintenance. Overall economic activity contracted, following a downward trend since 1974. B. Stabilization and Adjustment Efforts 2.04 The critical situation in external indebtedness and in the productive system led to the adoption of a package of stabilization measures in 1983. The main measures included a freeze in Government employment and wages; a 1OZ limit in wage increases in the private sector (including mining); ceilings on banking system credit to the Government; and substantial reduction in subsidies (mainly on maize and fertilizers). In addition, and in a major break with past policies, Zambia's overvalued exchange rate began to be adjusted downward. At the same time, a unilateral moratorium on debt servicing was announced in January 1983 while seeking International Monetary Fund (IMF) assistance and debt relief from -he Paris Club. The IMF approved standbv arrangements for SDR 211 million in April 1983 and SDR 225 million in July 1984. 2.05 In addition to the above stabilization measures, the Government outlined a new development strategy with the objective of resuming growth and achieving economic efficiency. The main features of the new strategy are summarized in a Memorandum of Development Objectives and Policies, submitted to the Bank in January 1983 in connection with the Rank-financed Export Rehabilitation and Diversification Project (Loan 2391-ZA), and have been elaborated further in several subsequent documents, and most recently in the Government's submission to the Consultative Group meeting in June 1985. The new strategy emphasizes the need to reduce (i) dependence on a single export commodity (copper), (ii) imports of inputs and consumer goods, and (iii) capital intensity in production. Consequently, the Government's long-term strategy is to diversify the economy by providing incentives for investments in agriculture and industry. In agriculture, the main instruments include higher producer prices and support of smallholder and export crops. In industry, where past strategy led to development of inefficient firms selling to the domestic market behind the protection of high import barriers, the main objectives are to increase efficiency and export orientation, to restructure the sector by concentrating rehabilitation efforts on the firms more likely to achieve international competitiveness, and to improve the performance of parastatals. This new strategy places greater reliance on market forces to guide decisions and provides incentives for diversification and growth. 2.06 The GRZ has already moved significantly in the direction of the new strategy. In October 1985 an open foreign exchange auction system was introduced which has resulted in the devaluation of the Kwacha from about K 2.1 to US$1 in July 1985 to about 5.8 in December 1985. However, for Zambia's new development strategy to succeed, there is need to continue with the policy reforms and, in some cases, to accelerate them even further. The GRZ is committed to this process and has requested further financial assistance from the Bank and IMF--as well as from other external donors-to be able to take the necessary measures while minimizing the short-term costs of the adjustment. Such assistance is particularly needed given the continuing low copper prices and high debt service payments that will continue to pose serious constraints on Zambia's balance of payments in the next few years.  - 4 - C. Industrial Sector Performance and Strategy 2.07 Zambia's manufacturing sector, which, excluding mining, accounts for 18% of GDP, has followed and indeed magnified, the ups and downs of the country's economic performance. Manufacturing was the leading growth sector in the first decade after independence in 1964 (an average growth of about 10% per annum (p.a.) during 1965-74). Subsequently, the fall in copper earnings and the resulting economic recession affected industrial output negatively-, by 1981, the index of manufacturing production had declined by 13% compared with the 1974 level. By September 1983, the index had further declined by 8% compared with 1981, and all available evidence suggests that the decline has accelerated through 1984. 2.08 The main underlying factors that have affected the performance of the manufacturing sector during the last two decades are the various policy measures that provided protection to domestic industry. These included widespread restrictions to imported goods competing with those manufactured in Zambia, duty-free import of capital goods, raw materials and other inputs and interest rate ceilings which encouraged capital-intensive projects. At the same time, the investment code established multiple controls and regulations. In addition, a major reason for the recent decline in industrial production is the shortage of imported inputs due to the reduced availability of foreign exchange, particularly important for manufacturing because of the sector's high import intensity. 2.09 The characteristics and performance of Zambia's manufacturing sector are determined to a large extent by the parastatal manufacturing enterprises, which are grouped under the Industrial Development Corporation Ltd. (INDECO), a Government holding company. Because INDECO firms account for nearly two-thirds of the manufacturing value-added and 54% of the sector's employment, any program to improve the economic efficiency of the industrial cector cannot succeed without improving the performance of parastatals. Many of these enterprises have incurred losses for several years, partly because of past price controls, but also because of inefficient operations and inadequate management. The profitability of some of these firms improved after price controls were eliminated, but the overall performance continues to remain relatively poor. 2.10 The GRZ has recognized the above problems and is taking steps to deal with them. Beginning in 1982, the Bank undertock a series of industrial sector missions with the purpose of establishing a basis for comprehensive policy dialogue with the Government. These efforts culminated in the preparation of an industrial sector report,1/ which was discussed with the GRZ in June 1984. The report provides a review of the main policy issues facing Zambia's industrial sector as well as specific policy recommendations on short-term policy reforms. The major recommendations of the report are: (i) strengthening of the existing industrial structure by increasing capacity utilization, by making firms more competitive at international prices through restructuring investments, by phasing out those that cannot operate economically, and by enhancing 1/ ZAMBIA: Industrial Policy and Performance; Report No. 4436-ZA, of August 6, 1984.  managerial skills and productivity; (ii) reforming the incentive structure by replacing quantitative restrictions with tariffs and by selective changes in the tariff structure; (iii) promoting industrial exports by providing incentives designed to offset the present bias against exports in the protective structure; and (iv) limiting new projects in the public sector and exercising strict economic criteria in their selection. The GRZ has undertaken a series of initiatives consistent with these recommendations. D. Bank Group Assistance 2.11 In recent years, the Bank Group strategy in Zambia has been to support and encourage the process of structural adjustment of the economy. This objective has been pursued through a combination of increased economic and sector work, technical assistance in carrying out domestic policy changes and seeking international support, in the context of Consultative Group meetings, and with a lending strategy that emphasizes policy change at the macro-economic level and in the main productive sectors (mining, industry and agriculture). A major portion of the lending program has been devoted to sectoral operations in the productive sectors. 2.12 First, the Export Rehabilitation and Diversification Project (Loan 2391-ZA), in support of the mining sector, was approved in March 1984. The major objectives of the project are to rehabilitate the copper mining sector to improve its performance and cost competitiveness, thereby improving Zambia's balance of payments through continuing export and foreign exchange earnings. Second, the Agricultural Rehabilitation Project (Credit 1545-ZA), in support of the agriculture sector was approved in January 1985. The major objectives of the project are to encourage and support the GRZ's efforts in policy and institutional reforms in the agricultural sector, to reverse the declining trend in marketed agricultural output and to reinforce efforts to diversify the economy. The project would also help to develop a specific program of action for the policy measures needed for the development of the sector (e.g. farmer services and incentives, economic pricing, agriculture marketing, institutional strengthening, etc.). Third, an Industrial Reorientation Project (Credit 1630-ZA) based on the recommendations of the recently completed industrial sector report (para 2.10) was approved in October 1985. The main policy objectives of the project are to: (i) improve the foreign exchange allocation and import licensing system; (ii) initiate changes in the import tariff, protection and incentive systems; (iii) improve economic analysis of new investment decisions and the evaluation of psrformance of existing enterprise of both the private and public sectors; and (iv) increase the promotion of non-traditional exports. Fourth, the proposed Fertilizer Industry Restructuring Project will be another step in supporting the GRZ's efforts in restructuring its economy. Specifically, the Project would assist in increasing the performance efficiency and capacity utilization of a key parastatal enterprise and improving domestic production of fertilizers at prices comparable with imports. Other additional objectives of the Project would be to initiate institution- building and inter-sectoral coordination (para 5.03'. 2.13 Experience From Past Lending. The Bank Group has no previous involvement in lending to the fertilizer sector. Therefore, the Bank's  -6- role in the sector should be looked at more in the related sectors of industry and agriculture. In the past, except for the Export Rehabilitation and Diversification Project, the Bank's lending in Zambia in the industrial sector has been primarily to the Development Bank of Zambia which ib of a different nature than the proposed Project. The major lessons learned from the Export Rehabilitation and Diversification Project relate to issues of management, coordination and foreign exchange. The proposed Project has fully considered these experiences and has incorporated measures to strengthen NCZ's management, improve inter-agency coordination and address the foreign exchange issue. The main lessons learned from lending to the agriculture sector, e.g. need for policy and institutional reforms, marketing and distribution problems, economic pricing, lack of farmer services, etc., have also been taken into account in designing this Project. III. THE FERTILIZER SECTOR A. Agricultural Background 3.01 Located in central southern Africa, Zambia is a land-locked country with a land area of about 750,000 square kilometer (sq km), supporting a population of about 6.3 million, which is growing at over 3% p.a.. About 40% of the population now lives in urban areas, making Zambia one of the most urbanized nations in Africa. Agriculture supports about 60% of Zambia's population, but accounts for only about 14% of GDP. As mentioned earlier, the mining sector, which has traditionally dominated the Zambian economy, and accounted for an overwhelming proportion of GDP and foreign exchange earnings, is now facing a long-term decline. Further economic growth, therefore, needs to be driven by the agricultural sector, which has a large untapped potential; only about 12 million or 28% of the estimated 43 million hectare (ha) of cultivable land is cultivated. About 85% of the total cultivable land is considered suitable for cropping and grazing, although much of it is currently under indigenous forest and woodland; the other 15% has soils which would not support crops, but could be used for extensive grazing. 3.02 A large proportion of the country receives adequate rainfall, although periodic droughts do occur. Total annual rainfall ranges from about 700 mm (28 inches) in the Southern and Eastern provinces to above 1,400 mm (56 inches) in the Copperbelt, Luapula and North-Western Provinces; much of the rainfall occurs between November and March. Tbp development potential in stable river run-off and groundwater is significant. Current use is estimated at only 4% of the potential and rural areas use only about 0.1%. Most rivers have adequate flow for irrigation development, but surface water network is limited. 3.03 Despite the country's sizeable resource base for agricultural development (in terms of land, climate, water and human resources), the sector has been almost stagnant in recent years, due to a combination of factors. Budgetary resource allocation to agriculture has been inadequate, in particular to support research and extension. Sectoral planning capability (of both policies and programs) has been weak, and ill-conceived  -7- marketing and pricing policies have caused severe distortions in the economy and reduced producer incentives. The effects of policy distortions and inadequate agricultural inputs and services have been compouwied by the shortage of agricultural credit and the weakness of related institutions in the country. As a result, the agricultural sector registered an annual growth of about 2.4Z during 1965-83, compared to the population growth of 3.1% p.a. in the same period. Since 1983, however, the sector has shown some tendency to a faster grovth as a result of the GRZ's efforts through policy and institutional reforms and improved resource allocation. 3.04 The agricultural sector is markedly dualistic. On one side, a relatively modern sector of about 24,000 heavily-capitalized medium- and large-scale commercial farmers, representing about 4% of the estimated 600,000 farm households, produce in value about 40X of the maize and 55% of the other marketed agricultural products. On the other extreme, there are about 456,000 farm families, or about 76% of the farm households, cultivating an average of 2 ha, using family labor and simple hand tools and producing mostly for subsistence. This dualism has been slightly mitigated in recent years by the development of a smallholder (emergent) market-oriented farming sector, numbering about 120,000 or 20% of the farm households, and producing for the market. These farmers use modest levels of mechanization and purchase seasonal inputs, especially fertilizers. Together with occasional surpluses from traditional farmers, the emergent farmers currently account for 60% of the value of marketed maize, 85% of the value of sunflower seeds and nearly all sales of rice, seed cotton and groundnuts. 3.05 Maize is the dominant crop throughout Zambia with cassava, sorghum and millet as the other major food crops in some areas. Over 400,000 ha are under maize and it accounts for about 75% of the total value of marketed crop production. Groundnuts are widely grown, as are beans, other legumes, minor cereals, oilseeds and root crops. Trends in the agricultural output are presented below. Table 3.1 MARKETED AGRICULTURAL Pk*DUCE INTAKE BY OFFICIAL CHANNELS ('000 tons) Cereals 1970 1975 1980 1981 1982 1983 1984 Maize 132.0 559.0 382.0a/ 693.0 508.0 459.0 572.0 Wheat - 0.9 9.6 11.5 12.8 10.2 n.a. Paddy Rice - 1.0 2.2 2.7 2.9 5.0 5.4 Oil Seeds Soya Bean - 0.3 3.5 3.7 5.1 6.9 9.5 Sunflower - 8.2 17.2 19.2 20.3 30.5 40.4 Groundauts 3.6 6.5 2.0 1.3 0.7 1.0 1.1 Others Seed Cotton 5.4 2.6 22.9 16.7 12.8 31.3 40.9 Sugar Cane 321.0 768.0 920.0 893.0 1,010.0 1,086.1 1,179.0 Virginia Tobacco 4.8 6.4 4.1 2.3 1.9 2.3 2.6 Burley Tobacco 0.4 0.5 0.5 0.6 0.7 0.5 0.5 Tea Leaves - - 0.3 0.3 0.4 0.4 n.a. a/ Production drop due to severe drought in the year. Source: MAWD, Annual Agricultural Statistical Bulletins.  - 8 - 3.06 In the past, the agricultural production has been quite volatile; however, in 1984, production in general has shown a marked improvement. Marketed production of maize increased at an average annual rate of 11.2Z during 1970-80, declining to 10.6% p.a. during 1980-83. Production of Virginia tobacco declined by 1.5% p.a. during 1970-80, and 10.7% p.a. during 1980-83. Production of wheat, sunflower seeds and soya beans increased remarkably during 1975-84 at an annual growth of 30.4, 19.3 and 43.6 percent, respectively, but sti'l remains small in absolute terms. Production of seed cotton and sugar cane has also increased consistently during 1970-84. The agricultural sector output value increased by 1.2% p.a. during 1975-83, from K 157 million in 1975 to K 172.3 million in 1983. The commercial sector output value increased from K 56.3 million in 1975 to K 68.3 million in 1983, at a modest rate of 2.4% p.a., while the subsistence sector virtually stagnated, increasing from K 100.7 million in 1975 to only K 104 million in 1983, an annual rate of only 0.4%. 3.07 Zambia's degree of self-sufficiency in major food crops has declined from 97% during 1964-66 to only 79% during 1978-80. The agricultural exports in 1982 accounted for less than 2. of Zambia's total export value. The only regalar exports are tobacco and confectionary groundnuts, but they account for less than 1% of the total export earnings. Imports of agricultural commodities, on the other hand, still accounted for 10% of total import value in 1982. The major imported agricultural goods have been cereals (mainly wheat and rice), dairy products, and vegetable oil and oilseed cakes. The decline in food self-sufficiency is a reflection of slow growth in agricultural productivity under conditions of rapid population growth. Unless improvements are made in agricultural productivity and production, the current population growth is likely to have more serious implications on the Zambian economy, in the mediumr to long-run. Inspite of substantial untapped land potential, a large part of the increased agricultural production will have to come from improved farming practices, including increased and improved use of fertilizers. The GRZ has recognized the need for pursuing a long-term strategy which would deveiop the country's agricultural potential, in particular by promoting small-scale farming. The GRZ is evaluating, with Bank assistance, appropriate changes in existing agricultural policy as well as in institutions currently responsible for managing and servicing the sector. The major objectives of these reforms would be to (i) improve institutional and resource allocation efficiency; and (ii) effect long-term and sustained growth through improved farm technological base. B. Fertilizer Use, Demand and Supply 1. Fertilizer Use 3.08 Zambia is one of the largest fertilizer consumers in Africa. The fertilizer products currently in use are principally limited to two single nutrient nitrogen fertilizers (ammonium nitrate and urea) and six NPK compound fertilizer formulae. Direct use of phosphate fertilizers, such as single super phosphate (SSP) or triple super phosphate (TSP), is negligible. Compounds A, C and V are specifically formulated for tobacco, and their use has been declining from an aggregate of about 12,200 tons in 1975 to 3,100 tons in 1983, due to decline in tobacco production. On the  other hand, consumption of compounds R, X and D, more generally applied as basal fertilizer (in November-December), has been increasing from an aggregate of about 62,500 tons in 1975 to 72,800 tons of product in 1983 (Annex 3-1). Ammonium nitrate (AN) and urea are applied as top dressing (in January). Urea use has been growing steadily from 32,000 tons in 1975 to 52,600 tons in 1983, as domestic production of AN (at NCZ plant) has been limited in recent years. Consequently, the share of urea in total straight nitrogen fertilizers has increased from 66Z in 1975 to 81% in 1983 (in terms of nutrient). However, even under current unfavorable pricing conditions (in terms of nutrient value), some farmers still prefer AN to urea. This could reflect traditional attitudes of farmers who favour application of less concentrated fertilizers or could simply be a matter of availability at local depots. 3.09 There is increasing concern that current fertilizer usage pattern and recommendations may not be consistent with the needs of diverse soil and crop conditions faced by the Zambian farmers. For example, all compound fertilizer formulae (domestically produced or imported) contain 8-12% sulfur, based on the widespread sulfur deficiency in the Zambian soils identified in field work carried out in the 1960s. More recently, there have been doubts on the extent to which sulfur is really needed and concern whether, at least in some regions, the present levels of sulfur application could be detrimental to soils, accelerating their acidifica- tion. This has been a major problem in Zambia, especially in high rainfall regions, leading to decreasing yields. Furthermore, specific sulfur- containing compound fertilizers generally cost more as these formulations are not commonly in demand elsewhere and have to be custom-manufactured by foreign suppliers, and supplied to Zambia at a high premium. 3.10 There is an urgent need to develop fertilizer application recommendations, based on updated on-field research programs, specific to location, climate, soil and cropping patterns. The GRZ has already taken important steps in this direction, partly with Bank assistance. The constraints to agricultural research and extension have been analyzed in a recently completed agricultural research and extension review. Appropriate recommendations of the study are being incorporated under a proposed Agricultural Research and Extension Project, where measures will be taken to reorganize research and extension services and develop action programs that are more problem- and farmer-oriented. 2. Fertilizer Demand 3.11 Historical consumption, production, and imports of fertilizers in Zambia are given in Annexes 3-1 and 3-2 and summarized in Table 3.2 on the following page. 3.12 Consumption of all fertilizers in nutrient terms increased from 51,300 tpy in 1975 to 66,900 tpy in 1983, at an average rate of 3.4% p.a.. During 1975-80, annual consumption of all fertilizers increased at an average rate of 8.7X, but during 1980-83, the consumption declined by an average 3.6% p.a.. While nitrogen and phosphate consumption has followed  - 10 - Table 3.2 B=E= (I[IFl1 PXJUI( AND MIaS aE ('000 tpy of nutrient) N1